20020208Application.pdf

Dean J.Miller (TSB No.1968)
McDEVITT 6x MILLER LLP
537 west Bannock,Suite 215 2:30P.O.Box 2564-83701
Boise,ID 83702
208-343-7500;208-336-6912(Fax)S FO $
Gregory Rogers
Level 3 Communications,LLC
1025 Eldorado Boulevard
Broomfield,CO 80021
720-888-2512;720-888-5134(Fax)
BEFORE THE IDAHO PUBLIC UTILITIES COMMISSION
In the Matter of the Application of )Case No.
LEVEL 3 COMMUNICATIONS,LLC )APPLICATION AND REQUESTFOR
)MODIFIED PROCEDURE OF LEVEL
To Amend and Expand its Certificate )3 COMMUNICATIONS,LLC
of Public Convenience and Necessity )
to Provide Facilities-Based )Local Exchange and Interexchange )
TelecommunicationsServices )
Statewide )
I.INTRODUCTION
Level 3 Communications,LLC ("Level 3"or "Applicant")by its undersigned counsel
and pursuant to,Idaho Code Section 61-526-528 and Idaho Administrative Procedure Act
Section 31.01.01.112,and Procedural Order No.26665,hereby applies to the Idaho Public
Utilities Commission ("Commission")for an amendment to its existing Certificate of Public
Convenience and Necessity.The Commission previouslygranted Level 3 authorityto provide
facilities-based local exchange and interexchange telecommunications services in the service
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLCPage1
territories of Qwest and Verizon.'By this Application,Level 3 requests authority to provide
facilities-based local and interexchange in the remainder of the State of Idaho.In support of its
application,Level 3 provides the followinginformation:
II.CONTACT INFORMATION
Correspondence or communications pertaining to this Application should be directed to:
Dean J.Miller
McDevitt &Miller,LLP
537 West Bannock,Suite 215
P.O.Box 2564
Boise,ID 83702
Telephone:[phone]
Fax:[phone]
with a copy to:
Gregory L.Rogers
Attorney
Level 3 Communications,LLC
1025 Eldorado Boulevard
Broomfield,CO 80021
Telephone:[phone]
Facsimile:[phone]
Questions concerning the ongoing operations of Level 3 followingcertification should be
directed to:
Gregory L.Rogers
Attorney
Level 3 Communications,LLC
1025 Eldorado Boulevard
Broomfield,CO 80021
Telephone:[phone]
Facsimile:[phone]
'See Application of Level 3 Communications,LLC for a Certgicate of Public Convenience and Necessity toProvideTelecommunicationsServicesinIdaho,Case No.GNR-T-98-13,Order No.27855 (Dec.30,1998).Level3nowseekstoamendandexpandtheauthoritygrantedinitsCertificateofPublicConvenienceandNecessitytoprovidesuchservicesstatewide,including,but not limited to,the service territories of Farmers Mutual TelephoneCompany.
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONSLLCPage2
III.DESCRIPTION OF CONSTRUCTION OR EXPANSION
Level 3 is currently authorized to provide facilities-based local exchange and
interexchange telecommunications services within the service territories of Qwest and Verizon,
and hereby seeks authorization to provide the same services in the remainder of the State.Level
3 seeks authorization to provide all forms of facilities-based local exchange and interexchange
telecommunications services including private line and switched access services throughout the
State of Idaho.Level 3's services are available on a full-time basis,twenty-four hours a day,
seven days a week.
Level 3 is committed to expanding its services to portions of the state that have
experienced little or no competitive entry to date.Level 3's initial expansion will be into the
service area of Farmers Mutual Telephone Company ("FMTC").Level 3 intends to offer its
services to,among other customers,Internet service providers who currentlydo not have points
of presence in many of the exchange areas covered by this Application.Level 3 has established
nationwide contractual arrangements with major Internet Service Providers for the deployment of
points of presence on the Level 3 network.Consumers who currentlyhave to dial long-distance
for access to Internet service providers will benefit by the establishment of points of presence
within their local calling areas.
Level 3 intends to deploy an independentnetwork by either building its own facilities or
leasing the facilities of other carriers.To the extent that a small LEC possesses an exemption or
suspension under Section 251(f)of the Act,Level 3 does not seek interconnection under Section
251(c)at this time,nor does Level 3 seek at this time to challenge such exemption from any of
the other obligations specified in Section 251(c).Rather,for the present time,Level 3 intends to
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLCPage3
lease the facilities of third party carriers,or,where necessary,purchase the tariffed services of
LECs exempt under Section 251(c)to support market entry and the exchange of all kinds of
traffic between the small LEC's customers and Level 3 customers.However,to preserve its right
to provide service using a small LEC's unbundled network elements at some future date,Level 3
requests that the Commission grant Level 3 full facilities-based authority statewide with the
qualification that Level 3 may not provide service using unbundled network elements of a LEC
that qualifies for an exemption under Section 251(f),unless and until it submits a bona fide
request for interconnection and the Commission determines that the request satisfies the
requirements of Section 251(f).
IV.MAP
Level 3 is still in the process of identifying the specific areas in which it will construct
and install facilities and intends to rely initially on the leased facilities and tariffed services of
other certificated carriers.When Level 3 completes its construction plans,it will submit a map
of suitable scale showing the location of the construction and its relation to other public utilities
in the area that offer or provide similar utility service.
V.FINANCIAL STATEMENT AND CONSTRUCTION TIMELINE
This Commission granted Level 3 a certificate of public convenience and necessity on
December 30,1998 based in part upon finding that Level 3 possessed the requisite financial
qualifications to provide telecommunications services in Idaho.2 Since the grant of its certificate,
Level 3 has generated substantial annual revenues and maintained access to working capital
necessary to fund its in-state operations.In particular,Level 3 will continue to rely on the
2 See Application ofLevel3 Communications,LLCfor a Certificate ofPublic Convenience and Necessity toProvideTelecommunicationsServicesinIdaho,Case No.GNR-T-98-13,Order No.27855 (Dec.30,1998).
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLC
Page 4
financial resources of Level 3 Communications,Inc.,its ultimate parent,to provide initial capital
investment and to fund operations during the initial phase of statewide expansion.Level 3
Communications,Inc.will continue to provide financial support to Level 3 so long as Level 3
requires additional capital and resources to complete its networks and construct or lease facilities.
Attached as Exhibit A is a copy of Level 3 Communications,Inc.'s most recent annual
report on SEC Form 10-K for the fiscal year ended December 31,2000.Exhibit A is offered to
demonstrate Level 3's financial qualifications to provide the services for which authority is
requested.The capital evidenced by Exhibit A will be available to meet Level 3's current and
future capital needs as it completes and maintains its network and provides services to Idaho
consumers.The Commission should therefore find that Level 3 remains financially qualified to
provide telecommunications services in the State of Idaho.
As indicated above,Level 3 has not finalized its construction plans and intends to rely
primarily on the leased facilities or tariffed services of other certificated carriers.When Level 3
completes its construction plans,the Applicant will provide the Board with a construction
timeline.
VI.TARIFFS
Level 3 has effective tariffs on file with the Commission.To the extent that the tariffs
require revisions to reflect the authority Level 3 is seeking by this application,Level 3 will
modify its tariffs and file the revisions with the Commission prior to offering regulated services
in Idaho.
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLC
Page 5
VII.COMPLIANCE WITH COMMISSION RULES
Attached hereto is a sworn verification executed by Applicant stating that Applicant
agrees to comply with all Idaho laws and Commission rules and regulations.
VIII.ESCROW ACCOUNT FOR ADVANCE DEPOSITS
Should Level 3 decide to require advance deposits from its customers,it will enter into an
escrow agreement with a bonded escrow agent prior to requiring advanced deposits from its
telecommunications customers in Idaho.Level 3 will comply with all applicable Idaho laws and
Commission rules and regulations regarding advance customer deposits.Should Level 3 decide
to require advance deposits,Level 3 will file a copy of its escrow agreement upon the
Commission's request.
IX.REQUESTFOR MODIFIED PROCEDURE
Level 3 believes that the public interest does not require a hearing to consider the issues
presented by this Application and,accordingly,pursuant to Idaho Public Utilities Commission
Rules of Procedure,Rule 201,requests that the Application be processed under Modified
Procedure.
X.CONCLUSION
WHEREFORE,Level 3 Communications,LLC respectfullyrequests that this matter be
processed under Modified Procedure and that the Commission grant it the requested authority to
provide facilities-based local exchange and interexchange telecommunications services
throughout the State of Idaho
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLCPage6
Dated this day of February,2002.
MCDEVITT &MILLER LLP
Dean J.Mi31er
Counsel for Level 3 Communications,LLC
APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLC
Exhibit A
Level 3 Communications,Inc.
SEC FORM 10-K
EXHIBITS TO APPLICATIONAND REQUEST FOR MODIFIED PROCEDURE OF LEVEL 3 COMMUNICATIONS LLC
FORM 10-K
SECURITIES AND EXCHANGE COMMISSIONWashington,D.C.20549
(Mark One)[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGEACTOF1934
For the fiscal year ended December 31,2000
OR
[_j TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIESEXCHANGEACTOF1934
For the transition period from to
Commission file number:0-15658
Level 3 Communications,Inc.
(Exact name of Registrant as specified in its charter)
Delaware 47-0210602(State or other jurisdiction (I.R.S.Employerofincorporationororganization)Identification No.)
1025 Eldorado Blvd.,Broomfield,Colorado 80021
(Address of principalexecutive offices)(Zip code)
[phone]
(Registrant's telephone number includingarea code)
Securities registeredpursuant to Section 12(b)of the Act:
None
Securities registeredpursuant to section 12(g)of the Act:
Common Stock,par value $.01 per share
Rights to Purchase Series A Junior Participating Preferred Stock,par value
$.01 per share
Indicate by check mark whether the registrant (1)has filed all reports required to be filed by Section 13 or 15(d)of the SecuritiesExchangeActof1934duringthepreceding12months(or for such shorter period that the registrant was required to file such reports),and (2)has been subject to such filing requirements for the past 90 days.Yes [X]No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of RegulationS-K is not contained herein,and will notbecontained,to the best of registrant's knowledge,in definitiveproxy or informationstatements incorporated by reference in Part IIIofthisForm10-K or any amendment to this Form 10-K.O
Indicate the number of shares outstanding of each of the registrant's classes of common stock,as of the latest practicable date.
Title OutstandingCommonStock,par value $.01 per share 367,802,921 as of February 26,2001
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DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and the Part of the Form 10-K (e.g.,Part I,Part II,etc.)intowhichthedocumentisincorporated:(1)Any annual report to security holders;(2)Any proxy or informationstatement;and (3)AnyprospectusfiledpursuanttoRule424(b)or
(c)under the Securities Act of 1933.The listed documents should be clearly described for identification purposes (e.g.,annual reporttosecurityholdersforfiscalyearendedDecember24,1980).
Portions of the Company's Definitive Proxy Statement for the 2001 Annual Meeting of Stockholders are incorporated by referenceintoPartIIIofthisForm10-K
Cautionary Factors That May Affect Future Results
(Cautionary Statements Under the Private Securities Litigation Reform Act of 1995)
This report contains forwardlooking statements and informationthat are based on the beliefs of management as well as assumptionsmadebyandinformationcurrentlyavailabletoLevel3Communications,Inc.and its subsidiaries (Level3 or the Company).Whenusedinthisreport,the words anticipate,believe,plans,estimate and expect and similar expressions,as they relate to the Company oritsmanagement,are intended to identify forward-lookingstatements.Such statements reflect the current views of the Company withrespecttofutureeventsandaresubjecttocertainrisks,uncertainties and assumptions.
Should one or more of these risks or uncertainties materialize,or should underlying assumptions prove incorrect,actual results mayvarymateriallyfromthosedescribedinthisdocument.These forward-lookingstatements include,among others,statementsconcerning:
.the Company's communications and informationservices business,its advantages and the Company's strategy for implementing thebusinessplan;
.anticipated growthof the communications and informationservices industry;
.plans to devote significant management time and capital resources to the Company's business;
.expectations as to the Company's future revenues,margins,expenses and capital requirements;
.anticipated dates on which the Company will begin providingcertain services or reach specific milestones in the development andimplementationofitsbusiness;and
.other statements of expectations,beliefs,future plans and strategies,anticipated developments and other matters that are nothistoricalfacts.
These forward-lookingstatements are subject to risks and uncertainties,including financial,regulatory,environmental,industrygrowthandtrendprojections,that could cause actual events or results to differ materially from those expressed or implied by thestatements.The most important factors that could prevent Level3 from achieving its stated goals include,but are not limited to,theCompany's failure to:
.achieve and sustain profitability based on the implementation of its advanced,international,facilities based communications networkbasedonInternetProtocoltechnology;
.overcome significant early operating losses;
.produce sufficientcapital to fund its business;
.develop financial and management controls,as well as additional controls of operating expenses as well as other costs;
.attract and retain qualifiedmanagement and other personnel;
.install on a timely basis the switches/routers,fiberoptic cable and associated electronics required for successful implementation oftheCompany's business;
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.successfully complete commercial te-g of new technology and Company informationsystems to support new products andservices,including voice transmission services;
.negotiate new and maintain existing peering agreements;and
.develop and implement effectivebusiness support systems for processing customer orders and provisioning.
The Company undertakes no obligationto publicly update any forward-lookingstatements,whether as a result of new information,future events or otherwise.Further disclosures that the Company makes on related
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subjects in its additional filings with the Securities and Exchange Commission should be consulted.For furtherinformationregardingtherisksanduncertaintiesthatmayaffecttheCompany's future results,please review our Current Report on Form 8-K/A filed withtheSecuritiesandExchangeCommissiononNovember9,1999.
ITEM 1.BUSINESS
Level 3 Communications,Inc.and its subsidiaries (Level3 or the Company)engage in the communications,informationservices andcoalminingbusinessesthroughownershipofoperatingsubsidiariesandsubstantialequitypositionsinpubliccompanies.In late 1997,the Company announced the business plan to increase substantially its informationservices business and to expand the range ofservicesitoffersbybuildinganadvanced,international,facilities based communications network based on Internet Protocoltechnology(the Business Plan).
The Company is a facilities based provider(that is,a providerthat owns or leases a substantial portion of the plant,property andequipmentnecessarytoprovideitsservices)of a broad range of integrated communications services.The Company has created,generally by constructing its own assets,but also through a combination of purchasing and leasing of facilities,the Level 3 Network--an advanced,international,facilities based communications network.The Company has designed the Level3 Networkto providecommunicationsservices,which employ and leverage rapidly improvingunderlyingoptical and Internet Protocol technologies.
Market and Technology Opportunity.The Company believes that ongoing technology advances in both optical and Internet Protocoltechnologiesarerevolutionizingthecommunicationsindustryandwillfacilitaterapiddecreasesinunitcostsforcommunicationsserviceprovidersthatareabletomosteffectivelyleveragethesetechnologyadvances.Service providers that can effectivelyleveragetechnologyadvancesandrapidlyreduceunitcostswillbeabletooffersignificantlylowerprices,which,the Company believes,willdriveanevenmoredramaticincreaseinthedemandforcommunicationsservices.The Company believes that there are two primaryfactorsdrivingthismarketdynamicwhichitreferstoasSiliconEconomics:
.Rapidly ImprovingTechnologies.Over the past few years,both optical and Internet Protocol based networking technologies haveundergoneextremelyrapidinnovation,due,in large part,to market based development of underlying technologies.This rapidtechnologyinnovationhasresultedinbotharapidimprovementinprice-performance for optical and Internet Protocol systems,aswellasrapidimprovementinthefunctionalityandapplicationssupportedbythesetechnologies.The Company believes that this rapidinnovationwillcontinuewellintothefuture.
.High Demand Elasticity.The Company believes rapid decreases in communication services costs and prices causes the developmentofnewbandwidth-intensive applications,which drive even more significant increases in bandwidth demand.As an example,industryanalystsestimatethatInternettrafficisgrowingatgreaterthan100%per year.In addition,communications services are directsubstitutesforother,existing modes of informationdistribution such as traditional broadcast entertainment and distribution ofsofhvare,audio and videocontent using physical media delivered over motor transportation systems.The Company believes that ascommunicationsservicesimprovemorerapidlythanthesealternativecontentdistributionsystems,significant demand will begeneratedfromthesesources.The Company believes that high elasticity of demand from both these new applications and substitutionforexistingdistributionsystemswillcontinuefortheforeseeablefuture.
The Company also believes that there are several significant implications that result fromthis Silicon Economics market dynamic:
.Incorporating Technology Changes.Giventhe rapid rate of improvement in optical and Internet Protocol technologies,thosecommunicationsserviceprovidersthataremosteffectiveatrapidlydeployingnewtechnologieswillhaveaninherentcostand serviceadvantageovercompaniesthatarelesseffectiveatdeployingthesenewtechnologies.
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.Capital Intensity.The rapid improvements in these technologies and the need to move to new technologies more quickly results inshortenedeconomiclivesofunderlyingassets.To achieve the rapid unit cost reductions and improvements in service capabilities,service providersmust deploy new generations of technology sooner,resulting in a more capital-intensive business model.Thoseproviderswiththetechnical,operational and financial ability to take advantage of the rapid advancements in these technologies are
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expected to have higher absolute capit equirements,shortened asset lives,rapidly dec-sing unit costs and prices,rapidlyincreasingunitdemandandhighercashflowsandprofits.
.Industry Structure.As a result of the rapid innovationin the underlyingtechnology,the communications industry is visibly shiftingfromautilitymodeltoatechnologymodel.Just as in the computing industry,where market-based standards and rapid priceperformanceimprovementshaveexistedforover20years,it is extremely difficult for a single communications company to be best-of-class across a wide varietyof disciplines in a rapidly changing environment.Rather,an opportunity exists for companies to focusonareasinwhichtheyhavesignificantcompetitiveadvantagesanddevelopsignificantmarketshareinadisaggregatedindustrystructure.
Level 3's Strategy.The Company is seeking to capitalize on the opportunities presented by significant advancements in optical andInternetProtocoltechnologiesbypursuingitsBusinessPlan.Key elements of the Company's strategy include:
.Become the Low Cost Providerof Communications Services.Level 3's network has been designed to providehigh qualitycommunicationsservicesatalowercost.For example,the Level 3 Network is constructed using multiple conduits to allow theCompanytocost-effectively deploy future generations of optical networkingcomponents (both über and transmission electronics andoptronics)and thereby expand capacity and reduce unit costs.In addition,the Company's strategy is to maximize the use of open,non-proprietary interfaces in the design of its network software and hardware.This approach is intended to provideLevel3 with the abilitytopurchasethemostcost-effectivenetwork equipment frommultiple vendors and allow Level 3 to deploy new technology morerapidlyandeffectively.
.Combine Latest Generations of Fiber and Optical Technologies.In order to achieve unit cost reductions for transmission capacity,Level3 has designed its networkwith multiple conduits to deploy successive generations of fiber to exploit improvements in opticaltransmissiontechnology.Optimizingoptical transmission systems to exploit specific generations of fiberoptic technology currentlyprovidestransmissioncapacityonthenewfibermorecosteffectivelythandeployingnewopticaltransmissionsystemsonpreviousgenerationsoffiber.
.Offer a Comprehensive Range of Communications Services.The Company provides a comprehensive range of communicationsservicesovertheLevel3Network.The Company is offering broadband transport services under the brand name (3)LinkSM,colocation services under the brand name
(3)CenterSM Colocation,Internet access services under the brand name
(3)CrossroadsSM,and Softswitch based services under the brand names(3)ConnectSM Modem and (3)VoiceSM.The availabilityof these services varies by location.
.Provide Upgradeable MetropolitanBackbone Networks.Level3's significant investment in metropolitan optical networks enablestheCompanytoconnectdirectlytopointsoftrafficaggregation.These traffic aggregation facilities are typically locations whereLevel3's customers wish to interconnect with the Level3 Network.Level3's metropolitan backbone networks allow Level3 to extenditsnetworkservicestotheseaggregationpointsatlowcosts.The Company is constructing metropolitan networks totaling 15,000conduitmilesand440,000 fiber miles.These metropolitan networks are a significant strategic advantage versus other intercitycommunicationscompaniesthatmustconnecttocustomersusinglowcapacity,legacy facilities providedby formerlocal monopolyproviders.This difficult situation is sometimes referred to as the local loop bottleneck.
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.Provide Significant Colocation Facilities.Level3 believes that providingcolocation services on its network attracts communicationsintensivecustomersbyallowingLevel3toofferthosecustomersreducedbandwidthcosts,rapid provisioningof additionalbandwidth,interconnection with other third-partynetworks and improvednetwork performance.Therefore,Level3 believes thatcontrollingsignificantcolocationfacilitiesinitsGatewaysprovidesitwithacompetitiveadvantage.
As of December 31,2000,Level3 had secured approximately 6.0 million square feet of space for its Gateway and colocation facilitiesandhadcompletedthebuildoutofapproximately2.8 million square feet of this space.Level3 believes it currently has morecolocationandGatewayspacethananyofitscommunicationscompanycompetitors.
.Target Communications Intensive Customers.The Company's distributionstrategy is to utilize a direct sales force focused oncommunicationsintensivebusinesses.These businesses include both traditional and next generation carriers,ISPs,application serviceproviders,content providers,systems integrators,web-hosting companies,media distribution companies,web portals,eCommercecompanies,streaming media companies,storage providersand wireless communications providers.ProvidingcommunicationsservicesatcontinuallydecliningbandwidthcostsandpricesisatthecoreoftheCompany's market enabling strategy since bandwidthgenerallyrepresentsasubstantialportionofthesebusinesses'costs.
.Utilize Optimization Technologies.In order to effectivelymanage its business in a rapidly changing environment,Level3 hasassembledanoperationsresearchdepartmentthathasdevelopedandcontinuestorefineasophisticatednon-linear,mixed integeroptimizationmodel.The objective for this model is to maximize the net present value of the Company's cash flows givenrelevant
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constraints.This tool is designed to aho x Level 3 to determine optimal pricing for its seuices,to determine demand forecasts basedonpriceelasticity,to optimize network design based on optimal topology and optronics configuration,to optimize networkimplementationbasedonoptimaltimingofcapacityinstallation,to optimize the timing of introducing new technologies and todeterminelong-term network requirements.The Company believes that its optimization proficiencyand technology is a source ofsignificantcompetitiveadvantage.
.Provide Seamless Interconnection to the Public Switched Telephone Network(the PSTN).The Company offers (3)VoiceSMlongdistanceservice,which service allows the seamless interconnection of the Level3 Networkwith the PSTN for long distance voicetransmissions.Seamless interconnection allows customers to use Level 3's Internet Protocol based services without modifying existingtelephoneequipmentordialingprocedures(that is,withoutthe need to dial access codes or follow other similar special procedures).The Company's (3)ConnectSM Modem turnkey modem infrastructure service uses similar Softswitch technology to seamlesslyinterconnecttothePSTNandtothepublicInternet.
.DevelopAdvanced Business Support Systems.The Company has developed and continues to develop a substantial,scalable andweb-enabled business support system infrastructure specifically designed to enable the Company to offerservices efficiently to itstargetedcustomers.The Company believes that this system will reduce its operating costs,giveits customers direct control over someoftheservicestheybuyfromtheCompanyandallowtheCompanytogrowrapidlywhileminimizingredesignofitsbusinesssupportsystems.
.Attract and MotivateHigh Quality Employees.The Company has developed programs designed to attract and retain employees withthetechnicalskillsnecessarytoimplementtheBusinessPlan.The programs include the Company's Shareworks stock purchase plananditsOutperformStockOptionprogram.
5CompetitiveAdvantages.The Company believes that it has the following competitive advantages that,together with its strategy,willassistitinimplementingtheBusinessPlan:
.Experienced Management Team.Level 3 has assembled a management team that it believes is well suited to implement the BusinessPlan.Level 3's senior management has substantial experience in leading the development and marketing of communications productsandservicesandindesigning,constructing and managing intercity,metropolitan and international networks.
.A More Readily Upgradeable NetworkInfrastructure.Level 3's network design takes advantage of recent technological innovations,incorporating many of the features that are not present in older communication networks,and provides Level3 flexibilityto takeadvantageoffuturedevelopmentsandinnovations.Level3 has designed the transmission network to optimize all aspects of fiber andoptronicssimultaneouslyasasystemtodeliverthelowestunitcosttoitscustomers.As fiber and optical transmission technologychanges,Level3 expects to realize new unit cost improvements by deploying the latest fiber in available empty or spare conduits inthemultipleconduitLevel3Network.Each new generation of fiber enables associated optical transmission equipment to be spacedfurtherapartandcarrymoretrafficthanthesameequipmentdeployedonoldergenerationsoffiber.The Company believes that thespareconduitdesignoftheLevel3NetworkwillenableLevel3tolowercostsandpriceswhileenjoyinghighermarginsthanitscompetitors.
.Integrated End-to-End NetworkPlatform.Level3's strategy is to deploy network infrastructure in major metropolitan areas and tolinkthesenetworkswithsignificantintercitynetworksinNorthAmericaandEurope.The Company believes that the integration of itsmetropolitanandintercitynetworkswithitscolocationfacilitieswillexpandthescopeandreachofitson-net customer coverage,facilitate the uniformdeployment of technological innovations as the Company manages its future upgrade paths and allow theCompanytogroworscaleitsserviceofferingsrapidly.Level 3 believes that it is the only global communications service providerwiththeuniquecombinationoflargefiber-count,multi-conduitmetropolitan networks,uniformly deployed multi-conduitintercitynetworksandsubstantialcolocationfacilities.
.Prefunded Business Plan.Level3 has substantially prefunded its Business Plan through free cash flow breakeven throughapproximately$14 billion in cumulative debt and equity capital raised to date.As a result,Level 3 believes that it has lowerfinancialriskrelativetocertainothercommunicationsserviceproviders.
The Level3 Network.
The Level3 Networkis an advanced,international,facilities based communications network.Through2000,the Company primarilyoffereditscommunicationsservicesusinglocalandintercityfacilitiesthathadbeenleasedfromthirdparties.This enabled theCompanytodevelopandoffercertainofitsservicesduringtheconstructionofitsownfacilities.As the Company has substantiallycompletedtheconstructionoftheNorthAmericanintercitynetworkandaswellastwoRingsoftheEuropeanintercitynetwork,theportionoftheCompany's network that is owned by the Company will increase significantly and the portion of the facilities leased willdecreasesignificantly.At completion,the Company's network is expected to encompass:
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.an intercity network coveringnearly .,JOO miles in NorthAmerica;
.leased or owned local networks in 56 North American markets;
.an intercity network coveringapproximately 4,750 miles across Europe;
.leased or owned local networks in 21 European and Pacific Rim markets;
.approximately 6.5 million square feet of Gateway and transmission facilities in North America,Europe and the Pacific Rim;and
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.significant undersea capacity,including a 1.28 Tbps transatlantic cable system and a 2.56 Tbps Northern Asia cable systemconnectingHongKong,Japan,Taiwan and Korea.
IntercityNetworks.The Company's nearly 16,000 mile fiber optic intercity network in North America consists of the following:
.Multiple conduits connecting approximately 200 North American cities.In general,Level3 has installed groups of 10 to 12 conduitsinitsintercitynetwork.The Company believes that the availability of spare conduit will allow it to deploy future technologicalinnovationsinopticalnetworkingcomponentsaswellasprovidingLevel3withtheflexibilitytoofferconduittootherentities.
.Initial installation of optical fiber strands designed to accommodate dense wave divisionmultiplexingtransmission technology.Inaddition,the Company believes that the installation of newer optical fibers will allow a combination of greater wavelengths of lightperstrand,higher transmission speeds and greater spacing of networkelectronics.The Company also believes that each newgenerationofopticalfiberwillallowincreasesintheperformanceoftheseaspectsofthefiberandwillresultinlowerunitcosts.
.High speed SONET transmission equipment employing self-healing protection switching and designed for high quality and reliabletransmission.The Company expects that over time,SONET equipped networks will be replaced with network designs that employ amesharchitecturemadepossiblebyadvancesinopticaltechnologies.A mesh architecture allows carriers to establish alternativeprotectionschemesthatreducetheamountofcapacityrequiredtobereservedforprotectionpurposes.
.A design that maximizes the use of open,non-proprietaryhardware and software interfaces to allow less costly upgrades as hardwareandsoftwaretechnologyimproves.
During2000,the Company substantially completed the construction of its North American intercity network.Deployment of theNorthAmericanintercitynetworkwasaccomplishedthroughsimultaneousconstructioneffortsinmultiplelocations,with differentportionsbeingcompletedatdifferenttimes.As of December 31,2000,the Company had completed construction of 15,486 routemilesoftheNorthAmericanintercitynetwork.
In Europe,the Company is deploying an approximately 4,750 mile fiber optic intercity network with characteristics similar to those oftheNorthAmericanintercitynetwork.During2000,the Company completed the construction of both Ring 1 and Ring 2 of itsEuropeannetwork.Ring 1,which is approximately 1,800 miles,connects the major European cities of Paris,Frankfurt,Amsterdam,Brussels and London and was operational at December 31,2000.Ring 2,which is approximately 1,600 miles,connects the majorGermancitiesofBerlin,Cologne,Dusseldorf,Frankfurt,Hamburg,Munich and Stuttgart.Construction on Ring 2 has been completedandtheCompanyexpectsRing2tobeoperationalduringthefirstquarterof2001.
Level3's European network is linked to the Level3 NorthAmerican intercity network by the Level3 transatlantic 1.28 Tbps cablesystem,which was also completed and placed into service during 2000.The transatlantic cable system--referred to by the Company asYellow--has an initial capacity of 320 Gbps and is upgradeable to 1.28 Tbps.The deployment of Yellow was complete pursuant to aco-build agreement announced in February 2000,whereby Global Crossing Ltd.participated in the construction of,and obtained a50%ownership interest in,Yellow.Under the co-buildagreement,Level3 and Global Crossing Ltd.each now separately own andoperatetwoofthefourfiberpairsonYellow.Level3 also acquired additional capacity on Global Crossing Ltd.'s transatlantic cable,Atlantic Crossing 1,during 2000 to serve as redundant capacity for its fiber pairs on Yellow.
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The Company established its Asia Pacific headquarters in Hong Kongin 1999,and during 2000 the Company completed and openeditsGatewayfacilitiesinTokyoandHongKong.In January 2000,Level3 announced its intention to develop and construct a NorthernAsiaunderseacablesysteminitiallyconnectingHongKongandJapan.The Hong Kong-Japan cable was intended to be the first stageoftheCompany's construction of an undersea network in the region.At that time,the Company indicated its intention to shareconstructionandoperatingexpensesofthesystemwithoneormoreindustrypartners.
In December 2000,the Company signed an agreement to collaborate with FLAG Telecom on the development of the NorthernAsiaunderseacablesystemconnectingHongKong,Japan,Korea and Taiwan.The system will include Level3's previouslyannounced
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eastern link connecting Hong Kong ans ,apan and a new western link that FLAG Telece will build to connect Hong Kong,Korea,Taiwan and Japan.The Company expects the Hong Kong to Japan segment of the eastern link to be in service in the second quarter of2001,with the eastern link's Taiwan segment to follow in late 2001.The Company expects the entire western link to be ready forserviceinearly2002.Level 3 and FLAG Telecom will each own three fiber pairs throughout the new system.The total cost of theentireNorthernAsiasystemisestimatedtobeapproximately$900 million.Level 3's share of the cost is approximately $450 million.
Local Market Infrastructure.The Company's local facilities include fiber optic networks connecting Level3's intercity networkGatewaysitestoILECandCLECcentraloffices,long distance carrier points-of-presence or POPs,buildings housing communication-intensive end users and Internet peering and transit facilities.Level 3's high fiber count metropolitan networks allow Level3 to extenditsservicesdirectlytoitscustomers'locations at very low costs,because the availabilityof this network infrastructure does not requireextensivemultiplexingequipmenttoreachacustomerlocation,which is required in ordinary fiberconstrained metropolitan networks.
The Company had secured approximately 6.0 million square feet of space for its Gateway and transmission facilities as of December31,2000 and had completed the buildout of approximately 2.8 million square feet of this space.The Company's initial Gatewayfacilitiesweredesignedtohouselocalsalesstaff,operational staff,the Company's transmission and Internet Protocol routing andSoftswitchfacilitiesandtechnicalspacetoaccommodate
(3)CenterSM Colocation services--that is,the colocation of equipment by high-volume Level3 customers,in an environmentallycontrolled,secure site with direct access to the Level 3 Networkthrough dual,fault tolerant connections.The percentage of the totalsquarefeetofthesefacilitiesthatisavailablefortheprovisionof(3)Center Colocation services is expected to grow over time as thebuildoutofadditionalfacilitiesandexpansionofexistingfacilitiesiscompleted.These newer facilities are typically larger than theCompany's initial facilities and are being designed to include a smaller percentage of total square feet for the Company's transmissionandInternetProtocolrouting/Softswitch facilities and a larger percentage of total square feet for the provisionof (3)Center Colocationservices.The Company is offeringits (3)LinkSM Transport services,(3)CenterSM Colocation services,(3)CrossroadsSM services,(3)ConnectSM Modem services and (3)VoiceSM services at its Gateway sites.The availability of theseservicesvariesbylocation.
As of December 31,2000,the Company had operational,facilities based local metropolitan networks in 26 U.S.markets and sixEuropeanmarkets.Also as of December 31,2000,the Company had entered into interconnection agreements with RBOCs covering49NorthAmericanmarkets.
The Company has negotiated master leases with several CLECs and ILECs to obtain leased capacity from those providersso that theCompanycanprovideitsclientswithlocaltransmissioncapabilitiesbeforeitsownlocalnetworksarecompleteandinlocationsnotdirectlyaccessedbytheCompany's owned facilities.
8AtFebruary15,2001,the Company had a total of 63 markets in service:52 in the United States,nine in Europe and two in Asia.IntheUnitedStates,the Company markets in service include:
Albany Jacksonville PortlandAtlantaJerseyCityProvidenceAustinKansasCityRaleighBaltimoreLasVegasRichmond
Boston Long Island SacramentoBuffaloLosAngelesSaltLake CityCharlotteLouisvilleSanAntonioChicagoManchesterSanDiegoCincinnatiMemphisSanFrancisco
Cleveland Miami San JoseDallasNashvilleSeattleDenverNewOrleansSt.Louis
Detroit New York Stamford
El Paso Newark TampaFortWorthOmahaWashington,D.C.Hartford Orlando WilmingtonHoustonPhiladelphiaIndianapolisPhoenix
In Europe,the markets in service include:
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Amsterdam HamburgBerlinLondon
Brussels Munich
Dusseldorf Paris
Frankfurt
In Asia,markets in service included Hong Kong and Tokyo.
Communicationsand Information Services
Communications Services.Level 3 offers a comprehensive range of communications services,including the following:
.Transport Services.The Company's transport services are branded (3)Link SM and consist of (3)Link SM Global Wavelengths,(3)Link SM Private Line services and (3)Link SM Dark Fiber.
