PAETEC Holding Corp. Announces Third Quarter 2009 Results

November 5, 2009 7:00 AM EST

    --  Third quarter revenue of $395.7 million, a $500 thousand sequential
        increase over second quarter 2009 revenue
    --  Third quarter adjusted EBITDA* of $64.2 million, an increase of 11.2%
        over third quarter 2008 and $700 thousand sequentially over second
        quarter 2009
    --  27thconsecutive quarter of positive free cash flow,* which increased by
        $200 thousand from second quarter 2009 to $36.5 million
    --  $10.6 million reduction in loans outstanding under our credit facilities
        during third quarter 2009

FAIRPORT, N.Y.--(BUSINESS WIRE)-- PAETEC Holding Corp. (NASDAQ GS: PAET) today announced third quarter 2009 financial and operating results. "PAETEC demonstrated strong operating and financial results in third quarter 2009 in a challenging environment," said Arunas A. Chesonis, chairman and CEO. "Revenue, adjusted EBITDA, and free cash flow increased on a sequential basis for the third quarter 2009. We reduced debt under our credit facilities by $10.6 million and our cash position remains strong at $141.5 million at the end of third quarter 2009. We are making smart moves by using this slowdown in the economy to analyze processes to drive further cost savings and to strengthen our sales efforts, thus positioning PAETEC to be more efficient when growth accelerates." Financial results for third quarter 2009 included the following:

    --  Third quarter revenue of $395.7 million, which represented a 2.6%
        decrease from third quarter 2008 revenue of $406.1 million;
    --  Third quarter adjusted EBITDA of $64.2 million, which represented an
        11.2% increase over third quarter 2008 adjusted EBITDA of $57.8 million;
    --  Third quarter net loss of $6.5 million compared to third quarter 2008
        net loss of $355.8 million;
    --  Third quarter net cash provided by operating activities of $40.8 million
        compared to third quarter 2008 net cash provided by operating activities
        of $24.8 million;
    --  A cash balance of $141.5 million at September 30, 2009; and
    --  Voluntary repayment of $10.0 million of loans outstanding under PAETEC's
        revolving credit facility.

Quarterly Results - Third Quarter 2009 Compared to Third Quarter 2008

Revenue

    --  Total revenue of $395.7 million decreased 2.6% or $10.4 million for
        third quarter 2009 from third quarter 2008 primarily due to a decline in
        access revenue and non-core basic telephone service ("POTS").
    --  Core network services revenue grew 0.5% or $1.3 million year over year
        primarily due to a 10.1% increase in PAETEC's data revenue, generated
        principally by sales of its Dynamic IP and MPLS VPN products.
    --  Core carrier services revenue decreased 3.1% or $1.5 million for third
        quarter 2009 from third quarter 2008 due to lower usage-based revenue.
    --  Integrated solutions revenue of $16.3 million increased 1.0% or $0.2
        million over third quarter 2008 as a result of modest growth in both
        hardware and software sales.

Adjusted EBITDA and Margins

Adjusted EBITDA for third quarter 2009 increased 11.2% to $64.2 million over adjusted EBITDA of $57.8 million for third quarter 2008. Adjusted EBITDA margin, which represents adjusted EBITDA as a percentage of total revenue, improved to 16.2% for third quarter 2009 compared to 14.2% for third quarter 2008.

Cost of goods sold for third quarter 2009 decreased 4.3% or $8.8. Gross margin for third quarter 2009 increased to 50.8% from 49.9% for third quarter 2008 due in part to attrition of customers purchasing lower margin products and the positive effects of network grooming efforts.

Selling, general and administrative ("SG&A") expenses, excluding stock-based compensation, decreased 5.3% or $7.7 million for third quarter 2009 from third quarter 2008 due to initiatives instituted by management over the past several quarters to better align costs more closely with revenue performance and expectations. As a percentage of total revenue, SG&A expenses, excluding stock-based compensation, were 34.6% for third quarter 2009 compared to 35.6% for third quarter 2008.

Net Loss

Net loss for third quarter 2009 was $6.5 million compared to net loss of $355.8 million for third quarter 2008. The net loss for third quarter 2008 primarily reflected a $340.0 million goodwill impairment charge and $3.8 million in integration and separation costs.

Interest expense for third quarter 2009 increased to $19.8 million from $18.2 million for third quarter 2008. The increase in interest expense was primarily due to higher weighted average interest rates following PAETEC's issuance in June 2009 of its 8 7/8% senior secured notes due 2017 and application of the note proceeds to repay outstanding credit facility term loans.

