TELEPHONE & DATA SYSTEMS INC /DE/ - Quarter Report: 2016 June (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

[x]

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

For the quarterly period ended June 30, 2016

OR

[ ]

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 001-14157

 

 

TELEPHONE AND DATA SYSTEMS, INC.

(Exact name of Registrant as specified in its charter)

Delaware

36-2669023

(State or other jurisdiction of incorporation or organization)

(IRS Employer Identification No.)

30 North LaSalle Street, Suite 4000, Chicago, Illinois 60602

(Address of principal executive offices) (Zip code)

Registrant’s telephone number, including area code: (312) 630-1900

Yes

No

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.

[x]

[ ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

[x]

[ ]

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

Large accelerated filer

[x]

Accelerated filer

[ ]

Non-accelerated filer

[ ]

Smaller reporting company

[ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

[ ]

[x]

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

Class

Outstanding at June 30, 2016

Common Shares, $0.01 par value

102,232,074 Shares

Series A Common Shares, $0.01 par value

7,224,148 Shares

 

 

 

 

Telephone and Data Systems, Inc.
Quarterly Report on Form 10-Q
For the Quarterly Period Ended June 30, 2016
Index	Page No.
Management Discussion and Analysis of Financial Condition and Results of Operations	1
Executive Overview	1
Terms used by TDS	2
Results of Operations – TDS Consolidated	4
U.S. Cellular Operations	7
TDS Telecom Operations	14
Wireline Operations	16
Cable Operations	19
HMS Operations	22
Liquidity and Capital Resources	24
Consolidated Cash Flow Analysis	27
Consolidated Balance Sheet Analysis	27
Supplemental Information Relating to Non-GAAP Financial Measures	29
Application of Critical Accounting Policies and Estimates	34
Recent Accounting Pronouncements	34
Regulatory Matters	35
Private Securities Litigation Reform Act of 1995 Safe Harbor Cautionary Statement	36
Risk Factors	38
Quantitative and Qualitative Disclosures About Market Risk	38
Financial Statements (Unaudited)	39
Consolidated Statement of Operations	39
Consolidated Statement of Comprehensive Income	40
Consolidated Statement of Cash Flows	41
Consolidated Balance Sheet	42
Consolidated Statement of Changes in Equity	44
Notes to Consolidated Financial Statements	46
Controls and Procedures	60
Legal Proceedings	60
Unregistered Sales of Equity Securities and Use of Proceeds	60
Other Information	61
Exhibits	62
Form 10-Q Cross Reference Index	63
Signatures	64

Telephone and Data Systems, Inc. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Executive Overview

The following discussion and analysis should be read in conjunction with Telephone and Data Systems, Inc.’s (“TDS”) interim consolidated financial statements and notes included within, and with the description of TDS’ business, its audited consolidated financial statements and Management's Discussion and Analysis (“MD&A”) of Financial Condition and Results of Operations included in TDS’ Annual Report on Form 10-K (“Form 10-K”) for the year ended December 31, 2015.  Analysis of TDS’ financial results compares the three and six months ended June 30, 2016 to the three and six months ended June 30, 2015.  Calculated amounts and percentages are based on the underlying actual numbers rather than the numbers rounded to millions as presented.

This report contains statements that are not based on historical facts, including the words “believes,” “anticipates,” “intends,” “expects” and similar words.  These statements constitute and represent “forward looking statements” as this term is defined in the Private Securities Litigation Reform Act of 1995.  Such forward looking statements involve known and unknown risks, uncertainties and other factors that may cause actual results, events or developments to be significantly different from any future results, events or developments expressed or implied by such forward looking statements. See Private Securities Litigation Reform Act of 1995 Safe Harbor Cautionary Statement for additional information.

TDS uses certain “non-GAAP financial measures” throughout the MD&A.  A discussion of the reason TDS determines these metrics to be useful and a reconciliation of these measures to their most directly comparable measures determined in accordance with accounting principles generally accepted in the United States of America (“GAAP”) are included in the Supplemental Information Relating to Non-GAAP Financial Measures section within the MD&A of this Form 10-Q Report.