[](3)LinkSM Global Wavelength.Level 3 is offering (3)Link Global Wavelengths--a point-to-pointconnection of a fixed amount ofbandwidthonaparticularwavelengthorcoloroflight.Currently,(3)Link Global Wavelength is available at 2.5GBps and 10GBps.This product is targeted to those customers that require bothsignificantamountsofbandwidthanddesiretoprovidetheirowntrafficprotectionschemes.The approach enables customers to buildandmanageanetworkbydeployingtheirownSONET,ATM or IP equipment at the end points where the wavelength is delivered.(3)Link Global Wavelength is offeredthrough short term,annual and long-term pre-paid leases.
[_](3)Link SM Private Line services.(3)Link Private Line services consist of a fixed amount of dedicated bandwidth between fixedlocationsfortheexclusiveuseofthecustomer.These services are offeredwith committed levels of quality and with networkprotectionschemesincluded.(3)LinkPrivate Line services are currently priced at a fixed rate depending upon the
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distance between end points and the amount of bandwidth required.The Company is offeringthe following types of privatelineservices:
.(3)Link SM Private Line--U.S.Intercity Services.Level 3 provides this transport service over its North American intercity network.Availabletransmission speeds include DS-3,OC-3,OC-12 and OC-48.
.(3)Link SM Private Line--MetroServices.Level 3 provides this service within a metropolitan area.This service is providedin threecategories:Metro Access Stand-alone--a metro circuit is installed froma customer site to a colocation cabinet in a Level3 Gateway inthatcity;Metro Point to Point--a circuit is installed between two of a customers'sites by passing through the Level3 Gateway in thatcity;and Metro Access--a circuit is installed from the customer's location to access backbone services that are located within the Level3Gateway.Availabletransmission speeds include DS-3,OC-3,OC-12 and OC-48.
.(3)Link SM Private Line--InternationalServices.Level3 provides this privateline service between two locations on a point to pointbasisthatcrossaninternationalboundary.This service can be installed between two customer points-of-presence where each point islocatedwithinaLevel3Gatewayfacility.The service is available between mainland Europe and the United Kingdom,the UnitedStates,Japan and Hong Kong.Availabletransmission speeds depends upon the country locations,but range from DS-1 to OC-48.
[_](3)Link SM Dark Fiber.Level3 offers long-termleases of dark fiber and conduit along its local and intercity networks on a long-term basis.Customers can lease dark fiber and conduit in any combination of three ways:(1)segment by segment,(2)full ring or (3)the entire Level3 Network.Level3 offers colocation space in its Gateway and intercity re-transmission facilities to these customersfortheirtransmissionelectronics.
.Colocation and Gateway Services.
(](3)Center SM Colocation.The Company offers high quality,data center grade space where customers can locate servers,contentstoragedevicesandcommunicationsnetworkequipmentinasafeandsecuretechnicaloperatingenvironment.
At its colocation sites,the Company offers high-speed,reliable connectivityto the Level3 Networkand to other networks,includingbothlocalandwideareanetworks,the PSTN and Internet.Level 3 also offers customers AC/DC power,emergency back-up generatorpower,HVAC,fire protection and security.These sites are monitored and maintained 24 hours a day,seven days a week.
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As of December 31,2000,Level3 offered(3)Center Colocation in 63 facilities in 60 markets located in the United States,Europe andAsia.Level 3 believes that its ability to offer both metropolitan and intercity communications services to its (3)Center Colocationcustomersprovidesitwithanadvantageoveritscompetitors,because(3)Center Colocation customers often spend between 25%and 50%of their operating expenses on communications services.
.(3)CrossRoads SM.(3)CrossRoads is a high quality,high speed Internet access product offering.The service is offeredin a varietyofcapacities--100BaseT,GigE,DS-1,DS-3,OC-3 and OC-12--using a varietyof interfaces including Ethernet and SONET.A uniquefeatureoftheserviceisDestinationSensitiveBillingorDSB.ThroughDSB,
(3)CrossRoads customers pay for bandwidth based on the originationand destination of their traffic.DSB customers pay for eitherSentorReceivedbandwidth,but not both.
Level3 believes that the combination of Destination Sensitive Billing with metropolitan and intercity networks and significantcolocationspaceisacompetitiveadvantageandthatthisaccountsfortherapidmarketacceptanceof(3)CrossRoads to date.
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.Softswitch Services.Level 3 has pioneered and developed the Softswitch--a distributed computer system that emulates the functionsperformedbytraditionalcircuitswitchesenablingLevel3tocontrolandprocesstelephonecallsoveranInternetProtocolnetwork.Currently,Level3 is offering two Softswitch based services:(3)Connect SM Modem and (3)VoiceSM.
[_](3)Connect SM Modem.The Company is offeringto its (3)Connect Modem customers an outsourced,turn-key infrastructuresolutionforthemanagementofdialupaccesstoeitherthepublicInternetoracorporatedatanetwork.(3)Connect Modemwas thefirstserviceofferedbytheCompanythatusedSoftswitchtechnologytoseamlesslyinterconnecttothePSTN.ISPs comprise amajorityofthecustomerbasefor(3)Connect Modem and are provideda fully managed dial up network infrastructure for access to thepublicInternet.Corporate customers that purchase (3)Connect Modem services receive connectivity for remote users to support dataapplicationssuchastelecommuting,e-mail retrieval,and client/server applications.
As part of this service,Level 3 arranges for the provisionof local network coverage,dedicated local telephone numbers (whichthe(3)Connect Modem customer distributes to its customers in the case of an ISP or to its employees in the case of a corporate customer),racks and modems as well as dedicated connectivity from the customer's location to the Level3 Gateway facility.Level 3 alsoprovidesmonitoringofthisinfrastructure24hoursaday,seven days a week.By providinga turn-key infrastructure modem solution,Level 3 believes that this product allows its customers to save both capital and operating costs associated with maintaining theinfrastructure.
[](3)Voice SM Services.The Company also offers (3)Voice,an Internet Protocol based long distance service,which uses Softswitchtechnology.This long distance service is currently available for originatinglong distance calls in 24 markets and is generally targetedatcarriers.The end users of the Company's (3)Voicecarrier customers place a long distance call by using existing telephoneequipmentanddialingprocedures.The local service providertransfers the call to the Level 3 Softswitch where it is converted toInternetProtocolformat.The call is then transmitted along the Level 3 Networkto another Level3 Gateway facility closest to thereceivingcitywhereitissenttothecalledpartyinwhateverformatisdesired,including a standard telephone call.Calls on the Level3Softswitchnetworkcanbeterminatedorcompletedanywhereintheworld.The (3)Voicelong distance service is offeredat a qualitylevelequaltothatofthetraditionaltelephonenetwork.
Distribution Strategy
Level 3's sales strategy is to utilize a direct sales force focused on communications intensive businesses.These targeted businessesincludebothtraditionalandnextgenerationcarriers,ISPs,application service providers,content providers,systems integrators,web-hosting companies,streaming media companies,storage providersand wireless communications providers.Level3 believes that thesecompaniesarethemostsignificantdriversofbandwidthdemand.The past distinctions between retail and wholesale have been blurred
as these communications intensive businesses purchase Level3 services,add value and then market to end-users.Bandwidthconstitutesasignificantportionofthesecompanies'cost structure and theirneeds for bandwidth in many cases are growingat anexponentialrate.Providingcontinually declining bandwidth costs to these companies is at the core of Level3's market enablingstrategy.
For the year ended December 31,2000,approximately 85%of the Company's sales were to communications intensive customers thatpackagecommunicationsservicesintovalueaddedservicesanddirectlysellintotheresidentialandbusinessmarkets.The remainingapproximately15%of Level 3's sales were to other carriers and enterprises.
11BusinessSupportSystem
In order to pursue its sales and distribuon strategies,the Company has developed and =,ontinuing to develop and implement a set ofintegratedsoftwareapplicationsdesignedtoautomatetheCompany's operational processes.Throughthe development of a robust,scalable business support system,the Company believes that it has the opportunity to develop a competitive advantage relativetotraditionaltelecommunicationscompanies.Whereas traditional telecommunications companies operate extensive legacy businesssupportsystemswithcompartmentalizedarchitecturesthatlimittheirabilitytoscalerapidlyandintroduceenhancedservicesandfeatures,Level3 has developed a business support system architecture intended to maximize both reliability and scalability.
Key design aspects of the business support system development program are:
.integrated modular applications to allow the Company to upgrade specific applications as new products are available;
.a scalable architecture that allows certain functions that would otherwise have to be performed by Level 3 employees to beperformedbytheCompany's alternative distributionchannel participants;
.phased completion of software releases designed to allow the Company to test functionalityon an incremental basis;
.web-enabled applications so that on-line access to all order entry,network operations,billing,and customer care functions isavailabletoallauthorizedusers,includingLevel 3's customers and resellers;
.use of a tiered,client/server architecture that is designed to separate data and applications,and is expected to enable continuedimprovementofsoftwarefunctionalityatminimumcost;and
.use of pre-developed or shrink wrapped applications,where applicable,which will interface to Level 3's internally developedapplications.
Interconnection and Peering
As a result of the Telecom Act,properlycertificated companies may,as a matter of law,interconnect with ILECs on terms designed tohelpensureeconomic,technical and administrative equality between the interconnected parties.The Telecom Act provides,amongotherthings,that ILECs must offer competitors the services and facilities necessary to offer local switched services.See --Regulation.
As of December 31,2000,the Company had entered into interconnection agreements covering49 markets.The Company may berequiredtonegotiateneworrenegotiateexistinginterconnectionagreementsasLevel3expandsitsoperationsincurrentandadditionalmarketsinthefutureandasexistingagreementsexpireorareterminated.
Peering agreements between the Company and ISPs are necessary in order for the Company to exchange traffic with those ISPswithouthavingtopaytransitcosts.The Company is considered a Tier 1 Internet Service Providerand has peering arrangements withapproximately90domesticISPsandapproximately150internationalISPsandiscurrentlypurchasingtransitfromonemajorISP.ThebasisonwhichthelargenationalISPsmakepeeringavailableorimposesettlementchargesisevolvingastheprovisionofInternetaccessandrelatedserviceshasexpanded.
Employee Recruiting and Retention
As of December 31,2000,Level3 had 5,537 employees in the communications portionof its business and (i)Structure hadapproximately674employees,for a total of 6,211 employees.The Company believes that its
12abilitytoimplementtheBusinessPlanwilldependinlargepartonits ability to attract and retain substantial numbers of additionalqualifiedemployees.
In order to attract and retain highlyqualifiedemployees,the Company believes that it is important to provide(i)a work environmentthatencourageseachindividualtoperformtohisorherpotential,(ii)a work environment that facilitates cooperation towards sharedgoalsand(iii)a compensation program designed to attract the kinds of individualsthe Company seeks and to align employees'interests with the Company's.The Company believes that its current business and the location of its headquarters facilities in theDenvermetropolitanareahelpprovidesuchaworkenvironment.With respect to compensation programs,while the Companybelievesfinancialrewardsalonearenotsufficienttoattractandretainqualifiedemployees,the Company believes a properlydesignedcompensationprogramisanecessarycomponentofemployeerecruitmentandretention.In this regard the Company's philosophy is topayannualcashcompensationwhich,if the Company's annual goals are met,is moderately greater than the cash compensation paidbycompetitors.The Company's non-cash benefit programs (includingmedical and health insurance,life insurance,disabilityinsurance,etc.)are designed to be comparable to those offeredby its competitors.
The Company believes that the qualifiedcandidates it seeks place particular emphasis on equity-based long term incentive (LTI)
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prograrns.The Company currently has so complementary programs:(i)the equity-base Jhareworks program,which helps ensurethatallemployeeshaveanownershipinterestintheCompanyandareencouragedtoinvestriskcapitalintheCompany's stock;and(ii)an innovative OutperformStock Option (OSO)program applicable to the Company's employees.The Shareworks programcurrentlyenablesemployeestocontributeupto7%of their compensation toward the purchase of restricted common stock,whichpurchasesarematchedoneforonebytheCompany.If an employee remains employed by the Company for three years from the dateofpurchase,the shares that are contributed by the Company will vest.The shares that are purchased by the employee are vested at thetimeofpurchase.The Shareworks program also provides that,subject to satisfactory Company performance,the Company'semployeeswillbeeligibleannuallyforgrantsbytheCompanyofitsrestrictedcommonstockofupto3%of the employees'compensation,which shares will vest three years from the employee's initial grant date.For the year ended December 31,2000,theCompanygrantedtoitseligibleemployeesthefull3%grant.
The Company has adopted the OSO program,which differs fromLTI programs generally adopted by the Company's competitors thatmakeemployeeseligibleforconventionalnon-qualifiedstock options (NQSOs).While widely adopted,the Company believes suchNQSOprogramsrewardemployeeswhencompanystockpriceperformanceisinferiortoinvestmentsofsimilarrisks,dilute publicstockholdersinamannernotdirectlyproportionaltoperformanceandfailtoprovideapreferredreturnonstockholders'investedcapitaloverthereturntooptionholders.The Company believes that the OSO program is superior to an NQSO-based program withrespecttotheseissueswhile,at the same time,providingemployees a success-based reward balancing the associated risk.
The Company's OSO program is the primarycomponent of Level3's long term incentive,stock based compensation programs.TheOSOprogramwasdesignedbytheCompanysothatitsstockholdersreceiveamarketrelatedreturnontheirinvestmentbeforeOSOholdersreceiveanyreturnontheiroptions.The Company believes that the OSO program aligns directly employees'and stockholders'interests by basing stock option value on the Company's ability to outperformthe market in general,as measured by the S&P 500Index.The value received for options under the OSO plan is based on a formula involving a multiplier related to how much ourcommonstockoutperformstheS&P 500 Index.Participants in the OSO program do not realize any value from options unless ourcommonstockpriceoutperformstheS&P 500 Index.To the extent that the Level3 common stock outperforms the S&P 500,thevalueofOSOstoanoptionholdermayexceedthevalueofNQSOs.
In July 2000,the Company adopted a convertible outperform stock option program,(C-OSO)as an extension of the existing OSOplan.The program is a component of the Company's ongoing employee retention effortsand offers similar features to those of anOSO,but provides an employee with the greater of the value of a single share of the Company's common stock at exercise,or thecalculatedOSOvalueofasingleOSOatthetimeofexercise.
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C-OSO awards were made to eligible employees employed on the date of the grant.The awards were made in September 2000 andDecember2000.Each award vests over three years as follows:1/6 of each grant at the end of the first year,a further2/6 at the end ofthesecondyearandtheremaining3/6 in the third year.Each award is immediately exercisable upon vesting.Awards expire four yearsfromthedateofthegrant.
Subsequent to March 31,1998 (the effectivedate of the separation of the Company's formerconstruction business),the CompanyadoptedtherecognitionprovisionsofSFASNo.123.Under SFAS No.123,the fair value of an OSO (as computed in accordance withacceptedoptionvaluationmodels)on the date of grant is amortized over the vesting period of the OSO.The recognition provisions ofSFASNo.123 are applied prospectivelyupon adoption.As a result,they are applied to all stock awards granted in the year ofadoptionandarenotappliedtoawardsgrantedinpreviousyearsunlessthoseawardsaremodifiedorsettledincashafteradoption oftherecognitionprovisions.The adoption of SFAS No.123 resulted in non-cash charges to operations of $241 million in 2000,$126millionin1999and$39 million in 1998 and will continue to result in non-cash charges to operations for future periods that theCompanybelieveswillalsobematerial.The amount of the non-cash charge will be dependent upon a number of factors,including thenumberofoptionsgrantedandthefairvalueestimatedatthetimeofgrant.
Competition
The communications industry is highly competitive.Many of the Company's existing and potential competitors in the communicationsindustryhavefinancial,personnel,marketing and other resources significantlygreater than those of the Company,as well as othercompetitiveadvantagesincludingexistingcustomerbases.Increased consolidation and strategic alliances in the industry resultingfromtheTelecomAct,the opening of the U.S.market to foreign carriers,technological advances and furtherderegulation could giverisetosignificantnewcompetitorstotheCompany.
In recent years,competition has increased in all areas of Level3's communications services market.The Company's primarycompetitorsareIXCs,ILECs,CLECs,ISPs and other companies that providecommunications products and services.The followinginformationidentifieskeycompetitorsforeachoftheCompany's product offerings.
For transport services,Level3's key competitors in the United States are other facilities based communications companies includingWilliamsCommunications,Global Crossing,Qwest Communications,Broadwing,and 360Networks.In Europe and Asia,the
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Company's key competitors are other e-iers such as KPNQwest N.V.,Viatel Inc.,Car,i International,Colt Telecom Group ple,Asia Global Crossing and Crosswave.
The Company's key competitors for its (3)Connect Modem services are other providersof dial up Internet access including UUNet,Genuity,Sprint,ICG and AT&T.In addition,the key competitors for the Company's (3)Voice service offeringare other providers ofwholesalelongdistancecommunicationsservicesincludingAT&T,Worldcom Inc.,Sprint and certain RBOCs.The RBOCs areseekingauthorizationstoprovidecertainlongdistanceserviceswhichwillfurtherincreasecompetitioninthelongdistanceservicesmarket.See --Regulation.
Level3's key competitors for its (3)Center Colocation services are other facilities based communications companies,and othercolocationproviderssuchaswebhostingcompaniesandthirdpartycolocationcompanies.These companies include Exodus,Equinix,Williams Communications,Qwest Communications and 360Networks.
For the Company's (3)Crossroads Internet access service,Level3 competes with companies that include UUNet,Genuity,WilliamsCommunicationsandGlobalCrossing.
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The communications industry is subject to rapid and significant changes in technology.For instance,recent technological advancespermitsubstantialincreasesintransmissioncapacityofbothnewandexistingfiber,and the introduction of new products oremergenceofnewtechnologiesmayreducethecostorincreasethesupplyofcertainservicessimilartothosewhichtheCompanyplansonproviding.Accordingly,in the future the Company's most significant competitors may be new entrants to thecommunicationsandinformationservicesindustry,which are not burdened by an installed base of outmoded or legacy equipment.
Regulation
The Company's communications and informationservices business will be subject to varyingdegrees of federal,state,local andinternationalregulation.
FederalRegulation
The FCC regulates interstate and international telecommunications services.The FCC imposes extensive regulations on commoncarrierssuchasILECsthathavesomedegreeofmarketpower.The FCC imposes less regulation on common carriers without marketpower,such as the Company.The FCC permits these nondominant carriers to providedomestic interstate services (includinglongdistanceandaccessservices)without prior authorization;but it requires carriers to receive an authorization to construct and operatetelecommunicationsfacilities,and to provideor resell telecommunications services,between the United States and internationalpoints.The Company has recently obtained FCC approval to land its transatlantic cable in the U.S.The Company has obtained FCCauthorizationtoprovideinternationalservicesonafacilitiesandresalebasis.The Company has filed tariffs for its access andinternationallongdistanceserviceswiththeFCC.
Under the Telecom Act,any entity,includingcable television companies,and electric and gas utilities,may enter anytelecommunicationsmarket,subject to reasonable state regulation of safety,quality and consumer protection.Because implementationoftheTelecomActissubjecttonumerousfederalandstatepolicyrulemakingproceedingsandjudicialreview,there is stilluncertaintyastowhatimpactitwillhaveontheCompany.The Telecom Act is intended to increase competition.The Telecom ActopensthelocalservicesmarketbyrequiringILECstopermitinterconnectiontotheirnetworksandestablishingILECobligationswithrespectto:
.Reciprocal Compensation.Requires all ILECs and CLECs to complete calls originated by competing carriers under reciprocalarrangementsatpricesbasedonareasonableapproximationofincrementalcostorthroughmutualexchangeoftrafficwithout explicitpayment.
.Resale.Requires all ILECs and CLECs to permit resale of their telecommunications services without unreasonable restrictions orconditions.In addition,ILECs are required to offerwholesale versions of all retail services to other telecommunications carriers forresaleatdiscountedrates,based on the costs avoided by the ILEC in the wholesale offering.
.Interconnection.Requires all ILECs and CLECs to permittheir competitors to interconnect with their facilities.Requires all ILECs topermitinterconnectionatanytechnicallyfeasiblepointwithintheirnetworks,on nondiscriminatory terms and at prices based on cost(which may include a reasonable profit).At the option of the carrier seeking interconnection,colocation of the requesting carrier'sequipmentinanILEC'spremises must be offered,except where the ILEC can demonstrate space limitations or other technicalimpedimentstocolocation.
.Unbundled Access.Requires all ILECs to providenondiscriminatory access to specified unbundled network elements (includingcertainnetworkfacilities,equipment,features,functions,and capabilities)at any technically feasible point within their networks,on
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nondiscriminatory terms and at prices med on cost (which may include a reasonable p,1).
.Number Portability.Requires all ILECs and CLECs to permit,to the extent technically feasible,users of telecommunicationsservicestoretainexistingtelephonenumberswithoutimpairmentofquality,reliability or convenience when switching from onetelecommunicationscarriertoanother.
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.Dialing Parity.Requires all ILECs and CLECs to provide1+equal access to competing providers of telephone exchange service andtollservice,and to providenondiscriminatoryaccess to telephone numbers,operator services,directory assistance,and directorylisting,with no unreasonable dialing delays.
.Access to Rights-of-Way.Requires all ILECs and CLECs to permit competing carriers access to poles,ducts,conduits and rights-of-way at regulated prices.
ILECs are required to negotiate in good faith with carriers requesting any or all of the above arrangements.If the negotiating carrierscannotreachagreementwithinaprescribedtime,either carrier may request binding arbitration of the disputed issues by the stateregulatorycommission.Even when an agreement has not been reached,ILECs remain subject to interconnection obligationsestablishedbytheFCCandstatetelecommunicationsregulatorycommissions.
In August 1996,the FCC released a decision (the Interconnection Decision)establishing rules implementing the above-listedrequirementsandprovidingguidelinesforreviewofinterconnectionagreementsbystatepublicutilitycommissions.The UnitedStatesCourtofAppealsfortheEighthCircuit(the Eighth Circuit)vacated certain portions of the Interconnection Decision.OnJanuary25,1999,the Supreme Courtreversed the Eighth Circuit with respect to the FCC's jurisdiction to issue regulations governinglocalinterconnectionpricing(includingregulations governingreciprocal compensation).The Supreme Court also found that the FCChadauthoritytopromulgateapickandchooseruleandupheldmostoftheFCC's rules governingaccess to unbundled networkelements.The Supreme Court,however,remanded to the FCC the standard by which the FCC identifiedthe network elements thatmustbemadeavailableonanunbundledbasis.
On November5,1999,the FCC released an order largely retaining its list of unbundled network elements but eliminating therequirementthatILECsprovideunbundledaccesstolocalswitchingforcustomerswithfourormorelinesinthedensestportionof thetop50MetropolitanStatisticalAreas,and the requirement to unbundle operator services and directory assistance.In its decision,theFCCreaffirmedthatnetworkelementsshouldbepricedusingatotalelementlongrunincrementalpricing(TELRIC)methodology.AnumberofpartieschallengedtheFCC's TELRIC finding.On Jan.22,2001,the U.S.Supreme Court agreed to hear those appeals.TheSupremeCourt's decision could effectsome pricing terms in the Company's existing interconnection agreements and may require therenegotiationofexistinginterconnectionagreements.The Supreme Court's decision could also result in new rules being promulgatedbytheFCC.Giventhe general uncertainty surrounding the effect of these decisions and appeals,the Company may not be able tocontinuetoobtainorenforceinterconnectiontermsthatareacceptabletoitorthatareconsistentwithitsbusinessplans.
The Telecom Act also codifies the ILECs'equal access and nondiscrimination obligations and preempts inconsistent state regulation.The Telecom Act contains special provisionsthat modify previous court decrees that prevented RBOCs fromprovidinglong distanceservicesandengagingintelecommunicationsequipmentmanufacturing.These provisionspermit a RBOC to enter the long distancemarketinitstraditionalserviceareaifitsatisfiesseveralproceduralandsubstantiverequirements,including obtaining FCC approvaluponashowingthattheRBOChasenteredintointerconnectionagreements(or,under some circumstances,has offeredto enter intosuchagreements)in those states in which it seeks long distance relief,the interconnection agreements satisfy a 14-point checklist ofcompetitiverequirements,and the FCC is satisfied that the RBOC's entry into long distance markets is in the public interest.To date,the FCC has approved petitions to provide long distance service by Verizon in New York and Southwestern Bell in Texas,OklahomaandKansas.Verizon has refiled its application to providelong distance service in Massachusetts.The Telecom Act permitted theRBOCstoentertheout-of-regionlong distance market immediately upon its enactment.
In October 1996,the FCC adopted an order in which it eliminated the requirement that non-dominant carriers such as the CompanymaintaintariffsonfilewiththeFCCfordomesticinterstateservices.On February 13,1997,the U.S.Court of Appeals for the DistrictofColumbiastayedimplementationoftheFCCorder.On April 28,2000,all litigation with respect to the FCC's order was resolved infavoroftheFCC,As a
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result,a deadline of August 1,2001 has been established for non-dominant carriers,such as Level3,to eliminate tariffs for interstateservices.Today,the only service that the Company offers that is characterized as interstate service is (3)Link Private Line--U.S.IntercityService.While tariffs provideda means of providingnotice of prices as well as terms and conditions for the provisionofservice,the Company has historically relied primarily on its sales force and marketing activities to provideinformationto itscustomersregardingthesemattersandexpectstocontinuetodosoafterAugust1,2001.
The Company's costs of providing long distance services,as well as its revenues from providing local services,will both be affected
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by changes in the access charge rates nuposed by ILECs on long distance carriers for oi nation and termination of calls over localfacilities.The FCC has made major changes in the interstate access charge structure.In a December 24,1996 order,the FCC removedrestrictionsonILECs'ability to lower access prices and relaxed the regulation of new switched access services in those markets wherethereareotherprovidersofaccessservices.On August 5,1999 the FCC adopted an order granting price cap LECs additional pricingflexibility,implementing certain access charge reforms and seeking comments on others.The order provides certain immediateregulatoryrelieftopricecapcarriersandsetsaframeworkoftriggerstoprovidethosecompanieswithgreaterpricingflexibilityto setinterstateaccessratesascompetitionincreases.The order also initiated a rulemaking to determine whether the FCC should regulatetheaccesschargesofCLECs.If this increased pricing flexibility is not effectivelymonitored by federal regulators,it could have amaterialadverseeffectontheCompany's ability to price its interstate access services competitively.A May 16,1997 ordersubstantiallyincreasedtheamountsthatILECssubjecttotheFCC's price cap rules (price cap LECs)recover through monthly flat-ratechargesandsubstantiallydecreasedtheamountsthattheseLECsrecoverthroughtrafficsensitive(per-minute)access charges.SeveralpartiesappealedtheMay16thorder.On August 19,1998,the Eighth Circuit upheld the FCC's access charge reformrules.
Recently,the large interexchange or long distance carriers have challenged the ability of competitive local exchange carriers orCLECstolevyaccesschargestoterminatetrafficonaCLEC's network.AT&T and Sprint have filed Petitions for Declaratory RulingwiththeFCCaskingwhetheranystatutoryorregulatoryconstraintspreventaninterexchangecarrierfromdecliningorterminatingaccessservicesorderedorconstructivelyorderedfromCLECsandwhatstepsinterexchangecarriersmusttakeeithertoavoidorderingortocancelserviceafterithasbeenorderedorconstructivelyordered.As a result,the FCC has asked for public comment ontheextenttowhichinterexchangecarriersmaylawfullyrefusetoacceptandpayforCLECinterstateaccessservices.The central issueindisputeiswhetherCLECscanlevyaccesschargesthatarehigherthantheincumbentlocalexchangecarriersorILECs.TheCompany's long standing policy has been to mirror the access rates charged by the ILECs.Giventhe general uncertainty surroundingtheeffectofanyFCCdecisionornewFCCrulesthatmayresultfromtheAT&T and Sprint petition,the Company may be required tochangethemannerinwhichaccesschargesareassessedorcollectedinthefuture.
Beginning in June 1997,every RBOC advised CLECs that they did not consider calls in the same local calling area from theircustomerstoCLECcustomers,who are ISPs,to be local calls under the interconnection agreements between the RBOCs and theCLECs.The RBOCs claim that these calls are exchange access calls for which exchange access charges would be owed.The RBOCsclaimed,however,that the FCC exempted these calls from access charges so that no compensation is owed to the CLECs fortransportingandterminatingsuchcalls.As a result,the RBOCs threatened to withhold,and in many cases did withhold,reciprocalcompensationforthetransportandterminationofsuchcalls.To date,thirty-six state commissions have ruled on this issue in thecontextofstatecommissionarbitrationproceedingsorenforcementproceedings.In thirty-three states,to date,the state commissionhasdeterminedthatreciprocalcompensationisowedforsuchcalls.Several of these cases are presently on appeal.Reviewingcourtshaveupheldthestatecommissionsineightdecisionsrenderedtodateonappeal.Decisions in the Fourth,Fifth and Seventh U.S.Circuit Courts of Appeal have upheld state determinations that reciprocal compensation is owed for ISP bound traffic.A decision ispendingbeforetheU.S.Circuit Court of Appeals for the District of Columbia.On February 25,1999,the FCC issued a DeclaratoryRulingontheissueofinter-carriercompensation for calls bound to ISPs.The FCC ruled that the calls are largely jurisdictionallyinterstatecalls,not local calls.The FCC,however,determined that this
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issue was not dispositive of whether inter-carriercompensation is owed.The FCC noted a number of factors which would allowthestatecommissionstoleavetheirdecisionsrequiringthepaymentofcompensationundisturbed.The Company cannot predict the effectoftheFCC's ruling on existing state decisions,or the outcome of pending appeals or of additional pending cases.The Ninth CircuitdismissedanappealofaWashingtondecisiononthegroundthatitconstitutedacollateralattackontheFCC's ruling.The FCC alsoissuedproposedrulestoaddressinter-carrier compensation in the future.
The Company has entered into agreements with Verizon,formerlyBell Atlantic,that provides for payment for ISP bound traffic in the14-state Verizon territory and with SBC Corporationfor the 13-state operating territorythat includes its affiliates Pacific Bell,Southwestern Bell,Ameritech and Southern New England Telephone.
The FCC has to date treated ISPs as enhanced service providers,exempt from federal and state regulations governingcommoncarriers,including the obligationto pay access charges and contribute to the universal service fund.Nevertheless,regulationsgovemingdisclosureofconfidentialcommunications,copyright,excise tax,and other requirements may apply to the Company'sprovisionofInternetaccessservices.The Company cannot predict the likelihoodthat state,federal or foreign governments willimposeadditionalregulationontheCompany's Internet business,nor can it predict the impact that future regulation will have on theCompany's operations.
In December 1996,the FCC initiated a Notice of Inquiry regarding whether to impose regulations or surcharges upon providers ofInternetaccessandinformationservices(the Internet NOI).The Internet NOI sought public comment upon whether to impose orcontinuetoforebearfromregulationofInternetandotherpacket-switched network service providers.The Internet NOI specificallyidentifiesInternettelephonyasasubjectforFCCconsideration.On April 10,1998,the FCC issued a Report to Congress on itsimplementationoftheuniversalserviceprovisionsoftheTelecomAct.In that Report,the FCC stated,among other things,that theprovisionoftransmissioncapacitytoISPsconstitutestheprovisionoftelecommunicationsandis,therefore,subject to common carrier
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regulations.The FCC indicated that it would reexamine its policy of not requiringan Ib.so contribute to the universal servicemechanismswhentheISPprovidesitsowntransmissionfacilitiesandengagesindatatransportoverthosefacilitiesinordertoprovideaninformationservice.Any such contribution by a facilities based ISP would be related to the ISP's provisionof theunderlyingtelecommunicationsservices.In the Report,the FCC also indicated that it would examine the question of whether certainformsofphone-to-phone Internet Protocol telephony are informationservices or telecommunications services.It noted that the FCCdidnothaveanadequaterecordonwhichtomakeanydefinitivepronouncementsonthatissueatthistime,but that the record theFCChadreviewedsuggeststhatcertainformsofphone-to-phone Internet Protocol telephony appear to have similar functionalitytonon-InternetProtocol telecommunications services and lack the characteristics that would render them informationservices.If theFCCweretodeterminethatcertainInternetProtocoltelephonyservicesaresubjecttoFCCregulationsastelecommunicationsservices,the FCC noted it may find it reasonable that the ISPs pay access charges and make universal service contributions similar tonon-Internet Protocol based telecommunications service providers.The FCC also noted that other forms of Internet Protocol telephonyappeartobeinformationservices.The Company cannot predict the outcome of these proceedings or other FCC proceedings that mayeffecttheCompany's operations or impose additional requirements,regulations or charges upon the Company's provisionof Internetaccessservices.
On May 8,1997,the FCC issued an order establishing a significantlyexpanded federal universal service subsidy regime.For example,the FCC established new universal service funds to support telecommunications and informationservices providedto qualifyingschoolsandlibraries(with an annual cap of $2.25 billion)and to rural health care providers (with an annual cap of $400 million).TheFCCalsoexpandedthefederalsubsidiesforlocalexchangetelephoneservicesprovidedtolow-income consumers and recentlydoubledthesizeofthehighcostfundfornon-rural LECs.Providers of interstate telecommunications service,such as the Company,as well as certain other entities,must pay for these programs.The Company's contributionto these universal service funds will bebasedonitstelecommunicationsserviceend-user revenues.The extent to which the Company's services are viewed astelecommunicationsservicesorasinformationserviceswillimpactthe
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amount of the Company's contributions,if any.As indicated in the preceding paragraph,that issue has not been resolved.Currently,the FCC assesses such payments on the basis of a provider'srevenue for the previous year.The Company is currently unable toquantifytheamountofsubsidypaymentsthatitwillberequiredtomakeandtheeffectthattheserequiredpaymentswillhaveon itsfinancialconditionbecauseofuncertaintiesconcerningthesizeoftheuniversalfundanduncertaintiesconcerningtheclassificationofitsservices.The Fifth Circuit Court of Appeals recently upheld the FCC in most respects,but rejected the FCC's effort to basecontributionsonintrastaterevenues.The FCC's universal service program may also be altered as a result of the agency'sreconsiderationofitspolicies,or by future Congressional action.
The FCC recently adopted new rules designed to make it easier and less expensive for CLECs to obtain colocation at ILEC centralofficesby,among other things,restricting the ILEC's ability to prevent certain types of equipment from being colocated and requiringILECstoofferalternativecolocationarrangementswhichwillbelesscostly.
On November18,1999,the FCC adopted a new order requiringILECs to provideline sharing,which will allow CLECs to offer dataservicesoverthesamelinetheconsumerusesforvoiceserviceswithouttheCLECsbeingrequiredtoofferthevoiceservices.StatecommissionshavebeenauthorizedtoestablishthepricestotheCLECsforsuchservices.The decision has been appealed.
