Nuvera Communications, Inc. - Quarter Report: 2019 March (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

_________________

 

FORM 10-Q

 

 

 (Mark One)

 

S    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934:

 

For the quarterly period ended March 31, 2019

 

£     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934:

For the transition period from_____to_____.

 

Commission File Number  0-3024

 

NUVERA COMMUNICATIONS, INC.

(Exact name of Registrant as specified in its charter)

 

 

 

 

27 North Minnesota Street

New Ulm, Minnesota  56073

(Address of principal executive offices)

 

Registrant’s telephone number, including area code: (507) 354-4111

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (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  S    No   £

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  S   No   £

                                                          

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definition of “large accelerated filer,” “accelerated filer,” “non-accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

£ Large accelerated filer	S Accelerated filer
£ Non-accelerated filer	S Smaller reporting company	£ Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.£

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes £  No S

 

Title of each class	Trading Symbol	Name of each exchange on which registered
Common Stock - $1.66 par value	NUVR	OTCQB Marketplace

 

The total number of shares of the registrant’s common stock outstanding as of May 10, 2019: 5,181,249.

 

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PART I – FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

 

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NUVERA COMMUNICATIONS, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2019 (Unaudited)

 

Note 1 – Basis of Presentation and Consolidation

 

The accompanying unaudited condensed consolidated financial statements of Nuvera Communications, Inc. and its subsidiaries (Nuvera) have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information, rules and regulations of the Securities and Exchange Commission (SEC) and, where applicable, conform to the accounting principles as prescribed by federal and state telephone utility regulatory authorities. Certain information and disclosures normally included in annual financial statements prepared in accordance with GAAP have been omitted or condensed pursuant to such rules and regulations. In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments (consisting only of normal and recurring accruals) considered necessary for the fair presentation of the financial statements and present fairly the results of operations, financial position and cash flows for the interim periods presented as required by Regulation S-X, Rule 10-01. These unaudited interim condensed consolidated financial statements should be read in conjunction with our audited consolidated financial statements and notes thereto contained in our Annual Report on Form 10-K for the year ended December 31, 2018.

 

The preparation of our financial statements requires our management to make estimates and judgements that affect the reported amounts of assets, liabilities, revenue and expenses, and the related disclosure of contingent assets and liabilities at the date of the financial statements and during the reporting period. Actual results may differ from these estimates. The results of operations for the interim periods presented are not necessarily indicative of the results that may be expected for the fiscal year as a whole or any other interim period.

 

Our consolidated financial statements report the financial condition and results of operations for Nuvera and its subsidiaries in one business segment: the Communications Segment. Inter-company transactions have been eliminated from the consolidated financial statements.

 

Revenue Recognition

See Note 2 – “Revenue Recognition” for a discussion of our revenue recognition policies.

 

Cost of Services (excluding depreciation and amortization)

Cost of services includes all costs related to delivery of communication services and products. These operating costs include all costs of performing services and providing related products including engineering, network monitoring and transport cost.

 

Selling, General and Administrative Expenses

Selling, general and administrative expenses include direct and indirect selling expenses, customer service, billing and collections, advertising and all other general and administrative costs associated with the operations of the business.

 

Depreciation and Amortization Expense

We use the group life method (mass asset accounting) to depreciate the assets of our telephone companies. Telephone plant acquired in a given year is grouped into similar categories and depreciated over the remaining estimated useful life of the group. When an asset is retired, both the asset and the accumulated depreciation associated with that asset are removed from the books. Due to rapid changes in technology, selecting the estimated economic life of communications plant and equipment requires a significant amount of judgment. We periodically review data on expected utilization of new equipment, asset retirement activity and net salvage values to determine adjustments to our depreciation rates. Depreciation expense was $2,205,382 and $1,667,077 for the three months ended March 31, 2019 and 2018. We amortize our definite-lived intangible assets over their estimated useful lives. Identifiable intangible assets that are subject to amortization are evaluated for impairment.

 

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Income Taxes

The provision for income taxes consists of an amount for taxes currently payable and a provision for tax consequences deferred to future periods. Deferred income taxes are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities, and their respective tax bases. Significant components of our deferred taxes arise from differences (i) in the basis of property, plant and equipment due to the use of accelerated depreciation methods for tax purposes, as well as (ii) in partnership investments and intangible assets due to the difference between book and tax basis. Our effective income tax rate is normally higher than the United States tax rate due to state income taxes and permanent differences. 

 

We account for income taxes in accordance with GAAP, which requires an asset and liability approach to financial accounting and reporting for income taxes. As required by GAAP, we recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more-likely-than-not sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority.

 

As of March 31, 2019 and December 31, 2018 we had no unrecognized tax benefits.     

 

We are primarily subject to United States, Minnesota, Iowa, Nebraska, North Dakota and Wisconsin income taxes. Tax years subsequent to 2014 remain open to examination by federal and state tax authorities. Our policy is to recognize interest and penalties related to income tax matters as income tax expense. As of March 31, 2019 and December 31, 2018 we had no interest or penalties accrued that related to income tax matters.

 

Recent Accounting Developments

 

In August, 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2017-12 (ASU 2017-12), “Targeted Improvements to Accounting for Hedging Activities.” ASU 2017-12 amends current guidance on accounting for hedges mainly to align more closely an entity’s risk management activities and financial reporting relationships through changes to both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results. In addition, amendments in ASU 2017-12 simplify the application of hedge accounting by allowing effectiveness assessments to be performed on a qualitative basis after hedge inception. The new guidance is effective for annual and interim periods beginning after December 15, 2018 with early adoption permitted. The Company adopted ASU 2017-12 as of January 1, 2019 and is applying the guidance to our hedging activities.

 

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In January 2017, the FASB issued ASU 2017-04, “Intangibles – Goodwill and other (Topic 350).” ASU 2017-04 simplifies the accounting for goodwill impairment and removes Step 2 of the goodwill impairment test. Goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value limited to the total amount of goodwill allocated to that reporting unit. Entities will continue to have the option to perform a qualitative assessment to determine if a quantitative impairment test is necessary. The same one-step impairment test will be applied to goodwill at all reporting units, even those with zero or negative carrying amounts. The amendments in this update should be applied on a prospective basis. ASU 2017-04 is effective for the Company beginning January 1, 2021. Early adoption is permitted. Management is evaluating the impact the adoption of ASU 2017-04 will have on the Company’s financial statements (if any).

 

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments.” ASU 2016-13 requires entities to use a new forward-looking, expected loss model to estimate credit losses. It also requires additional disclosures relating to the credit quality of trade and other receivables, including information relating to management’s estimate of credit allowances. The Company is required to adopt ASU 2016-13 on January 1, 2020. Early adoption as of January 1, 2019 is permitted. We are evaluating the effects that adoption of ASU 2016-13 will have on our financial position, results of operations and disclosures.

 

We have reviewed all other significant newly issued accounting pronouncements and determined that they are either not applicable to our business or that no material effect is expected on our financial position and results of operations.

 

Note 2 – Revenue Recognition

 

In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606) (Accounting Standards Codification (ASC) 606),” which is a comprehensive revenue recognition standard that supersedes nearly all existing revenue recognition guidance under GAAP. ASU 2014-09 provides a single principles-based, five-step model to be applied to all contracts with customers, which steps are to (1) identify the contact(s) with the customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract and (5) recognize revenue when each performance obligation is satisfied.   

 

We adopted ASU 2014-09 as of January 1, 2018 using the modified retrospective method for open contracts. Results for reporting periods beginning after January 1, 2018 are presented under ASC 606. The Company did not have any material cumulative effect adjustments that would have affected its January 1, 2018 assets, liabilities or retained earnings. The adoption of this new standard by the Company resulted in additional disclosures around the nature and timing of the Company’s performance obligations, deferred revenue contract liabilities, deferred contract cost assets, as well as significant judgements and practical expedients used by the Company in applying the new five-step revenue model.  

