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Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended March 31, 2005, for United States Cellular Corporation (U.S. Cellular), a regional wireless operator and 81.7%-owned subsidiary of Telephone and Data Systems, Inc. (TDS). As of the reporting date, the company operated or held rights to acquire interests in 229 wireless markets, with 175 consolidated markets. The company is actively expanding its network, including the commercial launch of services in the St. Louis area, and recently secured 17 new licenses through its subsidiary, Carroll Wireless, in FCC Auction 58.

Key Financial Metrics

Operating Margins: Operating income margin as a percent of service revenues improved to 5.4% in Q1 2005 from 4.6% in Q1 2004.

Material Changes vs. Prior Period

• Revenue Growth: Total operating revenues increased 8% ($50.7 million) driven by a 13% increase in the customer base (5.13 million vs. 4.55 million) and growth in data services revenue ($28.8 million vs. $10.8 million). However, average monthly service revenue per customer declined 3% to $44.28 due to increased competition and a shift toward prepaid/reseller customers.
• Expense Increases: Operating expenses rose 7% ($42.8 million). Key drivers included a 19% increase in cell sites (4,899 vs. 4,122), higher depreciation ($127.3 million vs. $113.9 million), and increased selling, general, and administrative (SG&A) expenses due to customer acquisition costs.
• Roaming Revenue Decline: Inbound roaming revenues dropped 30% ($12.6 million) due to lower negotiated rates and the prior-year sale of markets to AT&T Wireless and ALLTEL.
• Accounting Adjustments: An out-of-period adjustment of $2.2 million was recorded in system operations expenses to switch a service contract from cash-basis to straight-line expense recognition. Additionally, a change in accounting for early termination fees reduced both revenue and bad debt expense by $7.7 million.

Guidance, Outlook, and Risks

2005 Full-Year Guidance:

• Operating Income: Expected to range from $180 million to $220 million.
• Service Revenues: Anticipated to total approximately $2.9 billion.
• Capital Expenditures: Estimated between $570 million and $610 million.
• Net Retail Customer Additions: Projected between 475,000 and 525,000.

Management Commentary: Management anticipates continued pressure on margins due to customer acquisition costs, competition, and network enhancements. However, these are expected to be mitigated by reduced per-minute costs and revenue expansion in new markets. The company plans to finance capital needs through internal cash flows and its $700 million revolving credit facility.

Risks and Contingencies:

• Impairment Risk: Significant intangible assets (licenses and goodwill totaling ~$1.78 billion) are subject to annual impairment testing; future market conditions could trigger write-downs.
• Market Risk: The company holds $274.1 million in marketable equity securities (primarily Vodafone) hedged by forward contracts. A decline in these securities' value could impact financial position, though downside risk is hedged.
• Regulatory and Competitive: Risks include changes in FCC regulations, industry consolidation creating stronger competitors, and potential obsolescence of TDMA technology.
• Liquidity: While the company maintains an investment-grade credit rating (A- by S&P, Baa1 by Moody's), a downgrade could increase borrowing costs or restrict access to capital markets.

Investor Verification Checklist

• Customer Churn and Retention: Verify the postpay churn rate (1.5% in Q1 2005) and the impact of increased prepaid/reseller mix on long-term revenue stability.
• Capital Expenditure Execution: Monitor the $570-$610 million CapEx guidance against actual spending, particularly regarding the St. Louis launch and network migration to CDMA 1XRTT.
• Intangible Asset Valuation: Review the methodology and assumptions used for the annual impairment testing of licenses and goodwill, given the high carrying value.
• Carroll Wireless Financing: Confirm the finalization of permanent financing for the $129.9 million FCC Auction 58 licenses, as the company has provided $130 million in advances but has no further commitment.
• Roaming Revenue Trends: Assess the sustainability of the 30% decline in inbound roaming revenue and the effectiveness of strategies to offset this loss.