State Regulation
The Telecom Act is intended to increase competition in the telecommunications industry,especially in the local exchange market.With respect to local services,ILECs are required to allow interconnection to theirnetworks and to provideunbundled access tonetworkfacilities,as well as a number of other procompetitive measures.Because the implementation of the Telecom Act is subject tonumerousstaterulemakingproceedingsontheseissues,it is currently difficult to predict how quickly full competition for localservices,including local dial tone,will be introduced.
State regulatory agencies have jurisdiction when Company facilities and services are used to provideintrastate services.A portionoftheCompany's traffic may be classified as intrastate and therefore subject to state regulation.The Company expects that it will offermoreintrastateservices(includingintrastate switched services)as its business and product lines expand.To provideintrastateservices,the Company generally must obtain a certificate of public convenience and necessity from the state regulatory agency andcomplywithstaterequirementsfortelecommunicationsutilities,includingstate tariffing requirements.The Company currently isauthorizedtoprovidetelecommunicationsservicesinallfiftystatesandtheDistrictofColumbia.The Company is seeking expandedauthorityinthestatesofIowa,Wisconsin and New Mexico.
States also often require prior approvals or notifications for certain transfers of assets,customers or ownership of certificated carriersandforissuancesbycertifiedcarriersofequityordebt.
Local Regulation
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The Company's networks will be subje to numerous local regulations such as building des and licensing.Such regulations vary onacity-by-city,county-by-county and state-by-state basis.To install its own fiber optic transmission facilities,the Company will needtoobtainrights-of-wayover privatelyand publicly owned land.Rights-of-waythat are not already secured may not be available to theCompanyoneconomicallyreasonableoradvantageousterms.
Canadian Regulation
The Canadian Radio-televisionand Telecommunications Commission (the CRTC)generally regulates long distance
telecommunications services in Canada.Regulatory developments over the past several years have terminated the historic monopoliesoftheregionaltelephonecompanies,bringingsignificant competition
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to this industry for both domestic and international long distance services,but also lessening regulation of domestic long distancecompanies.Resellers,which,as well as facilities-based carriers,now have interconnection rights,but which are not obligated to filetariffs,may not only providetransborder services to the U.S.by reselling the services providedby the regional companies and otherentitiesbutalsomayreselltheservicesoftheformermonopolyinternationalcarrier,Teleglobe Canada (Teleglobe),includingofferinginternationalswitchedservicesprovisionedoverleasedlines.Althoughthe CRTCformerlyrestricted the practice of switchedhubbingoverleasedlinesthroughintermediatecountriestoorfromathirdcountry,the CRTCrecently lifted this restriction.TheTeleglobemonopolyoninternationalservicesandunderseacablelandingrightsterminatedasofOctober1,1998,although theprovisionofCanadianinternationaltransmissionfacilities-based services remains restricted to Canadian carriers with majorityownershipbyCanadians.Ownership of non-internationaltransmission facilities are limited to Canadian carriers but the Company canowninternationalunderseacableslandinginCanada.The Company cannot,under current or foreseen law,enter the Canadian market
as a providerof transmission facilities-based domestic services.Recent CRTCrulings address issues such as the frameworkforinternationalcontributionchargespayabletothelocalexchangecarrierstooffsetsomeofthecapitalandoperatingcostsoftheprovisionofswitchedlocalaccessservicesoftheincumbentregionaltelephonecompanies,in their capacity as ILECs,and the newentrantCLECs.
While competition is permitted in virtually all other Canadian telecommunications market segments,the Company believes that theregionalcompaniescontinuetoretainasubstantialmajorityofthelocalandcallingcardmarkets.Beginning in May 1997,the CRTCreleasedanumberofdecisionsopeningtocompetitiontheCanadianlocaltelecommunicationsservicesmarket,which decisions weremadeapplicableintheterritoriesofalloftheregionaltelephonecompaniesexceptSaskTel(although Saskatchewan has subsequentlyallowedlocalservicecompetitioninthatprovince).As a result,networks operated by CLECs may now be interconnected with thenetworksoftheILECs.Transmission facilities-based CLECs are subject to the same majority Canadian ownership Canadian carrierrequirementsastransmissionfacilities-based long distance carriers.CLECs have the same status as ILECs,but they do not have
universal service or customer tariff-filing obligations.CLECs are subject to certain consumer protection safeguards and other CRTCregulatoryoversightrequirements.CLECs must file interconnection tariffs for services to interexchange service providersand wirelessserviceproviders.Certain ILEC services must be providedto CLECs on an unbundled basis and subject to mandatory pricing,includingcentral office codes,subscriber listings,and local loops in small urban and rural areas.For a five-yearperiod,certain otherimportantCLECservicesmustbeprovidedonanunbundledbasisatmandatedprices,notably unbundled local loops in large,urbanareas.ILECs,which,unlike CLECs,remained fully regulated,will be subject to price cap regulation in respect of their utilityservicesforaninitialfour-yearperiod beginning May 1,1997,and these services must not be priced below cost.Interexchange contributionpaymentsarenowpooledanddistributedamongILECsandCLECsaccordingtoaformulabasedontheirrespectiveproportionsofresidentiallines,with no explicit contributionpayable from local business exchange or directory revenues.CLECs must pay an annual
telecommunications fee based on their proportionof total CLEC operating revenues.All bundled and unbundled local services(includingresidential lines and other bulk services)may now be resold,but ILECs need not providethese services to resellers atwholesaleprices.Transmission facilities-based local and long distance carriers (but not resellers)are entitled to colocate equipment inILECcentralofficespursuanttotermsandconditionsoftariffsandintercarrieragreements.Certain local competition issues are still toberesolved.The CRTC has ruled that resellers cannot be classified as CLECs,and thus are not entitled to CLEC interconnectiontermsandconditions.
The Company'sOther Businesses
The Company was incorporated as Peter Kiewit Sons',Inc.in Delaware in 1941 to continue a construction business founded inOmaha,Nebraska in 1884.In subsequent years,the Company invested a portionof the cash flow generated by its constructionactivitiesinavarietyofotherbusinesses.The Company entered the coal mining business in 1943,the telecommunications business
(consisting of MFS and,more recently,an
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investment in C-TECCorporation and its successors RCN Corporation,Commonwealth Telephone Enterprises,Inc.and CableMichigan,Inc.)in 1988,the informationservices business in 1990 and the alternative energy business,through an investment inMidAmerican,in 1991.Level3 also has made investments in several development-stage ventures.
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In 1995,the Company distributed to the nolders of Class D Stock all of its shares of M1 n the seven years from 1988 to 1995,theCompanyinvestedapproximately$500 million in MFS;at the time of the distribution to stockholders in 1995,the Company'sholdingsinMFShadamarketvalueofapproximately$1.75 billion.In December 1996,MFS was purchased by WorldComin atransactionvaluedat$14.3 billion.In December 1997,the Company's stockholders ratifiedthe decision of the Board to effect thesplit-off separating the Construction Group.As a result of the split-off,which was completed on March 31,1998,the Company nolongerownsanyinterestintheConstructionGroup.In conjunction with the split-off,the Company changed its name to Level3Communications,Inc.,and the Construction Group changed its name to Peter Kiewit Sons',Inc.
In January 1998,the Company completed the sale to MidAmericanof its energy investments,consisting primarily of a 24%equityinterestinMidAmerican.The Company received proceeds of approximately $1.16 billion from this sale,and as a result recognized anafter-tax gain of approximately $324 million in 1998.In November1998,AvalonCable of Michigan,Inc.acquired all the outstandingstockofCableMichigan.Level 3 received approximately $129 million in cash for its interest in Cable Michigan and recognized a pre-tax gain of approximately $90 million.
The Company's other businesses include its investment in the C-TECCompanies (as defined),coal mining,the SR91 Tollroad(asdefined)and certain other assets.In 1998,the Company completed the sale of its interests in United Infrastructure Company,MidAmericanand Kiewit Investment Management Corp.
(i)Structure,Inc.
Level 3 currently offers,through its subsidiary (i)Structure,Inc.(formerlyPKS InformationServices,Inc.),computer operationsoutsourcingandsystemsintegrationservicestocustomerslocatedthroughouttheUnitedStatesaswellasabroad.
The Company's systems integration services help customers define,develop and implement cost-effective informationservices.ThecomputeroutsourcingservicesofferedbytheCompanyincludenetworkingandcomputingservicesnecessaryforoldermainframe-based systems and newer client/server-based systems.The Company provides its outsourcing services to clients that want to focustheirresourcesoncorebusinesses,rather than expend capital and incur overhead costs to operate their own computing environments.(i)Structure believes that it is able to utilize its expertise and experience,as well as operating efficiencies,to provideits outsourcingcustomerswithlevelsofserviceequaltoorbetterthanthoseachievablebythecustomersthemselves,while at the same time reducingthecustomers'cost for such services.This service is particularlyuseful for those customers movingfrom older computing platforms tomoremodernclient/server networks.
(i)Structure offers reengineering services that allow companies to convert older legacy software systems to modern networkedcomputingsystems,with a focus on reengineering software to enable older software application and data repositories to be accessedbywebbrowsersovertheInternetoroverprivateorlimitedaccessInternetProtocolnetworks.(i)Structure also provides customerswithacombinationofworkbenchtoolsandmethodologiesthatprovideacompletestrategyforconvertingmainframe-basedapplicationsystemstoclient/server architecture.
C-TEC Companies
On September 30,1997,C-TECcompleted a tax-free restructuring,which dividedC-TECCorporation into three public companies(the C-TEC Companies):
C-TEC,which changed its name to Commonwealth Telephone Enterprises,Inc.(Commonwealth Telephone),RCN Corporation(RCN)and Cable Michigan,
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Inc.(Cable Michigan).The Company's interests in the C-TECCompanies are held through a holding company (the C-TEC HoldingCompany).The Company owns 90%of the common stock of the C-TECHoldingCompany,and preferredstock of the C-TECHoldingCompanywithaliquidationvalueofapproximately$540 million as of December 31,2000.The remaining 10%of thecommonstockoftheC-TECHoldingCompany is held by DavidC.McCourt,a director of the Company who was formerlytheChairmanofC-TEC.In the event of a liquidationof the C-TECHolding Company,the Company would first receive the liquidationvalueofthepreferredstock.Any excess of the value of the C-TECHolding Company above the liquidationvalue of the preferredstockwouldbesplitaccordingtotheownershipofthecommonstock.
Commonwealth Telephone.Commonwealth Telephone is a Pennsylvania public utility providing local telephone service to a 19-county,5,191 square mile service territory in Pennsylvania.Commonwealth Telephone also provides network access and longdistanceservicestoIXCs.Commonwealth Telephone's business customer base is diverse in size as well as industry,with very littleconcentration.A subsidiary,Commonwealth Communications Inc.provides telecommunications engineering and technical services tolargecorporateclients,hospitals and universities in the northeastern United States.Another subsidiary,Commonwealth Long Distance
operates principally in Pennsylvania,providing switched services and resale of several types of services,using the networks of severallongdistanceprovidersonawholesalebasis.As of December 31,2000,the C-TECHolding Company owned approximately 46.3%oftheoutstandingcommonstockofCommonwealthTelephone.
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On October 23,1998,Commonwealth Telephone completed a rights offeringof3.7 million shares of its common stock.In the offering,Level3 exercised all rights it received and purchased approximately 1.8millionadditionalsharesofCommonwealthTelephonecommonstockforanaggregatesubscriptionpriceof$37.7 million.
RCN.RCN is a full service providerof local,long distance,Internet and cable television services primarily to residential users indenselypopulatedareasintheNortheast.RCN operates as a competitive telecommunications service providerin New York City andBoston.RCN also owns cable television operations in New York,New Jersey and Pennsylvania;a 49%interest in Megacable,S.A.deC.V.,Mexico's second largest cable television operator;and has long distance operations (other than the operations in certain areas ofPennsylvania).RCN is developingadvanced fiber optic networks to providea wide range of telecommunications services,includinglocalandlongdistancetelephone,videoprogramming and data services (includinghigh speed Internet access),primarily to residentialcustomersinselectedmarketsintheBostontoWashington,D.C.and San Francisco to San Diego corridors and Chicago.As ofDecember31,2000,the C-TECHolding Company owned approximately 30.8%of the outstanding common stock of RCN.
Cable Michigan.Cable Michigan was a cable television operator in the State of Michigan.On June 4,1998,Cable MichiganannouncedthatithadagreedtobeacquiredbyAvalonCable.Level3 received approximately $129 million in cash when thetransactionclosedonNovember6,1998.
Coal Mining
The Company is engaged in coal mining through its subsidiary,KCP,Inc.(KCP).KCP has a 50%interest in two mines,which areoperatedbyasubsidiaryofPeterKiewitSons',Inc.(NewPKS).Decker Coal Company (Decker)is a joint venture with WesternMinerals,Inc.,a subsidiary of The RTZ Corporation PLC.Black Butte Coal Company (Black Butte)is a joint venture with BitterCreekCoalCompany,a subsidiary of Anadarko Petroleum Corporation.The Decker mine is located in southeastern Montana and theBlackButtemineisinsouthwesternWyoming.The coal mines use the surface mining method.
In September 2000,the Company sold its entire 50%ownership interest in the Walnut Creek Mining Company to a subsidiary of PeterKiewitSons',Inc.for cash of $37 million.
22ThecoalproducedfromtheKCPminesissoldprimarilytoelectricutilities,which burn coal in order to produce steam to generateelectricity.Approximately95%of sales are made under long-term contracts,and the remainder are made on the spot market.Approximately76%,75%and 77%of KCP's revenues in 2000,1999 and 1998 respectively,were derived from long-term contractswithCommonwealthEdisonCompany(with Decker and Black Butte)and The DetroitEdison Company (with Decker).KCP also hasothersalescommitments,including those with Sierra Pacific,Idaho Power,Solvay Minerals,Pacific Power &Light and MinnesotaPower,that providefor the deliveryof approximately 10 million tons through 2005.The level of cash flows generated in recentperiodsbytheCompany's coal operations will not continue after the year 2000 because the deliveryrequirements under theCompany's current long-term contracts decline significantly.Under a mine management agreement,KCP pays a subsidiary of NewPKSanannualfeeequalto30%of KCP's adjusted operating income.The fee for 2000 was $29 million.
The coal industry is highly competitive.KCP competes not only with other domestic and foreign coal suppliers,some of whom arelargerandhavegreatercapitalresourcesthanKCP,but also with alternative methods of generating electricity and alternative energysources.In 1998,KCP's production represented 1.3%of total U.S.coal production.Demand for KCP's coal is affected by economic,political and regulatory factors.For example,recent clean air laws may stimulate demand for low sulfur coal.KCP's western coalreservesgenerallyhavealowsulfurcontent(less than one percent)and are currently useful principally as fuel for coal-fired,steam-electric generating units.
KCP's sales of its western coal,like sales by other western coal producers,typically providefor deliveryto customers at the mine.Asignificantportionofthecustomer's deliveredcost of coal is attributable to transportation costs.Most of the coal sold from KCP'swesternminesiscurrentlyshippedbyrailtoutilitiesoutsideMontanaandWyoming.The Decker and Black Butte mines are eachservedbyasinglerailroad.Many of their western coal competitors are served by two railroads and such competitors'customers oftenbenefitfromlowertransportationcostsbecauseofcompetitionbetweenrailroadsforcoalhaulingbusiness.Other western coalproducers,particularlythose in the Powder RiverBasin of Wyoming,have lowerstripping ratios (that is,the amount of overburdenthatmustberemovedinproportiontotheamountofminablecoal)than the Black Butte and Decker mines,often resulting in lowercomparativecostsofproduction.As a result,KCP's production costs per ton of coal at the Black Butte and Decker mines can be asmuchasfourandfivetimesgreaterthanproductioncostsofcertaincompetitors.KCP's production cost disadvantage has contributedtoitsagreementtoamenditslong-term contract with Commonwealth Edison Company to providefor deliveryof coal from alternatesourceminesratherthanfromBlackButte.Because of these cost disadvantages,KCP does not expect that it will be able to enter intolong-term coal purchase contracts for Black Butte and Decker production as the current long-term contracts expire.In addition,thesecostdisadvantagesmayadverselyaffectKCP's ability to compete for spot sales in the future.
The Company is required to comply with various federal,state and local laws and regulations concerning protection of the
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environment.KCP's share ofland reci ation expenses for the year ended December 3.,.000 was approximately $6 million.KCP'sshareofaccruedestimatedreclamationcostswas$94 million at December 31,2000.The Company did not make significant capitalexpendituresforenvironmentalcompliancewithrespecttothecoalbusinessin2000.The Company believes its compliance withenvironmentalprotectionandlandrestorationlawswillnotaffectitscompetitivepositionsinceitscompetitorsintheminingindustryaresimilarlyaffectedbysuchlaws.However,failure to comply with environmental protection and land restoration laws,or actualreclamationcostsinexcessoftheCompany's accruals,could have an adverse effect on the Company's business,results of operations,and financial condition.
SR91Tollroad
The Company has invested $13.1 million for a 65%equity interest and lent $8.0 million to CaliforniaPrivate Transportation CompanyL.P.(CPTC),which developed,financed,and currently operates the 91 Express Lanes,a ten mile,four-lane tollroad in OrangeCounty,California(the SR91 Tollroad).The fully automated highway uses an electronic toll collection system and variablepricing toadjusttollstodemand.
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Capital costs at completion were $130 million,$110 million of which was funded with debt that was not guaranteed by Level 3.However,certain defaults by Level 3 on its outstanding debt and certain judgments against Level 3 can result in default under this debtofCPTC.Revenue collected over the 35-year franchise period is used for operating expenses,debt repayment,and profit distributions.The SR91 Tollroadopened in December 1995 and achieved operating break-even in 1996.Approximately 96,100 customers haveregisteredtousethetollroadasofDecember31,2000,and weekday volumes typically exceed 25,700 vehicles per day duringDecember2000.
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Glossary of Terms
access......................Telecommunications services that permit longdistancecarrierstouselocalexchangefacilitiestooriginateand/or terminate longdistanceservice.
access charges..............The fees paid by long distance carriers to LECsfororiginatingandterminatinglongdistancecallsontheLECs'local networks.
backbone....................A centralized high-speed network thatinterconnectssmaller,independent networks.Itisthethrough-portion of a transmissionnetwork,as opposed to spurs which branch offthethrough-portions.
CAP.........................Competitive Access Provider.A company thatprovidesitscustomerswithanalternative tothelocalexchangecompanyforlocaltransportofprivatelineandspecialaccesstelecommunicationsservices.
capacity....................The information carrying ability of atelecommunicationsfacility.
carrier.....................A provider of communications transmissionservicesbyfiber,wire or radio.
Central Office..............Telephone company facility where subscribers'lines are joined to switching equipment forconnectingothersubscriberstoeachother,locally and long distance.
CLEC........................Competitive Local Exchange Carrier.A companythatcompeteswithLECsinthelocalservicesmarket.
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common carrier..............A government-defined gts..p of private companiesofferingtelecommunicationsservicesorfacilitiestothegeneralpubliconanon-discriminatory basis.
conduit.....................A pipe,usually made of metal,ceramic orplastic,that protects buried cables.
DS-3........................A data communications circuit capable oftransmittingdataat45Mbps.
dark fiber..................Fiber optic strands that are not connected totransmissionequipment.
dedicated lines.............Telecommunications lines reserved for use byparticularcustomers.
dialing parity..............The ability of a competing local or toll serviceprovidertoprovidetelecommunicationsservicesinsuchamannerthatcustomershavetheabilitytorouteautomatically,without the use of any
access code,their telecommunications to the
service provider of the customers'designation.
equal access................The basis upon which customers of interexchangecarriersareabletoobtainaccesstotheirPrimaryInterexchangeCarriers'(PIC)longdistancetelephonenetworkbydialing1,thuseliminatingtheneedtodialadditionaldigits
and an authorization code to obtain such access.
facilities based carriers...Carriers that own and operate their own network
and equipment.
fiber optics................A technology in which light is used to transportinformationfromonepointtoanother.Fiberopticcablesarethinfilamentsofglassthrough
which light beams are transmitted over longdistancescarryingenormousamountsofdata.Modulating light on thin strands of glassproducesmajorbenefitsincludinghighbandwidth,relatively low cost,low powerconsumption,small space needs and totalinsensitivitytoelectromagneticinterference.
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Gbps........................Gigabits per second.A transmission rate.Onegigabitequals1.024 billion bits of
information.
ILEC........................Incumbent Local Exchange Carrier.A companyhistoricallyprovidinglocaltelephoneservice.
Often refers to one of the Regional BellOperatingCompanies(RBOCs).Often referred to
as LEC (Local Exchange Carrier).
interconnection.............Interconnection of facilities between or amonglocalexchangecarriers,including potentialphysicalcolocationofonecarrier's equipment
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in the other carrier's .emises to facilitatesuchinterconnection.
InterLATA...................Telecommunications services originating in aLATAandterminatingoutsideofthatLATA.
Internet....................A global collection of interconnected computernetworkswhichuseaspecificcommunicationsprotocol.
IntraLATA...................Telecommunications services originating andterminatinginthesameLATA.
ISDN........................Integrated Services Digital Network.Aninformationtransferstandardfortransmittingdigitalvoiceanddataovertelephonelines atspeedsupto128Kbps.
ISPs........................Internet Service Providers.Companies formed toprovideaccesstotheInternettoconsumersandbusinesscustomersvialocalnetworks.
IXC.........................Interexchange Carrier.A telecommunicationscompanythatprovidestelecommunications
services between local exchanges on aninterstateorintrastatebasis.
Kbps........................Kilobits per second.A transmission rate.Onekilobitequals1,024 bits of information.
LATA........................Local Access and Transport Area.A geographic
area composed of contiguous local exchanges,usually but not always within a single state.
There are approximately 200 LATAs in the United
States.
leased line.................Telecommunications line dedicated to aparticularcustomeralongpredetermined routes.
LEC.........................Local Exchange Carrier.A telecommunications
company that provides telecommunications
services in a geographic area in which callsgenerallyaretransmittedwithouttollcharges.
LECs include both ILECs and CLECs.
local exchange..............A geographic area determined by the appropriate
state regulatory authority in which callsgenerallyaretransmittedwithouttollchargestothecallingorcalledparty.
local loop..................A circuit that connects an end user to the LEC
central office within a LATA.
long distance carriers Long distance carriers provide services between(interexchange carriers)...local exchanges on an interstate or intrastate
basis.A long distance carrier may offer
services over its own or another carrier'sfacilities.
Mbps........................Megabits per second.A transmission rate.Onemegabitequals1.024 million bits ofinformation.
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26
MPLS........................MultiProtocol Label Switching.A switchingstandardforthetransmissionofdataatincreasedspeeds.The concept is based on havingroutersattheedgeofacommunicationsnetworkandswitchesatthecoreofthenetworkforthefastertransmissionofdatacommunications.
multiplexing................An electronic or optical process that combines alargenumberoflowerspeedtransmissionlinesintoonehighspeedlinebysplittingthetotalavailablebandwidthintonarrowerbands(frequency division),or by allotting a commonchanneltoseveraldifferenttransmittingdevices,one at a time in sequence (timedivision).
NAP.........................Network Access Point.A location at which ISPsexchangeeachother's traffic.
OC-3........................A data communications circuit consisting of
three DS-3s capable of transmitting data at 155Mbps.
OC-12.......................A data communications circuit consisting of
twelve DS-3s capable of transmitting data at 622Mbps.
OC-48.......................A data communications circuit consisting offorty-eight DS-3s capable of transmitting dataatapproximately2.45 Gbps.
peering.....................The commercial practice under which ISPsexchangeeachother's traffic without thepaymentofsettlementcharges.Peering occurs atbothpublicandprivateexchangepoints.
POP.........................Point of Presence.Telecommunications facilitywhereacommunicationsproviderlocatesnetworkequipmentusedtoconnectcustomerstoits
network backbone.
private line................A dedicated telecommunications connection
between end user locations.
PSTN........................Public Switched Telephone Network.That portion
of a local exchange company's network availabletoallusersgenerallyonasharedbasis(i.e.,
not dedicated to a particular user).Trafficalongthepublicswitchednetworkisgenerallyswitchedatthelocalexchangecompany's centraloffices.
RBOCs.......................Regional Bell Operating Companies.Originally,
the seven local telephone companies (formerlypartofAT&T)established as a result of theAT&T Divestiture.Currently consists of four
local telephone companies as a result of themergersofBellAtlanticwithNYNEXandSBC with
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Pacific Telesis and Ame-.cech.
reciprocal compensation.....The compensation of a CLEC for termination of a
local call by the ILEC on the CLEC's network,
which is the same as the compensation that the
CLEC pays the ILEC for termination of local
calls on the ILEC's network.
resale......................Resale by a provider of telecommunications
services (such as a LEC)of such services to
other providers or carriers on a wholesale or a
retail basis.
router......................Equipment placed between networks that relays
data to those networks based upon a destination
address contained in the data packets being
routed.
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SONET.......................Synchronous Optical Network.An electronics and
network architecture for variable bandwidthproductswhichenablestransmissionofvoice,
data and video (multimedia)at very high speeds.
SONET ring architecture provides for virtually
instantaneous restoration of service in the
event of a fiber cut by automatically rerouting
traffic in the opposite direction around thering.
special access services.....The lease of private,dedicated
telecommunications lines or circuits along the
network of a local exchange company or a CAP,
which lines or circuits run to or from the long
distance carrier POPs.Examples of special
access services are telecommunications linesrunningbetweenPOPsofasinglelongdistancecarrier,from one long distance carrier POP to
the POP of another long distance carrier or from
an end user to a long distance carrier POP.
switch......................A device that selects the paths or circuits to
be used for transmission of information and
establishes a connection.Switching is the
process of interconnecting circuits to form a
transmission path between users and it also
captures information for billing purposes.
Tbps........................Terabits per second.A transmission rate.One
terabit equals 1.024 trillion bits of
information.
T-1.........................A data communications circuit capable of
transmitting data at 1.544 Mbps.
unbundled...................Services,programs,software and training soldseparatelyfromthehardware.
unbundled access............Access to unbundled elements of a
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telecommunications servaas provider's networkincludingnetworkfacilities,equipment,features,functions and capabilities,at anytechnicallyfeasiblepointwithinsuchnetwork.
web site....................A server connected to the Internet from whichInternetuserscanobtaininformation.
wireless....................A communications system that operates withoutwires.Cellular service is an example.
world wide web or web.......A collection of computer systems supporting acommunicationsprotocolthatpermitsmultimediapresentationofinformationovertheInternet.
xDSL........................A term referring to a variety of new DigitalSubscriberLinetechnologies.Some of these newvarietiesareasymmetricwithdifferentdataratesinthedownstreamandupstreamdirections.Others are symmetric.Downstream speeds rangefrom384Kbps(or SDSL)to 1.5 to 8 Mbps(2tDSL).
28DirectorsandExecutiveOfficers
Set forthbelow is informationas of February 15,2001 about each director and each executive officer of the Company.The executiveofficersoftheCompanyhavebeendeterminedinaccordancewiththerulesoftheSEC.
Name Age Position
Walter Scott,Jr..........69 Chairman of the BoardJamesQ.Crowe............51 Chief Executive Officer and DirectorKevinJ.O'Hara...........40 President,Chief Operating Officer and DirectorViceChairmanoftheBoardandExecutiveViceR.Douglas Bradbury.......50 President
Vice Chairman of the Board and Executive ViceCharlesC.Miller,III....48 PresidentLeeJobe..................43 Executive Vice PresidentSureelA.Choksi..........28 Group Vice President and Chief Financial OfficerGroupVicePresident,General Counsel andThomasC.Stortz..........49 SecretaryJohnF.Waters,Jr........35 Group Vice PresidentColinV.K.Williams.......61 DirectorMogensC.Bay.............52 DirectorWilliamL.Grewcock.......75 DirectorRichardR.Jaros..........49 Director
Robert E.Julian..........61 DirectorDavidC.McCourt..........44 Director
Kenneth E.Stinson........58 DirectorMichaelB.Yanney.........67 Director
Other Management
Set forthbelow is informationas of February 15,2001,about the following members of senior management of the Company.
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Name Age Position
Linda J.Adams............44 Group Vice PresidentE.Benjamin Buttolph......37 Group Vice PresidentDanielP.Caruso..........37 Group Vice PresidentDonaldH.Gips............41 Group Vice PresidentJohnNeilHobbs...........41 Group Vice PresidentJosephM.Howell,III.....54 Group Vice PresidentMichaelD.Jones..........43 Group Vice President and Chief Executive Officer(i)Structure,Inc.Stephen C.Liddell........39 Group Vice PresidentEdwardVanMacatee........46 Group Vice PresidentGailP.Smith.............41 Group Vice PresidentRonaldJ.Vidal...........40 Group Vice President
Walter Scott,Jr.has been the Chairman of the Board of the Company since September 1979,and a director of the Company sinceApril1964.Mr.Scott has been Chairman Emeritus of New PKS since the split-off.Mr.Scott is also a director of New PKS,BerkshireHathawayInc.,BurlingtonResources Inc.,MidAmerican,ConAgra,Inc.,Commonwealth Telephone,RCN,Kiewit MaterialsCompanyandValmontIndustries,Inc.
James Q.Crowe has been the ChiefExecutive Officer of the Company since August 1997,and a director of the Company since June1993.Mr.Crowe was also President of the Company until February 2000.Mr.Crowe was President and Chief Executive Officer ofMFSfromJune1993toJune1997.Mr.Crowe also served as Chairman of the Board of WorldCom from January 1997 until July1997,and as Chairman of the Board of MFS from 1992 through 1996.Mr.Crowe is presently a director of New PKS,CommonwealthTelephoneandRCN.
29KevinJ.O'Hara has been President of the Company since July 2000 and ChiefOperating Officer of the Company since March 1998.Mr.O'Hara was also Executive Vice President of the Company from August 1997 until July 2000.Prior to that,Mr.O'Hara served asPresidentandChiefExecutiveOfficerofMFSGlobalNetworkServices,Inc.from 1995 to 1997,and as Senior Vice President ofMFSandPresidentofMFSDevelopment,Inc.from October 1992 to August 1995.From 1990 to 1992,he was a Vice President ofMFSTelecom,Inc.(MFS Telecom).
R.Douglas Bradbury has been Vice Chairman of the Board since February 2000 and Executive Vice President since August 1997.Mr.Bradbury was also ChiefFinancial Officer of the Company fromAugust 1997 until July 2000.Mr.Bradbury has been a director of theCompanysinceMarch1998.Mr.Bradbury served as Chief Financial Officer of MFS from 1992 to 1996,Senior Vice President ofMFSfrom1992to1995,and Executive Vice President of MFS from 1995 to 1996.Mr.Bradbury is also a director of LodgeNetEntertainmentCorporation.
Charles C.Miller,III has been Vice Chairman of the Board and Executive Vice President of the Company since February 15,2001.Prior to that,Mr.Miller was President of Bellsouth International,a subsidiary of Bellsouth Corporation from 1995 until December2000.Prior to that,Mr.Miller held various senior levelofficer and management position at BellSouth from 1990.
Lee Jobe has been Executive Vice President,Global Operations of the Company since June 2000.Prior to that,Mr.Jobe wasPresident,Networkand Systems for Concert Global NetworkServices Limited from June 1999 until June 2000.Prior to that,Mr.JobewaspresidentofCitizensCommunicationsfrom1996to1999.Prior to that,Mr.Jobe was Vice President Business Operations forPacificBellfrom1993to1995.
Sureel A.Choksi has been Group Vice President and Chief Financial Officer of the Company since July 2000.Prior to that,Mr.Choksi was Group Vice President Corporate Development and Treasurer of the Company from February 2000 until August 2000.Prior to that,Mr.Choksi served as Vice President and Treasurer of the Company from January 1999 to February 1,2000.Prior to that,Mr.Choksi was a Directorof Finance at the Company from 1997 to 1998,an Associate at TeleSoft Management,LLC in 1997 and anAnalystatGleacherNatwestfrom1995to1997.
Thomas C.Stortz has been Group Vice President,General Counsel and Secretaryof the Company since February 2000.Prior to that,Mr.Stortz served as Senior Vice President,General Counsel and Secretary of the Company from September 1998 to February 1,2000.Prior to that,he served as Vice President and General Counsel of Peter Kiewit Sons',Inc.and Kiewit Construction Group,Inc.fromApril1991toSeptember1998.He has served as a director of Peter Kiewit Sons',Inc.,RCN,C-TEC,Kiewit DiversifiedGroup Inc.
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and CCL Industries,Inc.
John F.Waters,Jr.has been Group Vice President and Chief Technology Officer of the Company since February 2000.Prior to that,Mr.Waters was Vice President,Engineering of the Company from November 1997 until February 1,2000.Prior to that,Mr.WaterswasanexecutivestaffmemberofMCICommunicationsfrom1994toNovember1997.
Mogens C.Bay has been a director of the Company since November2000.Since January 1997,Mr.Bay has been the Chairman andChiefExecutiveOfficerofValmontIndustries,Inc.,a company engaged in the infrastructure and irrigationbusinesses.Prior to that,Mr.Bay was President and Chief Executive Officer of Valmont Industries from August 1993 to December 1996 as well as a directorofValmontsinceOctober1993.Mr.Bay is also a director of New PKS and ConAgra,Inc.
William L.Grewcock has been a director of the Company since January 1968.Prior to the split-off,Mr.Grewcock was Vice
Chairman of the Company for more than five years.He is presently a director of New PKS.
30
Richard R.Jaros has been a director of the Company since June 1993 and served as President of the Company from 1996 to 1997.Mr.Jaros served as Executive Vice President of the Company from 1993 to 1996 and ChiefFinancial Officer of the Company from 1995to1996.He also served as President and Chief Operating Officer of CalEnergy from 1992 to 1993,and is presently a director ofMidAmerican,Commonwealth Telephone,RCN and Homeservices.com,Inc.
Robert E.Julian has been a director of the Company since March 31,1998.Mr.Julian was also Chairman of the Board of (i)Structurefrom1995until2000.From 1992 to 1995 Mr.Julian served as Executive Vice President and Chief Financial Officerof the Company.Mr.Julian is the Chairman of the Audit Committee of the Board of Directors.
David C.McCourthas been a director of the Company since March 31,1998.Mr.McCourt has also served as Chairman and ChiefExecutiveOfficerofCommonwealthTelephoneandRCNsinceOctober1997.From 1993 to 1997 Mr.McCourt served as ChairmanoftheBoardandChiefExecutiveOfficerofC-TEC.
Kenneth E.Stinson has been a director of the Company since January 1987.Mr.Stinson has been Chairman of the Board and ChiefExecutiveOfficerofNewPKSsincetheSplit-Off.Prior to the Split-Off,Mr.Stinson was Executive Vice President of the Companyformorethanthelastfiveyears.Mr.Stinson is also a director of ConAgra,Inc.and Valmont Industries,Inc.
Colin V.K.Williams has been a director of the Company since August 2000.From July 1998 until December 31,2000,Mr.Williams
was Executive Vice President of the Company and President of Level3 International,Inc.Priorto joining the company,Mr.WilliamswasChairmanofWorldComInternational,Inc.,where he was responsible for the international communications business and thedevelopmentandoperationofWorldCom's fiber networks overseas.In 1993 Mr.Williams initiated and built the intemationaloperationsofMFS.Prior to joining MFS,Mr.Williams was Corporate Director,Business Development at British Telecom from 1988until1992.