 

Our revenue contracts with customers may include a promise or promises to deliver services such as broadband, video or voice services. Promised services are considered distinct as the customer can benefit from the services either on their own or together with other resources that are readily available to the customer and the Company’s promise to transfer service to the customer is separately identifiable from other promises in the contract. The Company accounts for services as separate performance obligations. Each service is considered a single performance obligation as it is providing a series of distinct services that are substantially the same and have the same pattern of transfer.

 

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The transaction price is determined at contract inception and reflects the amount of consideration to which we expect to be entitled in exchange for transferring service to the customer. This amount is generally equal to the market price of the services promised in the contract and may include promotional or bundling discounts. The majority of our prices are based on tariffed rates filed with regulatory bodies or standard company price lists. The transaction price excludes amounts collected on behalf of third parties such as sales taxes and regulatory fees. Conversely, nonrefundable up-front fees, such as service activation and set-up fees, which are immaterial to our overall revenues, are included in the transaction price. In determining the transaction price, we consider our enforceable rights and obligations within the contract. We do not consider the possibility of a contract being cancelled, renewed or modified, which is consistent with ASC 606-10-32-4.

 

The transaction price is allocated to each performance obligation based on the standalone selling price of the service, net of the related discount, as applicable.

 

Revenue is recognized when performance obligations are satisfied by transferring service to the customer as described below.

 

Significant Judgements

 

The Company often provides multiple services to a customer. Provision of customer premise equipment (CPE) and additional service tiers may have a significant level of integration and interdependency with the subscription voice, video, Internet, or connectivity services. Judgement is required to determine whether provision of CPE, installation services, and additional service tiers are considered distinct and accounted for separately, or not distinct and accounted for together with the subscription services.

 

Allocation of the transaction price to the distinct performance obligations in bundled service subscriptions requires judgement. The transaction price for a bundle of services is frequently less than the sum of standalone selling prices of each individual service. Bundled discounts are allocated proportionally to the selling price of each individual service within the bundle. Standalone selling prices for the Company’s services are directly observable.

 

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Disaggregation of Revenue

 

The following table summarizes revenue from contracts with customers for the quarters ended March 31, 2019 and 2018:

 

 

For the three months ended March 31, 2019, approximately 80.47% of our total revenue was from month-to-month and other contracted revenue from customers. Approximately 18.38% of our total revenue was from revenue sources outside of the scope of ASC 606. The remaining 1.15% of total revenue was from other sources including CPE and equipment sales and installation.

 

For the three months ended March 31, 2018, approximately 79.31% of our total revenue was from month-to-month and other contracted revenue from customers. Approximately 18.82% of our total revenue was from revenue sources outside of the scope of ASC 606. The remaining 1.87% of total revenue was from other sources including CPE and equipment sales and installation.

 

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A significant portion of our revenue is derived from customers who may generally cancel their subscriptions at any time without penalty. As such, the amount of revenue related to unsatisfied performance obligations is not necessarily indicative of the future revenue to be recognized from our existing customer base. Revenue from customers with a contractually specified term and non-cancelable service period will be recognized over the term of such contracts, which is generally 3 to 10 years for these types of contracts.

 

Nature of Services

 

Revenues are earned from our customers primarily through the connection to our networks, digital and commercial television (TV) programming, Internet services (high-speed broadband), and hosted and managed services. Revenues for these services are billed based on set rates for monthly service or based on the amount of time the customer is utilizing our facilities. The revenue for these services is recognized over time as the service is rendered.

 

Voice Services – We receive recurring revenue for basic local services that enable end-user customers to make and receive telephone calls within a defined local calling area for a flat monthly fee. In addition to subscribing to basic local telephone services, our customers may choose from a variety of custom calling features such as call waiting, call forwarding, caller identification and voicemail. Customers may generally cancel their subscriptions at any time without penalty. Each subscription service provided is accounted for as a distinct performance obligation and revenue is recognized over a one month service period as the subscription services are delivered. Other optional services purchased by the customer are generally accounted for as a distinct performance obligation when purchased and revenue is recognized when the service is provided.

 

Network Access – We provide access services to other communication carriers for the use of our facilities to terminate or originate long distance calls on our network. Additionally, we bill monthly subscriber line charges (SLCs) to substantially all of our customers for access to the public switched network. These SLCs are regulated and approved by the Federal Communications Commission (FCC). In addition, network access revenue is derived from several federally administered pooling arrangements designed to provide support and distribute funding to us.

 

Revenues earned from other communication carriers accessing our network are based on the utilization of our network by these carriers as measured by minutes of use on the network or special access to the network by the individual carriers on monthly basis. Revenues are billed at tariffed access rates for both interstate and intrastate calls and are recognized into revenue monthly based on the period the access was provided.

 

The National Exchange Carriers Association (NECA) pools and redistributes the SLCs to various communication providers through the Connect America Fund (CAF). These revenues are earned and recognized into revenue on a monthly basis. Any adjustments to these amounts received by NECA are adjusted for in revenue upon receipt of the adjustment.

 

Video – We provide a variety of enhanced video services on a monthly recurring basis to our customers. We also receive monthly recurring revenue from our subscribers for providing commercial TV programming. Customers may generally cancel their subscriptions at any time without penalty. Each subscription service provided is accounted for as a distinct performance obligation and revenue is recognized over a one month service period as the subscription services are delivered. Other optional services purchased by the customer are generally accounted for as a distinct performance obligation when purchased and revenue is recognized when the service is provided.

 

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Data – We provide high speed Internet to business and residential customers. Our revenue is earned based on the offering of various flat packages based on the level of service, data speeds and features. We also provide e-mail; web hosting and design, on-line file back up and on-line file storage. Data customers may generally cancel their subscriptions at any time without penalty. Each subscription service provided is accounted for as a distinct performance obligation and revenue is recognized over a one month service period as the subscription services are delivered. Other optional services purchased by the customer are generally accounted for as a distinct performance obligation when purchased and revenue is recognized when the service is provided.

 

Directory – Our directory publishing revenue in our telephone directories recurs monthly and is recognized into revenue on a monthly basis. 

 

Other Contracted Revenue - Managed services and certain other data customers include fiber-delivered communications and managed information technology solutions to mainly business customers, as well as high-capacity last-mile data connectivity services to wireless and wireline carriers. Services are primarily offered on a subscription basis with a contractually specified and non-cancelable service period. The non-cancelable contract terms for these customers generally range from 3 to 10 years. Each subscription service provided is accounted for as a distinct performance obligation and revenue is recognized ratably over the contract period as the subscription services are delivered. These services are billed as monthly recurring charges to customers.  

 

Other – We also generate revenue from the sales, service and installation of CPE and other services. Sales and service of CPE are billed and recognized into revenue once the sale or service is complete or delivered. These sales and services are generally short-term in nature and are completed within one month. Other revenues are immaterial to our total revenues.

 

Subsidy and Other Revenue outside the Scope of ASC 606 – We receive subsidies from governmental entities to operate and expand our networks. In addition, we have revenue from leasing arrangements. Both of these revenue streams are outside of the scope of ASC 606.  

 

Interstate access rates are established by a nationwide pooling of companies known as the NECA. The FCC established NECA in 1983 to develop and administer interstate access service rates, terms and conditions. Revenues are pooled and redistributed on the basis of a company's actual or average costs. There has been a change in the composition of interstate access charges in recent years, shifting more of the charges to the end user and reducing the amount of access charges paid by IXC’s. We believe this trend will continue.

 

Intrastate access rates are filed with state regulatory commissions in Minnesota and Iowa.

 

From January 1, 2017 through July 31, 2018 we did not receive funding from the Federal Universal Service Fund (FUSF) based on the pooling and redistribution of revenues based on a company's actual or average costs as described above, but instead, elected to receive funding based on the Alternative Connect America Cost Model (A-CAM) as described below.

 

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With the acquisition of Scott-Rice Telephone Co. (Scott-Rice) on July 31, 2018, see Note 4 – “Acquisitions and Dispositions,” Nuvera now receives FUSF support for Scott-Rice. The remainder of the Company receives funding from A-CAM as mentioned below. Scott-Rice’s settlements from the pools are based on nationwide average schedules. 