General TDS is a diversified telecommunications company that provides high-quality communications services to approximately 6 million customers nationwide.  TDS provides wireless services through its 83%-owned subsidiary, United States Cellular Corporation (“U.S. Cellular”).  TDS also provides wireline services, cable services and hosted and managed services (“HMS”), through its wholly-owned subsidiary, TDS Telecommunications Corporation (“TDS Telecom”).  TDS’ segments operate almost entirely in the United States.  See Note 11 — Business Segment Information in the Notes to Consolidated Financial Statements for summary financial information on each business segment.

TDS Mission and Strategy

TDS’ mission is to provide outstanding communications services to its customers and meet the needs of its shareholders, its people, and its communities.  In pursuing this mission, TDS seeks to profitably grow its businesses, create opportunities for its associates and employees, and steadily build value over the long-term for its shareholders.  Across all of its businesses, TDS is focused on providing exceptional customer experiences through best-in-class services and products and superior customer service.

TDS’ long-term strategy calls for the majority of its capital to be reinvested in its operating businesses to strengthen their competitive positions, while still returning value to TDS shareholders through the payment of a regular quarterly cash dividend and share repurchases. 

In 2016, TDS is working to build shareholder value by continuing to execute on its strategies to build strong, competitive businesses providing high-quality, data-focused services and products.  Strategic efforts include:

• U.S. Cellular deployed 4G LTE as a result of U.S. Cellular’s strategic initiative to enhance its network.  4G LTE reaches 99% of postpaid connections and 98% of cell sites.  The adoption of data-centric smartphones and connected devices is driving significant growth in data traffic.  At the end of the second quarter of 2016, 76% of postpaid connections had 4G capable devices, with the LTE network handling 89% of data traffic.  U.S. Cellular continues to devote efforts to enhance its network capabilities with the deployment of VoLTE technology and plans a multi-year roll out beginning with one market in 2017. VoLTE, when deployed commercially, will enable customers to utilize the LTE network for both voice and data services, and will enable enhanced services such as high definition voice, video calling and simultaneous voice and data sessions.  The deployment of VoLTE also will expand U.S. Cellular’s ability to offer roaming services to additional carriers.

• U.S. Cellular continued to enhance its spectrum position and monetize non-strategic assets by entering into multiple agreements with third parties.  Certain of these agreements involve the purchase of licenses for cash, while others involve the exchange of licenses in non-operating markets for other licenses in operating markets and cash.  The first closing of one of the exchange agreements occurred in June 2016 at which time U.S. Cellular received $13 million of cash and recognized a gain of $9 million. The remaining license purchase and exchange transactions are expected to close in the second half of 2016, at which point U.S. Cellular expects to recognize additional gains.  See Note 5 — Acquisitions, Divestitures and Exchanges for additional information related to these transactions.
• U.S. Cellular is focused on expanding its solutions available to business and government customers, including a growing suite of machine-to-machine solutions across various categories.  U.S. Cellular will continue to enhance its advanced wireless services and connected solutions for consumer, business and government customers.

• TDS Telecom’s Wireline business is completing its planned deployment of fiber technology to provide internet speeds of up to 1 Gigabit per second (“Gbps”).  In non-fiber markets, TDS Telecom offers speeds reaching up to 50 Megabits per second (“Mbps”) using bonded copper lines.  By leveraging its high-speed network, Wireline continues to drive growth in its IPTV, broadband, and managedIP services.
• TDS Telecom’s Cable business has continued to make network capacity investments and offer more advanced services in its markets in line with its strategy to increase connections and grow broadband penetration.
• TDS Telecom’s HMS business is focused on growing recurring service revenues through increased sales of IT solutions including hosted and managed services, colocation services, and cloud computing, and through increasing the utilization of its service delivery platform and data center assets.

Terms Used by TDS

All defined terms in this MD&A are used as defined in the Notes to Consolidated Financial Statements, and additional terms are defined below:

