NUVR Nuvera Communications Inc (QB)

Disaggregation of Revenue

The following table summarizes revenue from contracts with customers for the quarters ended March 31, 2018 and 2017:

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Approximately 79% of our total revenue is from month-to-month and other contracted revenue from customers. Approximately 19% of our total revenue is from revenue sources outside of the scope of ASC 606. The remaining 2% of total revenue is from other sources including CPE and equipment sales and installation.

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 when the service is rendered.

Revenues earned from interexchange carriers (IXCs) 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. Revenues are billed at tariffed access rates for both interstate and intrastate calls. Revenues for these services are recognized based on the period the access is provided.

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 telecommunication 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 telecommunication 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.

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National Exchange Carriers Association (NECA) pools and redistributes the SLCs to various telecommunication 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.

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. 

Cellular – We provide retail sales and service of cellular phones and accessories through Telespire, a national wireless provider. We resell these wireless services as TechTrends Wireless, our branded product. We receive both recurring revenue for our wireless services, as well as revenue collected for the sale of wireless phones and accessories. The majority of the revenue in this category is earned through a monthly commission from Telespire for a billing and collecting arrangement with Telespire. We do not receive revenue from the end-user customer, but instead receive a monthly commission from the Telespire. Other revenue in this category is immaterial to our overall revenues.  

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.

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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.

New Ulm Telecom’s and Sleepy Eye Telephone Company’s (SETC) settlements from the pools were based on their actual costs to provide service, while the settlements for NU Telecom subsidiaries – Western Telephone Company, Peoples Telephone Company and Hutchinson Telephone Company (HTC) were based on nationwide average schedules. Access revenues for New Ulm Telecom and SETC include an estimate of a cost study each year that is trued-up subsequent to the end of any given year. Our management believes the estimates included in our preliminary cost study were reasonable. We cannot predict the future impact that industry or regulatory changes will have on interstate access revenues.

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

Effective January 1, 2017 we no longer 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 has instead, elected to receive funding based on the Alternative Connect America Cost Model (A-CAM) as described below.

A-CAM

The FUSF was established as part of the Telecommunications Act of 1996 and provides subsidies to telecommunications providers as means of increasing the availability and affordability of advanced telecommunications services. In 2011, significant reform was introduced, including the creation of the CAF, to help modernize the FUSF and promote support of these telecom services in the nation’s high cost areas. In 2016, the FCC announced additional reform to further transition the CAF from supporting the provision of voice services to the provision of broadband services. On March 30, 2016, the FCC issued a Report and Order (2016 Order) that adopts the following changes to the FUSF for rate-of-return carriers:

·          Establishes a voluntary cost model; 

·          Creates specific broadband deployment obligations; 

·          Provides a mechanism for support of broadband-only deployment; 

·          Gradually reduces the authorized rate-of-return from 11.25 percent to 9.75 percent;

·          Eliminates support in those local areas served by unsubsidized competitors;

·          Establishes “glide-path” transition periods for all the new changes; and

·          Maintains the $2 billion budget established by the 2011 Transformation Order.

While the 2011 FUSF Transformation Order established CAF Phase I and CAF Phase II as high cost support mechanisms for the price cap carriers (i.e., the larger, national local exchange carriers (LECs) such as Verizon and AT&T), it was not as specific about how subsidies would change for the rate-of-return carriers (i.e., the smaller LECs, including all rural LECs). In contrast, the 2016 Order focused on the rate-of-return carriers, announced specific changes to existing funding mechanisms as well as a new funding mechanism, and provided rural telecommunications providers with greater certainty about future support.

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One of the major changes introduced by the 2016 Order was the creation of the A-CAM, a new CAF support mechanism for rate-of-return carriers. Utilization of the A-CAM was voluntary; and rate-of-return carriers may have instead chose to continue relying on the legacy support mechanism known as interstate common line support (ICLS), but then modified and renamed CAF Broadband Loop Support. Each carrier needed to decide which support mechanism to elect, and then choose one or the other, per state.

In our Form 10-Q for the quarter ended September 30, 2016, NU Telecom disclosed that we had elected the A-CAM for our Minnesota and Iowa operations, replacing our former ICLS. NU Telecom will receive A-CAM support for a period of ten years in exchange for meeting defined broadband build-out requirements. At the time of NU Telecom’s election, the FCC had not yet determined the final award numbers. 

Consistent with the stated disclosure in our Form 10-Q, NU Telecom notified the FCC that we would continue to elect the A-CAM program. Under the report that accompanied the FCC December 20, 2016 Public Notice, NU Telecom would annually receive (i) $391,896 for our Iowa operations and (ii) $6,118,567 for our Minnesota operations. The Company will use the annual $6.5 million that we receive through the A-CAM program to meet our defined broadband build-out obligations. The A-CAM payments will replace the Company’s former ICLS payments.

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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. Overall commissions paid to our sales representatives are immaterial based on our current commission structure. Due to the immaterial amount of commissions paid and the fact that most of our customers are billed under month-to-month service agreements that generally have no penalties associated with them if canceled by the customer, the Company has applied the practical expedient that allow customer acquisition costs to be expensed as incurred. 

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 – 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, ACB (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 6 – “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 in companies carried on the equity or cost basis due to a lack of quoted market 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, 2017. We believe the carrying value of our investments is not impaired.

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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.

Note 4 – 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 $39,805,349 at March 31, 2018 and December 31, 2017.    