 

A-CAM

 

As described above, with the exception of Scott-Rice, the remainder of our companies receive funding from A-CAM.

 

When Nuvera originally elected A-CAM we received annually (i) $391,896 for our Iowa operations and (ii) $6,118,567 for our Minnesota operations. The Company used the annual $6.5 million that it received through the A-CAM program to meet our defined broadband build-out obligations, which the Company is current completing. These A-CAM payments replaced the Company’s former ICLS payments.

 

On May 7, 2018, the FCC issued Public Notice DA 18-465, which contained revised offers of A-CAM support and associated revised service deployment obligations.

 

On May 23, 2018, the Company’s Board of Directors (BOD) authorized and directed the Company to accept the FCC’s revised offer of A-CAM support and the revised associated service deployment obligations. Under the revised FCC offer Notice, the Company was entitled to annually receive (i) $489,870 for its Iowa operations, which was a $97,974 increase per year and (ii) $7,648,208 for its Minnesota operations, which was a $1,529,641 increase per year. The Company used the additional support that it received through the A-CAM program to continue to meet its defined broadband build-out obligations, which the Company is currently completing. A letter of acceptance to elect the revised A-CAM support was filed by the Company with the FCC on May 24, 2018. The FCC accepted the Company’s letter on May 30, 2018. On August 31, 2018 the Company received approximately $3.12 million for the revised A-CAM support. This represented an 18-month true-up for support back to the original election date, and an increased monthly payment representing the new revised A-CAM support offer.

 

On February 25, 2019, the FCC issued Public Notice DA 19-115, which contained revised offers of A-CAM support and associated revised service deployment obligations.

 

On February 27, 2019, the Company’s BOD authorized and directed the Company to accept the FCC’s revised offer of A-CAM support and the revised associated service deployment obligations. Under the revised FCC offer Notice, the Company will be entitled to annually receive (i) $596,084 for its Iowa operations, which was a $106,214 increase per year and (ii) $8,354,481 for its Minnesota operations, which was a $706,273 increase per year. The Company will receive the revised A-CAM offer over the next 10 years starting in 2019. The Company will use the additional support that it receives through the A-CAM program to continue to meet its defined broadband build-out obligations, which the Company is currently completing. A letter of acceptance to elect the revised A-CAM support was filed by the Company with the FCC on March 8, 2019. The FCC accepted the Company’s letter on March 11, 2019. The Company expects to receive a true-up for support back to January 1, 2019 and an increased monthly payment representing the new revised A-CAM support offer for the next ten years.

 

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The following table provides information about our receivables, contracts assets and contract liabilities from revenue contracts with our customers:

 

 

Contract Assets

 

Contract assets arise from costs that are incremental to the acquisition of a contract. Incremental costs are those that result directly from obtaining a contract or costs that would not have been incurred if the contract had not been obtained, which primarily relates to sales commissions. Sales commissions are capitalized when paid and are recorded as a contract asset. Sales commissions are then amortized monthly over the life of the contract as the contract obligations are satisfied.

 

Contract Liabilities

 

Short-term contract liabilities include deferred revenues for advanced payments for managed services and other long-term contracts. This includes the current portion of the deferred revenues that will be recognized monthly within one year. Long-term contract liabilities include deferred revenues for advanced payments for managed services and other long-term contracts. This includes the portion longer than one year and the corresponding deferred revenues are recognized into revenue on a monthly basis based of the term of the contract.  

 

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Receivables

 

A receivable is recognized in the period the Company provides goods and services when the Company’s right to consideration is unconditional. Payment terms on invoiced amounts are generally 30-60 days.

 

Note 3 – Leases

 

In February 2016, the FASB issued ASU 2016-02, “Leases,” which, together with its related clarifying ASUs, provided revised guidance for lease accounting and related disclosure requirements and established a right-to-use (ROU) model that requires lessees to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition. This guidance was effective for us on January 1, 2019. We adopted the standard using the modified retrospective method which applied to leases that exist or were entered into on or after January 1, 2019. The Company elected to utilize the package of practical expedients that allows to 1) not reassess whether any expired or existing contracts are or contain leases, 2) retain the existing classification of lease contracts as of the date of adoption and 3) not reassess initial direct costs for any existing leases. The ASU also requires disclosures to allow financial statement users to better understand the amount, timing and uncertainty of cash flows arising from leases. These disclosures include qualitative and quantitative requirements, providing additional information about the amounts recorded in the financial statements.   

 

On January 1, 2019, upon adoption of ASU 2016-02, the Company recorded an Operating Lease ROU of $599,308, a short-term operating lease liability of $100,844 and a long-term operating lease liability of $498,464. The Company used an estimated incremental borrowing rate of 6%, which approximates our fixed CoBank, ACB (CoBank) borrowing rate to determine the inception present value at January 1, 2019. The terms of our leases range from two to seventeen years.

 

The following table includes the ROU and operating lease liabilities as of March 31, 2019.

 

 

 

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Maturity analysis under these lease agreements are as follows:

 

 

We amortize or leases over the shorter of the term of the lease or the useful life of the asset. Lease expense for the three months ended March 31, 2019 was comprised of the following:

 

 

Note 4 – Acquisitions and Dispositions

 

Scott-Rice Telephone Co. Acquisition

 

On July 31, 2018, the Company announced that it had completed its acquisition of Scott-Rice from Allstream Business U.S., LLC, an affiliate of Zayo for approximately $42 million in cash. Scott-Rice provides phone, video and internet services with more than 18,000 connections, serving the communities of Prior Lake, Savage, Elko and New Market, Minnesota. The combined Nuvera/Scott-Rice Company has approximately 66,000 connections. Nuvera financed the acquisition with its principal lender, CoBank. Further information regarding the CoBank loan terms and amounts can be found on the Company’s 8-K filed with the SEC on August 3, 2018.

 

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The allocation of the acquisition value of Scott-Rice, as determined by an independent valuation firm, is shown below:

 

 

The acquisition has been accounted for using the acquisition method of accounting in accordance with current standards. As a result, the fair value of the consideration paid, which consists of approximately $42 million in cash, has been allocated to the fair value of the assets and liabilities received. The allocation of the purchase price to Scott-Rice’s assets and liabilities has been based on estimates of fair values. Criteria have been established in ASC 805, “Business Combinations” for determining whether intangible assets should be recognized separately from goodwill. Based upon our fair value allocation, the excess of the purchase price and acquisition costs over the fair value of the net identifiable tangible assets acquired was $23,697,680, which is not deductible for income tax purposes. The Company recorded an intangible asset related to the acquired company’s customer relationships of $13,600,000. The estimated useful life of the customer relationship intangible is fifteen years.

Pro Forma Financial Information

 

On July 31, 2018, Nuvera completed the acquisition of Scott-Rice. The following pro forma results presented are for the three months ended March 31, 2019 and 2018 as if the acquisition had been completed on January 1, 2018. The Company has provided this pro forma condensed Statement of Income to facilitate analysis of the Statement of Income. The pro forma statements do not reflect any effect of operating efficiencies, cost savings and other benefits anticipated by the Company’s management as a result of the acquisition.

 

 

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Note 5 – Fair Value Measurements

 

We have adopted the rules prescribed under GAAP for our financial assets and liabilities. GAAP includes a fair value hierarchy that is intended to increase consistency and comparability in fair value measurements and related disclosures. The fair value hierarchy is based on inputs to valuation techniques used to measure fair value that are either observable or unobservable. Observable inputs reflect assumptions market participants would use in pricing an asset or liability based on market data obtained from independent sources, while unobservable inputs reflect a reporting entity’s pricing based upon its own market assumptions. The fair value hierarchy consists of the following three levels:

 

Level 1:   Inputs are quoted prices in active markets for identical assets or liabilities.

 

Level 2:   Inputs are quoted prices for similar assets or liabilities in an active market, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable and market-corroborated inputs that are derived principally from or corroborated by observable market data.

 

Level 3:   Inputs are derived from valuation techniques where one or more significant inputs or value drivers are unobservable.