Michael B.Yanney has been a director of the Company since March 31,1998.He has served as Chairman of the Board,President andChiefExecutiveOfficerofAmericaFirstCompaniesL.L.C.for more than the last five years.Mr.Yanney is also a director ofBurlingtonNorthernSantaFeCorporation,RCN,Forest Oil Corporationand Mid-AmericaApartment Communities,Inc.
Linda J.Adams has been Group Vice President Human Resources of the Company since February 2000.Prior to that,Ms.Adams wasVicePresidentHumanResourcesoftheCompanyfromNovember1998toFebruary2000.Prior to that,Ms.Adams was initiallyVicePresidentofHumanResourcesRent-A-Center,a subsidiary of ThornAmericas,Inc.,and then Senior Vice President of HumanResourcesforThornAmericas,Inc.fromAugust 1995 until August 1998.Prior to that,Ms.Adams was Vice President of WorldwideCompensation&Benefits for PepsiCo,Inc.fromAugust 1994 to August 1995.
E.Benjamin Buttolph has been Group Vice President Finance of the Company since August 2000.Prior to that,Mr.Buttolph wasVicePresidentNetworkCommercialManagementforConcertGlobalNetworkServicesLimitedfrom1999toAugust2000.Prior tothat,Mr.Buttolph was Vice President Finance of Citizens Communications from 1998 to 1999,Principal Consultant with Price
Waterhouse,LLP from 1997 to 1998 and Manager,Business Development of Ameritech Corporationfrom 1995 to 1997.
Daniel P.Caruso has been Group Vice President Transport Services of the Company since January 2001.Prior to that Mr.Caruso was
Group Vice President Global Customer Operations of the Company fromFebruary 2000.Prior to that,Mr.Caruso served as SeniorVicePresident,Network Services of the Company from October 1997 to February 2000.Prior to that,Mr.Caruso was Senior Vice
President,Local Service Deliveryof WorldComfrom December 1992 to September 1997 and was a member of the seniormanagementofAmeritechfromJune1986toNovember1992.
31
Donald H.Gips has been Group Vice President Corporate Strategy of the Company since January 2001.Prior to that,Mr.Gips was
©2001.EDGAR Online,Inc.
Group Vice President Sales and Marke-g of the Company from February 2000.Prior e -iat,Mr.Gips served as Senior VicePresident,Corporate Developmentof the Company from November1998 to February 2000.Prior to that,Mr.Gips served in theWhiteHouseasChiefDomesticPolicyAdvisortoVicePresidentGorefromApril1997toApril1998.Before workingat the WhiteHouse,Mr.Gips was at the Federal Communications Commission as the International Bureau Chiefand Directorof Strategic PolicyfromJanuary1994toApril1997.Prior to his government service,Mr.Gips was a management consultant at McKinsey and
Company.
John Neil Hobbs has been Group Vice President Global Sales,Distributionand Marketing Operations since September 2000.Prior tothat,Mr.Hobbs was President,Global Accounts for Concert,a joint venture between AT&T and British Telecom from July 1999 untilSeptember2000.Prior to that,Mr.Hobbs was DirectorTransition and Implementation for the formation of Concert representingBritishTelecomfromJune1998untilJuly1999.From April 1997 until June 1998,Mr.Hobbs was British Telecom's General
Manager for Global Sales &Service and from April 1994 until April 1997,Mr.Hobbs was British Telecom's General Manager forCorporateClients.
Joseph M.Howell,III has been Group Vice President Corporate Marketing of the Company since February 2000.Prior to that,Mr.Howell served as Senior Vice President,Corporate Marketing of the Company from October 1997 to February 1,2000.Prior to that,Mr.Howell was Senior Vice President of MFS/WorldComfrom 1993 to 1997.
Michael D.Jones has served as Group Vice President and Chief InformationOfficer of the Company since February 2000 and ChiefExecutiveOfficerof
(i)Structure,Inc.since August 2000.Prior to that,Mr.Jones served as Senior Vice President and Chief InformationOfficer of theCompanyfromDecember1998toFebruary1,2000.Prior to that,Mr.Jones was Vice President and Chief InformationOfficer ofCorporateExpress,Inc.from May 1994 to May 1998.
Stephen C.Liddell has been a Group Vice President of the Company since February 1,2000.Mr.Liddell is responsible for the
Company's Asian operations.Prior to that,Mr.Liddell was Senior Vice President of the Company fromMay 1999 to February 1,
2000.Prior to that,Mr.Liddell was President,Asia-Pacific Region at MCI-WorldComfrom January 1996 to April 1999 and was Vice
President and General Manager,International Networks at MFS Communications from July 1994 to January 1996.Mr.Liddell was
Commercial Directorand Director of Planning and Business Development at Syncordia (British Telecom)fromNovember1991 toJuly1994andBusinessDevelopmentExecutiveatBritishTelecomfromApril1989toNovember1991.
Edward Van Macatee has served as Group Vice President of Service Activationof the Company since January 2001.Prior to that,Mr.Macatee was Group Vice President of Global Customer Operations of the Company from September 1999 until January 2001.Prior to
that Mr.Macatee was Vice President,Network Operations of the Company fromApril 1998 until September 1999 and Vice PresidentofManagedNetworkServicesforTCICommunications,Inc.
Gail P.Smith has been Group Vice President of the Company Cross Product Strategy since January 1,2001.Prior to that,Ms.Smith
was Group Vice President responsible for the Company's European operations from February 1,2000 until January 1,2001.Prior to
that,Ms.Smith served as Senior Vice President,International Sales and Marketing of the Company from December 1998 to February
1,2000.Priorto that,Ms.Smith was Vice President and General Manager of WorldComInternational Networks from November
1994 to July 1997 and European Marketing Directorduring the start-up phase of MFS International.
Ronald J.Vidal has been Group Vice President New Ventures and Investor Relations of the Company since February 1,2000.Prior tothat,Mr.Vidal served as Senior Vice President,New Ventures of the Company from October 1997 to February 1,2000.Prior to that,Mr.Vidal was a Vice President of MFS/WorldComfrom September 1992 to October 1997.Mr.Vidal joined the Company in
construction project management in July 1983.
32
The Board is dividedinto three classes,designated Class I,Class II and Class III,each class consisting,as nearly as may be possible,of one-third of the total number of directors constituting the Board.The Class I Directors consist of Walter Scott,Jr.,James Q.Crowe,
Mogens C.Bay,Charles C.Miller,III and Colin V.K.Williams;the Class II Directors consist of William L.Grewcock,Richard R.
Jaros,Robert E.Julian and DavidC.McCourt;and the Class III Directors consist of R.Douglas Bradbury,Kevin J.O'Hara,Kenneth
E.Stinson and Michael B.Yanney.The term of the Class I Directors will terminate on the date of the 2001 annual meeting of
stockholders;the term of the Class II Directors will terminate on the date of the 2002 annual meeting of stockholders;and the term oftheClassIIIDirectorswillterminateonthedateofthe2003annualmeetingofstockholders.At each annual meeting of stockholders,
successors to the class of directors whose term expires at that annual meeting will be elected for three-year terms.The Company's
officers are elected annually to serve until each successor is elected and qualifiedor until his death,resignation or removal.
Employees
As of December 31,2000,Level3 had 5,537 employees in the communications portion of its business and (i)Structure had
approximately 674 employees,for a total of 6,211 employees.
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ITEM 2.PROPERTIES
The Company's headquarters are located on 46 acres in the Northwest corner of the Interlocken Advanced Technology EnvironmentwithintheCityofBroomfield,Colorado,and within Boulder County,Colorado.The campus facility encompasses over 850,000squarefeetofofficespace.In addition,the Company has leased temporary office space in the Broomfield,Colorado area.
Properties relating to the Company's coal mining segment are described under ITEM l.BUSINESS--The Company's Other Businessesabove.In connection with certain existing and historical operations,the Company is subject to environmental risks.
The Company's Gateway facilities are being designed to house local sales staff,operational staff,the Company's transmission and IProuting/switchingfacilities and technical space to accommodate colocation of equipment by high-volume Level 3 customers.TheCompanyhasapproximately6.0 million square feet of space for its Gateway and transmission facilities and has completedconstructiononapproximately2.8 million square feet of this space.
(i)Structure also maintains its corporate headquarters in approximately 10,000 square feet of office space in the Broomfield,Coloradoareaandleasesapproximately16,000 square feet of office space in Omaha,Nebraska.The computer outsourcing business of(i)Structure is located at an 89,000 square foot officespace in Omaha and at a 60,000 square foot computer center in Tempe,Arizona.(i)Structure maintains additional office space in Parsippany,New Jersey (approximately 11,000 square feet),Bangalore,India(approximately 18,000 square feet)and several locations in the United Kingdom(approximately 22,000 square feet)for its systemsintegrationbusiness.
ITEM 3.LEGAL PROCEEDINGS
In August 1999,the Company was named as a defendant in Schweizer vs.Level 3 Communications,Inc.,et al.,a purported nationalclassaction,filed in the District Court,County of Boulder,State of Colorado which involvesthe Company's right to install its fiberopticcablenetworkineasementsandright-of-wayscrossing the plaintiffs'land.In general,the Company obtained the rights toconstructitsnetworkfromrailroads,utilities,and others,and is installing its network along the rights-of-wayso granted.PlaintiffsinthepurportedclassactionassertthattheyaretheownersoflandsoverwhichtheCompany's fiber optic cable network passes,and thattherailroads,utilities,and others who granted the Company the right to construct and maintain its network did not have the legalabilitytodoso.The action purports to be on behalfof a national class of owners of land over which the Company's network passes orwillpass.The complaint seeks damages on theories of trespass,unjust enrichment and slander of title and property,as well as punitivedamages.The Company may in the future receive claims and demands related to rights-of-wayissues similar to the issues in
33
the Schweizer litigationthat may be based on similar or differentlegal theories.Althoughit is too early for the Company to reach aconclusionastotheultimateoutcomeofthislitigation,management believes that the Company has substantial defenses to the claimsassertedintheSchweizeraction(and any similar claims which may be named in the future),and intends to defend them vigorously.
The Company and its subsidiaries are parties to many other legal proceedings.Management believes that any resulting liabilities for
these legal proceedings,beyond amounts reserved,will not materially affect the Company's financial condition,future results ofoperations,or future cash flows.
ITEM 4.SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourthquarter of the fiscal year covered by this report to a vote of security holders,through thesolicitationofproxiesorotherwise.
ITEM 5.MARKET FOR REGISTRANT'S COMMON EQUITYAND RELATED STOCKHOLDER MATTERS
Market Information.The Company's common stock is traded on the Nasdaq National Market under the symbol LVLT.As of February26,2001,there were approximately 4,285 holders of record of the Company's common stock,par value $.01 per share.The table
below sets forth,for the calendar quarters indicated,the high and low per share closing sale prices of the common stock as reported bytheNasdaqNationalMarket.
High Low
Year Ended December 31,2000
First Quarter................................................$130.19 $73.81SecondQuarter................................................98.50 66.50ThirdQuarter................................................92.44 59.50FourthQuarter............................-..................75.23 26.88
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Year Ended December -1,1999
First Quarter..................-......--------.----.---......$72.81 $39.75SecondQuarter.......................---......-.---..........93.06 60.06ThirdQuarter.-..--.-....----...----...-.-----..-............65.50 46.88FourthQuarter--....-------.....-...-..------.---...........84.56 51.19
DividendPolicy.The Company's current dividendpolicy,in effect since April 1,1998,is to retain future earnings for use in theCompany's business.As a result,management does not anticipate paying any cash dividends on shares of Common Stock in theforeseeablefuture.In addition,the Company is effectivelyrestricted under certain debt covenants from paying cash dividends on
shares of its Common Stock.
34
ITEM 6.SELECTED FINANCIAL DATA
The Selected Financial Data of Level 3 Communications,Inc.and its subsidiaries appears below.
Fiscal Year Ended (1)
2000 1999 1998 1997 1996
(dollars in millions,except per share amounts)Results of Operations:
Revenue................$1,185 $515 $392 $332 $652Earnings(loss)from
continuing operations
(2)...................(1,455)(487)(128)83 104Netearnings(loss)
(3)...................(1,455)(487)804 248 221PerCommonShare:Earnings (loss)fromcontinuingoperations
(2)...................(4.01)(1.46)(0.43)0.33 0.45Dividends(4)..........--------0.05FinancialPosition:
Total assets............14,919 8,906 5,522 2,776 3,063Currentportionoflong-term debt........7 6 5 3 57Long-term debt,less
current portion (5)...7,318 3,989 2,641 137 320Stockholders'equity
(6)...................4,549 3,405 2,165 2,230 1,819
(1)In October 1993,Level 3 acquired 35%of the outstanding shares of C-TECCorporation(C-TEC),which shares entitled Level3 to57%of the available votingrights of C-TEC.At December 28,1996,Level3 owned 48%of the outstanding shares and 62%of thevotingrightsofC-TEC.
As a result of the restructuring of C-TECin 1997,Level3 owned less than 50%of the outstanding shares and votingrights of threeentities,RCN Corporation,Commonwealth Telephone Enterprises,Inc.,and Cable Michigan,Inc.,and therefore accounted for eachentityusingtheequitymethodfrom1997to2000.Level3 consolidated C-TECin its financial statements for 1996.
The financial position and results of operations of the formerconstruction and mining management businesses (Construction Group)of Level 3 have been classified as discontinued operations due to the March 31,1998 split-off of Level3's Construction Group from
its other businesses.
Level 3 sold its energy segment to MidAmericanEnergy Holdings Company (MidAmerican)in 1998 and classified it as discontinuedoperationswithinthefinancialstatements.
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Certain prior year amounts have been e-assified to conform to current year presentatic
(2)Level 3 incurred significant expenses in conjunction with the expansion of its communications and informationservices businessbeginningin1998.
In 2000,1999 and 1998,RCN Corporationissued stock in public offerings and for certain transactions.These transactions reduced theCompany's ownership in RCN to 31%,35%and 41%at December 31,2000,1999 and 1998,respectively,and resulted in pre-taxgainstotheCompanyof$95 million,$117 million and $62 million in 2000,1999 and 1998,respectively.
In 1998,Level3 acquired XCOM Technologies,Inc.and its developing telephone-to-IP network bridge technology.Level 3 recordeda$30 million nondeductible charge against earnings for the write-off of in-process research and development acquired in thetransaction.
In 1998,Cable Michigan,Inc.was acquired by AvalonCable of Michigan,Inc.Level3 received approximately $129 million for its
shares of Cable Michigan,Inc.in the disposition and recognized a pre-tax gain of approximately $90 million in 1998.
(3)In 1998,Level3 recognized a gain of $608 million equal to the differencebetween the carrying value of the Construction Groupanditsfairvalue.No taxes were providedon this gain due to the tax-free nature of the split-off.
Level 3 also recognized in 1998 an after-tax gain of $324 million on the sale of its energy segment to MidAmerican.
35
(4)The 1996 dividends include $.05 for dividends declared in 1996 but paid in January of the subsequent year.
The Company's current dividendpolicy,in effect since April 1998,is to retain future earnings for use in the Company's business.As aresult,management does not anticipate paying any cash dividends on shares of Common Stock in the foreseeable future.In addition,the Company is effectivelyrestricted under certain covenants frompaying cash dividends on shares of its Common Stock.
(5)In 1998,Level 3 issued $2 billion of 9.125%Senior Notes due 2008 and received net proceeds of $500 million from the issuanceof$834 million principal amount at maturity of 10.5%Senior Discount Notes due 2008.
In 1999,Level 3 received $798 million of net proceeds from an offering of $823 million aggregate principal amount of its 6%ConvertibleSubordinated Notes Due 2009.In addition,Level 3 and certain Level 3 subsidiaries entered into a $1.375 billion seniorsecuredcreditfacility.Level3 borrowed$475 million in 1999 under the senior secured credit facility.
In 2000,Level 3 received net proceeds of approximately $3.2 billion fromthe offeringof $863 million in convertible subordinated
notes,$1.4 billion in three tranches of U.S.dollardenominated senior debt securities,$780 million from two tranches of Eurodenominatedseniordebtsecuritiesand$233 million from mortgage financings.
(6)In 1999,the Company received approximately $1.5 billion of net proceeds from the sale of 28.75 million shares of its CommonStock.
In 2000,the Company received approximately $2.4 billion of net proceeds fromthe sale of 23 million shares of its Common Stock.
ITEM 7.MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS
This document contains forwardlookingstatements and informationthat are based on the beliefs of management as well asassumptionsmadebyandinformationcurrentlyavailabletoLevel3Communications,Inc.and its subsidiaries (Level3 or theCompany).When used in this document,the words anticipate,believe,plans,estimate and expect and similar expressions,as theyrelatetotheCompanyoritsmanagement,are intended to identify forward-lookingstatements.Such statements reflect the current
views of the Company with respect to future events and are subject to certain risks,uncertainties and assumptions.Should one or moreoftheserisksoruncertaintiesmaterialize,or should underlying assumptions proveincorrect,actual results may vary materially fromthosedescribedinthisdocument.See Cautionary Factors That May Affect Future Results.
Recent Developments
Expansionof Business Plan
On January 24,2000,Level3 announced the expansion of its business plan to increase the amount of its Gateway and technical spaceitintendstosecuretoapproximately6.5 million square feet.As of December 31,2000,the Company has secured approximately 6.0millionsquarefeetofGatewayspacearoundtheworldandhaspre-fundedthe acquisition of another .5 million square feet for data
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center space.In addition,the expansion .acludes plans to build-outadditional local mare a in Europe and Asia,and the expansion ofexistinglocalfacilities.At February 15,2001,Level 3 had operational Gateways in 52 U.S.markets,9 European markets and twoAsianmarkets.
36NorthernAsiaUnderseaCableSystem
On January 24,2000,Level 3 announced its intention to develop and construct a NorthernAsia undersea cable system initiallyconnectingHongKongandJapan.The Hong Kong-Japan cable was intended to be the first stage of the Company's construction of anunderseanetworkintheregion.At that time,the Company indicated its intention to share construction and operating expenses of thesystemwithoneormoreindustrypartners.
On December 29,2000,the Company signed an agreement to collaborate with FLAG Telecom on the development of the NorthernAsiasubmarinecablesystemconnectingHongKong,Japan,Korea and Taiwan.The system will include Level3's previouslyannouncedeasternlinkconnectingHongKong,Taiwan and Japan and a new western link that FLAG Telecom will build to connectHongKong,Korea and Japan.The Company expects the Hong Kong to Japan segment of the eastern link to be in service in thesecondquarterof2001,with the eastern link's Taiwan segment to follow in late 2001.The Company expects the entire western link tobereadyforserviceinearly2002.Level 3 and FLAG Telecom will each own three fiberpairs throughout the new system.The totalcostoftheentireNorthernAsiasystemisestimatedtobeapproximately$900 million.Level 3's share of the cost is approximately$450 million.
Global Crossing Co-Build Agreement
On February 17,2000,Level3 announced a co-build agreement whereby Global Crossing Ltd.participated in the construction of andobtaineda50%ownership interest in the previouslyannounced Level 3 transatlantic fiber optic cable.Under the co-build agreement,Level3 and Global Crossing Ltd.each separately own and operate two of the four fiber pairs on Level3's transatlantic cable.Level3alsoacquiredadditionalcapacityonGlobalCrossingLtd.'s transatlantic cable,Atlantic Crossing 1,during 2000.The transatlantic
cable was completed in November2000.
CommonStock Offering
On February 29,2000,the Company closed the sale of 23 million shares of its common stock through an underwritten public offering.The net proceeds from the offeringof approximately $2.4 billion,after underwritingdiscounts and offeringexpenses,are being usedforworkingcapital,capital expenditures,acquisitions and other general corporate purposes in connection with the implementation ofthebusinessplan.
Debt Offerings
On February 29,2000,the Company issued,in privateand public offerings,convertiblesubordinated notes,senior notes and senior
discount notes which generated aggregate gross proceeds of approximately $2.3 billion.The net proceeds from the offeringsofapproximately$2.2 billion,after discounts and offeringexpenses,are being used for working capital,capital expenditures,
acquisitions and other general corporate purposes in connection with the implementation of the business plan.The debt offeringsconsistedofthefollowing:
$863 million aggregate principal amount of its 6%ConvertibleSubordinated Notes due 2010
$800 million aggregate principal amount of its 11%Senior Notes due 2008 $250 million aggregate principal amount of its 11.25%
Senior Notes due 2010 $675 million aggregate principalamount at maturity of its 12.875%Senior Discount Notes due 2010
Euro DenominatedDebt Offerings
On February 29,2000,the Company issued in privateofferingsEuro denominated senior notes which generated aggregate gross
proceeds of approximately (Euro)800 million ($780 million at issuance).The net proceeds from the offerings of approximately (Euro)780 million ($763 million at issuance),after underwriting
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discounts and offeringexpenses,are being used for working capital,capital expenditures,acquisitions and other general corporate
purposes of the Company's European subsidiaries.The debt offerings consisted of the following:
(Euro)500 million aggregate principalamount of its 10.75%Senior Euro Notes due 2008
(Euro)300 million aggregate principalamount of its l1.25%Senior Euro Notes due 2010
The Company registered the Euro denominated securities with the Luxembourg Stock Exchange in the second quarter of 2000.
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The Company valued the Euro denominated notes in total at $780 million at February 29,2000.Due to the decline in the Euroexchangerate((Euro)1 to $0.975 at February 29,2000 compared to (Euro)I to $0.930 at December 31,2000),the Euro denominatednoteswerevaluedbytheCompanyat$744 million at December 31,2000.The difference between the carrying value at December 31,2000 and the value at issuance was included in other comprehensive income.
Viatel Agreement
On April 12,2000,Level 3 signed an agreement with Viatel Inc.whereby Viatel Inc.agreed to purchase an ownership interest,in onefiberpaironLevel3's transatlantic fiber optic cable system installed by Level3.As a result of this agreement,both companies ownandoperateonefiberpaironthetransatlanticcable.The Company recognized revenue of $94 million on this contract during thefourthquarterof2000,with the remainder being recognized over the term of the contract.
Corning Fiber Agreement
On August 24,2000,the Company announced that it had signed a letter of intent to purchase more than two million cabled fiberkilometersofthirdgenerationLEAFfiberfromCorningIncorporated.Level3 plans to begin installing the fiber in its second conduitinthefirstquarterof2001andexpectstobesubstantiallycompletebytheendof2001.Corning's LEAF fiber will significantlyincreaseLevel3's network capacity.
Recent Accounting Developments
In June 1998,the Financial Accounting Standards Board,(FASB),issued Statement of Financial Accounting Standard,(SFAS)No.133,Accounting for DerivativeInstruments and Hedging Activities (SFAS No.133).SFAS No.133,as amended by SFAS Nos.137and138,is effectivefor fiscal years beginning January 1,2001.SFAS No.133 requires that all derivative instruments be recorded onthebalancesheetatfairvalue.Changes in the fair value of derivativesare recorded each period in current earnings or othercomprehensiveincome,depending on whether a derivativeis designated as part of a hedge transaction and,if it is,the type of hedgedesignatedbythetransaction.The Company currently makes minimal use of derivativeinstruments as defined by SFAS No.133.IftheCompanydoesnotincreasetheutilizationofthesederivatives,the adoption of this standard is expected to have a minimal effect
on the Company's results of operations or its financial position.
In December 1999 the SEC staffreleased Staff Accounting BulletinNo.101,Revenue Recognition in Financial Statements (SAB101).SAB 101 provides interpretiveguidance on the recognition,presentation and disclosure of revenue in the financial statements.The Company adopted SAB 101 as of January 1,2000.The adoption did not have a material effect on the financial results as theCompany's revenue recognition policies which were already consistent with SAB 101.
EffectiveJuly 1,1999,FASB issued Interpretation No.43,Real Estate Sales,an interpretation of FASB Statement No.66 (FIN 43).Certain sale and long-term right-to-use IRU agreements of dark fiber and capacity entered into after June 30,1999 are required to beaccountedforinthesamemannerassalesofrealestatewithpropertyimprovementsorintegralequipment.Failure to satisfy therequirementsoftheInterpretationwillresultinthedeferralofrevenuerecognitionforthesecontracts.The adoption of thisInterpretationdoesnothaveacurrenteffectontheCompany's cash flows.
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Accounting practice and guidance with respect to the accounting treatment of these transactions is evolving.Any changes in theaccountingtreatmentcouldaffectthewaytheCompanyaccountsforrevenueandexpensesassociatedwiththeseagreementsin thefuture.
Results of Operations2000 vs.1999
Revenue for the years ended December 31,2000 and December 31,1999 is summarized as follows(in millions):
2000 1999
Communications and Information Services.........................
Coal Mining.....................................................190 207Other...........................................................22 19
$1,185 $515
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Communications and information services revenue in 2000 increased $684 million or 237%from 1999 revenue of $289 million.This
increase is due to the growthand expansion of the communications business,which segment's revenue has increased 440%to $858million.In 2000,the Company generated services revenue,including private line,colocation,voice,managed modem,Internet access
and wavelengths,of $489 million compared to $98 million in 1999.The completion of several metropolitan networks and Gateways in
the United States and Europe are primarily responsible for the increase.At December 31,2000,Level 3 had local networks in 32
domestic and international cities and Gateway facilities in 60 markets.This compares to 25 local networks and 31 Gateways at the endof1999.Dark fiber sales for contracts entered into before June 30,1999 increased from$26 million in 1999 to $209 million in 2000.
This is a result of a significant portionof Level 3's North American intercity network being completed in 2000.Level 3 also
recognized revenue of $105 million related to submarine systems,primarily from the completion of its transatlantic submarine cable
and subsequent sale to Viatel Inc.in November of 2000.Also included in 2000 communications revenue was $55 million of reciprocal
compensation revenue from executed and approved interconnection agreements compared to $24 million in 1999.Level3 reached an
agreement with SBC Communications,Inc.in January 2001 which establishes a rate structure for transmission and switching servicesprovidedbyonecarriertocompleteorcarrytrafficoriginatingonanothercarrier's network.The implementation of the rate structure
and reciprocal compensation billing settlement is contingent upon certain conditions including approval by relevant regulatory
authorities.Level 3 did not recognize any revenue related to this agreement in 2000 and,as is its policy,will not recognize revenue in
2001 until the necessary regulatory approvals have been received.Informationservices revenue declined by $15 million in 2000 to
$115 million.This decline is primarily attributable to Year 2000 computer processing and consulting work completed in 1999.
The communications business generated Cash Revenue of $1.26 billion in 2000.In addition to revenue,the Company includes the
change in the cash portionof deferred revenue in its definitionof Cash Revenue.The increase in cash deferred revenue for the
communications business for the year was $404 million and is in part due to the implementation of FIN 43 which requires the
Company to defer the recognition of certain dark fiber contracts and IRU sales over the term of the agreement,typically 10-20 years.
For these types of agreements,the Company normally receives a deposit at the time the contract is signed and the remainder when the
fiber is deliveredand accepted by the customer.In 1999 Cash Revenue for the communications business was $256 million.
Coal Mining revenue declined approximately 8%in 2000 from $207 million in 1999 to $190 million in 2000.Coal revenue was
expected to decline in 2000 as a result of the reduced shipments under long-term coal contracts and the sale of the Company's entire
interest in Walnut Creek Mining Company.The Company expects to experience a significant decline in coal revenue and earnings
beginning in 2001 as long-term contracts begin to expire.
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Other revenue in 2000 approximated 1999 revenue and is primarily attributable to CaliforniaPrivate Transportation Company,L.P.
(CPTC)the owner-operator of the privateSR91 tollroad in southern California.
Cost of Revenue for 2000 was $794 million,representing a 121%increase over 1999 cost of revenue of $360 million as a result of the
expanding communications business.Overall the cost of revenue for the communications business,as a percentage of revenue,
decreased significantly from 115%during 1999 to 73%for 2000.This decrease is attributed to the expanding communications
business.The Company recognized $196 million of costs associated with dark fiber and transoceanic cable sales in 2000.The cost of
revenue for the information services businesses,as a percentage of its revenue,was 77%for 2000 compared to 65%for 1999.Lower
margins on new contracts and the omission of Year 2000 related work resulted in the decline in margins.The cost of revenue for the
coal mining business,as a percentage of revenue,was 40%for 2000 and 45%in 1999.In December 1999,Commonwealth Edison
Company (Commonwealth Edison)and the Company renegotiated certain coal contracts whereby Commonwealth Edison is no longer
required to take deliveryof its coal commitments but still must pay Level3 the margins Level 3 would have earned had the coal been
delivered.
Depreciation and Amortization expenses for 2000 were $584 million,a 156%increase over 1999 deprecation and amortization
expenses of $228 million.This increase is a direct result of the communications assets placed in service in the later half of 1999 and
throughout 2000,including Gateways,local metropolitan networks and domestic,international and submarine networks.
Selling,General and Administrativeexpenses were $1,152 million in 2000,representing a 72%increase over 1999.This increase
primarily results from the Company's addition of over 2,350 employees during 2000.There was a substantial increase in
compensation,travel and facilities costs due to the additional employees.The Company also recorded $241 million in non-cash
compensation expense for the year ended December 31,2000,for expenses recognized under SFAS No.123 related to grants of stock
options and warrants;$126 million of non-cash compensation was recorded for the same period in 1999.The increase in non-cash
compensation is due predominantly to an increase in the number of employees.Communications,insurance,bad debt,data processing
and marketing costs also contributed to the higher selling,general and administrative expenses.In addition to the expenses noted
above,the Company capitalized $162 million and $116 million of selling,general and administrative expenses in 2000 and 1999,
respectively,which consisted primarily of compensation expense for employees and consultants workingon capital projects.As the
Company continues to implement the business plan,selling,general and administrative costs are expected to continue to increase.
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EBITDA,as defined by the Company,ensists of earnings (losses)before interest,inco-taxes,depreciation,amortization,non-cashoperatingexpenses(includingstock-based compensation and in-process research and development charges)and other non-operatingincomeorexpenses.The Company excludes non-cash compensation due to its adoption of the expense recognition provisions ofSFASNo.123.EBITDA decreased to a loss of ($520)million for the year ended December 31,2000 from a ($387)million loss for1999.This decrease was predominantlydue to the increase in selling,general and administrative expenses resulting from the rapidexpansionofthecommunicationsbusiness.EBITDA is commonly used in the communications industry to analyze companies on thebasisofoperatingperformance.
Adjusted EBITDA,as defined by the Company,is EBITDA as defined above plus the change in cash deferred revenue and minus thenon-cash cost of goods sold associated with certain transoceanic IRU sales and dark fiber contracts.For 2000,Adjusted EBITDA was$80 million compared to a loss of ($307)million in 1999.An increase in cash deferred revenue of $404 million and non-cash cost ofgoodssoldrelatedtotransoceanicanddarkfibersalesof$196 million are primarily responsible for the improved Adjusted EBITDAfigures.
EBITDA and Adjusted EBITDA are not intended to represent operating cash flow for the periods indicated and are not GAAP.See
Consolidated Statements of Cash Flows.
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Interest Income was $328 million for 2000 compared to $212 million in 1999.This 55%increase was predominantly due to theCompany's increased average cash,cash equivalents and marketable securities balances.Average cash balances increased largely duetotheapproximately$5.4 billion in proceeds received from the February 29,2000 debt and equity offerings.The Company's average
cash balance also increased as a result of the September 1999 6%Convertible Subordinated Notes offeringand the Senior SecuredCreditFacilityagreement.The increase in interest income is also due to increasing yields on the Company's investments due toincreasedmarketrates.Pending utilization of the cash equivalents and marketable securities in implementing the business plan,theCompanyintendstoinvestthefundsprimarilyinUnitedStatesgovernmentsecurities,money market funds,bank repurchase
agreements and commercial paper.This investment strategy provides lower yields on the funds,but reduces the risk to principalin theshorttermpriortousingthefundsinimplementingthebusinessplan.Interest income is expected to decrease in 2001 as the Companycontinuestofundtheinvestingandoperatingactivitiesofthecommunicationsbusiness.
Interest Expense,net for 2000 of $282 million represents a 62%increase from 1999.The substantial increase was due to the 6%ConvertibleSubordinated Notes issued in September 1999,the Senior Secured Credit Facility entered into in September 1999,as well
as the approximately $3 billion in debt securities issued on February 29,2000.The amortization of the related debt issuance costs alsocontributedtotheincreasedinterestexpensein2000.Partially offsetting this increase was an increase in capitalized interest to $353millionin2000from$116 million in 1999.Capitalized interest is expected to decrease substantially in 2001 as a result of thecompletionofboththeNorthAmericanandEuropeanintercitynetworksandotherfacilitiesbeingplacedinservice.
Equity in Losses of Unconsolidated Subsidiaries was $284 million in 2000 compared to $127 million in 1999.The equity losses arepredominantlyattributabletotheCompany's investment in RCN Corporation(RCN).RCN is a facilities-based providerof bundled
local and long distance phone,cable televisionand Internet services to residential markets primarily on the East and West coasts aswellasChicago.RCN is incurringsignificantcosts in developing its business plan.The Company's share of RCN's losses,increasedto$261 million in 2000 from $135 million in 1999.Duringthe fourthquarter of 2000,Level 3's proportionate share of the RCN'sfourthquarterlossesexceededtheremainingcarryingvalueofLevel3's investment in RCN.Level3 does not have additionalfinancialcommitmentstoRCN;therefore it can only recognize equity losses equal to its investment in RCN.As of December 31,2000,Level3 had not recorded approximately $20 million of equity losses attributable to RCN's fourthquarter losses.If RCN
becomes profitable,Level3 will not record its equity in RCN's profits until unrecorded equity losses have been offset.Level 3 doesnotexpect,based on RCN's current business plan and analysts'estimates,to recognize equity earnings or losses attributable to RCN intheforeseeablefuture.Equity losses for 2000 also include $24 million of losses attributable to the Commonwealth Telephone
Enterprises,Inc.(Commonwealth Telephone).In December 2000,Commonwealth Telephone announced that it was going to record achargetoearningsfortherestructuringofitsCTCIsubsidiary.Commonwealth Telephone indicated that the charge would range from$46-$72 million on an after-tax basis.Level3 recorded $27 million of equity losses,representing its proportionate share of themidpoint,or $59 million,of the estimated restructuring charge.
Gains on Equity Investee Stock Transactions was $100 million for 2000 compared to $118 million for 1999.RCN issued stock for theacquisitionof21stCenturyTelecomGroup,Inc.and for certain transactions in early 2000,which diluted the Company's ownership ofRCNfrom35%at December 31,1999 to 31%at December 31,2000.These transactions diluted Level3's ownership in RCNbut
increased its proportionate share of RCN's common equity.As a result,Level 3 recognized $95 million of pre-tax gains related to
RCN stock activity in 2000.In 1999,RCN issued stock in a public offeringand for certain transactions,which resulted in a pre-taxgainof$117 million to the Company.The Company does not expect to recognize future gains on RCNstock activity unless the gains
exceed the accumulated net equity losses not recognized by the Company.Level 3 also recognized pre-tax gains of $5 million and $1millionin2000and1999,respectively,for Commonwealth Telephone stock activity that diluted the Company's ownership to 46%atDecember31,2000.