Sequential Results - Third Quarter 2009 compared to Second Quarter 2009

Revenue

    --  Total revenue for third quarter 2009 increased 0.1% or $0.5 million from
        second quarter 2009 revenue largely due to the strength in core network
        services revenue.
    --  Core network service revenue increased 0.9% or $2.5 million, due to
        strong revenue growth including Dynamic IP and MPLS VPN products.
    --  Core carrier service revenue for third quarter 2009 declined 6.0% or
        $2.9 million from the prior quarter as a result of lower usage-based
        revenue.
    --  Integrated solutions revenue for third quarter 2009 increased 5.3% or
        $0.8 million over second quarter 2009.

Adjusted EBITDA and Margins

Adjusted EBITDA of $64.2 million for third quarter 2009 represented an increase of 1.1% over adjusted EBITDA of $63.5 million for second quarter 2009. Adjusted EBITDA margin was 16.2% for third quarter 2009 compared to 16.1% for second quarter 2009.

Third quarter 2009 cost of goods sold decreased 1.2% or $2.3 million from second quarter 2009. Gross margin increased to 50.8% from 50.2% in the second quarter 2009.

SG&A expenses, excluding stock-based compensation, increased 1.6% from second quarter 2009. As a percentage of total revenue, SG&A expenses, excluding stock-based compensation, increased to 34.6% from 34.1% for second quarter 2009. The increase in SG&A was primarily attributable to higher commission and salary expenses.

Net Loss

Net loss for third quarter 2009 decreased to $6.5 million from a net loss of $16.5 million for second quarter 2009. The net loss for second quarter 2009 primarily reflected one-time debt extinguishment and related costs of $10.3 million. Interest expense increased from $17.3 million in the second quarter 2009 to $19.8 million for third quarter 2009. The increase in interest expense was primarily due to higher weighted average interest rates following PAETEC's issuance of its senior secured notes and application of the note proceeds to repay outstanding credit facility term loans.

Capital Expenditures

Capital expenditures for third quarter 2009 were $27.7 million, or 7.0% of total revenue, compared to $31.3 million, or 7.7% of total revenue, for third quarter 2008. Capital expenditures for third quarter 2009 were largely applied to investment in enhancements to PAETEC's network.

Compared to second quarter 2009, capital expenditures for third quarter 2009 increased 2.0% from $27.2 million. Capital expenditures as a percentage of total revenue for second quarter 2009 were 6.9%.

Cash Flow and Liquidity

PAETEC had a quarter-end cash balance of $141.5 million compared to a second quarter 2009 quarter-end cash balance of $139.7 million, primarily as a result of higher operating cash flows that were partially offset by the early voluntary repayment of $10.0 million of loans outstanding under PAETEC's revolving credit facility. Cash flow provided by operations increased to $40.8 million in third quarter 2009 from $38.2 million in second quarter 2009. Free cash flow for third quarter 2009 was $36.5 million, which represented a 0.5% increase from second quarter 2009 and the 27th consecutive quarter of free cash flow generation.

Indebtedness

At September 30, 2009, PAETEC had $930.9 million in debt outstanding under its term loan credit facility, revolver, and senior notes.

At September 30, 2009, $240.9 million was outstanding under PAETEC's senior credit facility term loans, which have a maturity date of February 28, 2013. In third quarter 2009, PAETEC made a scheduled quarterly principal payment of $0.6 million on the term loans. At the end of third quarter 2009, PAETEC was well within the sole financial maintenance covenant in its credit facility, which provides for a maximum permissible ratio of consolidated debt (defined as consolidated debt less cash on hand in excess of $20.0 million) to consolidated EBITDA (as defined) of 5.00:1.00.

At September 30, 2009, $40.0 million of PAETEC's revolver remained drawn. The outstanding revolving loans have a maturity date of February 28, 2012.

At September 30, 2009, PAETEC had outstanding $350.0 million principal amount of 87/8% senior secured notes due 2017 and $300.0 million principal amount of 9.5% senior unsecured notes due 2015. The notes have no financial maintenance covenants.

Common Stock Repurchase Program

PAETEC repurchased a total of 299,900 shares of common stock for an aggregate cost of $780,628 or $2.60 average cost per share, in third quarter 2009. Since the inception of its stock repurchase program in August 2008, PAETEC has repurchased approximately 6.8 million shares of common stock for an aggregate price of approximately $14.5 million under the program.