 

We have used financial derivative instruments to manage our overall cash flow exposure to fluctuations in interest rates. We accounted for derivative instruments in accordance with GAAP that requires derivative instruments to be recorded on the balance sheet at fair value. Changes in fair value of derivative instruments must be recognized in earnings unless specific hedge accounting criteria are met, in which case, the gains and losses are included in other comprehensive income rather than in earnings.

 

We have entered into an interest rate swap agreement (IRSA) with our lender, CoBank, to manage our cash flow exposure to fluctuations in interest rates. This instrument is designated as a cash flow hedge and is effective at mitigating the risk of fluctuations on interest rates in the market place. Any gains or losses related to changes in the fair value of this derivative is accounted for as a component of accumulated other comprehensive income (loss) for as long as the hedge remains effective.

 

The fair value of our IRSA is discussed in Note 8 – “Interest Rate Swaps”. The fair value of our swap agreement was determined based on Level 2 inputs.

 

Other Financial Instruments

 

Other Investments - It is difficult to estimate a fair value for equity investments without a readily determinable fair value due to a lack of observable transaction prices. We conducted an evaluation of our investments in all of our companies in connection with the preparation of our audited financial statements at December 31, 2018. As of March 31, 2019, we believe the carrying value of our investments is not impaired.

 

Debt – We estimate the fair value of our long-term debt based on the discounted future cash flows we expect to pay using current rates of borrowing for similar types of debt. Fair value of the debt approximates carrying value.

 

Other Financial Instruments - Our financial instruments also include cash equivalents, trade accounts receivable and accounts payable where the current carrying amounts approximate fair market value.

 

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Note 6 – Goodwill and Intangibles

 

We account for goodwill and other intangible assets under GAAP. Under GAAP, goodwill and intangible assets with indefinite useful lives are not amortized, but are instead tested for impairment (i) on at least an annual basis and (ii) when changes in circumstances indicate that the fair value of goodwill may be below its carrying value. Our goodwill totaled $49,903,029 at March 31, 2019 and December 31, 2018.    

 

As required by GAAP, we do not amortize goodwill and other intangible assets with indefinite lives, but test for impairment on an annual basis or earlier if an event occurs or circumstances change that would reduce the fair value of a reporting unit below its carrying amount. These circumstances include, but are not limited to (i) a significant adverse change in the business climate, (ii) unanticipated competition or (iii) an adverse action or assessment by a regulator. Determining impairment involves estimating the fair value of a reporting unit using a combination of (i) the income or discounted cash flows approach and (ii) the market approach that utilizes comparable companies’ data. If the carrying amount of a reporting unit exceeds its fair value, the amount of the impairment loss must be measured. The impairment loss is calculated by comparing the implied fair value of the reporting unit’s goodwill to its carrying amount. In calculating the implied fair value of the reporting unit’s goodwill, the fair value of the reporting unit is allocated to all of the assets and liabilities of the reporting unit. The excess of the fair value of a reporting unit over the amount assigned to its other assets and liabilities is the implied value of goodwill. We recognize impairment loss when the carrying amount of goodwill exceeds its implied fair value.

 

In 2018 and 2017, we engaged an independent valuation firm to complete our annual impairment testing for existing goodwill. For 2018 and 2017, the testing results indicated no impairment charge to goodwill as the determined fair value was sufficient to pass the first step of the impairment test.   

 

Our intangible assets subject to amortization consist of acquired customer relationships, regulatory rights and trade names. We amortize intangible assets with finite lives over their respective estimated useful lives. Identifiable intangible assets that are subject to amortization are evaluated for impairment. In addition, we periodically reassess the carrying value, useful lives and classifications of our identifiable intangible assets.

 

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The components of our identified intangible assets are as follows:

 

 

Amortization expense related to the definite-lived intangible assets was $830,943 and $588,771 for the three months ended March 31, 2019 and 2018. Amortization expense for the remaining nine months of 2019 and the five years subsequent to 2019 is estimated to be:

 

 

Note 7 – Secured Credit Facility

 

On July 31, 2018, we entered into an Amended and Restated master loan agreement (MLA) with CoBank. This MLA refinanced and replaced the existing credit facility between CoBank and Nuvera and its subsidiaries. Nuvera and its respective subsidiaries also have entered into security agreements under which substantially all the assets of Nuvera and its respective subsidiaries have been pledged to CoBank as collateral. In addition, Nuvera and its respective subsidiaries have guaranteed all the obligations under the credit facility. These mortgage notes are required to be paid in quarterly installments covering principal and interest, beginning in the year of issue and maturing on July 31, 2025.  

 

As described in Note 8 – “Interest Rate Swaps,” on August 1, 2018 we entered into an IRSA with CoBank covering 25 percent of our existing debt balance or $16,137,500 of our aggregate indebtedness to Co Bank at August 1, 2018. The swap effectively locks in our interest rate on 25 percent of our variable-rate debt through July 2025. Under this IRSA, we have changed the variable rate cash flow exposure on the debt obligations to fixed cash flows. Under the terms of the IRSA, we pay a fixed contractual interest rate and (i) make an additional payment if the LIBOR variable rate payment is below a contractual rate or (ii) receive a payment if the LIBOR variable rate payment is above the contractual rate. As of March 31, 2019, our IRSA covered $15,273,050, with a weighted average rate of 6.02%. Our remaining debt of $57.0 million ($10.0 million available under the revolving credit facilities and $47.0 million currently outstanding) remains subject to variable interest rates at an effective weighted average interest rate of 5.49%, as of March 31, 2019.   

 

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Our loan agreements include restrictions on our ability to pay cash dividends to our stockholders. However, we are allowed to pay dividends (a) (i) in an amount up to $2,700,000 in any year if our “Total Leverage Ratio,” that is, the ratio of our “Indebtedness” to “EBITDA” (earnings before interest, taxes, depreciation and amortization – as defined in the loan documents) is greater than 2.00 to 1.00, and (ii) in any amount if our Total Leverage Ratio is less than 2.00 to 1.00, and (b) in either case, if we are not in default or potential default under the loan agreements. Our current Total Leverage Ratio at March 31, 2019 is 2.37.  

 

Our credit facility requires us to comply with specified financial ratios and tests. These financial ratios include total leverage ratio, debt service coverage ratio, equity to total assets ratio and annual maximum aggregate capital expenditures. At March 31, 2019, we were in compliance with all the stipulated financial ratios in our loan agreements.

 

There are security and loan agreements underlying our current CoBank credit facility that contain restrictions on our distributions to stockholders and investment in, or loans, to others. Also, our credit facility contains restrictions that, among other things, limits or restricts our ability to enter into guarantees and contingent liabilities, incur additional debt, issue stock, transact asset sales, transfers or dispositions, and engage in mergers and acquisitions, without CoBank approval.  

 

Note 8 – Interest Rate Swaps

 

We assess interest rate cash flow risk by continually identifying and monitoring changes in interest rate exposures that may adversely affect expected future cash flows and by evaluating hedging opportunities.

 

We generally use variable-rate debt to finance our operations, capital expenditures and acquisitions. These variable-rate debt obligations expose us to variability in interest payments due to changes in interest rates. The terms of our credit facility with CoBank require that we enter into interest rate agreements designed to protect us against fluctuations in interest rates, in an aggregate principal amount and for a duration determined under the credit facility.

 

To meet this objective, on August 1, 2018 we entered into an IRSA with CoBank covering 25 percent of our existing outstanding debt balance or $16,137,500 of our aggregate indebtedness to CoBank at August 1, 2018. The swap effectively locked in the interest rate on 25 percent of our variable-rate debt through July 2025. Under this IRSA, we have changed the variable-rate cash flow exposure on the debt obligations to fixed cash flows. Under the terms of the IRSA, we pay a fixed contractual interest rate and (i) make an additional payment if the LIBOR variable rate payment is below a contractual rate or (ii) receive a payment if the LIBOR variable rate payment is above the contractual rate.