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Gain (Loss)on Sale of Assets decreased to ($19)million in 2000.In the second half of 2000,market conditions and the valuationsassignedtocompaniesincertainInternetrelatedsectorsandtheCompany's view of the business prospects of such entities declineddramatically.Therefore,the Company recorded a $37 million pre-tax charge for an other-than-temporary decline in the value of apubliclytradedinvestment.Partially offsetting this charge was a $21 million pre-tax gain on the sale of the Company's entire interestintheWalnutCreekMiningtoPeterKiewitSons'Inc.Also included are gains and losses on the sale of construction and otheroperatingequipment.
Other,net decreased to ($2)million in 2000 from $7 million in 1999.The decrease is predominately due to foreign exchange lossesrecordedin2000.
Income Tax Benefit for 2000 differs from the prior year and the statutory rate primarily due to limited availabilityof taxable income inthecarrybackperiodtooffsetcurrentyearlosses.The income tax benefit for 1999 differs from the statutory rate of 35%primarily duetolossesincurredbytheCompany's international subsidiaries which cannot be included in the consolidated U.S.federal return,nondeductible goodwill amortization expense and state income taxes.For fiscal 2000,Level3 recognized a benefit equal to theamountofrefundavailableduetoutilizationofnetoperatinglosscarrybacks.As of December 31,2000,Level3 had approximately$638 million of net operating loss carryforwards available to offset future taxable income.At this time,the Company is unable todeterminewhenitwillhavetaxableincometooffsetthelosscarryforwards.
Results of Operations 1999 vs.1998
Revenue for the years ended December 31,1999 and December 31,1998 is summarized as follows (in millions):
1999 1998
Communications and Information Services...........................Coal Mining.......................................................207 228Other.............................................................19 20
$515 $392
Communications and informationservices revenue increased from $144 million for the year ended December 31,1998 to $289millionfortheyearendedDecember31,1999.Revenue attributable to the communications business increased from $24 million in1998to$159 million in 1999.In May 1999,the Massachusetts Department of Public Utilities ruled that Verizon (formerlyknown asBellAtlantic),was no longer required to pay the established reciprocal compensation rates for certain services.As a result,beginninginthesecondquarter,Level3 elected not to recognize additional revenue from these agreements until the uncertainties were resolved.The Company reached an agreement with Verizonin October 1999.The agreement established new intercarrier or reciprocal
compensation rates between the two carriers and assures that the Company will be paid for the traffic it terminates from Verizon.Aspartoftheagreement,the Company and Verizonsettled past disputes over reciprocal compensation billing issues.The implementationofthenewratestructureandreciprocalcompensationbillingsettlementwascontingentuponcertainconditionsincludingapprovalbyrelevantregulatoryauthorities.During the fourth quarter,Massachusetts and other states approved the agreement and therefore,theCompanyrecognized$16 million of reciprocal compensation revenue.Also during the fourthquarter the Company completed certainsectionsofitsintercityandmetropolitannetworksandrecognized$26 million of revenue from dark fiber contracts entered into beforeJune30,1999.In 1999,the Company recognized a total of $24 million and $37 million of revenue attributable to reciprocalcompensationagreementsanddarkfibercontracts,respectively.In addition,during 1999 the Company recognized $33 million ofrevenueattributabletoprivatelineservices,$24 million of revenue attributable to managed modem services,$23 million attributabletocolocationservices,and $18 million of revenue attributable to Internet access services.
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The communications business generated Cash Revenue of $256 million in 1999.Cash deferred revenue increased $97 million in 1999
as a result of several new dark fibercontracts.Cash Revenue in 1998 for the communications business was $51 million.
Systems integration revenue increased 11%to $63 million in 1999.Revenue for the computer outsourcing business increased 6%to
$67 million in 1999.Revenue attributable to new customers and additional services for existing customers led to the increase incomputeroutsourcingandsystemsintegrationrevenue.
Mining revenue in 1999 decreased to $207 million from $228 million in 1998 due to reduced tonnage requirements under existing
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contracts with Commonwealth Edison -A the expiration of a long-term contract with Cs anonwealth in 1998.
Other revenue was consistent with 1998 and is primarily attributable toCPTC.
Cost of Revenue increased $161 million or 81%to $360 million in 1999 as a result of the expanding communications business.In1999,communications network expenses were $183 million as compared to $12 million in the prior year.The increase in costs isprimarilyattributabletotheGlobalCrossingNorthAmerica,Inc.and BroadwingCommunications Inc.,leased network expenses,thecostsassociatedwiththeXCOMTechnologies,Inc.(XCOM)and GeoNet Communications,Inc.(GeoNet)acquisitions,and costsattributabletotheproductstheCompanybeganofferinginlate1998and1999.The cost of revenue for the informationservices
business,as a percentage of revenue,decreased for the year ended December 31,1999 compared to the same period in 1998.Thisdecreaseisprimarilyduetoanincreaseintheutilizationratesofsystemsintegrationpersonnelin1999.The cost of revenue for thecoalbusiness,as a percentage of revenue,increased due to the expiration of a high margin long-term contract in 1998.
Depreciation and Amortizationexpense increased from $66 million in 1998 to $228 million in 1999.The significant increase in theamountofassetsplacedinserviceduringthelatterpartof1998andthroughout1999forthecommunicationsbusinessresultedintheincreaseindepreciationexpense.The acquisitions of XCOM,GeoNet and BusinessNet in 1998 and 1999 also contributed to theincreaseindepreciationandamortizationexpensein1999.
Selling,General and Administrativeexpenses increased significantlyto $668 million in 1999 from $332 million in 1998 primarily duetothecostofactivitiesassociatedwiththeexpandingcommunicationsbusiness.Compensation,travel and facilities costs increasedsubstantiallyduetotheadditionalemployeesthathavebeenhiredtoimplementthebusinessplan.The total number of employees oftheCompanyincreasedtoapproximately3,850 at December 31,1999 from approximately 2,200 at December 31,1998.Professionalfees,including legal costs associated with obtaining licenses,agreements and technical facilities and other development costsassociatedwiththeCompany's plans to expand services offeredin U.S.,European and Asian markets,consulting fees incurred todevelopandimplementtheCompany's business support systems,and advertising,marketing and other selling costs contributed to thehigherselling,general and administrative expenses.The Company also recorded $126 million of non-cash compensation in 1999 forexpensesrecognizedunderSFASNo.123 related to grants of stock options and warrants,up from $39 million in 1998.In addition totheexpensesnotedabove,the Company capitalized $116 million and $52 million of selling,general and administrative expenses in1999and1998,respectively,whichconsisted primarily of compensation expense for employees and consultants workingon capitalprojects.
Write-off of In-Process Research and Developmentof $30 million in 1998 was the portionof the purchase price allocated to thetelephonenetwork-to-InternetProtocol network bridge technology acquired by the Company in the XCOM transaction and wasestimatedthroughformalvaluation.In accordance with generally accepted accounting principles,the $30 million was taken as anondeductiblechargeagainstearningsinthesecondquarterof1998.
EBITDA,as defined by the Company,decreased from($100)million in 1998 to ($387)million in 1999 primarily due to thesignificantincreaseinselling,general and administrative expenses,described above,incurred in connection with the implementationoftheCompany's business plan.
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Adjusted EBITDA for 1999 was ($307)million compared to ($73)million in 1998.Increases in selling,general and administrativeexpensespartiallyoffsetbyanincreaseincashdeferredrevenueof$97 million and non-cash cost of goods sold related to dark fiber
sales of $17 million,are primarily responsible for the decrease in Adjusted EBITDA.
Interest Income increased from $173 million in 1998 to $212 million in 1999 primarily as a function of the Company's increasingaveragecash,cash equivalents and marketable securities balances.The average cash balance increased from approximately $3.7billionduring1998toapproximately$4.2 billion during 1999 as a result of the December 1998 Senior Discount Notes offering,theMarch1999equityofferingandtheSeptember1999SubordinatedNotesofferingandSeniorSecuredCreditFacilityagreement.Yields on the portfolio,however,have declined by approximately 50 basis points in 1999 from the yields in 1998 primarily due to thefundsbeinginvestedinshortertermtreasurysecurities.The accelerating business plan has required the Company to shorten the
average term of treasury securities in which it invested in 1999.
Interest Expense,net increased $42 million to $174 million in 1999 due to the completion of the offering of $2 billion aggregateprincipalamountofSeniorNotesinApril1998,$834 million aggregate principalamount at maturity of Senior Discount Notes offeredinDecember1998,the ConvertibleSubordinated Notes issued in September 1999,and Senior Secured Credit Facility entered into in
September 1999.The amortization of the related debt issuance costs also contributed to the increased interest expense in 1999.The
Company capitalized $116 million and $15 million of interest expense on network construction and business support systems in 1999
and 1998,respectively.
Equity in Losses of Unconsolidated Subsidiaries are $127 million in 1999 and are primarily attributable to RCN.RCN's losses
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increased from $205 million in 1998 to A69 million in 1999.The Company's proportio-.a share of these losses,includinggoodwillamortization,was $135 million and $92 million in 1999 and 1998,respectively.In 1998,the Company elected to discontinue itsfundingofGatewayOpportunityFund,LP,(Gateway),which providedventure capital to developing businesses.The Company
recorded losses of $28 million in 1998,to reflect Level 3's equity in losses of the underlying businesses of Gateway.Also included areequityearningsandlossesofotherequitymethodinvestmentsnotindividuallysignificant.
Gain on Equity Investee Stock Transactions increased to $118 million in 1999.RCN issued stock in a public offeringand for certaintransactionsin1998and1999whichdilutedtheCompany's ownership of RCN from 41%at December 31,1998 to 35%at December
31,1999.The increase in the Company's proportionate share of RCN's net assets as a result of these transactions resulted in a pre-tax
gain of $117 million from subsidiary stock sales for the Company in 1999.The Company recognized $62 million of gains for similar
stock transactions of RCN in 1998.The Company also recognized $1 million of gains attributable to other equity method investees.
Gains (Losses)on Sale of Assets decreased significantlyin 1999 due to the sale of Cable Michigan to Avalon Cable of Michigan,Inc.
in November 1998.The Company recognized a gain of approximately $90 million from the cash-for-stock transaction.Included in
gains (losses)on the disposal of assets are ($3)million of losses and $8 million of gains on the disposal of property,plant and
equipment in 1999 and 1998 respectively,and $1 million and $9 million of gains on the sale of marketable securities in 1999 and 1998respectively.
Income Tax Benefit in 1999 and 1998 differs from the statutory rate of 35%primarily due to losses incurred by the Company's
international subsidiaries which cannot be included in the consolidated U.S.federal return,nondeductible goodwillamortization
expense and state income taxes.The income tax benefit in 1999 also differsfrom the statutory rate due to foreigntax credits expected
to be released upon carryback of 1999 net operating losses that the Company will be unable to utilize.The income tax benefit in 1998
also differs from the statutory rate due to the $30 million nondeductible write-off of the research and development costs acquired in
the XCOM acquisition.
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Discontinued Operations includes the one-time gain of $608 million recognized upon the distribution of the Construction Group to
former Class C stockholders on March 31,1998.Also included in discontinued operations is the gain,net of tax,of $324 million from
the Company's sale of its energy assets to MidAmericanon January 2,1998.
Financial Condition-December 31,2000
The Company's working capital increased slightly from $2.8 billion at December 31,1999 to $3.1 billion at December 31,2000 dueprimarilytotheproceedsfromthedebtandequityofferingscompletedinFebruary2000anddarkfiberIRUtransactions,offset by
funds used in operations and in construction of the Level3 Network.In February 2000,the Company received approximately $2.4billionofnetproceedsfromanequityofferingandapproximately$3.0 billion from the issuance of debt.These financing activities,
along with dark fiber IRU transactions,were partially offset by capital expenditures of $5.9 billion and operating expenses incurred to
expand the communications business.
Cash providedby operations increased from $438 million in 1999 to $1 billion in 2000.The increase is primarilyattributable to a
$585 million increase in deferred revenue,receipt of $246 million of federal income tax refunds and changes in other working capital
items including accounts payable and accrued interest payable reduced by the change in receivables.The increase in deferred revenue
is a result of the accounting guidance in FASB Interpretation No.43 issued in June 1999,which requires the Company to defer
recognition of certain dark fibersales and capacity agreements over the term of the contract.Dark fiber agreements typically require
customers to pay a deposit at the time the contract is signed with the remaining amount due when the fiber is delivered and accepted
by the customer.
Investingactivities include using the proceeds from the debt and equity offeringsto purchase $8.3 billion of marketable securities and
approximately $5.9 billion of capital expenditures,primarily for the expanding communications and informationservices business.
Provisions of a commercial mortgage financingfor one of the Company's Gateway facilities required the Company to place
approximately $145 million of funds in a restricted account to be used for completing the buildoutof that Gateway facility.The
Company also realized $7.8 billion of proceeds from the sales and maturities of marketable securities and $99 million of proceeds
from the sale of non-telecom assets and network construction equipment.
Financing sources in 2000 consisted primarily of the net proceeds of $2.4 billion from the issuance of 23 million shares of Level 3
common stock,$836 million in ConvertibleSubordinated Notes,$1.4 billion in three tranches of U.S.dollar denominated debt
securities,$763 million from two tranches of Euro denominated senior debt securities and $224 million frommortgage financings.
The Company also received proceeds of $15 million in 2000 fromthe exercise of Company stock options and repaid long-termdebt of
$21 million primarily related to the PavilionTowers officecomplex.
Liquidity and Capital Resources
©2001.EDGAR Online,Inc.
Since late 1997,the Company has subcatially increased the emphasis it places on and .resources devoted to its communicationsandinformationservicesbusiness.The Company has become a facilities-based provider(that is,a providerthat owns or leases asubstantialportionoftheproperty,plant and equipment necessary to provideits services)of a broad range of integrated
communications services.To reach this goal,the Company has created,through a combination of construction,purchase and leasingoffacilitiesandotherassets,an advanced,international,end-to-end,facilities-based communications network.The Company hasdesigneditsnetworkbasedonInternetProtocoltechnologyinordertoleveragetheefficienciesofthistechnologytoprovidelowercostcommunicationsservices.
The continued development of the Company's businesses will require significant capital expenditures,a substantial portion of whichwillbeincurredbeforeanysignificantrelatedrevenuesareexpectedtoberealized.These expenditures,together with the associatedearlyoperatingexpenses,have,and may continue to result in
45
substantial negative operating cash flow and substantial net operating losses for the Company for the foreseeable future.Although theCompanybelievesthatitscostestimatesandadditionalbuild-out schedule are reasonable,the actual construction costs or the timingoftheexpendituresmaydeviatefromcurrentestimates.The Company's capital expenditures in connection with the business plan
were approximately $5.9 billion during 2000.The majority of the spending was for construction of the U.S.and European intercitynetworks,certain local metropolitan networks in the U.S.and Europe,and the transatlantic cable network.Total capital expendituresfor2001areexpectedtobeapproximately$3.4 billion.The proceeds received from the February 2000 debt and equity offeringscombinedwiththecashandmarketablesecuritiesalreadyonhandandtheundrawncommitmentsof$900 million at December 31,2000 under the Senior Secured Credit Facility,providedLevel 3 with approximately $4.9 billion of funds available at the end of theyear.Additionally,on January 8,2001,the Company borrowed an additional $250 million under the credit facility.The Company'scurrentliquidityandcommittedcontractsshouldbesufficienttofundthecurrentlycommittedportionsofthebusinessplan.
On January 24,2000,the Company announced that it was expanding the scope of its business plan to include a significant increase intheamountofcolocationspaceavailabletotheCompany's communications intensive customers,and additional local fiber facilities.
The Company currently estimates that the implementation of the business plan will require between $13 and $14 billion over the 10-year period of the business plan.The Company's successful debt and equity offerings in February 2000 have giventhe Company theabilitytoimplementthecommittedportionsofthebusinessplan.However,if additional opportunities should present themselves,theCompanymayberequiredtosecureadditionalfinancinginthefuture.In order to pursue these possible opportunities and provideadditionalflexibilitytofunditsbusinessplan,the Company filed a universal shelf registration for an additional $3 billion of commonstock,preferred stock,debt securities,warrants,stock purchase agreements and depositary shares.The registration statement (declaredeffectivebytheSecuritiesandExchangeCommissiononJanuary31,2001),in combination with the remaining availability under anexistinguniversalshelfregistrationstatement,allows Level 3 to offer an aggregate of up to $3.156 billion of additional securities tofunditsbusinessplan.In addition to raising capital through the debt and equity markets,the Company may sell or dispose of existingbusinessesorinvestrnentstofundportionsofthebusinessplan.The Company may also sell or lease fiber optic capacity,or access toitsconduits.
The Company may not be successful in producing sufficientcash flow,raising sufficientdebt or equity capital on terms that it will
consider acceptable,or selling or leasing fiber optic capacity or access to its conduits.In addition,proceeds fromdispositions of theCompany's assets may not reflect the assets'intrinsic values.Further,expenditures may exceed the Company's estimates and thefinancingneededmaybehigherthanestimated.Failure to generate sufficient funds may require the Company to delay or abandonsomeofitsfutureexpansionorexpenditures,which could have material adverse effect on the implementation of the business plan.
In connection with implementing the business plan,management will continue reviewingthe existing businesses of the Company to
determine how those businesses will complement the Company's focus on communications and informationservices.If it is decided
that an existing business is not compatible with the communications and informationservices business and if a suitable buyer can be
found,the Company may dispose of that business.
ITEM 7A.QUANTITATIVEAND QUALITATIVE DISCLOSURESABOUT MARKET RISK
Level3 is subject to market risks arising from changes in interest rates,equity prices and foreignexchange rates.The Company's
exposure to interest rate risk increased due to the $1.375 billion Senior Secured Credit Facility entered into by the Company in
September 1999 and the commercial mortgages entered into in 2000.As of December 31,2000,the Company had borrowed$475millionundertheSeniorSecuredCreditFacilityand$233 million under the commercial mortgages.Amounts drawn on these debt
instruments bear interest at the alternate base rate or LIBOR rate plus applicable margins.As the alternate base rate and LIBOR rates
46
fluctuate,so too will the interest expense on amounts borrowed under the credit facility and mortgages.A hypothetical 10%increase
in interest rates wouldincrease annual interest expense of the Company by approximately $7 million based on outstanding amountsunderthesevariablerateinstrumentsof$708 million at December 31,2000.At December 31,2000,the Company had $6.6 billion offixedratedebtbearinginterestatannualratesrangingfrom6.0%to 12.875%.A decline in interest rates in the future on this fixed rate
©2001.EDGAR Online,Inc.
debt will not benefit the Company due o the terms and conditions of the loan agreemens .iat prohibitprepayment of the debt orrequiretheCompanytorepurchasethedebtatspecifiedpremiums.Thus,a potential decline in interest rates exposes the Company tomarketriskthatthecostofdebtishigherthancompetitors.The Company continues to evaluate alternatives to limit interest rate risk.
Level 3 continues to hold positions in certain publicly traded entities,primarily Commonwealth Telephone and RCN.The Companyaccountsforthesetwoinvestmentsusingtheequitymethod.The market value of these investments is approximately $540 million asofDecember31,2000,which is significantlyhigher than their carrying value of $105 million.The Company does not currently have
plans to dispose of these investments,however,if any such transaction occurred,the value received for the investments would beaffectedbythemarketvalueoftheunderlyingstockatthetimeofanysuchtransaction.A 20%decrease in the price of
Commonwealth Telephone and RCN stock wouldresult in approximately a $108 million decrease in fair value of these investments.
The Company does not currently utilize financial instruments to minimize its exposure to price fluctuations in equity securities.
The Company's business plan includes developingand constructing networks in Europe and Asia.As of December 31,2000,theCompanyhadinvestedsignificantamountsofcapitalinbothregionsandwillcontinuetoexpanditspresenceinEuropeandAsia in2001.The Company issued (Euro)800 million in Senior Euro Notes in February 2000 as an economic hedge against its net investmentinitsEuropeansubsidiaries.Due to the historicallylow exchange rates involving the U.S.Dollar and the Euro during the fourth
quarter,Level 3 elected to set aside the remaining Euros received from the February debt offeringsand purchase on the spot markettheEurosrequiredtofunditscurrentEuropeaninvestingandoperatingactivities.Other than the issuance of the Euro denominated
debt and the purchase of the Euros on the spot market,the Company has not made significant use of financial instruments to minimizeitsexposuretoforeigncurrencyfluctuations.The Company continues to analyze risk management strategies to reduce foreigncurrencyexchangerisk.
The change in interest rates and equity security prices is based on hypothetical movements and are not necessarily indicativeof the
actual results that may occur.Future earnings and losses will be affected by actual fluctuations in interest rates,equity prices andforeigncurrencyrates.
ITEM 8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Financial statements and supplementary financial informationfor Level 3 Communications,Inc.(f/k/a Peter Kiewit Sons',Inc.)and
Subsidiaries begin on page F-1.
The financial statements of an equity method investee (RCN Corporation)are required by Rule 3.09 and will be filed as a part of this
Report by an amendment to this Report upon the filing by RCN of their Form 10-K for the year ended December 31,2000.RCN'sfilingoftheirForm10-K is not yet due.
ITEM 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIALDISCLOSURE
Not Applicable.
ITEM 10.DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The informationrequired by this Item 10 is incorporated by reference to the Company's definitiveproxy statement for the 2001
Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission,howevercertain informationis included inItem1.Business above under the caption Directors and Executive Officers.
47
ITEM 11.EXECUTIVE COMPENSATION
The informationrequired by this Item 11 is incorporated by reference to the Company's definitiveproxy statement for the 2001
Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission.
ITEM 12.SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The informationrequired by this Item 12 is incorporated by reference to the Company's definitive proxy statement for the 2001
Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission.
ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The informationrequired by this Item 13 is incorporated by reference to the Company's definitiveproxy statement for the 2001AnnualMeetingofStockholderstobefiledwiththeSecuritiesandExchangeCommission.
©2001.EDGAR Online,Inc.
ITEM 14.EXHIBITS,FINANCIAL ofATEMENT SCHEDULES,AND REPOR'1 JN FORM 8-K
(a)Financial statements and financial statement schedules required to be filed for the registrant under Items 8 or 14 are set forth
following the index page at page F-l.Exhibits filed as a part of this report are listed below.Exhibits incorporated by reference are
indicated in parentheses.
3.1 Restated Certificate of Incorporation dated March 31,1998 (Exhibit 1 toRegistrant's Form 8-A filed on April 1,1998).
3.2 Certificate of Amendment of Restated Certificate of Incorporation of
Level 3 Communications,Inc.(Exhibit 3.1 to the Registrant's Current
Report on Form 8-K dated June 3,1999).
3.3 Specimen Stock Certificate of Common Stock,par value $.01 per share
(Exhibit 3 to the Registrant's Form 8-A filed on March 31,1998).
3.4 Amended and Restated By-laws as of May 27,1999 (Exhibit 3.2 to
Company's Current Report on Form 8-K dated June 3,1999).
3.5 Rights Agreement,dated as of May 29,1998,between the Registrant and
Norwest Bank Minnesota,N.A.,as Rights Agent,which includes the Form
of Certificate of Designation,Preferences,and Rights of Series A.
Junior Participating Preferred Stock of the Registrant,as Exhibit A,
the Form of Rights Certificate as Exhibit B and the Summary of Rights
to Purchase Preferred Stock,as Exhibit C (Exhibit 1 to the
Registrant's Form 8-A Amendment No.1 filed on June 10,1998).
4.1 Indenture,dated as of April 28,1998,between the Registrant and II3J
Schroder Bank &Trust Company as Trustee relating to the Registrant's 9
1/8%Senior Notes due 2008 (Exhibit 4.1 to the Registrant's
Registration Statement on Form S-4 File No.333-56399).
4.2 Indenture,dated as of December 2,1998,between the Registrant and IBJ
Schroder Bank &Trust Company as Trustee relating to the Registrant's
10 1/2%Senior Discount Notes due 2008 (Exhibit 4.1 to the Registrant'sRegistrationStatementonFormS-4 File No.333-71687).
4.3.1 Form of Senior Indenture (incorporated by reference to Exhibit 4.1 to
Amendment 1 to the Registrant's Registration Statement on Form S-3
(File No.333-68887)filed with the Securities and Exchange Commission
on February 3,1999).
4.3.2 First Supplemental Indenture,dated as of September 20,1999,between
the Registrant and IBJ Whitehall Bank &Trust Company as Trustee
relating to the Registrant's 6%Convertible Subordinated Notes due 2009
(Exhibit 4.1 to the Registrant's Current Report on Form 8-K datedSeptember20,1999).
48
4.3.3 Second Supplemental Indenture,dated as of February 29,2000,between
the Registrant and The Bank of New York as Trustee relating to the
Registrant's 6%Convertible Subordinated Notes due 2010 (Exhibit 4.1 to
the Registrant's Current Report on Form 8-K dated February 29,2000).
4.4 Indenture,dated as of February 29,2000,between the Registrant and The
Bank of New York as Trustee relating to the Registrant's 11%Senior
Notes due 2008 (Exhibit 4.1 to the Registrant's Registration Statement
on Form S-4 File No.333-37362).
ß¾&....,asÈDGARpro ©2001.EDGAR Online,Inc.
4.5 Indenture,dated as of February 29,2000,between the Registrant and TheBankofNewYorkasTrusteerelatingtotheRegistrant's 11 1/4%Senior
Notes due 2010 (Exhibit 4.2 to the Registrant's Registration Statement
on Form S-4 File No.333-37362).
4.6 Indenture,dated as of February 29,2000,between the Registrant and The
Bank of New York as Trustee relating to the Registrant's 12 7/8%Senior
Discount Notes due 2010 (Exhibit 4.3 to the Registrant's Registration
Statement on Form S-4 File No.333-37362).
4.7 Indenture,dated as of February 29,2000,between the Registrant and The
Bank of New York as Trustee relating to the Registrant's 10 3/4%Senior
Euro Notes due 2008 (Exhibit 4.1 to the Registrant's Registration
Statement on Form S-4 File No.333-37364).
4.8 Indenture,dated as of February 29,2000,between the Registrant and The
Bank of New York as Trustee relating to the Registrant's 11 1/4%Senior
Euro Notes due 2010 (Exhibit 4.2 to the Registrant's Registration
Statement on Form S-4 File No.333-37364).
10.1 Separation Agreement,dated December 8,1997,by and among PKS,Riewit
Diversified Group Inc.,PKS Holdings,Inc.and Kiewit ConstructionGroupInc.(Exhibit 10.1 to the Registrant's Form 10-K for 1997).
10.2 Amendment No.1 to Separation Agreement,dated March 18,1997,by and
among PKS,Kiewit Diversified Group Inc.,PKS Holdings,Inc.and Kiewit
Construction Group Inc.(Exhibit 10.1 to the Registrant's Form 10-K for
1997).
10.3 Cost Sharing and IRU Agreement between Level 3 Communications,LLC and
INTERNEXT,LLC dated July 18,1998 (Exhibit 10.1 to the Registrant's
Quarterly Report on Form IO-Q for the three months ended September 30,
1998).
10.4 Credit Agreement dated as of September 30,1999 among Level 3
Communications,LLC,the Borrowers named therein,the Lenders Party
thereto and The Chase Manhattan Bank,as Agent (Exhibit 10.1 to theRegistrant's Quarterly Report on Form 10-Q for the three months endedSeptember30,1999).
21 List of subsidiaries of the Company
23.1 Consent of Arthur Andersen LLP
23.2 Consent of PricewaterhouseCoopers LLP
(b)Reports on Form 8-K filed by the Registrant during the fourthquarter of 2000.
On November7,2000,the Registrant filed with the Securities and Exchange Commission a Current Report on Form 8-K relating to
the issuance of a press release containing an open letter to the Level3 Stockholders.
49
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d)of the Securities Exchange Act of 1934,the registrant has duly caused this report
to be signed on its behalfby the undersigned,thereunto duly authorized,this 7th day of March,2001.
LEVEL 3 COMMUNICATIONS,INC.
©2001.EDGAR Online,Inc.
/s/James Q.Crowe
By:
Name:James Q.Crowe
Title:Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,this report has been signed below by the following persons onbehalfoftheregistrantandinthecapacitiesandonthedatesindicated.
Signature Title Date
/s/Walter Scott,Jr.Chairman of the Board March 7,2001
Walter Scott,Jr.
/s/James Q.Crowe Chief Executive Officer March 7,2001
and Director
James Q.Crowe
/s/Kevin J.O'Hara President,Chief Operating March 7,2001
Officer and Director
Kevin J.O'Hara
/s/R.Douglas Bradbury Vice Chairman and March 7,2001
Executive Vice President
R.Douglas Bradbury
/s/Charles C.Miller,III Vice Chairman and March 7,2001
Executive Vice President
Charles C.Miller,III
/s/Sureel A.Choksi Group Vice President and March 7,2001
Chief Financial Officer
Sureel A.Choksi (Principal Financial
Officer)
/s/Eric J.Mortensen Vice President and March 7,2001
Controller (Principal
Eric J.Mortensen Accounting Officer)
/s/Mogens C.Bay Director March 7,2001
Mogens C.Bay
/s/William L.Grewcock Director March 7,2001
William L.Grewcock
50
Signature Title Date
Na EDGAnpro ©2001.EDGAR Online,Inc.
/s/Richard R.Jaros Director March 7,2001
Richard R.Jaros
/s/Robert E.Julian Director March 7,2001
Robert E.Julian
/s/David C.McCourt Director March 7,2001
David C.McCourt
/s/Kenneth E.Stinson Director March 7,2001
Kenneth E.Stinson
/s/Colin V.K.Williams Director March 7,2001
Colin V.K.Williams/s/Michael B.Yanney Director March 7,2001
Michael B.Yanney
51
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
Report of Independent Public Accountants.................................F-2FinancialStatementsasofDecember31,2000 and December 31,1999 and
for the three years ended December 31,2000:
Consolidated Statements of Operations..................................F-3ConsolidatedBalanceSheets............................................F-4
Consolidated Statements of Cash Flows..................................F-5
Consolidated Statements of Changes in Stockholders'Equity.............F-7ConsolidatedStatementsofComprehensiveIncome(Loss).................F-8NotestoConsolidatedFinancialStatements.............................F-9
Schedules not indicated above have been omitted because of the absence of the conditions under which they are required or because
the informationcalled for is shown in the consolidated financialstatements or in the notes thereto.
F-1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
ToLeve13Corununications,Inc.:
We have audited the consolidated balance sheets of Level 3 Communications,Inc.(a Delaware corporation)and subsidiaries as of
December 31,2000 and 1999,and the related consolidated statements of operations,cash flows,changes in stockholders'equity and
comprehensive income (loss)for each of the three years in the period ended December 31,2000.These consolidated financial
statements are the responsibility of the Company's management.Our responsibility is to express an opinion on these financial
statements based on our audits.
©2001.EDGAR Online,Inc.
We conducted our audits in accordance ath auditing standards generally accepted in the -nited States.Those standards require thatweplanandperformtheaudittoobtainreasonableassuranceaboutwhetherthefinancialstatementsarefreeofmaterialmisstatement.An audit includes examining,on a test basis,evidence supporting the amounts and disclosures in the financial statements.An auditalsoincludesassessingtheaccountingprinciplesusedandsignificantestimatesmadebymanagement,as well as evaluating theoverallfinancialstatementpresentation.We believe that our audits providea reasonable basis for our opinion.
In our opinion,the financial statements referred to above present fairly,in all material respects,the consolidated financial position ofLevel3Communications,Inc.and subsidiaries as of December 31,2000 and 1999,and the consolidated results of their operations andtheircashflowsforeachofthethreeyearsintheperiodendedDecember31,2000 in conformity with accounting principles generallyacceptedintheUnitedStates.
/s/Arthur Andersen LLP
Denver,ColoradoJanuary24,2001.
F-2LEVEL3COMMUNICATIONS,INC.AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the three years ended December 31,2000
2000 1999 1998
(dollars in
millions,except
per share data)Revenue................................................$1,185 $515 $392CostsandExpenses:
Cost of revenue......................................(794)(360)(199)Depreciation and amortization........................(584)(228)(66)Selling,general and administrative..................(1,152)(668)(332)Write-off of in-process research and development.....----(30)
Total costs and expenses...........................(2,530)(1 256)(627)
Loss from Operations...................................(1 345)(741)(235)Other Income (Expense):
Interest income......................................328 212 173Interestexpense,net................................(282)(174)(132)Equity in losses of unconsolidated subsidiaries,
net.................................................(284)(127)(132)Gain on equity investee stock transactions...........100 118 62Gain(loss)on sale of assets........................(19)(2)107Other,net...........................................(2)7 4
Total other income (expense).......................(159)34 82
Loss Before Income Tax Benefit and DiscontinuedOperations............................................(1,504)(707)(153)Income Tax Benefit.....................................49 220 25
Loss from Continuing Operations........................(1 455)(487)(128)Discontinued Operations:
Gain on Split-off of Construction Group..............----608
©2001.EDGAR Online,Inc.
Gain on disposition f energy business net of income
tax expense of ($175)..........................---------324
Income from discontinued operations..................----932
Net Earnings (Loss)...................................$(1,455)$(487)$804
Earnings (Loss)Per Share of Level 3 Common Stock
(Basic and Diluted):Continuing operations...............................$(4.01)$(1.46)$(.43)
Discontinued operations excluding constructionoperations.........--...............................$--$--$3.09
Net earnings (loss)excluding constructionoperations..........................................$(4.01)$(1.46)$2.66
Net earnings (loss)excluding gain on Split-off of
Construction Group..................................$(4.01)$(1.46)$.64
See accompanying notes to consolidated financial statements.
F-3
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December31,2000and1999
2000 1999
(dollars inmillions,
except per
share data)
Assets
Current Assets:
Cash and cash equivalents...................................$1,269 $1,214
Marketable securities.......................................2,742 2,227
Restricted securities.......................................202 51Receivables,less allowances for doubtful accounts of $33
and $9,respectively.......................................617 150
Recoverable income taxes....................................67 241
Other.......................................................148 55
Total Current Assets..........................................5,045 3,938
Net Property,Plant and Equipment.............................9,383 4,287
Investments...................................................146 300
Other Assets,net.............................................345 381
$14,919 $8,906
Liabilities and Stockholders'Equity
Current Liabilities:
Accounts payable.......:...................................$1,552 $832
Current portion of long-term debt...........................7 6
©2001.EDGAR Online,Inc.