Full Year 2009 Outlook

"We are pleased to reaffirm our full year 2009 guidance," said Keith Wilson, PAETEC's chief financial officer.

PAETEC's revenue and adjusted EBITDA expectations for the full year 2009 assume, among other matters, that there is no further significant decline in economic conditions and that there are no significant changes in the competitive or regulatory environments. PAETEC's revenue and adjusted EBITDA expectations for full year 2009 are as follows:

($ in millions)

Revenue          $1,575 to $1,585

Adjusted EBITDA  $245 to $255

Conference Call

As previously announced, PAETEC will host a conference call today at 8:30 a.m. ET to discuss third quarter results and full year 2009 guidance. Chairman and CEO Arunas Chesonis, Chief Financial Officer Keith Wilson, and Chief Operating Officer EJ Butler, Jr. will be participating. A live webcast and a replay of the call will be available at www.paetec.com.

Conference Call details are as follows:

US/Canada Dial in: (866) 314-4483

International: (617) 213-8049

Passcode: 45125083

Audio Webcast:
http://phx.corporate-ir.net/phoenix.zhtml?p=irol-eventDetails&c=190031&eventID=2484118

Replay details are as follows:

Replay Dates: November 5, 2009, 11:30 a.m. ET through November 19, 2009

US/Canada Replay Dial in: (888) 286-8010

International Replay Dial in (617) 801-6888

Replay Passcode: 23306870

Audio Replay Webcast:
http://phx.corporate-ir.net/phoenix.zhtml?p=irol-eventDetails&c=190031&eventID=2484118

Supplemental Information

A supplemental presentation of information complementary to the information presented in this release and that will be discussed on the conference call will be made available on the Investor Relations portion of www.paetec.com prior to the conference call.

Forward-Looking Statements

Except for statements that present historical facts, this release contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. In some cases, you can identify these statements by such forward-looking words as "anticipate," "believe," "could," "estimate," "expect," "intend," "may," "plan," "potential," "should," "will" and "would," or similar expressions. The financial guidance in this press release with respect to revenue and adjusted EBITDA for full year 2009 constitutes "forward-looking statements" and reflects PAETEC's current analysis of existing trends and information. These statements represent PAETEC's judgment only as of the date of this press release. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause PAETEC's actual operating results, financial position, levels of activity or performance to be materially different from those expressed or implied by such forward-looking statements. Some of these risks, uncertainties and factors are discussed under the caption "Risk Factors" in PAETEC's 2008 Annual Report on Form 10-K and in PAETEC's subsequently filed SEC reports. They include, but are not limited to, the following risks, uncertainties and other factors: general economic conditions and trends; the continued availability of necessary network elements at acceptable cost from competitors; changes in regulation and the regulatory environment; industry consolidation; PAETEC's ability to manage its business effectively; competition in the markets in which PAETEC operates; failure to adapt product and service offerings to changes in customer preferences and in technology; PAETEC's ability to integrate the operations of acquired businesses; PAETEC's ability to implement its acquisition strategy; any significant impairment of PAETEC's goodwill; future sales of PAETEC's common stock in the public market and PAETEC's ability to raise capital in the future; interest rate risks and compliance with covenants under PAETEC's debt agreements; PAETEC's ability to attract and retain qualified personnel and sales agents; PAETEC's failure to obtain and maintain network permits and rights-of-way; PAETEC's involvement in disputes and legal proceedings; PAETEC's ability to maintain and enhance its back office systems; and effects of network failures, system breaches, natural catastrophes and other service interruptions. PAETEC disclaims any obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

About PAETEC

PAETEC (NASDAQ GS: PAET) is personalizing business communications for medium-sized and large businesses, enterprise organizations, and institutions across the United States. We offer a comprehensive suite of IP, voice, data and Internet services, as well as enterprise communications management software, network security solutions, CPE, and managed services. For more information, visit www.paetec.com.

* Neither adjusted EBITDA nor free cash flow is a measurement of financial performance under accounting principles generally accepted in the United States, or "GAAP." Adjusted EBITDA, as defined by PAETEC for the periods presented, represents net loss before depreciation and amortization, interest expense, provision for (benefit from) income taxes, stock-based compensation, impairment charge, debt extinguishment and related costs, sales and use tax settlement, integration and separation costs, and gain on non-monetary transactions. Free cash flow, as defined by PAETEC, consists of adjusted EBITDA less capital expenditures (purchases of property and equipment). See the accompanying tables for additional information as to PAETEC's reasons for including these measures, for a quantitative reconciliation of adjusted EBITDA to net loss, as net loss is calculated in accordance with GAAP, and for a quantitative reconciliation of free cash flow to net cash provided by operating activities, as net cash provided by operating activities is calculated in accordance with GAAP.