 

Each month, we make interest payments to CoBank under its loan agreements based on the current applicable LIBOR Rate plus the contractual LIBOR margin then in effect with respect to the loan, without reflecting our IRSA. At the end of each calendar month, CoBank adjusts our aggregate interest payments based on the difference, if any, between the amounts paid by us during the month and the current effective interest rate. Net interest payments are reported in our consolidated income statement as interest expense.

 

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Our IRSA under our credit facilities qualifies as a cash flow hedge for accounting purposes under GAAP. We reflect the effect of this hedging transaction in the financial statements. The unrealized gain/loss is reported in other comprehensive income. If we terminate our IRSA, the cumulative change in fair value at the date of termination would be reclassified from accumulated other comprehensive income, which is classified in stockholders’ equity, into earnings on the consolidated statements of income.

 

The fair value of the Company’s IRSA is determined based on valuations received from CoBank and are based on the present value of expected future cash flows using discount rates appropriate with the terms of the IRSA. The fair value indicates an estimated amount we would be required to pay if the contracts were canceled or transferred to other parties. At March 31, 2019, the fair value liability of the swap was $569,153, which has been recorded net of deferred tax benefit of $162,436, for the $406,717 in accumulated other comprehensive loss.  

 

Note 9 – Other Investments  

 

We are a co-investor with other rural telephone companies in several partnerships and limited liability companies. These joint ventures make it possible to offer services to customers, including digital video services and fiber-optic transport services that we would have difficulty offering on our own. These joint ventures also make it possible to invest in new technologies with a lower level of financial risk. We recognize income and losses from these investments on the equity method of accounting. For a listing of our investments, see Note 12 – “Segment Information”.

 

In January 2016, the FASB issued ASU 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities,” which requires equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for an identical or similar investment of the same issuer. The Company adopted ASU 2016-01 as of January 1, 2018. As of March 31, 2019, we recorded a loss on one of our investments of $104,044 as required by ASU 2016-01.

 

Note 10 – Guarantees

 

Nuvera has guaranteed a portion of a ten-year loan owed by FiberComm, LC, originally set to mature on September 30, 2021. As of March 31, 2019, we have recorded a liability of $314,502 in connection with the guarantee on this loan. This guarantee may be exercised if FiberComm, LC does not make its required payments on this note.

 

On September 14, 2018, FiberComm, LC opened a new construction loan on which it may draw funds, up to $4 million, to complete the construction of a data center/carrier hotel in downtown Sioux City, Iowa. On March 31, 2019, the remaining balance of the existing ten-year loan, with an original maturity date of September 30, 2021, was combined with the amount of funds drawn on the new construction loan into one note, maturing on April 30, 2026. This new note is a seven-year note, utilizing a ten-year amortization schedule, with a balloon payment due in April 2026. Nuvera has guaranteed a 50% pro rata portion (existing 20% ownership) of the new construction loan.

 

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Note 11 – Restricted Stock Units (RSU)

 

On February 24, 2017, our BOD adopted the 2017 Omnibus Stock Plan (2017 Plan) effective May 25, 2017. The shareholders of the Company approved the 2017 Plan at the May 25, 2017 Annual Meeting of Shareholders. The purpose of the 2017 Plan was to enable Nuvera and its subsidiaries to attract and retain talented and experienced people, closely link employee compensation with performance realized by shareholders, and reward long-term results with long-term compensation. The 2017 Plan enables the Company to grant stock incentive awards to current and new employees, including officers, and to Board members and service providers. The 2017 Plan permits stock incentive awards in the form of options (incentive and non-qualified), stock appreciation rights, restricted stock, RSUs, performance stock, performance units, and other awards in stock or cash. The 2017 Plan permits the issuance of up to 625,000 shares of our Common Stock in any of the above stock awards.

 

Starting in 2018, and each subsequent year following 2018, our BOD and Compensation Committee granted and will grant awards to the Company’s executive officers under the 2017 Plan. We recognize share-based compensation expense for these RSUs over the vesting period of the RSUs’ which is determined by our BOD. Each executive officer received or will receive time-based RSUs and performance-based RSUs. The time-based RSUs are computed as a percentage of the executive officer’s base salary based on the closing price of Company common stock on a date set by the BOD, and will vest over a three-year period based on the executive officer being employed by the Company on the vesting date. The performance-based RSUs are also computed as a percentage of the executive officer’s base salary based on the closing price of Company common stock on a date set by the BOD, and will vest over a three-year period based on the Company attaining an average Return on Invested Capital (ROIC) over that three year period. The ROIC target is set by the BOD. The executive officer must also be employed by the Company on the vesting date to receive the performance-based RSUs. Executive officers may earn more or less performance-based RSU’s based on if the actual ROIC over the time period is more or less than target. Upon vesting of either time-based or performance-based RSUs, the executive officers will be able to receive Common Stock in the Company in exchange for the RSUs.

 

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RSUs currently issued or forfeited is as follows:

 

 

Note 12 – Segment Information  

 

We operate in the Communications Segment and have no other significant business segments. The Communications Segment consists of voice, data and video communication services delivered to the customer over our local communications network. No single customer accounted for a material portion of our consolidated revenues.

 

The Communications Segment operates the following incumbent local exchange carriers (ILECs) and competitive local exchange carriers (CLECs) and has investment ownership interests as follows:

 

Communications Segment

 

●	ILECs:
	▪		Nuvera Communications, Inc., the parent company;
	▪		Hutchinson Telephone Company, a wholly-owned subsidiary of Nuvera;
	▪		Peoples Telephone Company, a wholly-owned subsidiary of Nuvera;
	▪		Scott-Rice Telephone Co., a wholly-owned subsidiary of Nuvera;
	▪		Sleepy Eye Telephone Company, a wholly-owned subsidiary of Nuvera;
	▪		Western Telephone Company, a wholly-owned subsidiary of Nuvera.
●	CLECs:
	▪		Nuvera, located in Redwood Falls, Minnesota; and
	▪		Hutchinson Telecommunications, Inc., a wholly-owned subsidiary of Hutchinson Telephone Company, located in Litchfield and Glencoe, Minnesota;
●	Our investments and interests in the following entities include some management responsibilities:
	▪		FiberComm, LC – 20.00% subsidiary equity ownership interest. FiberComm, LC is located in Sioux City, Iowa;
	▪		Broadband Visions, LLC (BBV) – 24.30% subsidiary equity ownership interest. BBV provides video headend and Internet services;
	▪		Independent Emergency Services, LLC (IES) – 14.29% subsidiary equity ownership interest. IES is a provider of E-911 services to the State of Minnesota as well as a number of counties located in Minnesota;
	▪		SM Broadband, LLC (SMB) – 10.00% subsidiary equity ownership interest. SMB provides network connectivity for regional businesses.

 

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Note 13– Commitments and Contingencies

 

We are involved in certain contractual disputes in the ordinary course of business. We do not believe the ultimate resolution of any of these existing matters will have a material adverse effect on our financial position, results of operations or cash flows. We did not experience any changes to material contractual obligations in the first three months of 2019. Refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2018 for the discussion relating to commitments and contingencies.

 

Note 14 – Broadband Grants

 

In January 2017, the Company was awarded a broadband grant from the Minnesota Department of Employment and Economic Development (DEED). The grant provided up to 45% of the total cost of building fiber connections to homes and businesses for improved high-speed internet in unserved or underserved communities and businesses in the Company’s service area. The Company was eligible to receive $850,486 of the $1,889,968 total project costs. The Company provided the remaining 55% matching funds. At March 31, 2019, the Company has received $765,465. These projects have been completed and final documentation was provided to the DEED office in October 2018. This project was completed below the awarded project costs.

 

In November 2017, the Company was awarded a broadband grant from the DEED. The grant provided up to 42.6% of the total cost of building fiber connections to homes and businesses for improved high-speed internet in unserved or underserved communities and businesses in the Company’s service area. The Company was eligible to receive $736,598 of the $1,727,998 total project costs. The Company provided the remaining 57.4% matching funds. Construction and expenditures for these projects began in 2018. We have not received any funds for these projects as of March 31, 2019.