Accrued payroll ans ,mployee benefits.........---.---.---90 43Accruedinterest...................................-...-....124 47Deferredrevenue............................................68 72Other.......................................................106 90
Total Current Liabilities.............................-.......1 947 1 090Long-Term Debt,less current portion........................--7,318 3,989DeferredRevenue.........................-...................652 63AccruedReclamationCosts.....................................94 99OtherLiabilities...........................................359 260CommitmentsandContingencies
Stockholders'Equity:
Preferred stock,$.01 par value,authorized 10,000,000
shares:no shares outstanding..............................----
Common stock:
Common stock,$.01 par value,authorized 1,500,000,000
shares:367,599,870 outstanding in 2000 and 341,396,727outstandingin1999.....................-.................4 3ClassR,$.01 par value,authorized 8,500,000 shares:no
shares outstanding........................................----
Additional paid-in capital...................................5,167 2,501Accumulatedothercomprehensiveloss.........................(73)(5)Retained earnings (accumulated deficit)......................(549)906
Total Stockholders'Equity....................................4 549 3 405
$14,919 $8,906
See accompanying notes to consolidated financial statements.
F4
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the three years ended December 31,2000
2000 1999 1998
(dollars in millions)Cash Flows from Operating Activities:
Net Earnings (Loss)...............................$(1,455)$(487)$804Less:Income from Discontinued Operations........-----(932)
Loss from continuing operations...................(1 455)(487)(128)Adjustments to reconcile loss from continuingoperationstonetcashprovidedbyoperating
activities:
Write-off in process research anddevelopment..................................----30Equitylosses,net............................284 127 132Depreciationandamortization.................584 228 66Darkfiberandsubmarinecablecostof
revenue......................................196 17 --
Amortization of premiums (discounts)on
marketable securities........................(41)10 (24)Amortization of debt issuance costs...........21 9 3(Gain)loss on sale of property,plant and
©2001.EDGAR Online,Inc.
equipment and ner assets...................(19)2 (17)Gain on equity investee stock transactions....(100)(118)(62)Gain on sale of Cable Michigan....--.-------------(90)Non-cash compensation expense attributable to
stock awards.................................241 126 39Federalincometaxrefunds....................246 81 46Deferredincometaxes........................--(56)(50)Deferred revenue............................585 121 27Deposits......................................24 (64)--
Accrued interest on marketable securities.....(5)(7)(43)Accrued interest on long-term debt............176 69 35Changeinworkingcapitalitems:
Receivables.................................(475)(84)(1)Other current assets........................(178)(170)(10)Payables...................................737 544 239
Other liabilities...........................158 86 (19)Other........................................21 3 (3)
Net Cash Provided by Continuing Operations..........1,000 437 170CashFlowsfromInvestingActivities:
Proceeds from sales and maturities of marketable
securities.......................................7,823 5,169 3,214
Purchases of marketable securities................(8,284)(4,555)(5,334)Inc.rease in restricted securities.................(150)(16)(8)Capital expenditures..............................(5,944)(3,436)(910)Investments and acquisitions,net of cashacquired.........................................(34)(3)(67)
Proceeds from sale of property,plant andequipment,and other investments.................99 12 27
Proceeds from sale of Cable Michigan..............----129
Net Cash Used in Investing Activities...............$(6,490)$(2,829)$(2,949)
See accompanying notes to consolidated financial statements.
F-5
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS-(Continued)
For the three years ended December 31,2000
2000 1999 1998
(dollars in
millions)
Cash Flows from Financing Activities:
Long-term debt borrowings,net of issuance costs.....$3,195 $1,249 $2,426Paymentsonlong-term debt,including currentportion.............................................(21)(6)(12)
Issuances of common stock,net of issuance costs.....2,407 1,498 21
Stock options exercised..............................15 22 11
Exchange of Class C Stock for Class D Stock,net.....----122Repurchasesofcommonstock..........................----(1)
Net Cash Provided by Financing Activities..............5,596 2,763 2,567
Cash Flows from Discontinued Operations:
Proceeds from sale of discontinued energy operations,
net of income tax payments of $192 million........------967
©2001.EDGAR Online,Inc.
Net Cash Provided by Discontinued Operations...........967EffectofExchangeRatesonCashandCashEquivalents..(51)1 --
Net Change in Cash and Cash Equivalents................55 372 755CashandCashEquivalentsatBeginningofYear.........1,214 842 87
Cash and Cash Equivalents at End of Year...............$1 269 $1 214 $842
Supplemental Disclosure of Cash Flow Information:
Income taxes paid..................................$2 $2 $246Interestpaid........................................461 193 104NoncashInvestingandFinancingActivities:Equity securities received in exchange for services..$43 $5 $--Issuances of stock for acquisitions:Businessnet Ltd...................................3 8 --
XCOM Technologies,Inc.....................-----.----154GeoNetCommunications,Inc.........................----19Others.............................................----10
The activities of the Construction Group have been removed from the consolidated statements of cash flows.The Construction Grouphadcashflowsof($62)million for the three months ended March 31,1998,(the date of the Split-off).
See accompanying notes to consolidated financial statements.
F-6
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS'EQUITY
For the three years ended December 31,2000
Class Accumulated Retained
B&C Additional Other Earnings
Common Common Paid-in Comprehensive (Accumulated
Stock Stock Capital Income (Loss)Deficit)Total
(dollars in millions)Balance at December 27,
1997...................$1 $8 $427 $(5)$1,799 $2,230CommonStock:
Issuances..............--1 203 ----204Stockoptions
exercised.............--1 10 --(1)10Designationofpar
value to $.01.........--(8)8 ------
Stock dividend.........--1 (1)------
Stock plan grants......----44 ----44Incometaxbenefitfrom
exercise of options...----19 ----19ClassRStock:
Issuance and forced
conversion............----164 --(164)--
Class C Stock:Repurchases............----(25)----(25)Conversion of
debentures............----10 ----10NetEarnings............--------804 804OtherComprehensive
©2001.EDGAR Online,Inc.
Loss...................¯¯·¯¯¯--(6)Split-off of the
Construction &Mining
Group..................(1)--(94)15 (1,045)(1,125)
Balance at December 31,
1998...................--3 765 4 1,393 2,165
Common Stock:
Issuances,net ofofferingcosts........----1,506 ----1,506Stockoptions
exercised............----22 ----22Stockplangrants......----130 ----130Incometaxbenefitfrom
exercise of options...----78 ----78NetLoss...............--------(487)(487)Other Comprehensive
Loss...................------(9)--(9)
Balance at December 31,
1999...................--3 2,501 (5)906 3,405
Common Stock:
Issuances,net of
offering costs........--1 2,409 ----2,410
Stock options
exercised.............----15 ----15Stockplangrants......----237 ----237Shareworksplan........----5 ----5
Net Loss................--------(1,455)(1,455)
Other Comprehensive
Loss...................------(68)--(68)
Balance at December 31,
2000...................$--$4 $5,167 $(73)$(549)$4,549
See accompanying notes to consolidated financial statements.
F-7
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
For the three years ended December 31,2000
2000 1999 1998
(dollars in
millions)
Net Earnings (Loss)......................................$(1,455)$(487)$804
Other Comprehensive Income (Loss)Before Tax:
Foreign currency translation adjustments...............(73)(10)1
Unrealized holding gains (losses)arising duringperiod................................................5 (3)(2)Reclassification adjustment for gains included in netearnings(loss).......................................--(1)(9)
Other Comprehensive Loss,Before Tax.....................(68)(14)(10)Income Tax Benefit Related to Items of Other
M EDGARyo ©2001.EDGKR Online,Inc.
Comprehensive Loss.................................---5 4
Other Comprehensive Loss Net of Taxes ...................-(68)(9)(6)
Comprehensive Income (Loss).............................$(1,523)$(496)$798
See accompanying notes to consolidated financial statements.
F-8
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1)Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of Level 3 Communications,Inc.and subsidiaries (the Company or Level
3)in which it has control,which are engaged in enterprises primarily related to communications and informationservices,and coal
mining.Fifty-percent-owned mining joint ventures are consolidated on a pro rata basis.Investments in other companies in which the
Company exercises significant influence over operating and financial policies are accounted for by the equity method.All significantintercompanyaccountsandtransactionshavebeeneliminated.
In 1997,the Company agreed to sell its energy assets to MidAmericanEneigy Holding Company,Inc.(MidAmerican)and to separate
the construction operations (Construction Group)from the Company.Therefore,the results of operations of these businesses have
been classified as discontinued operations on the consolidated statements of operations and cash flows (See notes 2 and 3).
Communications and Information Services Revenue
Revenue for communications services,including privateline,colocation,Internet access,managed modem and voice,is recognizedmonthlyastheservicesareprovided.Reciprocal compensation revenue is recognized only when an interconnection agreement is in
place with another carrier,and the relevantregulatory authorities have approved the terms of the agreement.Revenue attributable to
leases of dark fiberpursuant to indefeasible rights-of-use agreements (IRUs)that qualify for sales-type lease accounting,and were
entered into prior to June 30,1999,are recognized at the time of deliveryand acceptance of the fiberby the customer.
EffectiveJuly 1,1999,the Financial Accounting Standards Board (FASB)issued Interpretation No.43,Real Estate Sales,an
interpretation of FASB Statement No.66 (FIN 43).Under FIN 43,certain sale and long-term right-of-use agreements of dark fiber
and capacity entered into after June 30,1999,are required to be accounted for in the same manner as sales of real estate with property
improvements or integral equipment.Dark fiber is considered integral equipment and accordingly,a lease must include a provisionallowingtitletotransfertothelesseeinorderforthatleasetobeaccountedforasasales-type lease.Failure to satisfy the requirementsoftheFASBInterpretationresultinthedeferralofrevenuerecognitionfortheseagreementsoverthetermoftheagreement(currently
up to 20 years).
The adoption of FIN 43 did not have an effect on the Company's cash flows.Dark fiber IRUs generally require the customer to make adownpaymentdueuponexecutionoftheagreementwiththebalancedueupondeliveryandacceptanceofthefiber.These long-term
dark fiber contracts and the issuance of FIN 43 have resulted in a substantial amount of deferred revenue being recorded on the
balance sheet.
The Company is obligated under dark fiber IRUs to maintain its network in efficient workingorder and in accordance with industry
standards.Customers are obligated for the term of the agreement to pay for their allocable share of the costs for operating and
maintaining the network.The Company recognizes this revenue monthly as services are provided.
The cost of revenue associated with the revenue recognized for dark fiberagreements entered into prior to June 30,1999,was
determined based on an allocation of the total estimated costs of the network to the dark fiberprovidedto the customers.The
allocation takes into account the service capacity of the specific dark fiberprovidedto customers relativeto the total expected capacityofthenetwork.Changes to total estimated costs and network capacity are included in the allocation in the period in which they
become known.Cost of revenue associated with the sale of a portionof the trans-Atlantic submarine cable was determined based on
actual costs incurred by Level 3 and its contractors to construct such assets.Cost of revenue also includes leased capacity,right-of-
©2001.EDGAR Online,Inc.
way costs,access charges and other cm -directly attributable to the network.
F-9LEVEL3COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Accounting practice and guidance with respect to the treatment of submarine dark fiber sales and terrestial IRU agreements continuetoevolve.Any changes in the accounting treatment could affect the way the Company accounts for revenue and expenses associatedwiththesetransactionsinthefuture.
Informationservices revenue is primarily derived from the computer outsourcing business and the systems integration business.Level3providesoutsourcingservices,typically through contracts ranging from3-5 years,to firms that desire to focus their resources ontheircorebusinesses.Under these contracts,Level 3 recognizes revenue in the month the service is provided.The systems integrationbusinesshelpscustomersdefine,develop and implement cost-effective informationsystems.Revenue from these services isrecognizedonatimeandmaterialsbasisorpercentageofcompletionbasisdependingontheextentoftheservicesprovided.Cost ofrevenueincludescostsofconsultants'salaries and other direct costs for the informationservices business.
The communications and informationservices industry is highlycompetitive.Many of the Company's existing and potentialcompetitorsinthecommunicationsandinformationservicesindustryhavefinancial,personnel,marketing and other resourcessignificantlygreaterthanthoseoftheCompany,as well as other competitive advantages including existing customer bases.IncreasedconsolidationandstrategicalliancesintheindustryresultingfromtheTelecommunicationsActof1996,the opening of the U.S.market to foreigncarriers,technological advances and furtherderegulation could giverise to significant new competitors to theCompany.
The Company provides telecommunications services to a wide range of customers,ranging from well capitalized national carriers tolocalInternetstart-ups.The Company has in place policies and procedures to review the financial condition of potential and existingcustomers.Based on these policies and procedures,the Company believes its exposure to credit risk within the communicationsbusinessismitigated.Concentration of credit risk with respect to receivables is mitigated due to the dispersion of the Company'scustomerbaseamonggeographicareasandremediesprovidedbytermsofcontractsandstatutes.
Coal Sales Contracts
Historically,Level3's coal is sold primarily under long-term contracts with electric utilities,which burn coal in order to generatesteamtoproduceelectricity.A substantial portionof Level 3's coal revenue was earned fromlong-term contracts during2000,1999,and 1998.The remainder of Level3's sales are made on the spot market where prices are substantially lowerthan those in the long-term contracts.Beginning in 2001,a higher proportionof Level 3's sales will occur on the spot market as long-term contracts begin toexpire.Costs of revenue related to coal sales include costs of mining and processing,estimated reclamation costs,royalties andproductiontaxes.
The coal industry is highlycompetitive.Level 3 competes not only with other domestic and foreigncoal suppliers,some of whom arelargerandhavegreatercapitalresourcesthanLevel3,but also with alternative methods of generating electricity and alternativeenergysources.Many of Level 3's competitors are served by two railroads and,due to the competition,often benefit from lowertransportationcoststhanLevel3whichisservedbyasinglerailroad.Additionally,many competitors have more favorablegeologicalconditionsthanLevel3,often resulting in lowercomparative costs of production.
Level 3 is also required to comply with various federal,state and local laws concerning protection of the environment.Level3believesitscompliancewithenvironmentalprotectionandlandrestorationlawswillnotaffectitscompetitivepositionsinceitscompetitorsaresimilarlyaffectedbytheselaws.
Level 3's coal sales contracts are with several electric utility and industrial companies.In the event that these customers do not fulfillcontractualresponsibilities,Level3 could pursue the available legal remedies.
F-10
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Depreciation and Amortization
Property,plant and equipment are recorded at cost.Depreciation and amortization for the Company's property,plant and equipment
are computed on accelerated and straight-line methods based on the following useful lives:
Mida.mm EDGMpro ©2001.EDGAR Online,Inc.
Facility and Leasehold Improvements..........................20-40 yearsOperatingEquipment:
Network Infrastructure (including fiber)....................7-25 yearsTransmissionequipmentandelectronics......................3-7 yearsNetworkConstructionEquipment...............................5-7 yearsFurniture,Fixtures and Office Equipment.....................3-7 yearsother........................................................2-10 years
Depletionof mineral properties is providedprimarily on a units-of-extraction basis determined in relation to coal committed undersalescontracts.
Investee Stock Activity
The Company recognizes gains and losses from the sale,issuance and repurchase of stock by its equity method investees in thestatementsofoperations.
Earnings Per Share
Basic earnings per share have been computed using the weighted average number of shares during each period.Diluted earnings pershareiscomputedbyincludingthedilutiveeffectofcommonstockthatwouldbeissuedassumingconversionorexerciseofoutstandingconvertibledebt,stock options and other dilutive securities.
Intangible Assets
Intangibleassets primarily include amounts allocated upon acquisitions of businesses,franchises and subscriber lists.These assets areamortizedonastraight-line basis over the expected period of benefit.
For intangibles originatingfrom communications or other informationservices related acquisitions,the Company is amortizing these
assets over a five year period.Intangibles attributable to other acquisitions and investments are amortized over periods which do notexceed40years.
Long Lived Assets
The Company reviews the carrying amount of long lived assets for impairment whenever events or changes in circumstances indicatethatthecarryingamountmaynotberecoverable.Determination of any impairment wouldinclude a comparison of estimated futureoperatingcashflowsanticipatedtobegeneratedduringtheremaininglifeoftheassettothenetcarryingvalueoftheasset.
Reserves for Reclamation
The Company follows the policy of providingan accrual for reclamation of mined properties,based on the estimated total cost ofrestorationofsuchpropertiestomeetcompliancewithlawsgoverningstripmining,by applying per-ton reclamation rates to coalmined.These reclamation rates are determined using the remaining
F-11
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
estimated reclamation costs and tons of coal committed under sales contracts.The Company reviews its reclamation cost estimatesannuallyandrevisesthereclamationratesonaprospectivebasis,as necessary.
Income Taxes
Deferredincome taxes are providedfor the temporary differences between the financial reporting basis and tax basis of the Company's
assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse.In 2000,Level3utilizedaportionofitsaccumulatednetoperatingtaxlossestooffsetprioryeartaxableincome.The remaining net operating lossesnotutilizedcanbecarriedforwardfor20yearstooffsetfuturetaxableincome.A valuationallowance has been recorded against
©2001.EDGAR Online,Inc.
deferred tax assets as the Company is a ole to conclude under relevant accounting stan-.ds that it is more likely than not that netoperatinglosseswillberealizable.
ComprehensiveIncome(Loss)
Comprehensive income (loss)includes net earnings (loss)and other non-owner related changes in equity not included in net earnings(loss),such as unrealized gains and losses on marketable securities classified as available for sale and foreign currency translationadjustmentsrelatedtoforeignsubsidiaries.
Foreign Currencies
Generally,local currencies of foreignsubsidiaries are the functional currencies for financialreporting purposes.Assets and liabilities
are translated into U.S.dollars at year-end exchange rates.Revenue,expenses and cash flows are translated using average exchange
rates prevailingduring the year.Gains or losses resulting from currency translation are recorded as a component of accumulated othercomprehensiveincome(loss)in stockholders'equity and in the statements of comprehensive income.
Stock Dividend
Effective August 10,1998,the Company issued a dividendof one share of Level 3 Common Stock for each share of Level 3 CommonStockthenoutstanding.All share informationand per share data have been restated to reflect the stock dividend.
Use of Estimates
The preparation of financial statements in conformitywith generally accepted accounting principles requires management to makeestimatesandassumptionsthataffectthereportedamountsofassetsandliabilitiesanddisclosureofcontingentassetsandliabilities atthedateofthefinancialstatementsandthereportedamountsofrevenuesandexpensesduringthereportingperiod.Actual resultscoulddifferfromthoseestimates.
Recently Issued Accounting Pronouncements
In June 1998,the FASB issued Statement of Financial Accounting Standards (SFAS)No.133,Accounting for DerivativeInstrumentsandHedgingActivities.SFAS No.133 as amended by SFAS Nos.137 and 138,is effectivefor fiscal years beginning January 1,2001.SFAS No.133 requires that all derivativeinstruments be recorded on the balance sheet at fair value.Changes in the fair value ofderivativesarerecordedeachperiodincurrentearningsorothercomprehensiveincome,depending on whether a derivativeis
designated as part of a hedge transaction,the type of hedge,and the extent of hedge ineffectiveness.The Company currently makesminimaluseofderivativeinstrumentsasdefinedbySFASNo.133.If the Company
F-12
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTESTO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
does not increase the utilizationof these derivatives,the adoption of this standard is not expected to have a significant effect on the
Company's results of operations or its financial position.
In December 1999 the SEC staffreleased Staff Accounting Bulletin No.101,Revenue Recognition in Financial Statements (SAB101).SAB 101 provides interpretive guidance on the recognition,presentation and disclosure of revenue in the financial statements.
The Company adopted SAB 101 as of January 1,2000.The adoption did not have a material effect on the financial results as the
Company's revenue recognition policies were already consistent with SAB 101.
Fiscal Year
In May 1998,the Company's Board of Directors changed Level3's fiscal year end from the last Saturday in December to a calendar
year end.The results of operations for the additional four days in the 1998 fiscal year are reflected in the Company's Form 10-K fortheperiodendedDecember31,1998 and were not material to the overallresults of operations and cash flows.
Reclassifications
Certain prior year amounts have been reclassified to conform to the current year presentation.
(2)Reorganization--Discontinued Construction Operations
©2001.EDGAR Online,Inc.
Prior to March 31,1998,the Company -d a two-class capital structure.The Company's ..ass C Stock reflected the performance oftheconstructionoperations(Construction Group)and the Class D Stock reflected the performance of the other businesses,includingcommunications,informationservices and coal mining.In 1997 the Board of Directors of Level3 approved a proposal for theseparationoftheConstructionGroupfromtheotheroperationsoftheCompanythroughasplit-off of the Construction Group (theSplit-off).In December 1997,the Company's stockholders approved the Split-off and in March 1998,the Company received a rulingfromtheInternalRevenueServicethatstatedtheSplit-off wouldbe tax-free to U.S.stockholders.The Split-off was effected on March31,1998.As a result of the Split-off,the Company no longer owns any interest in the Construction Group.Accordingly,the separatefinancialstatementsandmanagement's discussion and analysis of financial condition and results of operations of Peter Kiewit Sons',Inc.should be obtained to review the results of operations of the Construction Group for the three months ended March 31,1998.
On March 31,1998,the Company reflected the fair value of the Construction Group as a distribution to the Class C stockholdersbecausethedistributionwasconsiderednon-pro rata as compared to the Company's previous two-class capital stock structure.TheCompanyrecognizedagainof$608 million within discontinued operations,equal to the difference between the carrying value of theConstructionGroupanditsfairvalueinaccordancewithFASBEmergingIssuesTaskForceIssue96-4,Accounting for
Reorganizations Involving a Non-Pro Rata Split-off of Certain Nonmonetary Assets to Owners.There were no taxes related to thisgainduetothetax-free nature of the Split-off
In connection with the Split-off,the Class D Stock became the common stock of Level 3 Communications,Inc.(Common Stock)on a
one for one basis,and shortly thereafter,began trading on the Nasdaq National Market under the symbol LVLT.
Prior to this Split-off,the Company's certificate of incorporation gave stockholders the right to exchange their Class C Stock for ClassDStockunderasetconversionformula.That right was eliminated as a result of the Split-off.To replace that conversion right,ClassCstockholdersreceivedanaggregateof6.5 million shares
F-13
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
of a new Class R Stock in January 1998,which were convertible into Common Stock in accordance with terms ratified bystockholdersinDecember1997.The Company reflected in the equity accounts the exchange of the conversion right and issuance oftheClassRStockatitsfairvalueof$92 million at the date of the Split-off.
On May 1,1998,the Board of Directors of Level 3 Communications,Inc.determined to force conversion of all shares of the
Company's Class R Stock into shares of Common Stock,effectiveMay 15,1998.The Class R Stock was converted into CommonStockinaccordancewiththeformulasetforthinthecertificateofincorporationoftheCompany.Each holder of Class R Stockultimatelyreceived.7778 of a share of Common Stock for each share of Class R Stock held.In total 6.5 million shares of Class RStockwereconvertedinto
5.1 million shares of Common Stock.The value of the Class R Stock at the time of the forced conversion was $164 million.TheCompanyrecognizedtheadditional$72 million of value upon conversion of the Class R Stock to Common Stock in the equity
accounts.
(3)Discontinued Energy Operations
On January 2,1998,the Company completed the sale of its energy assets to MidAmerican.These assets included approximately 20.2millionsharesofMidAmericancommonstock(assuming the exercise of 1 million options held by Level3),Level3's 30%interest inCEElectricandLevel3's investments in international power projects in Indonesia and the Philippines.Level 3 recognized an after-taxgainonthedispositionof$324 million and the after-tax proceeds of approximately $967 million from the transaction were used inparttofundthebusinessplan.Results of operations for the period through January 2,1998 were not considered significant and thegainondispositionwascalculatedusingthecarryingamountoftheenergyassetsasofDecember27,1997.
(4)Earnings Per Share
The Company had a loss from continuing operations for the years ended December 31,2000,1999 and 1998,therefore,the dilutiveimpactoftheapproximately19millionsharesand13millionsharesatDecember31,2000 and 1999,respectively,attributable to theconvertiblesubordinatednotesandtheapproximately24million,21 million and 23 million options and warrants outstanding at
December 31,2000,1999 and 1998 respectively,have not been included in the computation of diluted earnings (loss)per share
because their inclusion would have been anti-dilutiveto the computation.
F-14
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
©2001.EDGAR Online,Inc.
NOTES Te -ONSOLIDATED FINANCIAL STATEMr IS--(Continued)
The following details the earnings (loss)per share calculations for the Level 3 Conunon Stock.
Year Ended
2000 1999 1998
Loss from Continuing Operations (in millions)........$(1,455)$(487)$(128)Discontinued Operations:Earnings from discontinued energy operations-----.-----324Gainonsplit-off of construction operations--...------608
Earnings from discontinued operations.....---..---932
Net Earnings (Loss)Excluding Discontinued
Construction Operations.............................$(1,455)$(487)$804
Total Number of Weighted Average Shares OutstandingusedtoComputeBasicandDilutiveEarningsPerShare(in thousands)................................362,539 334,348 301,976Earnings(Loss)per Share (Basic and Diluted):Continuing operations..............................$(4.01)$(1.46)$(.43)
Discontinued energy operations.....................$--$--$1.07
Gain on split-off of discontinued constructionoperations.......................................-$--$--$2.02
Net earnings (loss)excluding discontinued
construction operations...........................$(4.01)$(1.46)$2.66
Net earnings (loss)excluding gain on split-off ofconstructionoperations...........................$(4.01)$(1.46)$.64
(5)Acquisitions
In April 1998,the Company acquired XCOM Technologies,Inc.(XCOM),a privatelyheld company that at the time had developedtechnologywhichprovidedcertainkeycomponentsnecessaryfortheCompanytodevelopaninterfacebetweenitsInternetprotocol-based network and the existing public switched telephone network.The Company issued approximately 5.3 million shares of Level3CommonStockand0.7 million options and warrants to purchase Level 3 Common Stock in exchange for all the stock,options andwarrantsofXCOM.
The Company accounted for this transaction,valued at $154 million,as a purchase.Of the total purchase price,$30 million wasallocatedtoin-process research and development and was taken as a nondeductible charge to earnings in 1998.The purchase priceexceededthefairvalueofthenetassetsacquiredby$115 million which was recognized as goodwill and is being amortized over afive-yearpedod.
For the XCOM acquisition and the Company's other acquisitions,the excess purchase price over the fair market value of theunderlyingassetswasallocatedtogoodwill,other intangible assets and property based upon preliminaryestimates of fair value.Thefinalpurchasepriceallocationfortheseacquisitionsdidnotvarysignificantlyfrompreliminaryestimates.
(6)Disclosures about Fair Value of Financial Instruments
The following methods and assumptions were used to determine classification and fair values of financial instruments:
Cash and Cash Equivalents
©2001.EDGAR Online,Inc.
Cash equivalents generally consist of L as invested in highly liquid instruments purcha .with an original maturity of three monthsorless.The securities are stated at cost,which approximates fair value.
F-15
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Marketable and Restricted Securities
Level 3 has classified all marketable and restricted securities as available-for-sale.Restricted securities include investments in mutualfundsthatarerestrictedtofundcertainreclamationliabilitiesofitscoalminingventures,cash deposits related to constructionrenovationsfortheNewYorkGatewayfacility,and cash to collateralize letters of credit.The cost of the securities used in computingunrealizedandrealizedgainsandlossesisdeterminedbyspecificidentification.Fair values are estimated based on quoted marketpricesforthesecuritiesonhandorforsimilarinvestments.Net unrealized holdinggains and losses are included in accumulated othercomprehensiveincome(loss)within stockholders'equity.
At December 31,2000 and 1999,the cost,unrealized holding gains and losses,and estimated fair values of marketable and restrictedsecuritieswereasfollows:
Unrealized UnrealizedHoldingHolding FairCostGainsLossesValue
(dollars in millions)2000
Marketable Securities:
Commercial Paper.........................$204 $--$--$204U.S.Treasury securities.................2,534 4 --2,538
$2,738 $4 $--$2,742
Restricted Securities:
Cash and cash equivalents................$173 $--$--$173WilmingtonTrust:
Intermediate term bond fund............14 ----14Equityfund............................11 4 --15
$198 $4 $--$202
1999
Marketable Securities:
U.S.Treasury securities.................$2,231 $--$(4)$2,227
$2,231 $--$(4)$2,227
Restricted Securities:
Cash and cash equivalents................$21 $--$--$21WilmingtonTrust:
Intermediate term bond fund............13 ----13Equityfund............................10 7 --17
$44 $7 $--$51
For debt securities,costs do not vary significantlyfrom principalamounts.The Company did not recognize any realized gains and
losses on sales of marketable and equity securities in 2000.Realized gains and losses on sales of marketable and equity securities were$17 million and $16 million in 1999,and $10 million and $1 million in 1998,respectively.
©2001.EDGAR Online,Inc.
F-16
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
At December 31,2000,the contractual maturities of the debt securities are as follows:
Cost Fair Value
(dollars in millions)Commercial Paper:
Less than 1 year.....................................$204 $204
U.S.Treasury Securities:
Less than 1 year.....................................$2,534 $2,538
Maturities for the restricted securities have not been presented as the types of securities included do not have a single maturity date.
Long-Term Debt
The fairvalue of long-term debt was estimated using the December 31,2000 and 1999 average of the bid and ask price for thepubliclytradeddebtinstruments.The fair value of the outstanding amount under the Senior Secured Credit Facility and mortgagesapproximatestheircarryingvaluesatDecember31,2000.
The carrying amount and estimated fair values of Level3's financial instruments are as follows:
2000 1999
Carrying Fair Carrying Fair
Amount Value Amount Value
(dollars in millions)Cash and Cash Equivalents..................$1,269 $1,269 $1,214 $1,214MarketableSecurities......................2,742 2,742 2,227 2,227RestrictedSecurities......................202 202 51 51Investments(Note 9).......................146 569 300 1,973Long-term Debt,including current portion(Note 11).................................7,325 5,766 3,995 4,034
F-17LEVEL3COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
(7)Receivables
Receivables at December 31,2000 and 1999 were as follows:
Information
Communications Services Coal Other Total
(dollars in millions)2000
2001.EDGE Ogine,Inc.
Accounts Receivable.Trade:
Services.....................$142 $25 $19 $1 $187DarkFiber...................161 ------161JointBuildCosts..............252 ------252OtherReceivables..............49 1 ----50AllowanceforDoubtful
Accounts......................(29)(4)----(33)
$575 $22 $19 $1 $617
1999
Accounts Receivable--Trade:
Services.....................$64 $19 $18 $1 $102DarkFiber..................2 ------2JointBuildCosts..............7 ------7OtherReceivables..............46 2 ----48AllowanceforDoubtful
Accounts......................(6)(3)----(9)
$113 $18 $18 $1 $150
Joint build receivables primarily relate to costs incurred by the Company for construction of network assets in which Level3 ispartneringwithothercompanies.Generally,under these types of agreements,the sponsoring partner will incur 100%of theconstructioncostsandbilltheotherpartyascertainconstructionmilestonesareaccomplished.Joint build receivables include $90millionattributabletoFLAGTelecomLimitedforitsshareofthecostsoftheNorthernAsiasubmarinecablesystem.
The Company recognized bad debt expense in selling,general and administrative expenses of $32 million,$11 million and $2 millionin2000,1999 and 1998 respectively.
(8)Property,Plant and Equipment
Construction in Progress
The Company is currently constructing its communications network.Costs associated directly with the uncompleted network,includingemployee related costs,are capitalized.Interest expense incurred during construction is capitalized based on the weightedaverageaccumulatedconstructionexpendituresandtheinterestratesrelatedtoborrowingsassociatedwiththeconstruction(Note 11).Certain intercity segments,Gateway facilities,local networks and operating equipment have been placed in service.These assets arebeingdepreciatedovertheirusefullives,primarily ranging from 3-25 years.
F-18
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The Company develops business support systems required for its business plan.The external direct costs of software,materials andservices,payroll and payroll related expenses for employees directly associated with the project,and interest costs incurred whendevelopingthebusinesssupportsystemsarecapitalized.Upon completion of the projects,the total cost of the business supportsystemsareamortizedovertheirestimatedusefullivesofthreeyears.
Capitalized business support systems and network construction costs that have not been placed in service have been classified asconstruction-in-progress within Property,Plant &Equipment below.
Accumulated Book
Cost Depreciation Value
(dollars in millions)2000
&EDGARoso ©2001.EDGAR Online,Inc.
Land and Mineral Prop -ties---...-..--·............$167 $(11)$156FacilityandLeaseholdImprovementscommunications..................................1,246 (33)1,213InformationServices.............................25 (4)21CoalMining.....................................68 (64)4CPTC.............................................92 (12)80NetworkInfrastructure.............................3,420 (62)3,358OperatingEquipment
Communications...................................1,213 (361)852InformationServices.............................54 (36)18CoalMining......................................93 (85)8CPTC.............................................17 (9)8NetworkConstructionEquipment.....................143 (27)116Furniture,Fixtures and Office Equipment...........429 (162)267Other.............................................183 (68)115Construction-in-Progress..........................3,167 --3,167
$10,317 $(934)$9,383
1999
Land and Mineral Properties........................$60 $(15)$45FacilityandLeaseholdImprovements
Communications...................................400 (14)386InformationServices............................26 (3)23CoalMining......................................73 (64)9CPTC.............................................92 (9)83NetworkInfrastructure.............................211 (4)207OperatingEquipment
Communications...................................475 (79)396InformationServices.............................54 (37)17CoalMining......................................115 (103)12CPTC.............................................17 (7)10NetworkConstructionEquipment.....................98 (10)88Furniture,Fixtures and Office Equipment...........150 (66)84Other..............................................155 (28)127Construction-in-Progress...........................2,800 --2,800
$4,726 $(439)$4,287
F-19
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Depreciation expense was $534 million in 2000,$192 million in 1999,and $48 million in 1998.Depreciation expense attributable tothenetworkconstructionequipmentiscapitalizedandincludedinConstruction-in-Progress until such time the constructed asset isplacedinservice.
(9)Investments
The Company holds significant equity positions in two publicly traded companies:RCN Corporation (RCN)and CommonwealthTelephoneEnterprises,Inc.(Commonwealth Telephone).RCN is a facilities-based providerof bundled local and long distance phone,cable television and Internet services to residential markets primarily on the East and West coasts as well as Chicago.CommonwealthTelephoneholdsCommonwealthTelephoneCompany,an incumbent local exchange carrier operating in various rural Pennsylvaniamarkets,and CTSI,Inc.,a competitive local exchange carrier which commenced operations in 1997.
On December 31,2000,Level3 owned approximately 31%and 46%of the outstanding shares of RCN and CommonwealthTelephone,respectively,and accounts for each entity using the equity method.The market value of the Company's investment in RCNandCommonwealthTelephonewas$168 million and $372 million,respectively,on December 31,2000.Due to the changes in RCN's
©2001.EDGAR Online,Inc.
and Commonwealth Telephone's stock price,the market value of the Company's investne .a in RCN and Commonwealth were $285
million and $386 million,respectively,as of January 24,2001.