• 4G LTE – fourth generation Long-Term Evolution which is a wireless broadband technology.
• Account – represents an individual or business financially responsible for one or multiple associated connections. An account may include a variety of types of connections such as handsets and connected devices.
• Auction 97 – An FCC auction of AWS-3 spectrum licenses that ended in January 2015.
• Auction 1002 – Auction 1002 is part of Auction 1000.  Auction 1000 is an FCC auction of 600 MHz spectrum licenses being held in 2016 involving: (1) a “reverse auction” in which broadcast television licensees submit bids to voluntarily relinquish spectrum usage rights in exchange for payments (referred to as Auction 1001); (2) a “repacking” of the broadcast television bands in order to free up certain broadcast spectrum for other uses; and (3) a “forward auction” of licenses for spectrum cleared through this process to be used for wireless communications (referred to as Auction 1002).
• Broadband Connections – refers to the number of Wireline customers provided high-capacity data circuits via various technologies, including DSL and dedicated internet circuit technologies or the Cable billable number of lines into a building for high-speed data services.
• Churn Rate – represents the percentage of the connections that disconnect service each month.  These rates represent the average monthly churn rate for each respective period.
• FCC – Federal Communications Commission.
• Gross Additions – represents the total number of new connections added during the period, without regard to connections that were terminated during that period.
• Machine-to-Machine or M2M – technology that involves the transmission of data between networked devices, as well as the performance of actions by devices without human intervention.  U.S. Cellular sells and supports M2M solutions to customers, provides connectivity for M2M solutions via the U.S. Cellular network, and has partnerships with device manufacturers and software developers who offer M2M solutions.
• IPTV Connections – represents the number of Wireline customers provided video services using IP networking technology.
• ManagedIP Connections – refers to the number of telephone handsets, data lines and IP trunks providing communications using IP networking technology.
• Net Additions – represents the total number of new connections added during the period, net of connections that were terminated during that period.
• Postpaid Average Billings per Account (“Postpaid ABPA”) – non-GAAP metric is calculated by dividing total postpaid service revenues plus equipment installment plan billings by the average number of postpaid accounts and by the number of months in the period.
• Postpaid Average Billings per User (“Postpaid ABPU”) – non-GAAP metric is calculated by dividing total postpaid service revenues plus equipment installment plan billings by the average number of postpaid connections and by the number of months in the period.
• Postpaid Average Revenue per Account (“Postpaid ARPA”) – metric is calculated by dividing total postpaid service revenues by the average number of postpaid accounts and by the number of months in the period.
• Postpaid Average Revenue per User (“Postpaid ARPU”) – metric is calculated by dividing total postpaid service revenues by the average number of postpaid connections and by the number of months in the period.
• Retail Connections – the sum of postpaid connections and prepaid connections.
• Smartphone Penetration – is calculated by dividing postpaid smartphone connections by postpaid handset connections.

• Universal Service Fund (“USF”) – A system of telecommunications collected fees and support payments managed by the FCC intended to promote universal access to telecommunications services in the United States.
• U.S. Cellular Connections - individual lines of service associated with each device activated by a customer.  This includes smartphones, feature phones, tablets, modems, and machine-to-machine devices.
• Video Connections – generally, a home or business receiving video programming counts as one video connection.  In counting bulk residential or commercial connections, such as an apartment building or a hotel, connections are counted based on the number of units/rooms within the building receiving service.
• Voice Connections – refers to the individual circuits connecting a customer to Wireline’s central office facilities or the Cable billable number of lines into a building for voice services.
• VoLTE – Voice over Long-Term Evolution is a technology specification that defines the standards and procedures for delivering voice communications and related services over 4G LTE networks.
• Wireline Residential Revenue per Connection – is calculated by dividing total Wireline residential revenue by the average number of total Wireline residential connections and by the number of months in the period.