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 2017 and 2016, we engaged an independent valuation firm to complete our annual impairment testing for existing goodwill. For 2017 and 2016, 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 $588,771 and $617,271 for the three months ended March 31, 2018 and 2017. Amortization expense for the remaining nine months of 2018 and the five years subsequent to 2018 is estimated to be:

Note 5 – Secured Credit Facility

We have a credit facility with CoBank. Under the credit facility, we entered into a master loan agreement (MLA) and a series of supplements to the respective MLA.

NU Telecom and its respective subsidiaries also have entered into security agreements under which substantially all the assets of NU Telecom and its respective subsidiaries have been pledged to CoBank as collateral. In addition, NU Telecom 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 December 31, 2021.  

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 $2,100,000 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 2.50 to 1.00, and (ii) in any amount if our Total Leverage Ratio is less than 2.50 to 1.00, and (b) in either case, if we are not in default or potential default under the loan agreements. On March 31, 2016 our Total Leverage Ratio fell below 2.50, thus eliminating any restrictions on our ability to pay cash dividends to our stockholders. Our current Total Leverage Ratio at March 31, 2018 is 1.45.  

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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 fixed coverage ratio. At March 31, 2018 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.  

As described in Note 6 – “Interest Rate Swaps,” we have entered into an IRSA that effectively fixed our interest rates and cover $14.0 million at a weighted average rate of 3.72%, as of March 31, 2018. The remaining debt of $21.9 million ($9.0 million available under the revolving credit facilities and $12.9 million currently outstanding) remains subject to variable interest rates at an effective weighted average interest rate of 4.38%, as of March 31, 2018.    

Note 6 – 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 required 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 June 18, 2015 we entered into an IRSA with CoBank covering $14.0 million of our aggregate indebtedness to CoBank. This swap effectively locked in the interest rate on $14.0 million of variable-rate debt through June 2018. 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 adjust s 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 . N et interest payments are reported in our consolidated income statement as interest expense.

Our IRSA under our credit facilities qualifies as 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.

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The fair value of the Company’s IRSA is determined based on valuations received from CoBank and is 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, 2018, the fair value receivable of the swap was $22,579, which has been recorded net of deferred tax expense of $6,444, for the $16,135 in accumulated other comprehensive income.

Note 7 – 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 11 – “Segment Information”.

Note 8 – Guarantees

NU Telecom has guaranteed a ten-year loan owed by FiberComm, LC, maturing on September 30, 2021. As of March 31, 2018, we have recorded a liability of $151,434 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.

Note 9 – Deferred Compensation

As of March 31, 2018 and December 31, 2017, we have recorded other deferred compensation relating to executive compensation payable to certain former executives of past acquisitions.   

Note 10 – Restricted Stock Units (RSU)

On February 24, 2017, our Board of Directors (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 NU Telecom 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 us 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.

On July 25, 2017, our BOD granted 6,077 shares of RSUs in the Common Stock of the Company to its executive officers under the 2017 Plan. We recognize share-based compensation expense for these RSUs over the vesting period of the RSUs, which was determined by our BOD. The 2017 RSUs will vest on December 31, 2019, at which point, the executives will be able to receive Common Stock in the Company in exchange for the RSUs.

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On March 23, 2018, our BOD and Compensation Committee granted awards to the Company’s executive officers under the 2017 Plan. We recognize share-based compensation expense for these RSU’s over the vesting period of the RSUs’ which was determined by our BOD. Each executive officer received a time-based RSU and a performance-based RSU. The time-based RSUs were computed as a percentage of the executive officer’s base salary based on the closing price of Company common stock of $17.00 on March 26, 2018. 4,044 RSU’s were granted and the RSU’s will vest 100% on December 31, 2020, at which point, the executive officers will be able to receive Common Stock in the Company in exchange for the RSUs. The performance-based RSUs were computed as a percentage of the executive officer’s base salary based on the closing price of Company common stock of $17.00 on March 26, 2018. The RSU’s will vest based on the Company’s average Return on Invested Capital (ROIC) for the three years ended December 31, 2020. 5,750 RSU’s were granted as a target and the RSU’s will vest 100% on December 31, 2020 if ROIC levels are attained, at which point, the executive officers will be able to receive Common Stock in the Company in exchange for the RSUs. The executive officers may earn more or less RSU’s based on if the actual ROIC over the time period is more or less than target.

Note 11 – Segment Information  

We operate in the Telecom Segment and have no other significant business segments. The Telecom 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 Telecom Segment operates the following incumbent local exchange carriers (ILECs) and competitive local exchange carriers (CLECs) and has investment ownership interests as follows:

Telecom Segment

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Note 12 – 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 2018. Refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2017 for the discussion relating to commitments and contingencies.

Note 13 – Broadband Grants

In January 2017, the Company was awarded $1,889,968 in broadband grants from the Minnesota Department of Employment and Economic Development (DEED). The grants provided up to 45% of the 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 will receive $850,486 of the total project costs. The Company will provide the remaining 55% matching funds. At March 31, 2018, the Company has received $374,543. These projects will be completed in 2018.

In November 2017, the Company was awarded $1,727,998 in broadband grants from the DEED. The grants provided up to 42.6% of the 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 will receive $736,598 of the total project costs. The Company will provide the remaining 57.4% matching funds. Construction and expenditures for these projects will begin in 2018.