Level 3's proportionate share of RCN's fourthquarter losses exceeded the remaining carrying value of Level 3's investment in RCN.Level 3 does not have additional financialcommitments to RCN;therefore it recognizes equity losses only to the extent of its
investment in RCN.If RCN becomes profitable,Level 3 will not record its equity in RCN's profits until unrecorded equity losses have
been offset.Level 3 recorded equity losses attributable to RCN of $260 million for the twelve months ended December 31,2000.The
Company's investment in RCN,including goodwill,was zero and $166 million at December 31,2000 and December 31,1999,
respectively.The Company has not recognized approximately $20 million of additional suspended equity losses attributable to RCN,
which exceeded the Company's carrying value of RCN.
The Company recognizes gains from the sale,issuance and repurchase of stock by its equity method investees in its statements of
operations.During2000,RCN issued stock for the acquisition of 21st Century Telecom Group,Inc.,completed in April,2000,and for
certain transactions which diluted the Company's ownership of RCN from 35%at December 31,1999 to 31%at December 31,2000.
The increase in the Company's proportionate share of RCN's net assets as a result of these transactions resulted in a pre-tax gain of $95
million for the Company for the year ended December 31,2000.The Company recognized similar pre-tax gains of $117 million and
$62 million in 1999 and 1998,respectively.The Company does not expect to recognize future gains on RCN stock activity until
suspended equity losses are recognized by the Company.
In October 1999,RCN announced that Vulcan Ventures,Inc.had agreed to invest $1.65 billion in RCN.The investment,which closed
in February 2000,is in the form of mandatorily convertible preferred stock convertibleinto 26.6 million shares of RCN common
stock.The preferred shares must be converted to common shares within a three to seven year period at $62 per share.
F-20
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
The following is summarized financialinformationof RCN for the year ended December 31,2000 (unaudited)and the years ended
December 31,1999 and 1998,and as of December 31,2000 (unaudited)and December 31,1999.
Year Ended December 31,
2000 1999 1998
Operations :
RCN Corporation:
Revenue...........................................$333 $276 $211
Net loss available to common shareholders.........(891)(369)(205)
Level 3's Share:
Net loss..........................................(260)(134)(91)
Goodwill amortization.............................(1)(1)(1)
$(261)$(135)$(92)
December 31,
2000 1999
Financial Position:
Current Assets..................................................$2,005 $1,905
Other Assets....................................................2,774 1,287
Total assets..................................................4,779 3,192
EDGARpro ©2001.EDGAR Online,Inc.
Current Liabilities...............-.-....-··---......----......533 249OtherLiabilities.......-..------···-······.....................2,283 2,168MinorityInterest.......-----------·--···......................75 130PreferredStock.................................................1,991 253
Total liabilities and preferred stock.........................
Level 3's Investment:Equity in net assets........................................$--$139Goodwill..........................................-......-....--27
$--$166
On December 6,2000,Commonwealth Telephone announced that it was going to record a charge to earnings for the restructuring ofitsCTCIsubsidiaryinthefourthquarter.Commonwealth Telephone indicated that the charge would range from $46-$72 million on
an after-tax basis.Level 3 recorded $27 million of equity losses,its proportionate share of the midpoint,or $59 million,of the
estimated restructuring charge.
During2000 and 1999,Commonwealth Telephone issued stock for certain transactions which slightly diluted the Company's
ownership of Commonwealth Telephone.The increase in the Company's proportionate share of Commonwealth Telephone's net assets
as a result of these transactions resulted in pre-tax gains of $5 million and $1 million for the Company in 2000 and 1999,respectively.The Company's investment in Commonwealth Telephone,including goodwill,was $105 million and $126 million at December 31,2000 and 1999,respectively.
In September 1998,Commonwealth Telephone conducted a rights offering of 3.7 million shares of its common stock.Underthe termsoftheoffering,each stockholder received one right for every five shares of
F-21
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Commonwealth Telephone Common Stock or Commonwealth Telephone Class B Common Stock held.The rights enabled the holder
to purchase Commonwealth Telephone Common Stock at a subscription price of $21.25 per share.Level 3,which owned
approximately 48%of Commonwealth Telephone prior to the rights offering,exercised the 1.8 million rights it received with respecttothesharesitheldfor$38 million.As a result of subscriptions made by other stockholders,Level 3 maintained its 48%ownership
interest in Commonwealth Telephone after the rights offering.
In June 1998,Cable Michigan announced that its Board of Directors had reached a definitiveagreement to sell the company to Avalon
Cable of Michigan,Inc.for $40.50 per share in a cash-for-stock transaction.Level3 received approximately $129 million when the
transaction closed in November1998 and recognized a pre-tax gain on sale of assets of approximately $90 million.
The Company continues to develop its program that involvesmaking investments in certain public and privateearly stage InternetProtocol(IP)centric entities in connection with those entities agreeing to purchase various services from the Company.The Company
records these transactions as cost method investments and deferred revenue.The value of the investment and deferred revenue is equal
to the estimated fair value of the securities at the time of the transaction or the value of the services to be provided,which ever is morereadilydeterminable.Level 3 closely monitors the success of these investees in executing their business plans.For those companies
that are publicly traded,Level3 also monitors current and historical market values of the investee as it compares to the carrying valueoftheinvestment.The Company recorded a charge of $37 million in 2000 for an other-than temporary decline in the value of one such
investment.Additionalimpairments,if any,will be recognized as they become apparent.If any of the privatelyheld investments
become publicly-traded and meet the criteria for available-for-sale securities pursuant to SFASNo.115,Accounting for Certain
Investments in Debt and Equity Securities,they will be accounted for accordingly.Otherwise,future appreciation will be recognized
only upon sale or other disposition of the securities.As of December 31,2000,the Company held investments with a carrying amount
of $37 million and had recognized less than $1 million of revenue for services related to the investees in this program.
(10)Other Assets
©2001.EDG
At December 31,2000 and 1999 other non-current assets consisted of the following:
2000 1999
(in
millions)Debt Issuance Costs,net..........................................$161 $101Goodwill,net of accumulated amortization of $102 and $52.........68 118Deposits..........................................................53 64PrepaidNetworkAssets............................................35 30
CPTC Deferred Development and Financing Costs.....................14 15Other............................................................14 30PavilionTowersOfficeComplex...............-....------.....-----23
$345 $381
Goodwill amortization expense,excluding amortization expense attributable to equity method investees,was $50 million in 2000,$36millionin1999,and $18 million in 1998.
F-22
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(11)Long-TermDebt
At December 31,2000 and 1999,long-term debt was as follows:
2000 1999
(dollars in millions)
Senior Notes (9.125%due 2008).......................$2,000 $2,000SeniorNotes(11%due 2008)..........................800 --
Senior Discount Notes (10.5%due 2008)...............619 559
Senior Euro Notes (10.75%due 2008)..................465 --
Senior Discount Notes (12.875%due 2010).............399 --
Senior Euro Notes (11.25%due 2010)..................279 --
Senior Notes (11.25%due 2010).......................250 --
Senior Secured Credit Facility:
Term Loan Facility
Tranche A (9.52%due 2007).........................200 200TrancheB(10.27%due 2008)........................275 275
Commercial Mortgage:
GMAC (9.20%due 2003)..............................120 --
Lehman (10.11%due 2003)...........................113 --
Convertible Subordinated Notes (6.0%due 2010).......863 --
Convertible Subordinated Notes (6.0%due 2009).......823 823
CPTC Long-Term Debt (with recourse only to CPTC)
(7.6%-9.5%due 2004-2017)..........................115 115
Other................................................4 23
7,325 3,995
Less current portion.................................(7)(6)
$7,318 $3,989
1 EDGAR Online,Inc.
9.125%Senior Notes
In April 1998,the Company received $1.94 billion of net proceeds from an offeringof $2 billion aggregate principal amount 9.125%
Senior Notes Due 2008 (9.125%Senior Notes).Interest on the notes accrues at 9.125%per year and is payable on May 1 andNovember1eachyearincash.
The 9.125%Senior Notes are subject to redemption at the option of the Company,in whole or in part,at any time or from time to time
on or after May 1,2003,plus accrued and unpaid interest thereon to the redemption date,if redeemed during the twelvemonths
beginning May 1,of the years indicated below:
Redempt ion
Year Price
2003............................................................104.563%
2004............................................................103.042%
2005..........................................................101.521%
2006 and thereafter.............................................100.000%
In addition,at any time or from time to time prior to May 1,2001,the Company may redeem up to 35%of the original aggregate
principal amount of the
9.125%Senior Notes at a redemption price equal to 109.125%of the principalamount of the 9.125%Senior Notes so redeemed,plus
accrued and unpaid interest thereon to
F-23
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
the redemption date.The 9.125%Senior Notes are senior,unsecured obligations of the Company,ranking pari passu with all existing
and future senior unsecured indebtedness of the Company.The notes contain certain covenants,which among other things,limit
consolidated debt,dividendpayments,and transactions with affiliates.The Company used the net proceeds of the note offeringin
connection with the implementation of its business plan to increase substantially its information services business and to expand the
range of services it offers by building an advanced,international,facilities-based communications network based on IP technology.
Debt issuance costs of $65 million were capitalized and are being amortized over the term of the Senior Notes.
11%Senior Notes due 2008
On February 29,2000,the Company received $779 million of net proceeds,after transaction costs,from a privateofferingof $800
million aggregate principalamount ofits 11%Senior Notes due 2008 (I1%Senior Notes).Interest on the notes accrues at 11%per
year and is payable semi-annually in arrears in cash on March 15 and September 15,beginning September 15,2000.The 11%Senior
Notes are senior,unsecured obligations of the Company,ranking pari passu with all existing and future senior debt.The 11%Senior
Notes cannot be prepaid,and mature on March 15,2008.The 11%Senior Notes contain certain covenants,which among other things,
limit additional indebtedness,dividendpayments,certain investments and transactions with affiliates.
Debt issuance costs of $21 million were capitalized and are being amortized as interest expense over the term of the 11%Senior
Notes.
10.5%Senior Discount Notes due 2008
In December 1998,the Company sold $834 million aggregate principalamount at maturity of 10.5%Senior Discount Notes Due 2008
(10.5%Senior Discount Notes).The sales proceeds of $500 million,excluding debt issuance costs,were recorded as long term debt.
Interest on the 10.5%Senior Discount Notes accretes at a rate of 10.5%per annum,compounded semiannually,to an aggregate
principal amount of $834 million by December 1,2003.Cash interest will not accrue on the 10.5%Senior Discount Notes prior to
BEL.....EDGARpm ©2001.EDGAR Online,Inc.
December 1,2003;however,the Company may elect to commence the accrual of cash in-est on all outstanding 10.5%Senior
Discount Notes on or after December 1,2001,in which case the outstanding principalamount at maturity of each 10.5%Senior
Discount Note will on the elected commencement date be reduced to the accreted value of the 10.5%Senior Discount Note as of that
date and cash interest shall be payable on that Note on June 1 and December 1 thereafter.Commencing June 1,2004,interest on the
10.5%Senior Discount Notes will accrue at the rate of 10.5%per annum and will be payable in cash semiannually in arrears.Accrued
interest expense for the year ended December 31,2000 on the 10.5%Senior Discount Notes of $60 million was added to long-term
debt.
The 10.5%Senior Discount Notes will be subject to redemption at the option of the Company,in whole or in part,at any time or from
time to time on or after December 1,2003 at the following redemption prices (expressed as percentages of accreted value)plus
accrued and unpaid interest thereon to the redemption date,if redeemed during the twelve months beginning December 1,of the years
indicated below:
Redemption
Year Price
2003............................................................105.25%
2004...........................................................103.50%
2005............................................................101.75%
2006 and thereafter.............................................100.00%
F-24
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In addition,at any time or from time to time prior to December 1,2001,the Company may redeem up to 35%of the original aggregate
principalamount at maturity of the notes at a redemption price equal to 110.50%of the accreted value of the notes so redeemed,plus
accrued and unpaid interest thereon to the redemption date.These notes are senior unsecured obligations of the Company,ranking pari
passu with all existing and future senior unsecured indebtedness of the Company.The 10.5%Senior Discount Notes contain certain
covenants which,among other things,restrict the Company's ability to incur additional debt,make certain restricted payments,pay
dividends,enter into sale and leaseback transactions,enter into transactions with affiliates,and sell assets or merge with another
company.
The net proceeds of $486 million were used to accelerate the implementation of its business plan,primarily the funding for the
increase in committed number of route miles of the Company's U.S.intercity network.
Debt issuance costs of $14 million have been capitalized and are being amortized over the term of the 10.5%Senior Discount Notes.
10.75%Senior Euro Notes due 2008
On February 29,2000,the Company received (Euro)488 million ($478 million when issued)of net proceeds,after debt issuance costs,from an offering of (Euro)500 million aggregate principal amount 10.75%Senior Euro Notes due 2008 (10.75%Senior Euro Notes).
Interest on the notes accrues at 10.75%per year and is payable in Euros semi-annually in arrears on March 15 and September 15 each
year beginning on September 15,2000.The 10.75%Senior Euro Notes are not redeemable by the Company prior to maturity.Debt
issuance costs of (Euro)l2 million ($12 million)were capitalized and are being amortized over the term of the 10.75%Senior Euro
Notes.
The 10.75%Senior Euro Notes are senior,unsecured obligations of the Company,ranking pari passu with all existing and future
senior debt.The 10.75%Senior Euro Notes contain certain covenants,which among other things,limit additional indebtedness,
dividendpayments,certain investments and transactions with affiliates.
The issuance of the (Euro)500 million 10.75%Senior Euro Notes has been designated as,and is effectiveas,an economic hedge
against the investment in certain of the Company's foreignsubsidiaries.Therefore,foreigncurrency gains and losses resulting from the
translation of the debt have been recorded in other comprehensive income (loss)to the extent of translation gains or losses on such
investment.The 10.75%Senior Euro Notes were valued,based on current exchange rates,at $465 million in the Company's financial
statements at December 31,2000.The difference between the carrying valueat December 31,2000 and the value at issuance was
recorded in other comprehensive income.
©2001.EDGAR Online,Inc.
12.875%Senior Discount Notes due 2010
On February 29,2000,the Company sold in a privateoffering $675 million aggregate principal amount at maturity of its 12.875%Senior Discount Notes due 2010 (12.875%Senior Discount Notes).The sale proceeds of $360 million,excluding debt issuance costs,
were recorded as long-term debt.Interest on the 12.875%Senior Discount Notes accretes at a rate of 12.875%per year,compoundedsemi-annually,to an aggregate principalamount of $675 million by March 15,2005.Cash interest will not accrue on the 12.875%
Senior Discount Notes prior to March 15,2005.However,the Company may elect to commence the accrual of cash interest on alloutstanding12.875%Senior Discount Notes on or after March 15,2003,In that case,the outstanding principal amount at maturity of
each 12.875%Senior Discount Note will,on the elected commencement date,be reduced to the accreted value of the 12.875%SeniorDiscountNoteasofthatdateand
F-25
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
cash interest shall be payable on the 12.875%Senior Discount Notes on March 15 and September 15 thereafter.Commencing
September 15,2005,interest on the 12.875%Senior Discount Notes will accrue at the rate of 12.875%per year and will be payable in
cash semi-annually in arrears.Accrued interest expense fromthe date of issuance through December 31,2000 on the 12.875%SeniorDiscountNotesof$39 million was added to long-termdebt.
The 12.875%Senior Discount Notes are subject to redemption at the option of the Company,in whole or in part,at any time or from
time to time on or after March 15,2005.The Company may redeem the 12.875%Senior Discount Notes at the redemption prices setforthbelow,plus accrued and unpaid interest,if any,to the redemption date.The following prices are for 12.875%Senior Discount
Notes redeemed during the 12-month period commencing on March 15 of the years set forthbelow:
Redemption
Year Price
2005............................................................106.438%
2006............................................................104.292%2007............................................................102.146%2008 and thereafter.............................................100.000%
In addition,at any time and from time to time,prior to March 15,2003,the Company may redeem up to a maximum of 35%of the
aggregate principalamount at maturity of the 12.875%Senior Discount Notes with the proceeds of one or more private placements topersonsotherthanaffiliatesoftheCompanyorunderwrittenpublicofferingsofcommonstockoftheCompanyresultingingross
proceeds of at least $100 million in the aggregate.The Company may redeem the 12.875%Senior Discount Notes at a redemption
price equal to 112.875%of the accreted value of the notes plus accrued interest,if any,to the redemption date.
The 12.875%Senior Discount Notes are senior,unsecured obligations of the Company,ranking pari passu with all existing and future
senior debt.The 12.875%Senior Discount Notes contain certain covenants,which among other things,limit additional indebtedness,dividendpayments,certain investments and transactions with affiliates.Debt issuance costs of $9 million were capitalized and are
being amortized as interest expense over the term of the 12.875%Senior Discount Notes.
11.25%Senior Euro Notes due 2010
On February 29,2000,the Company received (Euro)293 million ($285 million when issued)of net proceeds,after debt issuance costs,froman offeringof (Euro)300 million aggregate principalamount 11.25%Senior Euro Notes due 2010 (11.25%Senior Euro Notes).
Interest on the notes accrues at 11.25%per year and is payable semi-annually in arrears in Euros on March 15 and September 15 each
year beginning September 15,2000.
The 11.25%Senior Euro Notes are subject to redemption at the option of the Company,in whole or in part,at any time or fromtime
to time on or after March 15,2005.The 11.25%Senior Euro Notes may be redeemed at the redemption prices set forth below,plus
accrued and unpaid interest,if any,to the redemption date.The following prices are for 11.25%Senior Euro Notes redeemed during
the 12-month period commencing on March 15 of the years set forthbelow,and are expressed as percentages of principalamount.
©2001.EDGAR Online,Inc.
Redemption
Year Price
2005.....................................-......................105.625%
2006............................................................103.750%2007...........................................................101.875%
2008 and thereafter.............................................100.000%
F-26
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In addition,at any time and from time to time,prior to March 15,2003,the Company may redeem up to a maximum of 35%of theoriginalaggregateprincipalamountofthel1.25%Senior Euro Notes.The Notes may be redeemed at a redemption price equal to
111.25%of the principalamount thereof,plus accrued and unpaid interest thereon,if any,to the redemption date.The redemption
must be made with the proceeds of one or more privateplacements to persons other than affiliates of the Company or underwritten
public offerings of common stock of the Company resulting in gross proceeds of at least $100 million in the aggregate.
Debt issuance costs of (Euro)7 million ($7 million)were capitalized and are being amortized over the term of the 11.25%Senior Euro
Notes.The 11.25%Senior Euro Notes are senior,unsecured obligations of the Company,ranking pari passu with all existing and
future senior debt.The 11.25%Senior Euro Notes contain certain covenants,which among other things,limit additional indebtedness,dividendpayments,certain investments and transactions with affiliates.
The issuance of the (Euro)300 million 11.25%Senior Euro Notes has been designated as,and is effectiveas,an economic hedge
against the investment in certain of the Company's foreignsubsidiaries.Therefore,foreign currency gains and losses resulting from the
translation of the debt have been recorded in other comprehensive income (loss)to the extent of translation gains or losses on such net
investment.The 11.25%Senior Euro Notes were valued,based on current exchange rates,at $279 million in the Company's financial
statements at December 31,2000.The difference between the carrying value at December 31,2000 and the value at issuance was
recorded in other comprehensive income.
11.25%Senior Notes due 2010
On February 29,2000,the Company received $243 million of net proceeds,after transaction costs,froma privateoffering of $250millionaggregateprincipalamountofits11.25%Senior Notes due 2010 (11.25%Senior Notes).Interest on the notes accrues at
11.25%per year and is payable semi-annually in arrears on March 15 and September 15 in cash beginning September 15,2000.
The 11.25%Senior Notes are subject to redemption at the option of the Company,in whole or in part,at any time or from time to time
on or after March 15,2005.The Company may redeem the 11.25%Senior Notes at the redemption prices set forth below,plus
accrued and unpaid interest,if any,to the redemption date.The following prices are for 11.25%Senior Notes redeemed during the 12-
month period commencing on March 15 of the years set forth below:
Redemption
Year Price
2005............................................................105.625%
2006............................................................103.750%
2007............................................................101.875%
2008 and thereafter.............................................100.000%
In addition,at any time and fromtime to time,prior to March 15,2003,the Company may redeem up to a maximum of 35%of the
original aggregate principalamount of the 11.25%Senior Notes.The redemption must be made with the proceeds of one or moreprivateplacementstopersonsotherthanaffiliatesoftheCompanyorunderwrittenpublicofferingsofcommonstockoftheCompany
resulting in gross proceeds of at least $100 million in the aggregate.The Company may redeem the 11.25%Senior Notes at a
EDGARpro ©2001.EDGAR Online,Inc.
redemption price equal to 111.25%of the principal amount of the notes plus accrued inte-t,if any,to the redemption date.
The l 1.25%Senior Notes are senior,unsecured obligations of the Company,ranking pari passu with all existing and future senior
debt.The l1.25%Senior Notes contain certain covenants,which among other things,limit additional indebtedness,dividend
payments,certain investments and transactions with affiliates.
F-27
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Debt issuance costs of $7 million were capitalized and are being amortized as interest expense over the term of the 11.25%Senior
Notes.
Senior Secured Credit Facility
On September 30,1999,Level3 and certain Level 3 subsidiaries entered into a $1.375 billion secured credit facility (Senior Secured
Credit Facility).The facility is comprised of a senior secured revolvingcredit facility in the amount of $650 million and a two-tranche
senior secured term loan facility aggregating $725 million.The secured term loan facility consists of a $450 million tranche A and a
$275 million tranche B term loan facility,respectively.At December 31,2000,Level 3 had borrowed $200 million and $275 million
under the tranche A and tranche B secured term loan facility,respectively.On January 8,2001,Level 3 borrowed the remaining $250
million available under tranche A.
The obligations under the revolvingcredit facility are secured by substantially all the assets of Level3 and,subject to certain
exceptions,its wholly owned domestic subsidiaries (other than the borrower under the term loan facility).Such assets will also secure
a portionof the term loan facility.Additionally,all obligations under the term loan facility will be secured by the equipment that is
purchased with the proceeds of the term loan facility.
Amounts drawn under the secured credit facility will bear interest,at the option of the Company,at an alternate base rate or reserve-
adjusted LIBOR plus applicable margins.The applicable margins for the revolving credit facility and tranche A term loan facility
range from 50 to 175 basis points over the alternate base rate and from 150 to 275 basis points over LIBOR and are fixed for the
tranche B term loan facility at 250 basis points over the alternate base rate and 350 basis points over LIBOR.Interest and commitment
fees on the revolvingcredit facility and the term loan facilities are payable quarterly with specific rates determined by actual
borrowings under each facility.
The revolvingcredit facility provides for automatic and permanent quarterly reductions of the amount available for borrowingunder
that facility,commencing at $17.25 million on March 31,2004,and increasing to approximately $61 million per quarter.The tranche
A term loan facility amortizes in consecutive quarterly payments beginning on March 31,2004,commencing at $9 million per quarter
and increasing to $58.5 million per quarter.The revolvingcredit facility and tranche A term loan facility mature on September 30,
2007.The tranche B term loan facility amortizes in consecutive quarterly payments beginning on March 31,2004,commencing at less
than $1 million and increasing to $67 million in 2007.
The Senior Secured Credit Facility contains certain covenants,which among other things,limit additional indebtedness,dividend
payments,certain investments and transactions with affiliates.Level 3 and certain Level3 subsidiaries must also comply with specific
financial and operational tests and maintain certain financial ratios.Debt issuance costs of $24 million were capitalized and will be
amortized as interest expense over the terms of Senior Secured Credit Facility.
GMAC CommercialMortgage due 2003
On June 9,2000,HQ Realty,Inc.(a wholly owned subsidiary of the Company)entered into a $120 million floating-rate loan (GMAC
Mortgage)providing secured,non-recourse debt to finance the Company's world headquarters.HQ Realty,Inc.is a single purpose
entity organized solely to own,hold,operate and manage the world headquarters which has been 100%leased to Level3
Communications,LLC in Broomfield,Colorado.Under the terms of the loan agreement,HQ Realty,Inc.,will not engage in any
business other than the ownership,management,maintenance and operation of the world headquarters.The assets of HQ
F-28
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Realty Inc.are not available to satisfy any third party obligations other than those of HQ Realty,Inc.In addition,the assets of the
Company are not available to satisfy the obligations of HQ Realty,Inc.HQ Realty,Inc.received $119 million of net proceeds after
©2001.EDGAR Online,Inc.
transaction costs.The lender is holdinb .23 million of the net proceeds as a reserve depo-.
The initial term of the GMAC Mortgage is 36 months with two one-year no cost extension options.Interest varies monthly with the 30dayLondonInterbankOfferingRate(LIBOR)for U.S.Dollar Deposits as follows:
The Index plus:
(1)240 basis points during the Initial Term;
(2)250 basis points during the First Extension Option;and
(3)260 basis points during the Second Extension Option.
At December 31,2000 the interest rate was 9.20%.
The GMAC Mortgage may not be prepaid during the first twenty four months.Thereafter,the GMAC Mortgage may be prepaid at parinwholeorinpartinmultiplesof$100,000.The entire principalis due at maturity or at the end of the elected extension period.Interest only is due during the initial three-year term.Interest and amortization are due during the extension terms based on a 30 yearamortizationperiodwithaballoonpaymentatmaturity.
Debt issuance costs of $1 million were capitalized and are being amortized as interest expense over the term of the GMAC Mortgage.
Lehman Commercial Mortgage due 2003
On December 19,2000,85 Tenth Avenue,LLC (a wholly owned subsidiary of the Company)entered into a $113 million floating-rateloan(Lehman Mortgage)providingsecured,non-recourse debt to finance the purchase and renovations of the New York Gatewayfacility.85 Tenth Avenue,LLC is a single purpose entity organized solely to own,hold,sell,lease,transfer,exchange,operate andmanagetheNewYorkGatewayfacility.Under the terms of the loan agreement,85 Tenth Avenue,LLC will not engage in anybusinessotherthantheownership,management,maintenance and operation of the New York Gateway facility.The New YorkGatewayfacilityhasbeen100%leased to Level3 Communications,LLC.The assets of 85 Tenth Avenue,LLC are not available tosatisfyanythirdpartyobligationsotherthanthoseof85TenthAvenue,LLC.In addition,the assets of the Company are not availabletosatisfytheobligationsof85TenthAvenue,LLC.
85 Tenth Avenue,LLC received $105 million of net proceeds after transaction costs.Under the terms of the loan agreement,the grossloanproceedsplus$32 million,deposited by 85 Tenth Avenue,LLC,are to be maintained in a Renovation Reserve account.Thereserveisheldby85TenthAvenue,LLC as restricted cash and is maintained solely to performthe renovations of the New YorkGatewayfacility.
The initial term of the Lehman Mortgage is 36 months with two one-year no cost extension options.There is a penalty if a principalpaymentismadepriortoJanuary1,2002.The entire principal is due at maturity or at the end of the elected extension period.Interestvariesmonthlywiththe30dayLIBORforU.S.Dollar Deposits plus approximately 350 basis points.Interest and amortization are dueduringtheinitialtermbasedona20yearamortizationperiod.At December 31,2000 the interest rate was 10.11%.
Debt issue costs of $8 million were capitalized and are being amortized as interest expense over the term of the Lehman Mortgage.
F-29
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
6%ConvertibleSubordinated Notes due 2010
On February 29,2000,the Company received $836 million of net proceeds,after transaction costs,from a public offering of $863millionaggregateprincipalamountofits6%ConvertibleSubordinated Notes due 2010 Subordinated Notes 2010).The SubordinatedNotes2010areunsecuredandsubordinatedtoallexistingandfutureseniorindebtednessoftheCompany.Interest on theSubordinatedNotes2010accruesat6%per year and is payable semi-annually in cash on March 15 and September 15 beginningSeptember15,2000.The principal amount of the Subordinated Notes 2010 will be due on March 15,2010.
The Subordinated Notes 2010 may be converted into shares of common stock of the Company at any time prior to the close ofbusinessonthebusinessdayimmediatelyprecedingmaturity,unless previouslyredeemed,repurchased or the Company has causedtheconversionrightstoexpire.The conversion rate is
7.416 shares per each $1,000 principalamount of Subordinated Notes 2010,subject to adjustment in certain events.
Prior to March 18,2003,Level3,at its option,may redeem the Subordinated Notes 2010,in whole or in part,at the redemption prices
©2001.EDGAR Online,Inc.
specified belowplus accrued interest.el 3 may exercise this option if the current ma.A price of Level3's common stock equals orexceedstriggeringlevelsspecifiedbelowforatleast20tradingdayswithinanyperiodof30consecutivetradingdays,including thelasttradingdayoftheperiod.
Trigger RedemptionPeriodPercentagePrice
February 29,2000 through March 14,2001..............170%($229.23)106.0%March 15,2001 through March 14,2002.................160%($215.74)105.4%March 15,2002 through March 17,2003.................150%($202.26)104.8%
On or after March 18,2003,Level3,at its option,may cause the conversion rights to expire.Level 3 may exercise this option only ifthecurrentmarketpriceexceedsapproximately$188.78 (which represents 140%of the conversion price)for at least 20 trading dayswithinanyperiodof30consecutivetradingdays,including the last trading day of that period.At December 31,2000,no debt hadbeenconvertedintosharesofcommonstock.
Debt issue costs of $27 million were capitalized and are being amortized as interest expense over the term of the Subordinated Notes.
6%ConvertibleSubordinated Notes due 2009
On September 14,1999,the Company received $798 million of proceeds,after transaction costs,froman offeringof $823 millionaggregateprincipalamountofits6%ConvertibleSubordinated Notes Due 2009 (Subordinated Notes 2009).The Subordinated Notes2009areunsecuredandsubordinatedtoallexistingandfutureseniorindebtednessoftheCompany.Interest on the SubordinatedNotes2009accruesat6%per year and is payable each year in cash on March 15 and September 15.The principalamount of theSubordinatedNotes2009willbedueonSeptember15,2009.The Subordinated Notes 2009 may be converted into shares of commonstockoftheCompanyatanytimepriortomaturity,unless the Company has caused the conversion rights to expire.The conversionrateis15.3401 shares per each $1,000 principal amount of Subordinated Notes 2009,subject to adjustment in certain circumstances.On or after September 15,2002,Level3,at its option,may cause the conversion rights to expire.Level3 may exercise this optiononlyifthecurrentmarketpriceexceedsapproximately$91.27 (whichrepresents 140%of the conversion price)for 20 trading dayswithinanyperiodof30consecutivetradingdaysincludingthelastdayofthatperiod.At December 31,2000,less than $1 million ofdebthadbeenconvertedintosharesofcommonstock.
F-30
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Debt issuance costs of $25 million were capitalized and are being amortized as interest expense over the term of the SubordinatedNotes2009.
The debt instruments above contain certain covenants which the Company believes it is in compliance with as of December 31,2000.
Level3 currently is using the proceeds from the senior securities,Senior Secured Credit Facility and subordinated notes for workingcapital,capital expenditures and other general corporate purposes in connection with the implementation of its business plan,including the acquisition of telecommunications assets.
The Company capitalized $353 million and $116 million of interest expense and amortized debt issuance costs related to networkconstructionandbusinesssystemsdevelopmentprojectsfortheyearsendedDecember31,2000 and 1999,respectively.
CPTC
CaliforniaPrivate Transportation Company,LP's (CPTC)long-term debt consists of a term note with a consortium of banks.Theliabilityunderthetermnotewas$58 and $61 million at December 31,2000 and 1999,respectively.The interest rate on the bank noteisbasedonLIBORplusavaryingratewithprincipalandinterestpayablequarterly.CPTC entered into an interest rate swapagreementwiththesameparties.The swap agreement expires in January 2004 and fixes the interest rate on the bank note from9.21%to 9.71%during the term of the swap agreement.The impact to Level 3's consolidated results and financial condition as a result ofadoptionofSFASNo.133 in 2001 is considered to be minimal.CPTC's long-term debt also consists of a term loan held byConnecticutGeneralLifeInsuranceCompany,a subsidiary of CIGNA Corporationand LincolnNational Life Insurance Company.
©2001.EDGAR Online,Inc.
The liability under the term loan was a million at December 31,2000 and 1999.Adds _aally,CPTC had $10 million and $9 millionofsubordinateddebtheldbyOrangeCountyTransportationAuthorityatDecember31,2000 and 1999,respectively.The debt is dueinvaryingamountsthrough2004andaccruesinterestat9%.Lastly,CPTC had borrowed $12 million as of December 31,2000 and$10 million as of December 31,1999 from its partners.The debt is generally subordinated to all other debt of CPTC.Interest on thesubordinateddebtcompoundsannuallyat9.3-9.5%and is payable only as CPTC generates excess cash flows.
Future Debt Maturities:
Scheduled maturities of long-term debt are as follows (in millions):2001--$7;2002--$10;2003--$237;2004--$59;2005--$115 and$6,897 thereafter.
(12)Employee BenefitPlans
The Company applies the recognition provisions of SFAS No.123,Accounting for Stock Based Compensation (SFAS No.123).Under SFAS No.123,the fair value of an option or other stock-based compensation (as computed in accordance with accepted optionvaluationmodels)on the date of grant is amortized over the vesting periods of the options in accordance with FASB Interpretation No.28 Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award Plans (FIN28).As a result,the recognitionprovisionsareappliedtoallstockawardsgrantedintheyearofadoptionandarenotappliedtoawardsgrantedinpreviousyearsunlessthoseawardsaremodifiedorsettledincash.Althoughthe recognition of the value of the instruments results in compensationorprofessionalexpensesinanentity's financial statements,the expense differs from other compensation and professional expenses inthatthesechargesmaybesettledincash,but rather,generally are settled through issuance of common stock.
F-31LEVEL3COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
The adoption of SFAS No.123 has resulted in material non-cash charges to operations since its adoption in 1998,and will continue todoso.The amount of the non-cash charge will be dependent upon a number of factors,including the number of grants and the fairvalueofeachgrantestimatedatthetimeofitsaward.The Company recognized a total of $241 million,$126 million and $39 millionofnon-cash compensation in 2000,1999 and 1998,respectively.In addition,the Company capitalized $12 million,$10 million and $5millionin2000,1999 and 1998,respectively,of non-cash compensation for those employees directly involvedin the construction ofthenetworkordevelopmentofthebusinesssupportsystems.
Non-qualified Stock Options and Warrants
The Company granted 230,000,55,100,and 7,466,247 non-qualifiedstock options (NQSOs)and warrants to participants during theyearsendedDecember31,2000,1999 and 1998,respectively.The expense recognized for the year ended December 31,2000 forNQSOsandwarrantsinaccordancewithSFASNo.123 was $10 million.In addition to the expense recognized,the Companycapitalizedlessthan$1 million of non-cash compensation costs for employees directly involvedin the construction of the IP networkandthedevelopmentofthebusinesssupportsystems.As of December 31,2000,the Company had not yet recognized $10 million ofunamortizedcompensationcostsforNQSOsandwarrantsgrantedsince1998.