Results of Operations — TDS Consolidated

					Three Months Ended June 30,								Six Months Ended June 30,
					2016			2015			2016 vs. 2015		2016			2015			2016 vs. 2015
(Dollars in millions)
Operating revenues
	U.S. Cellular				$	980		$	976		-		$	1,938		$	1,941		-
	TDS Telecom					300			295		2%			581			575		1%
	All other1					3			5		(40)%			7			12		(45)%
		Total operating revenues				1,283			1,276		1%			2,526			2,528		-
Operating expenses
	U.S. Cellular					962			968		(1)%			1,921			1,682		14%
	TDS Telecom					275			269		2%			540			528		2%
	All other1 2					5			7		(45)%			8			3		>100%
		Total operating expenses				1,242			1,244		-			2,469			2,213		12%
Operating income
	U.S. Cellular					18			8		>100%			17			259		(93)%
	TDS Telecom					24			26		(5)%			41			47		(12)%
	All other1 2					(1)			(2)		61%			(1)			9		>(100)%
		Total operating income				41			32		28%			57			315		(82)%
Other income (expenses)
	Equity in earnings of unconsolidated entities					36			35		3%			72			70		2%
	Interest and dividend income					15			10		52%			29			19		58%
	Interest expense					(43)			(34)		(26)%			(85)			(68)		(25)%
	Other, net					1			1		>(100)%			–			–		>(100)%
		Total investment and other income (expense)				9			12		(25)%			16			21		(24)%
Income before income taxes						50			44		14%			73			336		(78)%
	Income tax expense					18			18		4%			31			134		(77)%
Net income						32			26		20%			42			202		(79)%
	Less: Net income attributable to   noncontrolling interests, net of tax					4			3		18%			6			33		(82)%
Net income attributable to TDS shareholders					$	28		$	23		21%		$	36		$	169		(79)%
Capital expenditures					$	142		$	189		(25)%		$	267		$	293		(9)%
1	Consists of corporate and other operations and intercompany eliminations.
2	In 2015, TDS recognized an incremental gain compared to U.S. Cellular of $12 million on a tower sale as a result of lower asset basis in the assets disposed.

 

Overall, TDS’ 2016 Operating revenues were relatively flat compared to 2015.	The increase in operating expenses in the six months ended June 30, 2016 was due primarily to the absence of significant offsetting gains recognized from sales and exchanges of businesses and licenses.  Such gains were $252 million in 2015 compared to $9 million in 2016.

 

Refer to individual segment discussions in this MD&A for additional details on operating revenues and expenses at the segment level.

Equity in earnings of unconsolidated entities

Equity in earnings of unconsolidated entities represents TDS’ share of net income from entities in which it has a noncontrolling interest and that are accounted for by the equity method.  TDS’ investment in the Los Angeles SMSA Limited Partnership (“LA Partnership”) contributed $20 million and $19 million in the three months ended June 30, 2016 and 2015, respectively, and $40 million and $39 million in the six months ended June 30, 2016 and 2015, respectively, to Equity in earnings of unconsolidated entities.  See Note 7 — Investments in Unconsolidated Entities in the Notes to Consolidated Financial Statements for additional information.

Interest and dividend income

Interest and dividend income increased due to imputed interest income recognized on equipment installment plans of $12 million and $8 million in the three months ended June 30, 2016 and 2015, respectively, and $24 million and $15 million in the six months ended June 30, 2016 and 2015, respectively.

Interest expense

Interest expense increased due primarily to U.S. Cellular’s issuance of $300 million of 7.25% Senior Notes due 2064 in November 2015 and borrowing of $225 million on U.S. Cellular’s senior term loan facility that was drawn in July 2015.

Income tax expense

TDS’ effective tax rate on Income before income taxes for the three and six months ended June 30, 2016 was 36.3% and 42.3%, respectively, and for both the three and six months ended June 30, 2015 was 39.7%.  The lower effective tax rate for the three months ended June 30, 2016 resulted from a decrease in unrecognized tax benefits resulting from the expiration of statutes of limitation during the period in certain states.

Net income attributable to noncontrolling interests, net of tax

				Three Months Ended						Six Months Ended
				June 30,						June 30,
				2016			2015			2016			2015
(Dollars in millions)
Net income attributable to noncontrolling interests, net of tax
	U.S. Cellular noncontrolling public shareholders’			$	5		$	3		$	6		$	28
	Noncontrolling shareholders’ or partners’				(1)			–			–			5
				$	4		$	3		$	6		$	33

 

Net income attributable to noncontrolling interests, net of tax includes the noncontrolling public shareholders’ share of U.S. Cellular’s net income and the noncontrolling shareholders’ or partners’ share of certain U.S. Cellular subsidiaries’ net income (loss).  The decrease from 2015 to 2016 for the six month period is due to lower income from U.S. Cellular and certain other partnerships in 2016.

U.S. CELLULAR OPERATIONS

 

Business Overview

U.S. Cellular owns, operates, and invests in wireless markets throughout the United States.  U.S. Cellular is an 83%-owned subsidiary of TDS.  U.S. Cellular’s strategy is to attract and retain wireless customers through a value proposition comprised of a high-quality network, outstanding customer service, and competitive devices, plans, and pricing, all provided with a local focus. 

