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Business Context and Reporting Period

Company: United States Cellular Corporation (USM), an 81.0%-owned subsidiary of Telephone and Data Systems, Inc. (TDS).

Reporting Period: Quarterly Report (Form 10-Q) for the period ended September 30, 1998.

Operations: USM owns, operates, and invests in cellular markets across the U.S. As of September 30, 1998, the Company held interests in 184 markets (26.1 million population equivalents), with 136 majority-owned consolidated markets (23.0 million pops) and 39 minority interests accounted for via the equity method.

Key Financial Metrics (Nine Months Ended Sept 30, 1998)

Key Operational Stats: Customer base grew 49% to 2.02 million. Market penetration increased to 8.36%. Average monthly revenue per customer declined 14% to $48.87 due to pricing pressures and the BellSouth exchange.

Material Changes vs. Prior Period

• Revenue Growth: Operating revenues increased 34% ($215.1 million), driven by a 49% increase in customers and the inclusion of markets acquired in the BellSouth exchange.
• Profitability: Net income increased 129% ($111.6 million). This surge was primarily driven by $189.8 million in gains from the sale of cellular interests (12 markets), partially offset by a 48% drop in investment income due to divestitures.
• Expense Increases: Operating expenses rose 34% ($179.8 million). Depreciation increased 71% due to higher fixed asset balances and reduced useful lives of certain assets. Interest expense rose 47% due to the issuance of $250 million in 7.25% unsecured notes in August 1997.
• Customer Economics: Average monthly revenue per customer declined from $56.58 to $48.87. This reflects competitive pricing, increased off-peak usage incentives, and the dilution of inbound roaming revenue following the BellSouth market exchange.

Guidance, Outlook, and Risks

• Outlook: Management expects service revenues to continue growing in late 1998 and 1999 but anticipates a continued decline in average monthly revenue per customer. Customer growth is expected to slow due to increased competition from Personal Communications Services (PCS) operators.
• Capital Requirements: The 1998 construction and system expansion budget is approximately $310 million. Remaining 1998 capital spending is estimated at $79 million, with $51 million required for pending acquisitions.
• Liquidity: The Company has $27 million in cash and a fully available $500 million Revolving Credit Facility. It anticipates financing needs through operating cash flow, divestiture proceeds, and short-term borrowings.
• Year 2000 Issue: The Company is in the assessment phase of its Year 2000 compliance project. Incremental costs to date are under $1 million, with total cost estimates expected in early 1999. Risks include potential network disruptions if critical systems or third-party vendors fail to convert.
• Corporate Action: TDS has proposed a merger to acquire non-owned USM shares in exchange for a TDS tracking stock. No agreement has been reached as of the filing date.

Investor Verification Checklist

• Recurring Earnings: Verify the sustainability of earnings by excluding the $116.1 million after-tax gain on sales of cellular interests, which reduced diluted EPS to $0.94 (from reported $2.27).
• Revenue Quality: Assess the impact of declining Average Revenue Per User (ARPU) and the shift from high-margin inbound roaming to lower-margin outbound roaming costs following the BellSouth exchange.
• Debt Service: Review the impact of the new $250 million 7.25% notes (due 2007) and the accretion of interest on $277 million in zero-coupon convertible debentures (LYONs).
• Year 2000 Costs: Monitor the final cost estimate for Year 2000 compliance, as the current estimate is incomplete and could impact future net income.
• Divestiture Proceeds: Confirm the closing of pending divestitures expected to generate approximately $63 million in cash.