 

Note 15 – Subsequent Events

 

On April 15, 2019, the Company announced that its Chief Executive Officer Bill D. Otis will be retiring after 40 years with the Company. Mr. Otis will remain with the Company in his current role until a successor is named and then will provide consulting services to ensure a smooth and successful leadership transition. Mr. Otis intends to continue to serve on the BOD after the effective date of his retirement. See our 8-K filed with the SEC on April 15, 2019 for more information regarding Mr. Otis impending retirement.

 

We have evaluated and disclosed subsequent events through the filing date of this Quarterly Report on Form 10-Q.

 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Forward Looking Statements

 

The SEC encourages companies to disclose forward-looking information so that investors can better understand a company’s future prospects and make informed investment decisions. Certain statements in this Quarterly Report on Form 10-Q, including those relating to the impact on future revenue sources, pending and future regulatory orders, continued expansion of the communications network and expected changes in the sources of our revenue and cost structure resulting from our entrance into new communications markets, are forward-looking statements and are made pursuant to the safe harbor provisions of the Securities Litigation Reform Act of 1995. The Securities Litigation Reform Act of 1995 contains safe harbor provisions regarding forward-looking statements. This Quarterly Report on Form 10-Q may include forward-looking statements. These statements may include, without limitation, statements with respect to anticipated future operating and financial performance, growth opportunities and growth rates, acquisition and divestiture opportunities, business strategies, business and competitive outlook, and other similar forecasts and statements of expectation. Words such as “expects”, “anticipates”, “intends”, “plans”, “believes”, “seeks”, “estimates”, “targets”, “projects”, “will”, “may”, “continues” and “should”, and variations of these words and similar expressions, are intended to identify these forward-looking statements. These forward-looking statements are subject to risks and uncertainties that could cause our actual results to differ materially from such statements. 

 

Because of these risks, uncertainties and assumptions and the fact that any forward-looking statements made by us and our management are based on estimates, projections, beliefs and assumptions of management, they are not guarantees of future performance and you should not place undue reliance on them. In addition, forward-looking statements speak only as of the date they are made, which is the filing date of this Form 10-Q. With the exception of the requirements set forth in the federal securities laws or the rules and regulations of the SEC, we do not undertake any obligation to update or review any forward-looking information, whether as a result of new information, future events or otherwise.

 

Critical Accounting Policies and Estimates

 

Management’s discussion and analysis of financial condition and results of operations stated in this Form 10-Q, are based upon Nuvera’s consolidated unaudited financial statements that have been prepared in accordance with GAAP and, where applicable, conform to the accounting principles as prescribed by federal and state telephone utility regulatory authorities. We presently give accounting recognition to the actions of regulators where appropriate. The preparation of our financial statements requires our management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and the related disclosure of contingent assets and liabilities. Our senior management has discussed the development and selection of accounting estimates and the related Management Discussion and Analysis disclosure with our Audit Committee. For a summary of our significant accounting policies, see Note 1 – “Summary of Significant Accounting Policies” to the Consolidated Financial Statements contained in our Annual Report on Form 10-K for the year ended December 31, 2018, which is incorporated herein by reference.

 

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Results of Operations

 

Overview

 

Nuvera has a state-of-the-art; fiber-rich communications network and offers a diverse array of communications products and services. Our businesses provide local telephone service and network access to other communications carriers for connections to our networks. In addition, we provide long distance service, broadband Internet access, video services, and managed and hosted solutions services.

 

Our operations consist primarily of providing services to customers for a monthly charge. Because many of these services are recurring in nature, backlog orders and seasonality are not significant factors. Our working capital requirements include financing the construction of our networks, which consists of switches and cable, data, Internet protocol (IP) and digital TV. We also require capital to maintain our networks and infrastructure; fund the payroll costs of our highly skilled labor force; maintain inventory to service capital projects, our network and our telephone equipment customers; pay dividends and provide for the carrying value of trade accounts receivable, some of which may take several months to collect in the normal course of business.

 

Executive Summary

 

Highlights:

 

·      On November 24, 2017 DEED announced Nuvera as one of the companies that will receive state grants for broadband development. Nuvera received two of the thirty-nine grants announced by Lieutenant Governor Tina Smith. A total of $26.4 million was awarded by DEED with the aim of providing reliable, affordable high-speed internet to nearly 10,000 households, more than 2,000 businesses and more than 60 community institutions throughout the state. Nuvera was eligible to receive $736,598 of the $1,727,998, or 42.6%, of the total project costs to build fiber connections to homes and businesses in the rural areas of Hanska and White Rock. Construction on the projects began in the spring of 2018. Grant funds will be received by Nuvera as work progresses and costs are provided to the DEED. As of March 31, 2019, we have not yet received any funds for these projects.     

 

·      On July 31, 2018, the Company announced that it had completed its acquisition of Scott-Rice from Zayo for approximately $42 million in cash. Scott-Rice provides voice, video, and internet services with more than 18,000 connections, serving the communities of Prior Lake, Savage, Elko and New Market, Minnesota. The combined Nuvera-Scott-Rice company has approximately 66,000 connections. Nuvera financed the acquisition with its principal lender, CoBank. Further information regarding the CoBank loan terms and amounts can be found on the Company’s 8-K filed with the SEC on August 3, 2018.

 

·      On February 27, 2019, the Company’s BOD authorized and directed the Company to accept the FCC’s revised offer of A-CAM support and the revised associated service deployment obligations. Under the revised FCC offer Notice, the Company will be entitled to annually receive (i) $596,084 for its Iowa operations and (ii) $8,354,481 for its Minnesota operations. The Company will receive the revised A-CAM offer over the next 10 years starting in 2019. The Company will use the additional support that it receives through the A-CAM program to continue to meet its defined broadband build-out obligations, which the Company is currently completing. A letter of acceptance to elect the revised A-CAM support was filed by the Company with the FCC on March 8, 2019. The FCC accepted the Company’s letter on March 11, 2019. The Company expects to receive a true-up for support back to January 1, 2019 and an increased monthly payment representing the new revised A-CAM support offer for the next ten years.  

 

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·       Net income for the first quarter of 2019 totaled $2,292,300, which was a $642,227, or 38.92% increase compared to the first quarter of 2018. This increase was primarily due to the acquisition of Scott-Rice and increased A-CAM funding.

 

·      Consolidated revenue for the first quarter of 2019 totaled $15,972,418, which was a $4,359,232 or 37.54% increase compared to the first quarter of 2018. This increase was primarily due to the acquisition of Scott-Rice and increased A-CAM funding.

 

Business Trends

 

Included below is a synopsis of business trends management believes will continue to affect our business in 2019. 

 

Voice and switched access revenues are expected to continue to be adversely impacted by future declines in access lines due to competition in the communications industry from cable television providers (CATV), Voice over Internet Protocol (VoIP) providers, wireless, other competitors and emerging technologies. As we experience access line losses, our switched access revenue will continue to decline consistent with industry-wide trends. A combination of changing minutes of use, carriers optimizing their network costs, lower demand for dedicated lines and downward rate pressures may affect our future voice and switched access revenues. Without the acquisition of Scott-Rice, access line losses would have totaled 1,635 or 7.58% for the twelve months ended March 31, 2019 due to the reasons mentioned above. With the acquisition of Scott-Rice, access lines increased 4,808 or 22.29% for the twelve months ended March 31, 2019.   

 

The expansion of our state-of-the-art; fiber-rich communications network, growth in broadband customer sales along with continued migration to higher connectivity speeds and the sales of Internet value-added services such as on-line data backup, and hosted and managed service solutions are expected to continue to offset the revenue declines from the access line trends discussed above.

 

To be competitive, we continue to emphasize the bundling of our products and services. Our customers have the option to bundle local phone, high-speed Internet, long distance and video services. These bundles provide our customers with one convenient location to obtain all of their communications and entertainment options, a convenient billing solution and bundle discounts. We believe that product bundles positively impact our customer retention, and the associated discounts provide our customers the best value for their communications and entertainment options. We have a state-of-the-art, fiber-rich broadband network, which, along with the bundling of our voice, Internet and video services allows us to meet customer demands for products and services. We continue to focus on the research and deployment of advanced technological products that include broadband services, wireless services, private line, VoIP, digital video, IPTV and hosted and managed services.