OPERATIONS

Serves customers with approximately 5.0 million connections including 4.5 million postpaid, 0.4 million prepaid and 0.1 million reseller and other connections Operates in 23 states Employs approximately 6,400 employees Headquartered in Chicago, Illinois 6,324 cell sites including 3,988 owned towers in service

 

 

Operational Overview

					YTD 2015	YTD 2016
		Postpaid Connections
			Gross Additions		391,000	412,000
			Net Additions		26,000	81,000
			Churn		1.41%	1.24%
				Handsets	1.32%	1.14%
				Connected Devices	2.38%	1.92%
			Connections – end of period		4,324,000	4,490,000
		Retail Connections – end of period			4,692,000	4,903,000
U.S. Cellular believes the increase in net additions in 2016 is a result of competitive services and products priced to offer the best value to customers and expanded equipment installment plan offerings.  Postpaid churn continued to decline due to enhancements in the customer experience, targeted retention programs and improvement in the overall credit mix of gross additions.

 

 

Smartphones represented 92% and 86% of total postpaid handset sales for the six months ended June 30, 2016 and 2015, respectively.  As a result, smartphone penetration increased to 77% of the postpaid handset base as of June 30, 2016, up from 69% a year ago.  Smartphone customers generally use more data than feature phone customers, thereby driving growth in service revenues. Continued growth in customer usage related to data services and products may result in increased operating expenses and the need for additional investment in spectrum, network capacity and network enhancements.

 

*Postpaid ABPU and ABPA are non-GAAP financial measures.  Refer to Supplemental Information Relating to Non-GAAP Financial Measures within this MD&A for a reconciliation of this measure.

 

Postpaid ARPU and Postpaid ARPA decreased for the three and six months ended June 30, 2016 due to industry-wide price competition, together with discounts on shared data plans provided to customers on equipment installment plans and those providing their own device at the time of activation or renewal.  Postpaid ARPU also decreased due to net additions of connected devices, which on a per unit basis contribute less revenue than handsets.  These factors were partially offset by the impacts of continued adoption of smartphones and the related increase in service revenues from data usage.

Equipment installment plans increase equipment sales revenue as customers pay for their wireless devices in installments at a total device price that is generally higher than the device price offered to customers in conjunction with alternative plans that are subject to a service contract.  Equipment installment plans also have the impact of reducing service revenues as many equipment installment plans provide for reduced monthly access charges.  In order to show the trends in total service and equipment revenues received, U.S. Cellular has presented Postpaid ABPU and Postpaid ABPA, which are calculated as Postpaid ARPU and Postpaid ARPA plus average monthly equipment installment plan billings per connection and account, respectively.

Equipment installment plan billings increased for the three and six months ended June 30, 2016 due to increased adoption of equipment installment plans by postpaid customers.  Postpaid ABPU decreased in 2016 as the increase in equipment installment plan billings was more than offset by the Postpaid ARPU drivers discussed above. Postpaid ABPA, however, increased in 2016 due to the increase in equipment installment plan billings and an increase in device connections per account, partially offset by the Postpaid ARPU and Postpaid ARPA drivers discussed above.

Financial Overview — U.S. Cellular

									Three Months Ended June 30,																Six Months Ended June 30,
																					2016 vs.														2016 vs.
									2016						2015						2015				2016						2015						2015
(Dollars in millions)
Retail service									$		680				$		734				(8)%				$		1,361				$		1,482				(8)%
Inbound roaming											38						49				(23)%						74						89				(17)%
Other											44						41				10%						86						82				5%
	Service revenues										762						824				(8)%						1,521						1,653				(8)%
Equipment sales											218						152				44%						417						288				45%
	Total operating revenues										980						976				-						1,938						1,941				-
System operations (excluding Depreciation, amortization and accretion reported below)											193						196				(2)%						376						387				(3)%
Cost of equipment sold											262						254				3%						518						492				5%
Selling, general and administrative											357						364				(1)%						719						731				(2)%
											812						814				-						1,613						1,610				-
	Operating cash flow*										168						162				3%						325						331				(2)%
Depreciation, amortization and accretion											154						151				2%						307						298				3%
(Gain) loss on asset disposals, net											5						5				(12)%						10						10				2%
(Gain) loss on sale of business and other exit costs, net											–						(2)				N/M						–						(113)				100%
(Gain) loss on license sales and exchanges											(9)						–				>(100)%						(9)						(123)				93%
	Total operating expenses										962						968				(1)%						1,921						1,682				14%
Operating income (loss)									$		18				$		8				>100%				$		17				$		259				(93)%
Net Income									$		27				$		20				37%				$		37				$		185				(80)%
Adjusted EBITDA*									$		218				$		207				5%				$		424				$		418				2%
Capital expenditures									$		93				$		134				(31)%				$		172				$		200				(14)%
*		Represents a non-GAAP financial measure.  Refer to Supplemental Information Relating to Non-GAAP Financial Measures within this MD&A for a reconciliation of this measure.
N/M - Percentage change not meaningful