The expense recognized in accordance with SFAS No.123 for NQSOs and warrants outstanding in 1999 and 1998 was $7 million and$11 million,respectively.In addition to the expense recognized,the Company capitalized $1 million and $2 million,respectively ofnon-cash compensation costs related to NQSOs for employees directly involvedin the construction of the IP network and thedevelopmentofthebusinesssupportsystems.
The fair value of NQSOs granted in 2000 was calculated using the Black-Scholes method with a risk free interest rate of 6.2%andexpectedlifeof75%of the total life of the NQSOs and warrants.The Company used an expected volatility rate of 34%.The fair valueoftheNQSOsandwarrantsgrantedin2000,in accordance with SFAS No.123 was $16 million.
Transactions involving stock options granted under the NQSO plan are summarized as follows:
Weighted
Exercise Price AverageSharesPerShareExercisePrice
Balance December 27,1997.............Options granted.....................7,466,247 .12--41.25 8.67Optionscancelled...................(668,849).12--34.69 5.52
©2001.EDGAR Online,Inc.
Options exercised..................(2,506,079)--2--34.69 4.22
Balance December 31,1998.............18 979 319 .12--41.25 6.50Optionsgranted.....................55,100 41.44--84.75 58.61Optionscancelled...................(1,005,328).12--41.25 10.84Optionsexercised...................(3,950,528).12--41.25 5.60
Balance December 31,1999.............14 078,563 .12--84.75 6.64Optionsgranted.....................230,000 21.69 21.69Optionscancelled...................(1,840,529).12--61.75 4.88Optionsexercised...................(2,079,326).12--56.75 8.00
Balance December 31,2000...-.........10 388 708 $.12--$84.75 $7.01
Options exercisable
December 31,1998...................5,456,640 $.12--$41.25 $4.67December31,1999...................6,291,624 .12--$41.25 6.13December31,2000...................5,666,636 .12--$84.75 7.36
F-32
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Options Outstanding Options Exercisable
Weighted
Number Average Weighted Number WeightedRangeofOutstandingRemainingAverageExercisableAverageExerciseasofLifeExerciseasofExercisePrices12/31/00 (years)Price 12/31/00 Price
$0.12--$0.12 101,509 7.12 $.12 65,973 $.121.76--1.79 31,567 7.33 1.76 11,287 1.764.04--5.43 6,828,329 6.69 5.36 4,011,329 5.326.20--8.50 2,877,675 7.05 6.94 1,123,664 6.9517.50--25.03 241,832 4.37 21.85 238,656 21.8126.80--39.13 244,362 2.54 30.70 182,674 30.6640.38--51.88 27,167 2.72 42.01 17,168 41.8956.00--57.47 29,667 3.26 56.74 12,585 56.6761.75--84.75 6,600 3.28 84.75 3,300 84.75
10,388,708 6.62 $7.01 5,666,636 $7.36
Outperform Stock Option Plan
In April 1998,the Company adopted an outperformstock option (OSO)program that was designed so that the Company'sstockholderswouldreceiveamarketreturnontheirinvestmentbeforeOSOholdersreceiveanyreturnontheiroptions.The CompanybelievesthattheOSOprogramalignsdirectlymanagement's and stockholders'interests by basing stock option value on theCompany's ability to outperform the market in general,as measured by the Standard &Poor's (S&P)500 Index.Participants in theOSOprogramdonotrealizeanyvaluefromawardsunlesstheCommonStockpriceoutperformstheS&P 500 Index.When the stockpricegainisgreaterthanthecorrespondinggainontheS&P 500 Index (or less than the corresponding loss on the S&P Index),thevaluereceivedforawardsundertheOSOplanisbasedonaformulainvolvingamultiplierrelatedtothelevelbywhichtheCommonStockoutperformstheS&P 500 Index.To the extent that the Common Stock outperforms the S&P 500,the value of OSOs to a holdermayexceedthevalueofnonqualifiedstockoptions.
Æо......EDGARpro ©2001.EDGAR Online,Inc.
OSO grants are made quarterly to participants employed on the date of the grant.Each award vests in equal quarterly installments overtwoyearsandhasafour-yearlife.Each award typically has a two year moratorium on exercising from the date of grant.As a result,once a participant is 100%vested in the grant the two year moratorium expires.Therefore,each grant has an exercise windowof twoyears.Level 3 granted 2.1 million OSOs to employees in December 2000.These OSOs vest 25%after six months with the remaining75%vesting after 18 months.The OSOs are exercisable immediately upon vesting and have a four-year life.
The fair value under SFAS No.123 for the 5,402,553 OSOs granted to employees for services performed for the year ended December31,2000 was $275 million.The Company recognized $189 million of compensation expense in the year ended December 31,2000 forOSOsgrantedtoemployees.In addition to the expense recognized,$9 million of non-cash compensation was capitalized in 2000 foremployeesdirectlyinvolvedintheconstructionoftheInternetProtocolnetworkanddevelopmentofbusinesssupportsystems.As ofDecember31,2000,the Company had not yet recognized $168 million of unamortized compensation costs for OSOs granted in 1999and2000.The Company recognized $111 million and $24 million of compensation expense for the years ended December 31,1999and1998,respectively.In addition to the expense recognized the Company capitalized $7 million and $3 million of non-cashcompensationforyearsendedDecember31,1999 and 1998,respectively.
F-33
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Transactions involvingstock awards granted under the OSO plan are summarized below:
WeightedAverageoptionPriceOption
Shares Per Share Price
Balance December 27,1997.................--$-$-Options granted.........................2,139,075 29.78--37.13 34.85Optionscancelled.......................(46,562)29.78--37.13 35.53
Balance December 31,1998.................2,092,513 29.78--37.13 34.85Optionsgranted.........................3,241,599 56.00--78.50 66.58Optionscancelled.......................(157,623)29.78--78.50 51.31Optionsexercised.......................(37,500)29.78--37.13 34.64
Balance December 31,1999.................5,138,989 29.78--78.50 54.15Optionsgranted.............--..........5,402,553 26.87--113.87 52.96Optionscancelled.......................(262,545)26.87--113.87 72.55Optionsexercised.......................(214,409)29.78--37.13 36.28
Balance December 31,2000.................10,064,588 $26.87--$113.87 $53.50
Options vested but not exercisable as of
December 31,1999.......................2,098,337 $29.78--$78.50 $44.69December31,2000.......................2,488,866 56.00--113.87 71.68
OSOs Outstanding OSOs Exercisable
at December 31,2000 at December 31,2000
WeightedAverage Weighted WeightedRangeofRemainingAverageAverageExerciseNumberLifeOptionNumberOptionPricesOutstanding(years)Price Exercisable Price
$26.87--$37.12 4,899,611 3.11 $29.46 1,748,411 $34.12
©2001.EDGAR Online,Inc.
56.00--78.50 3,709,678 2.74 68.69 ----
87.23--113.87 1,455,299 3.49 96.56 ----
10,064,588 3.03 $53.50 1,748,411 $34.12
In July 2000,the Company adopted a convertible outperformstock option program,(C-OSO)as an extension of the existing OSOplan.The program is a component of the Company's ongoing employee retention efforts and offers similar features to those of anOSO,but provides an employee with the greater of the value of a single share of the Company's common stock at exercise,or thecalculatedOSOvalueofasingleOSOatthetimeofexercise.
C-OSO awards were made to eligible employees employed on the date of the grant.The awards were made in September 2000 andDecember2000.Each award vests over three years as follows:1/6 of each grant at the end of the first year,a further 2/6 at the end ofthesecondyearandtheremaining3/6 in the third year.Each award is immediately exercisable upon vesting.Awards expire four yearsfromthedateofthegrant.
The fair value of the OSOs and C-OSOs granted in 2000 was calculated by applying a modifiedBlack-Scholes formula with an S&P500expecteddividendyieldrateof1.16%and an expected life of 2.5 years.The Company used a blended volatility rate of 27%calculated as a blended rate between the S&P 500 expected volatility rate of 16%and the Level 3 Common Stock expected volatilityrateof34%.The expected correlation factor of 0.65 was used to measure the movement of Level3 stock relativeto the S&P 500.
F-34
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTESTO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
The fair value recognized under SFAS No.123 for the approximately 2 million C-OSOs awarded to employees for services performedfortheyearendedDecember31,2000 was approximately $140 million.The Company recognized $17 million of compensationexpensefortheyearendedDecember31,2000 for C-OSOs awarded in 2000.In addition to the expense recognized,$1 million ofnon-cash compensation was capitalized for the year ended December 31,2000 for employees directly involvedin the construction ofthenetworkanddevelopmentofbusinesssupportsystems.As of December 31,2000,the Company had not reflected $120 million ofunamortizedcompensationexpenseinitsfinancialstatementsforC-OSOs awarded in 2000.
Transactions involvingstock awards granted under the C-OSO plan are summarized below:
WeightedAverageOptionPriceOptionSharesPerSharePrice
Balance December 31,1999..................Options granted..........................1,965,509 26.87--87.23 56.67Optionscancelled........................(25,522)87.23 87.23
Balance December 31,2000..................1,9 9 987 $26.87--$87.23 $56.27
Options vested but not exercisable as of
December 31,2000.........................------
C-OSOs Outstanding C-OSOs Exercisable
at December 31,2000 at December 31,2000
Weighted
Average Weighted Weighted
©2001.EDGAR Online,Inc.
Remaining Avel e AverageNumberLifeOptionNumberOptionRangeofExercisePricesOutstanding(years)Price Exercisable Price
$26.87.....................995,125 3.9 $26.87 --$--87.23.....................944,862 3.7 87.23 ----
1,939,987 3.8 $56.27 --$--
Restricted Stock
In 2000,1999 and 1998,l 15,567,17,l17 and 177,183 shares,respectively,of restricted stock were granted to employees.Therestrictedstocksharesweregrantedtoemployeesatnocost.The shares typically vest over a one to three year period;however,theemployeesarerestrictedfromsellingthesesharesforthreeyears.The fair value of restricted stock granted in 2000,1999 and 1998 of$7 million,$1 million and $7 million,respectively,was calculated using the value of the Common Stock the day prior to the grant.The expense recognized in 2000 under SFAS No.123 for restricted stock grants was $4 million.The expense recognized in 1999 and1998underSFASNo.123 for restricted stock grants was $4 million and $3 million respectively.
As of December 31,2000,the Company had not yet recognized $3 million of compensation costs for restricted stock granted in since1998.
Shareworks
Level 3 has designed its compensation programs with particular emphasis on equity-based,long-term incentive programs.TheCompanyhasdevelopedtwoplansunderitsShareworksprogram:the Match Plan and the Grant Plan.
F-35LEVEL3COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Match Plan--The Match Plan allows eligible employees to defer between 1%and 7%of their eligible compensation to purchaseCommonStockattheaveragestockpriceforthequarter.Any full time employee is considered eligible on the first day of the calendarquarteraftertheirhire.The Company matches the shares purchased by the employee on a one-for-one basis.Stock purchased withpayrolldeductionsisfullyvested.Stock purchased with the Company's matching contributions vests three years after the end of thequarterinwhichitwasmade.
The Company's quarterly matching contributionis amortized to compensation expense over the vesting period of 36 months.In 2000,the Company's matching contribution was $14 million under the Match Plan.The compensation expense recognized in 2000 underthisplanwas$5 million.The non-cash compensation expense recognized in 1999 and 1998 for the Match Plan was $1 million andlessthan$1 million,respectively.
As of December 31,2000,the Company had not reflected uamortized compensation expense of $19 million related to the Company'smatchingcontributions.
Grant Plan--The Grant Plan enables the Company to grant shares of Common Stock to eligible employees based upon a percentage ofthatemployee's eligible salary up to a maximum of 3%.Level3 employees employed on December 31 of each year,who are age 21 orolderwithaminimumof1,000 hours credited service are considered eligible.The shares granted are valued at the fair market value asofthelastbusinessdayofthecalendaryear.All prior and future grants vest immediately upon the employee's third anniversary ofjoiningtheShareworksPlan.
The annual grant is expensed in the year of the grant.Compensation expense recorded for the Shareworks Grant Plan for 2000 wasapproximately$11 million.Approximately$3 million and $1 million of compensation expense was recorded for the Shareworks GrantPlanfor1999and1998,respectively.
In addition to the compensation expense recognized,the Company capitalized $2 million of non-cash compensation costs related totheShareworksPlansforemployeesdirectlyinvolvedintheconstructionoftheIPnetworkandthedevelopmentofthebusinesssupportsystemsin2000and1999andlessthan$1 million of non-cash compensation costs in 1998.
©2001.EDGAR Online,Inc.
Foreign subsidiaries of the Company adopted Shareworks programs in 2000.These programs primarily include a grant plan and astockpurchaseplanwherebyemployeesmaypurchaseLevel3CommonStockat80%of the share price at the beginning of the planyear.
The Company recorded approximately $5 million of non-cash compensation expense for stock issued to employees during the yearendedDecember31,2000.The non-cash compensation charge was based on the Company's stock price on the day prior to the grantdate.
401(k)Plan
The Company and its subsidiaries offer its qualifiedemployees the opportunity to participate in a defined contribution retirement planqualifyingundertheprovisionsofSection401(k)of the Internal Revenue Code.Each employee was eligible to contribute,on a taxdeferredbasis,a portionof annual earnings not to exceed $10,500 in 2000.The Company does not match employee contributions andthereforedoesnotincuranycompensationexpenserelatedtothe401(k)plan.
F-36
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
(13)Income Taxes
An analysis of the income tax (provision}benefit attributable to earnings
(loss)from continuing operations before income taxes for the three years ended December 31,2000 follows:
2000 1999 1998
11 s imillions)Current:
United States Federal.......................................$50 $161 $(15)State.......................................................(1)3 (10)
49 164 (25)Deferred:
United States Federal.......................................255 56 50State............................................-----······------
255 56 50ValuationAllowance...........................................(255)--
The United States and foreigncomponents of eamings (loss)from continuing operations before income taxes follows:
2000 1999 1998
(dollars in
millions)United States............................................$(995)$(578)$(142)Foreign..................................................(509)(129)(11)
$(1,504)$(707)$(153)
©2001.EDGAR Online,Inc.
A reconciliation of the actual income tax (provision)benefit and the tax computed by applying the U.S.federal rate (35%)to theearnings(loss)from continuing operations,before income taxes for the three years ended December 31,2000 follows:
2000 1999 1998
(dollars in
millions)Computed Tax at Statutory Rate...............................$526 $247 $53StateIncomeTaxes...........................................(1)2 (7)Write-off of In Process Research &Development...............----(11)Coal Depletion...............................................2 2 2GoodwillAmortization........................................(17)(12)(5)Taxes on Unutilized Losses of Foreign Operations.............(35)(9)(4)Foreign Tax Credits..........................................--(10)--
Other........................................................(1)--(3)Valuation Allowance........................................(425)----
Income Tax Benefit...........................................$49 $220 $25
For federal income tax reporting purposes,the Company has approximately $638 million of net operating loss carryforwards,net ofpreviouscarrybacks,available to offset future Federal taxable income.The net operating loss carryforwards expire in 2020 and aresubjecttoexaminationbythetaxauthorities.
F-37
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
The Internal Revenue Code contains provisions which may limit the net operating loss carryforwards available to be used in any givenyearupontheoccurrenceofcertainevents,including significant changes in ownership interests.
For federal income tax reportingpurposes,the Company has approximately $19 million of alternative minimum tax credits availabletooffsetfutureregularfederalincometax.The credits can be carried forwarduntil fully utilized.
The components of the net deferred tax assets (liabilities)for the years ended December 31,2000 and 1999 were as follows:
2000 1999
(dollars
inmillions)Deferred Tax Liabilities:
Investments in securities.......................................$18 $2Investmentsinjointventures...................................4 15Assetbases--accumulated depreciation...........................38 122Coalsales......................................................32 32Provisionforestimatedexpenses................................12 --
Other...........................................................22 3
Total Deferred Tax Liabilities....................................126 174DeferredTaxAssets:
Net operating loss carryforwards................................223 --Compensation and related benefits...............................154 76Investmentinsubsidiaries......................................11 11Provisionforestimatedexpenses................................94 27
001 EDGAR Online,Inc.
Investment in joint ,entures..................................69 --
Other...........................................................12 12
Total Deferred Tax Assets.........................................563 126
Net Deferred Tax Assets/(Liabilities).............................437 (48)Valuation Allowance Components:
Net Deferred Tax Assets.........................................(410)--
Stockholders'Equity (primarily tax benefit from optionexercises)....................................................(92)--
Net Deferred Tax Liabilities after Valuation Allowance............$(65)$(48)
The 2000 current net deferred tax assets are $15 million after a current valuation allowance of $86 million and the non-currentdeferredtaxliabilitiesare($80)million after non-current valuationallowance of $416 million.
(14)Stockholders'Equity
On February 29,2000,the Company raised $2.4 billion,after underwritingdiscounts and offeringexpenses,from an offeringof 23millionsharesofitscommonstockthroughanunderwrittenpublicoffering.In March 1999,the Company raised $1.5 billion,afterunderwritingdiscountsandofferingexpenses,from the offering of 28.75 million shares of its common stock through an underwrittenpublicoffering.The net proceeds fromboth offeringsare being used for workingcapital,capital expenditures,acquisitions and othergeneralcorporatepurposesinconnectionwiththeimplementationoftheCompany's business plan.
Issuances of Common Stock,for sales,conversions,option exercises and acquisitions,and repurchases of common shares for the three
years ended December 31,2000 are shown below.Prior to the Split-off,the
F-38
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Company was obligated to repurchase Class D shares from stockholders.The Level3 Stock Plan permits option holders to tender
shares to the Company to cover income taxes due on option exercises.
December 27,1997..................................................271,034,280SharesIssued....................................................2,240,467SharesRepurchased...............................................(30,506)Issuances for Class C Stock Conversions..........................20,934,244IssuancesforClassRStockConversions..........................5,084,568OptionActivity..................................................2,506,079SharesIssuedforAcquisition....................................6,105,574
December 31,1998..................................................307,874 706SharesIssued....................................................28,750,000OptionandShareworksActivity...................................4,371,578SharesIssuedforAcquisition....................................396,379
6%Convertible Notes Converted to Shares.........................4,064
December 31,1999..................................................341 396 727SharesIssued....................................................23,000,000OptionandShareworksActivity...................................3,202,760
6%Convertible Notes Converted to Shares..................-......383
December 31,2000..................................................367,599 870
©2001.EDG)UtOnline,Inc.
(15)Industry and Geographic Data
In 1998,the Company adopted SFAS No.131 Disclosures about Segments of an Enterprise and Related Information.SFAS No.131establishesstandardsforreportinginformationaboutoperatingsegmentsinannualfinancialstatementsandrequiresselectedinformationaboutoperatingsegmentsininterimfinancialreportsissuedtostockholders.It also establishes standards for disclosuresaboutproductsandservicesandgeographicareas.Operating segments are components of an enterprise for which separate financialinformationisavailableandwhichisevaluatedregularlybytheCompany's chiefoperating decision maker,or decision making group,in deciding how to allocate resources and assess performance.Operating segments are managed separately and represent strategicbusinessunitsthatofferdifferentproductsandservedifferentmarkets.
The Company's reportable segments include:communications,informationservices,and coal mining.Other primarily includes CPTC,equity investments,and other corporate assets and overhead not attributable to a specific segment.
Industry and geographic data for the Company's 1998 discontinued construction and energy operations are not included.
EBITDA,as defined by the Company,consists of earnings (loss)before interest,income taxes,depreciation,amortization,non-cashoperatingexpenses(includingstock-based compensation and in-process research and development charges)and other non-operatingincomeorexpense.The Company excludes non-cash compensation due to its adoption of the expense recognition provisions of SFASNo.123.EBITDA is commonly used in the communications industry to analyze companies on the basis of operating performance.EBITDA is not intended to represent operating cash flow for the periods presented and is not a concept supported by generallyacceptedaccountingprinciples(GAAP).
The informationpresented in the tables following includes informationfor twelve months ended December 31,2000,1999 and 1998forallincomestatementandcashflowinformationpresented,and as of December 31,2000 and 1999 for all balance sheet informationpresented.Revenue and the related expenses are attributed to foreigncountries based on where services are provided.
F-39
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Industry and geographic segment financial informationfollows.Certain prior year informationhas been reclassified to conform withthe2000presentation.
Information Coal
Communications Services Mining Other Total
(dollars in millions)2000
Revenue :
North America.................$744 $103 $190 $22 $1,059Europe........................113 12 ----125Asia..........................1 ------1
$858 $115 $190 $22 $1,185
EBITDA:
North America.................$(335)$2 $86 $7 $(240)Europe........................(247)4 ----(243)Asia..........................(37)------(37)
$(619)$6 $86 $7 $(520)
Capital Expenditures:
North America.................$4,625 $11 $2 $--$4,638Europe........................1,122 1 ----1,123Asia..........................183 ------183
$5,930 $12 $2 $--$5,944
EDGARpro ©2001.EDGAR Online,Inc.
Depreciation and Amortization:
North America.................$437 $18 $5 $6 $466Europe........................112 2 ----114Asia..........................4 ------4
$553 $20 $5 $6 $584
1999
Revenue:
North America.................$145 $122 $207 $19 $493Europe........................14 8 ----22Asia..........................----------
$159 $130 $207 $19 $515
EBITDA:
North America.................$(390)$8 $81 $6 $(295)Europe........................(88)1 ----(87)Asia..........................(5)------(5)
$(483)$9 $81 $6 $(387)
Capital Expenditures:
North America.................$2,583 $12 $3 $1 $2,599Europe........................833 ------833Asia..........................4 ------4
$3,420 $12 $3 $1 $3,436
Depreciation and Amortization:
North America.................$176 $12 $5 $9 $202Europe........................24 2 ----26Asia..........................----------
$200 $14 $5 $9 $228
F-40
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Information Coal
Communications Services Mining Other Total
(dollars in millions)
1998
Revenue:
North America...............$23 $120 $228 $20 $391Europe......................1 ------1Asia........................---------
$24 $120 $228 $20 $392
EBITDA:
North America...............$(186)$(9)$92 $9 $(94)Europe......................(6)------(6)Asia........................----------
Ma EDGARpro ©2001.EDGAR Online,Inc.
$(192)$(9)$92 $9 $(100)
Capital Expenditures:
North America...............$782 $29 $2 $1 $814Europe......................96 ------96Asia........................----------
$878 $29 $2 $1 $910
Depreciation and
Amortization:
North America...............$38 $11 $5 $11 $65Europe......................1 ------1Asia.......................--------
$39 $11 $5 $11 $66
Identifiable Assets
December 31,2000
North America...............$8,091 $78 $310 $4,009 $12,488Europe......................2,095 9 --122 2,226Asia........................192 ----13 205
$10,378 $87 $310 $4,144 $14,919
December 31,1999
North America...............$3,699 $81 $336 $3,751 $7,867Europe......................993 8 --18 1,019
Asia........................18 ----2 20
$4,710 $89 $336 $3,771 $8,906
Long-Lived Assets
December 31,2000
North America...............$7,548 $49 $217 $15 $7,829Europe......................1,852 3 ----1,855
Asia........................190 ------190
December 31,1999
North America...............$3,344 $56 $43 $560 $4,003Europe......................956 5 ----961Asia........................4 ------4
$4,304 $61 $43 $560 $4,968
F-41
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Product informationfor the Company's communications segment follows:
Reciprocal Dark Fiber,Trans-oceanicServicescompensationconduit,IRUs IRUs Total
©2001.EDGER Online,Inc.
(dollars in ,_Ilions)
Communications Revenue:
2000
North America.........$427 $55 $209 $53 $744Europe................61 ----52 113Asia..................1 ------1
$489 $55 $209 $105 $858
1999
North America.........$84 $24 $35 $2 $145Europe................14 ------14Asia..................----------
$98 $24 $35 $2 $159
1998
North America.........$1 $22 $--$--$23Europe................1 ------1Asia..................---------
$2 $22 $--$--$24
The majority of NorthAmerican revenue consists of services and products delivered within the United States.The majority of
European revenue consists of services and products deliveredwithin the United Kingdom.Trans-oceanic revenue for 2000 is allocatedequallybetweenNorthAmericaandEuropeasitrepresentsservicesprovidedbetweenthesetworegions.
In 1999 and 1998 Commonwealth Edison Company,a coal mining customer,accounted for 22%and 34%of total revenue.
The following informationprovides a reconciliation of EBITDA to loss from continuing operations for the three years endedDeceimber31,2000:
2000 1999 1998
(in millions)
EBITDA..................................................$(520)$(387)$(100)Depreciation and Amortization Expense...................(584)(228)(66)Non-Cash Compensation Expense...........................(241)(126)(39)Write-off of In-Process Research and Development........----(30)
Loss from Operations..................................(1,345)(741)(235)
Other Income (Expense)..................................(159)34 82IncomeTaxBenefit......................................49 220 25
Loss from Continuing Operations.........................$(1,455)$(487)$(128)
(16)Commitments and Contingencies
In August 1999,the Company was named as a defendant in Schweizer vs.Level3 Communications,Inc.et.al.,a purported national
class action,filed in the District Court,County of Boulder,State of Colorado which involvesthe Company's right to install its fiber
optic cable network in easements and right-of-wayscrossing the plaintiffs land.In general,the Company obtained the rights toconstructitsnetworkfromrailroads,
F-42
©2001.EDGAR Online,Inc.
LE\-3 COMMUNICATIONS,INC.AND SUL.JIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
utilities,and others,and is installing its network along the rights-of-wayso granted.Plaintiffs in the purported class action assert thattheyaretheownersofthelandsoverwhichtheCompany's fiber optic cable network passes,and that the railroads,utilities and otherswhograntedtheCompanytherighttoconstructandmaintainitsnetworkdidnothavethelegalabilitytodoso.The action purports to
be on behalfof a national class of owners of land over which the Company's networkpasses or will pass.The complaint seeksdamagesontheoriesoftrespass,unjust enrichment and slander of title and property,as well as punitivedamages.The Company mayinthefuturereceiveclaimsanddemandsrelatedtotherights-of-wayissues similar to the issues in the Schweizer litigationthat maybebasedonsimilarordifferentlegaltheories.Although it is too early for the Company to reach a conclusion as to the ultimateoutcomeofthislitigation,management believes the Company has substantial defenses to the claims asserted in the Schweizer action(and any similar claims which may be named in the future),and intends to defend them vigorously.
The Company is involvedin various other lawsuits,claims and regulatory proceedings incidental to its business.Management believesthatanyresultingliabilityforlegalproceedingsbeyondthatprovidedshouldnotmateriallyaffecttheCompany's financial position,future results of operations or future cash flows.
On August 24,2000 the Company announced that it had signed a letter of intent to purchase more than 2 million cabled fiberkilometersofthirdgenerationLEAFfiberfromCorningInc.Level 3 plans to begin installing the fiber in its second conduit in the firstquarterof2001andexpectstobesubstantiallycompletebytheendoftheyear.Corning's LEAF fiber will significantly increase Level
3's network capacity.
Operating Leases
The Company is leasing rights of way,communications capacity and premises under various operating leases which,in addition torentalpayments,require payments for insurance,maintenance,property taxes and other executory costs related to the lease.Certainleasesprovideforadjustmentsinleasecostbaseduponadjustmentsintheconsumerpriceindexandincreasesinthelandlord'smanagementcosts.The lease agreements have various expiration dates through 2019.
In addition to the items described above,future minimum payments for the next five years,under the non-cancelable operating leaseswithinitialorremainingtermsofoneyearormore,consist of the following at December 31,2000 (in millions):
2001..................................................................$662002.....................................---....................632003...............................................................602004..................................................................582005..................................................................58Thereafter...........................................................374
Rent expense under non-cancellable lease agreements was $60 million in 2000,$41 million in 1999 and $18 million in 1998.
(17)Related Party Transactions
Peter Kiewit Sons',Inc.(Kiewit)acted as the general contractor on several significant projects for the Company in 2000,1999 and1998.These projects include the Phoenix Data Center,the U.S.intercity network,certain metro networks and certain Gateway sites,and the Company's new corporate headquarters in Colorado.
F-43
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
Kiewit providedapproximately $1,764 million,$1,024 million and $130 million of construction services related to these projects in2000,1999,and 1998 respectively.
©2001.EDGAR Online,Inc.
Level 3 also receives certain mine management services from Kiewit.The expense for these services was $29 million for 2000,$33millionfor1999,and $34 million for 1998,and is recorded in selling,general and administrative expenses.
In September 2000,the Company sold its entire interest in Walnut Creek Mining Company to Kiewit for cash of $37 million.The saleresultedinapre-tax gain of $21 million to the Company,which is included in gain on sale of assets in the accompanying consolidatedstatementofoperations.
In 2000,Level 3 and RCN entered into joint build arrangements for the construction of certain network facilities.Under theseagreementsLevel3providedapproximately$10 million of construction services to RCN in 2000.RCN also purchased $2 million and$1 million of telecommunications services from the Company in 2000 and 1999,respectively.
(18)Other Matters
On February 17,2000,Level3 announced a co-buildagreement whereby Global Crossing Ltd.participated in the construction of andobtaineda50%ownership interest in the previouslyannounced Level3 transatlantic fiber optic cable.Under the co-build agreement,Level3 and Global Crossing Ltd.each separately owns and operate two of the four fiber pairs on the transatlantic cable.Level3 alsoacquiredadditionalcapacityonGlobalCrossingLtd.'s transatlantic cable,Atlantic Crossing 1,during 2000.The transatlantic cable
was completed in November2000.
On April 12,2000,Level 3 signed an agreement with Viatel Inc.whereby Viatel Inc.agreed to purchase an ownership interest,in onefiberpaironLevel3's transatlantic fiber optic cable system installed by Level 3.As a result of this agreement,both companies ownandoperateonefiberpaironthetransatlanticcable.The Company recognized revenue of $94 million on this contract during thefourthquarterof2000,with the remainder being recognized over the term of the contract.
On December 29,2000,the Company signed an agreement to collaborate with FLAG Telecom on the development of the NorthernAsiasubmarinecablesystemconnectingHongKong,Japan,Korea and Taiwan.The system will include Level3's previouslyannouncedeasternlinkconnectingHongKong,Taiwan and Japan and a new western link that FLAG Telecom will buildto connectHongKong,Korea and Japan.The Company expects the Hong Kong to Japan segment of the eastern link to be in service in thesecondquarterof2001,with the eastern link's Taiwan segment to follow in late 2001.The Company expects the entire western link to
be ready for service in early 2002.Level 3 and FLAG Telecom will each own three fiber pairs throughout the new system.The totalcostoftheentireNorthernAsiasystemisestimatedtobeapproximately$900 million.Level 3's share of the cost is approximately$450 million.
It is customary in Level 3's industries to use various financial instruments in the normal course of business.These instruments includeitemssuchaslettersofcredit.Letters of credit are conditional commitments issued on behalfof Level3 in accordance with specifiedtermsandconditions.As of December 31,2000,Level 3 had outstanding letters of credit of approximately $47 million.The Companydoesnotbelieveitispracticabletoestimatethefairvalueofthelettersofcreditanddoesnotbelieveexposuretolossislikelynormaterial.
F-44
LEVEL 3 COMMUNICATIONS,INC.AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued)
(19)Subsequent Events
On January 18,2001,Level3 announced that in order to providethe company with additional flexibility in funding its business plan,it filed a universal shelfregistration statement with the Securities and Exchange Commission relating to $3.0 billion of common stock,preferred stock,debt securities,warrants,stock purchase agreements and depositary shares.The registration statement,(declaredeffectivebytheSecuritiesandExchangeCommissiononJanuary31,2001),allows Level 3 to publicly offer these securities from timetotimeatpricesandtermstobedeterminedatthetimeoftheoffering.When combined with the remaining availabilityunder itsexistingeffectiveuniversalshelfregistrationstatement,the availability under the registration statements allows Level3 to offer anaggregateofupto$3.156 billion of securities.
Level3 currently intends to use the net proceeds of any offering of these securities for workingcapital,capital expenditures,acquisitions,and other general corporate purposes.Consistent with this approach,Level3 may use the net proceeds for additions orexpansionstoitscurrentlyfundedbusinessplan.
(20)Unaudited Quarterly Financial Data
©2001.EDGAR Online,Inc.
March June Sep nber December
2000 1999 2000 1999 2000 1999 2000 1999
(in millions except per share data)
Revenue.................$177 $102 $234 $106 $341 $134 $433 $173
Loss from Operations....(277)(126)(308)(183)(320)(207)(440)(225)Net Loss................(271)(105)(281)(44)(351)(147)(552)(191)
Loss per Share (Basic
and Diluted):ContinuingOperations...........$(.77)$(.33)$(.77)$(.13)$(.96)$(.43)$(1.50)$(.56)
Loss per share was calculated for each three-month period on a stand-alone basis.As a result of stock transactions during the periods,
the sum of the loss per share for the four quarters of each year may not equal the loss per share for the twelve month periods.
F-45
Exhibit 21
Level3 Communications,Inc.
PKS InformationServices,Inc.
Level 3 Communications,LLC
BTE Equipment,LLC
Level 3 International,Inc.
Level3 Holdings,B.V.
Level 3 Communications Limited (UK)Level3 Holdings,Inc.
KCP,Inc.
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants,we hereby consent to the incorporation of our report dated January 24,2001 on the consolidatedfinancialstatementsofLevel3Communications,Inc.as of December 31,2000 and 1999 and for the three years ended December 31,
2000,included in this Annual Report on Form 10-K into Level3 Communications,Inc.'s previouslyfiled Registration Statements on
Forms S-3 (File Nos.333-53914,333-91899,333-68887 and 333-71713)and on Forms S-8 (File Nos.333-79533,333-42465,333-
68447,333-58691 and 333-52697).
/s/Arthur Andersen LLP
Denver,Colorado
March 6,2001
Exhibit 23.2
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporationby reference in the Registration Statements on Form S-3 (No.333-53914,333-91899,333-
68887 and 333-71713)and on Form S-8 (No.333-79533,333-42465,333-68447,333-58691 and 333-52697)of Level3
Communications,Inc.of our report dated March 8,2000 relating to the financialstatements and financial statement schedules of RCNCorporationandSubsidiariesasofDecember31,1999 and 1998,which is incorporated by reference in this Form 10-K.
©2001.EDGAR Online,Inc.
/s/Pricewat erhouseCoopers LLP
Philadelphia,Pennsylvania
March 6,2001
End of Filing
©2001.EDGAR
VERIFICATION
STATE OF COLORADO )
)ss:
COUNTY OF BROOMFIELD )
I,Michael R.Romano,being first duly sworn,depose and state that I am the Director of
State Regulatory Affairs of Level 3 Communications,LLC,the Applicant in the subject
proceeding,and that I am authorized to make this Verification on behalf of Level 3
Communications,LLC;that I have read the foregoing Application and know the contents
thereof;and that the same is true and correct to the best of my knowledge,information,and
belief.Further,I verify that the Application will comply with all other applicable rules and
regulations.
Michael R.Romano
Director -State RegulatoryAffairs
Level 3 Communications,LLC
Subscribed and sworn to before me this day of >«,2002.
My commission expires://