 

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We continue to evaluate our operating structure to identify opportunities for increased operational efficiencies and effectiveness. This involves evaluating opportunities for task automation, network efficiency and the balancing of our workforce based on the current needs of our customers.

 

Financial results for the Communications Segment are included below:

 

 

Revenue

 

Local Service – We receive recurring revenue for basic local services that enable customers to make and receive telephone calls within a defined local calling area for a flat monthly fee. In addition to subscribing to basic local telephone services, our customers may choose from a variety of custom calling features such as call waiting, call forwarding, caller identification and voicemail. Local service revenue was $1,853,933, which is $526,716 or 39.69% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice.  

 

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Without the acquisition of Scott-Rice, the number of access lines we serve as a company have been decreasing, which is consistent with a general industry trend, as customers are increasingly utilizing other technologies, such as wireless phones and IP services. To help offset declines in local service revenue, we implemented an overall strategy that continues to focus on selling a competitive bundle of services. Our focus on marketing competitive service bundles to our customers creates value for the customer and aids in the retention of our voice lines. 

 

Network Access – We provide access services to other communications carriers for the use of our facilities to terminate or originate traffic on our network. Additionally, we bill SLCs to substantially all of our customers for access to the public switched network. These monthly SLCs are regulated and approved by the FCC. In addition, network access revenue is derived from several federally administered pooling arrangements designed to provide network support and distribute funding to ILECs. Network access revenue was $1,997,255, which is $332,240 or 19.95% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice, partially offset by lower minutes of use on our network.

 

In recent years, IXCs and others have become more aggressive in disputing both interstate carrier access charges and the applicability of access charges to their network traffic. We believe that long distance and other communication providers will continue to challenge the applicability of access charges either before the FCC or directly with the LECs. We cannot predict the likelihood of future claims and cannot estimate the impact.

 

Video – We receive monthly recurring revenue from our subscribers for providing commercial TV programming in competition with local CATV, satellite dish TV and off-air TV service providers. We serve twenty-two communities with our IPTV services and five communities with our CATV services. Video revenue was $2,989,037, which is $679,639 or 29.43% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice and a combination of rate increases introduced into several of our markets over the course of the last several years.     

 

Data – We provide high speed Internet to business and residential customers. Our revenue is earned based on the offering of various flat rate packages based on the level of service, data speeds and features. We also provide e-mail and managed services, such as web hosting and design, on-line file back up and on-line file storage. Data revenue was $5,401,710, which is $2,147,742 or 66.00% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice and an increase in data customers. We expect continued growth in this area will be driven by expansion of our service areas, our aggressively packaging service bundles and marketing managed service solutions to businesses.

 

A-CAM/FUSF – Prior to 2017, the Company received support from the FUSF based on the pooling and redistribution of revenues based on a company’s actual or average costs. With the acquisition of Scott-Rice, the company now receives FUSF for Scott-Rice based on their average costs. See Note 2 – “Revenue Recognition” for a discussion regarding FUSF.

 

From January 1, 2017 through July 31, 2018, we did not receive support from the FUSF, but had instead, elected to receive support based on the A-CAM. With the acquisition of Scott-Rice, the company now receives FUSF for Scott-Rice based on their average costs. The remainder of the company receives A-CAM support See Note 2 – “Revenue Recognition” for a discussion regarding the A-CAM. A-CAM/FUSF support totaled $2,738,373, which is $789,922 or 40.54% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the receipt of additional A-CAM funds through the additional A-CAM offer in 2018 and the addition of Scott-Rice.

 

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Other Revenue – Our customers are billed for toll and long-distance services on either a per call or flat-rate basis. This also includes the offering of directory assistance, operator service and long distance private lines. We also generate revenue from directory publishing, sales and service of CPE, bill processing and other customer services. Our directory publishing revenue in our telephone directories recurs monthly. We also provide retail sales and service of cellular phones and accessories through Telespire, a national wireless provider. We resell these wireless services as Nuvera Wireless, our branded product. We receive both recurring revenue for our wireless services, as well as revenue collected for the sales of wireless phones and accessories. Other revenue was $992,110, which is $117,027 or 10.55% lower in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This decrease was primarily due to a decrease in the sales and installation of CPE, partially offset by an increase due to the acquisition of Scott-Rice.

 

Cost of Services (excluding Depreciation and Amortization)

 

Cost of services (excluding depreciation and amortization) was $6,550,524, which is $1,305,760 or 24.90% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice, higher programming costs from video content providers and higher costs associated with increased maintenance and support agreements on our equipment and software.   

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses were $2,719,731, which is $754,715 or 38.41% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice.

 

Depreciation and Amortization

 

Depreciation and amortization was $3,036,325, which is $780,477 or 34.60% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice assets and increases in our broadband property, plant and equipment, reflecting our continual investment in technology and infrastructure in order to meet our customers’ demands for products and services.

 

Operating Income

 

Operating income was $3,665,838, which is $1,518,280 or 70.70% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to the acquisition of Scott-Rice.  

 

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See Consolidated Statements of Income (for discussion below)

 

Other Income (Expense) and Interest Expense 

 

Interest expense was $937,821, which is $650,886 or 226.84% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due to higher outstanding debt balances associated with the new loan we obtained to finance the Scott-Rice acquisition.

 

Interest and dividend income was $20,777, which is $33,084 or 61.42% lower in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This decrease was primarily due to a decrease in dividend income earned on our investments, partially offset by an increase in interest income earned on our increased cash balances.

 

Other income for the three months ended March 31, 2019 and 2018 included a patronage credit earned with CoBank as a result of our debt agreements with them. The patronage credit allocated and received in 2019 was $403,786, compared to $290,895 allocated and received in 2018. CoBank determines and pays the patronage credit annually, generally in the first quarter of the calendar year, based on its results from the prior year. We record these patronage credits as income when they are received.

 

Other investment income was $98,512, which is $43,971 or 80.62% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. Other investment income is primarily from our equity ownerships in several partnerships and limited liability companies.

 

Income Taxes

 

Income tax expense was $891,449, which is $249,757 or 38.92% higher in the three months ended March 31, 2019 compared to the three months ended March 31, 2018. This increase was primarily due increase in operating income, partially offset by an increase in interest expense. The effective income tax rate for the three months ending March 31, 2018 and 2017 was approximately 28.0%. The effective income tax rate differs from the federal statutory income tax rate primarily due to state income taxes and other permanent differences.

 

Liquidity and Capital Resources

 

Capital Structure

 

Nuvera’s total capital structure (long-term and short-term debt obligations, net of unamortized loan fees plus stockholders’ equity) was $137,896,115 at March 31, 2019, reflecting 55.3% equity and 44.7% debt. This compares to a capital structure of $136,191,452 at December 31, 2018, reflecting 54.8% equity and 45.2% debt. In the communications industry, debt financing is most often based on operating cash flows. Specifically, our current use of our credit facilities is in a ratio of approximately 2.37 times debt to EBITDA (as defined in the loan documents), which is well within acceptable limits for our agreements and our industry. Our management believes adequate operating cash flows and other internal and external resources, such as our cash on hand and revolving credit facility, are available to finance ongoing operating requirements, including capital expenditures, business development, debt service, temporary financing of trade accounts receivable and dividends.

 

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Liquidity Outlook

 

Our short-term and long-term liquidity needs arise primarily from (i) capital expenditures; (ii) working capital requirements needed to support the growth of our business; (iii) debt service; (iv) dividend payments on our stock and (v) potential acquisitions.