 

 

 

Service revenues consist of: Retail Service - Charges for access, airtime, roaming, recovery of regulatory costs and value added services, including data services and products Inbound Roaming - Charges to other wireless carriers whose customers use U.S. Cellular’s wireless systems when roaming Other – Primarily amounts received from the Federal USF and tower rental revenues   Equipment revenues consist of: Sales of wireless devices and related accessories to new and existing customers, agents, and third-party distributors

 

Key components of changes in the statement of operations line items were as follows:

Total operating revenues

Service revenues decreased for the three and six months ended June 30, 2016 as a result of (i) a decrease in retail service revenues driven by industry-wide price competition, including discounts on shared data plans provided to customers on equipment installment plans and those providing their own device at the time of activation or renewal; and (ii) reductions in inbound roaming revenues driven by lower roaming rates.  Such reductions were partially offset by an increase in the average connections base and continued adoption of shared data plans.

 

Federal USF revenue was $23 million and $46 million for the three and six months ended June 30, 2016, respectively, which remained flat when compared to the same periods last year. Pursuant to the FCC's Reform Order (“Reform Order”), U.S. Cellular’s Federal USF support was to be phased down at the rate of 20% per year beginning July 1, 2012. The Phase II Mobility Fund was not operational as of July 2014 and, therefore, as provided by the Reform Order, the phase down was suspended at 60% of the baseline amount. U.S. Cellular will continue to receive USF support at the 60% level until the FCC takes further action. At this time, U.S. Cellular cannot predict the changes that the FCC might make to the USF high cost support program and, accordingly, cannot predict whether such changes will have a material adverse effect on U.S. Cellular’s business, financial condition or results of operations. 

 

Equipment sales revenues increased for the three and six months ended June 30, 2016 due primarily to an increase in average revenue per device sold from sales under equipment installment plans and an increase in the number of devices sold. Equipment installment plan sales contributed $162 million and $69 million during the three months ended June 30, 2016 and 2015, respectively, and $309 million and $137 million for the six months ended June 30, 2016 and 2015, respectively.  Equipment installment plans represented 69% of the total postpaid devices sold to end users for the three and six months ended June 30, 2016 and 44% and 43% for the three and six months ended June 30, 2015, respectively.  Equipment installment plan connections represented 37% and 20% of total postpaid connections as of June 30, 2016 and 2015, respectively.

 

System operations expenses

System operations expenses remained relatively flat for the three months ended June 30, 2016 when compared to the three months ended June 30, 2015.

System operations expenses decreased 3% to $376 million for the six months ended June 30, 2016 when compared to the six months ended June 30, 2015.  The primary drivers were as follows:

Expenses incurred when U.S. Cellular’s customers used other carriers’ networks while roaming decreased $12 million or 12% to $90 million driven primarily by lower rates for both data and voice traffic, partially offset by increased data roaming usage.

 

Customer usage expenses decreased $10 million or 10% to $88 million driven by a decrease in circuit costs from the migration to LTE and lower fees for platform and content providers.

The aforementioned drivers were partially offset by maintenance, utility and cell site expenses, which increased $11 million or 6% to $197 million reflecting higher support costs for the expanded 4G LTE network, increased cell site rent, the completion of certain tower maintenance and repair projects, and other maintenance activities.

 

U.S. Cellular expects system operations expenses to increase in the future to support the continued growth in cell sites and other network facilities as it continues to add capacity, enhance quality and deploy new technologies as well as to support increases in total customer data usage.  However, these increases are expected to be offset to some extent by cost savings generated by shifting data traffic to the 4G LTE network from the 3G network.

Cost of equipment sold

Cost of equipment sold increased primarily as a result of a 6% and 7% increase in devices sold for the three and six months ended June 30, 2016, respectively.  Cost of equipment sold included $174 million and $105 million related to equipment installment plan sales for the three months ended June 30, 2016 and 2015, respectively, and $334 million and $191 million for the six months ended June 30, 2016 and 2015, respectively.  Loss on equipment, defined as Equipment sales revenues less Cost of equipment sold, was $44 million and $102 million for the three months ended June 30, 2016 and 2015, respectively, and $101 million and $204 million for the six months ended June 30, 2016 and 2015, respectively.

Selling, general and administrative expenses

Selling, general and administrative expenses remained relatively flat for the three and six months ended June 30, 2016 when compared to the same periods last year.

Depreciation, amortization, and accretion expenses

The increase in Depreciation, amortization, and accretion expenses for the three and six months ended June 30, 2016 is mainly driven by the increase in amortization expense related to billing system upgrades.

(Gain) loss on sale of business and other exit costs, net

The net gain for the six months ended June 30, 2015 was due primarily to a $108 million gain recognized on sale of towers and certain related contracts, assets and liabilities.

(Gain) loss on license sales and exchanges, net

The net gains in 2016 and 2015 were due to gains recognized on license exchange transactions with third parties.

See Note 5 — Acquisitions, Divestitures and Exchanges in the Notes to Consolidated Financial Statements for additional information.  

TDS TELECOM OPERATIONS

 

Business Overview

TDS Telecom operates in three reportable segments: Wireline, Cable and HMS. The overall strategy for the Wireline and Cable businesses is to own the best data pipes in each market in order to capitalize on data growth and the need for higher broadband speeds and leverage that growth by bundling services with video and voice.  In addition, through its HMS business, TDS Telecom provides a wide range of Information Technology (“IT”) services including colocation, dedicated hosting, hosted application management, cloud computing services and planning, engineering, procurement, installation, sales and management of  IT infrastructure hardware solutions.

OPERATIONS

Wireline and Cable serve approximately 1 million broadband, video and voice connections in 34 states. Wireline operates 105 incumbent local exchange carriers (“ILEC”) in 25 states and competitive local exchange carriers (“CLEC”) in 4 states. Cable operates primarily in Oregon, Utah, Colorado, New Mexico and Texas. HMS operates a total of eight data centers.  It owns two data centers in Iowa, and one each in Minnesota, Wisconsin, Colorado and Oregon and it leases two data centers in Arizona.

 

Financial Overview — TDS Telecom

					Three Months Ended June 30,								Six Months Ended June 30,
											2016 vs.								2016 vs.
					2016			2015			2015		2016			2015			2015
(Dollars in millions)
Operating revenues
	Wireline				$	175		$	176		-		$	348		$	352		(1)%
	Cable					45			45		2%			90			88		2%
	HMS					80			76		6%			144			137		6%
	Intra-company elimination					(1)			(1)		20%			(2)			(2)		(2)%
		TDS Telecom operating revenues				300			295		2%			581			575		1%
Operating expenses
	Wireline					151			152		(1)%			304			303		-
	Cable					46			41		12%			90			83		8%
	HMS					80			78		2%			148			144		3%
	Intra-company elimination					(1)			(1)		20%			(2)			(2)		(2)%
		TDS Telecom operating expenses				275			269		2%			540			528		2%
TDS Telecom operating income					$	24		$	26		(5)%		$	41		$	47		(12)%
Net income					$	15		$	16		(6)%		$	25		$	29		(13)%
Adjusted EBITDA*					$	80		$	79		-		$	156		$	159		(2)%
Capital expenditures					$	46		$	53		(14)%		$	88		$	90		(2)%
Numbers may not foot due to rounding.
*	Represents a non-GAAP financial measure.  Refer to Supplemental Information Relating to Non-GAAP Financial Measures within this MD&A for a reconciliation of this measure.

 

 

Three and Six Months Ended Operating revenues for the three and six months ended June 30, 2016 grew slightly as increases in revenues from HMS and Cable operations were offset by declines in Wireline commercial and wholesale revenues.

 

Total operating expenses

Operating expenses for the three and six months ended June 30, 2016 increased to support growth in HMS and Cable.