 

Our primary sources of liquidity for the three months ended March 31, 2019 were proceeds from cash generated from operations and cash reserves held at the beginning of the period. At March 31, 2019 we had working capital surplus of $281,572. Also at March 31, 2019, we had $10.0 million available under our revolving credit facility to fund any short-term working capital needs. The working capital surplus as of March 31, 2019 was primarily the result of increased cash balances, partially offset by the utilization of operating cash flows to fund operations and purchase capital equipment in lieu of using our revolving credit facility.

 

Cash Flows

 

We expect our liquidity needs to include capital expenditures, payment of interest and principal on our indebtedness, income taxes and dividends. We use our cash inflow to manage the temporary increases in cash demand and utilize our revolving credit facility to manage more significant fluctuations in liquidity caused by growth initiatives.

 

While it is often difficult for us to predict the impact of general economic conditions on our business, we believe that we will be able to meet our current and long-term cash requirements primarily through our operating cash flows, and anticipate that we will be able to plan for and match future liquidity needs with future internal and available external resources.  

 

We periodically seek to add growth initiatives by either expanding our network or our markets through organic or internal investments or through strategic acquisitions. We believe we can adjust the timing or the number of our initiatives according to any limitations which may be imposed by our capital structure or sources of financing. At this time, we do not anticipate our capital structure will limit our growth initiatives over the next twelve months.

 

The following table summarizes our cash flow:

 

 

Cash Flows from Operating Activities

 

Cash generated by operations in the first three months of 2019 was $6,324,342, compared to cash generated by operations of $3,987,317 in the first three months of 2018. The increase in cash flows from operating activities in 2019 was primarily due to increased net income and the timing of receivables, income taxes, accounts payable and other accrued liabilities.

 

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Cash generated by operations continues to be our primary source of funding for existing operations, capital expenditures, debt service and dividend payments to stockholders. Cash at March 31, 2019 was $5,280,890, compared to $1,584,769 at December 31, 2018.

 

Cash Flows Used in Investing Activities

 

We operate in a capital intensive business. We continue to upgrade our local networks for changes in technology to provide advanced services to our customers.

 

Cash flows used in investing activities were $1,996,080 during the first three months of 2019 compared to $1,436,410 for the first three months of 2018. Capital expenditures relating to on-going operations were $2,312,530 for the three months ended March 31, 2019, compared to $1,706,729 for the three months ended March 31, 2018. We expect total plant additions in 2019 to be approximately $13.6 million, net of broadband grants awarded by the State of Minnesota. Our investing expenditures are financed with cash flows from our current operations and advances on our line of credit. We believe that our current operations will provide adequate cash flows to fund our plant additions for the remainder of this year; however, funding from our revolving credit facility is available if the timing of our cash flows from operations does not match our cash flow requirements. As of March 31, 2019, we had $10.0 million available under our existing credit facility to fund capital expenditures and other operating needs.

 

Cash Flows Used in Financing Activities

 

Cash used in financing activities for the three months ended March 31, 2019 was $632,141. This included loan origination fees of $11,110 and the distribution of $621,031 of dividends to our stockholders. Cash used in financing activities for the three months ended March 31, 2018 was $1,191,007. This included long-term debt repayments of $675,000 and the distribution of $516,007 of dividends to our stockholders.  

 

Working Capital

 

We had working capital surplus (i.e. current assets minus current liabilities) of $281,572 as of March 31, 2019, with current assets of approximately $12.2 million and current liabilities of approximately $11.9 million, compared to a working capital deficit of $1,720,931 as of December 31, 2018. The ratio of current assets to current liabilities was 1.02 and 0.84 as of March 31, 2019 and December 31, 2018. The working capital surplus at March 31, 2019 was primarily the result of increased cash balances, partially offset by the utilization of operating cash flows to fund operations and purchase capital equipment in lieu of using our revolving credit facility. In addition, if it becomes necessary, we will have sufficient availability under our revolving credit facility to fund any fluctuations in working capital and other cash needs.

 

At March 31, 2019 and December 31, 2018 we were in compliance with all stipulated financial ratios in our loan agreements.

 

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Dividends and Restrictions

 

We declared a quarterly dividend of $0.12 per share for the first quarter of 2019 and $0.10 per share for the first quarter of 2018, which totaled $621,031 for the first quarter of 2019 and $516,007 for the first quarter of 2018.

 

We expect to continue to pay quarterly dividends during 2019, but only if and to the extent declared by our BOD on a quarterly basis and subject to various restrictions on our ability to do so (described below). Dividends on our common stock are not cumulative.  

 

There are security and loan agreements underlying our current CoBank credit facility that contain restrictions on our distributions to stockholders and investment in, or loans, to others. See below and Note 7 – “Secured Credit Facility” for additional information.

 

Our loan agreements include restrictions on our ability to pay cash dividends to our stockholders. However, we are allowed to pay dividends (a) (i) in an amount up to $2,700,000 in any year if our “Total Leverage Ratio,” that is, the ratio of our “Indebtedness” to “EBITDA” – as defined in the loan documents, is greater than 2.00 to 1.00, and (ii) in any amount if our Total Leverage Ratio is less than 2.00 to 1.00, and (b) in either case, if we are not in default or potential default under the loan agreements. Our current Total Leverage Ratio at March 31, 2019 is 2.37.  

 

Our BOD reviews quarterly dividend declarations based on our anticipated earnings, capital requirements and our operating and financial conditions. The cash requirements of our current dividend payment practices are in addition to our other expected cash needs. Should our BOD determine a dividend will be declared, we expect we will have sufficient availability from our current cash flows from operations to fund our existing cash needs and the payment of our dividends. In addition, we expect we will have sufficient availability under our revolving credit facility to fund dividend payments in addition to any fluctuations in working capital and other cash needs.

 

Long-Term Debt

 

See Note 7 – “Secured Credit Facility” for information pertaining to our long-term debt.

 

Recent Accounting Developments  

 

See Note 1 – “Basis of Presentation and Consolidation” for a discussion of recent accounting developments.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

Not required for a smaller reporting company.

 

Item 4. Controls and Procedures

 

Our principal executive officer and principal financial officer evaluated the effectiveness of our disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e) or Rule 15d-15(e), as of the end of the period subject to this Report. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective.

 

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Management’s Report on Internal Control over Financial Reporting

 

As of the end of the period covered by this Quarterly Report on Form 10-Q (the Evaluation Date), we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, regarding the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded, as of the end of the period covered by this Quarterly Report, that our disclosure controls and procedures ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act are recorded, processed, summarized and reported within the time periods specified in applicable rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, in a manner that allows timely decisions regarding required disclosure.

 

Changes in Internal Control over Financial Reporting

 

There have been no changes in the Company’s internal control over financial reporting that occurred during the Company’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting. 

 

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings.

 

Other than the litigation incidental to our business, there are no pending material legal proceedings to which we are a party or to which any of our property is subject. 

 

Item 1A. Risk Factors.

 

Not required for a smaller reporting company.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

 

None.

 

Item 3. Defaults Upon Senior Securities.

 

None.

 

Item 4. Mine Safety Disclosures

 

Not Applicable.

 

Item 5. Other Information.

 

None.

 

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Item 6. Exhibits.

           

Exhibit

Number           Description

 

3.2                   Bylaws of Nuvera Communications, Inc.

 

31.1                 Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31.2                 Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

32.1                 Certification of Chief Executive Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

32.2                 Certification of Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

101.INS          XBRL Instance Document

 

101.SCH         XBRL Taxonomy Extension Schema Document

 

101.CAL         XBRL Taxonomy Extension Calculation Linkbase Document

 

101.DEF         XBRL Taxonomy Extension Definition Linkbase Document

 

101.LAB         XBRL Taxonomy Extension Label Linkbase Document

 

101.PRE          XBRL Taxonomy Extension Presentation Linkbase Document

 

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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 behalf by the undersigned, thereunto duly authorized.

 

 

	NUVERA COMMUNICATIONS, INC.
Dated:  May 10, 2019		By   /s/ Bill D. Otis
		Bill D. Otis, President and Chief Executive Officer
Dated:  May 10, 2019		By   /s/ Curtis O. Kawlewski
		Curtis O. Kawlewski, Chief Financial Officer

 

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