PAETEC Holding Corp. and Subsidiaries

Condensed Consolidated Statements of Operations

(in thousands)

                Three Months Ended                    Nine Months Ended
                                                      September 30,

                September  June 30,    September 30,
                30,

                2009       2009        2008           2009        2008

Revenue:

Network
services        $ 315,859  $ 312,946   $ 319,668      $ 945,881   $ 922,853
revenue

Carrier
services        63,536     66,781      70,305         199,066     199,928
revenue

Integrated
solutions       16,257     15,434      16,100         45,116      47,360
revenue

Total revenue   395,652    395,161     406,073        1,190,063   1,170,141

Cost of sales
(exclusive of
operating       194,532    196,859     203,352        590,374     581,443
items shown
separately
below)

Selling,
general and
administrative
expenses
(exclusive of
operating       140,894    140,559     149,703        422,471     428,337
items shown
separately
below and
inclusive of
stock-based
compensation)

Impairment      -          -           340,000        -           340,000
charge

Sales and use   -          -           -              (1,200)     -
tax settlement

Integration
and separation  -          -           3,800          -           7,225
costs

Depreciation
and             46,374     46,159      53,357         138,746     145,543
amortization

Income (loss)
from            13,852     11,584      (344,139)      39,672      (332,407)
operations

Debt
extinguishment  -          10,348      -              10,348      -
and related
costs

Other (income)  (156)      (337)       259            (928)       (265)
expense, net

Interest        19,776     17,300      18,243         54,300      54,783
expense

Loss before     (5,768)    (15,727)    (362,641)      (24,048)    (386,925)
income taxes

Provision for
(benefit from)  757        758         (6,853)        2,270       (13,463)
income taxes

Net loss        $ (6,525)  $ (16,485)  $ (355,788)    $ (26,318)  $ (373,462)

Net cash
provided by                                           $ 90,142    $ 71,529
operating
activities

Net cash used
in investing                                          $ (84,218)  $ (195,994)
activities

Net cash (used
in) provided                                          $ (28,923)  $ 84,032
by financing
activities

PAETEC Holding Corp. and Subsidiaries

Adjusted EBITDA Reconciliation

(in thousands)

Adjusted EBITDA, as defined by PAETEC for the periods presented, represents net loss before depreciation and amortization, interest expense, provision for (benefit from) income taxes, stock-based compensation, impairment charge, debt extinguishment and related costs, sales and use tax settlement, integration and separation costs, and gain on non-monetary transaction. PAETEC's adjusted EBITDA is not a financial measurement prepared in accordance with United States generally accepted accounting principles, or "GAAP." Adjusted EBITDA is used by PAETEC's management, together with financial measurements prepared in accordance with GAAP such as net (loss) income and revenue, to assess PAETEC's historical and prospective operating performance. Management uses adjusted EBITDA to enhance its understanding of PAETEC's core operating performance, which represents management's views concerning PAETEC's performance in the ordinary, ongoing and customary course of its operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Overview -- Adjusted EBITDA Presentation" in PAETEC's quarterly report on Form 10-Q for the quarterly period ended June 30, 2009 for additional information regarding PAETEC's reasons for including adjusted EBITDA and for material limitations with respect to the usefulness of this measurement. The table below sets forth, for the periods indicated, a reconciliation of adjusted EBITDA to net loss, as net loss is calculated in accordance with GAAP:

                Three Months Ended                  Nine Months Ended

                September  June 30,    September    September 30,  September 30,
                30,                    30,

                2009       2009        2008         2009           2008

Net loss        $ (6,525)  $ (16,485)  $ (355,788)  $ (26,318)     $ (373,462)

Add back
non-EBITDA
items included
in net loss:

Depreciation
and             46,374     46,159      53,357       138,746        145,543
amortization

Interest
expense, net    19,628     17,030      18,147       53,499         53,751
of interest
income

Provision for
(benefit from)  757        758         (6,853)      2,270          (13,463)
income taxes

EBITDA          60,234     47,462      (291,137)    168,197        (187,631)

Stock-based     4,022      5,799       5,125        14,583         17,838
compensation

Impairment      -          -           340,000      -              340,000
charge

Debt
extinguishment  -          10,348      -            10,348         -
and related
costs

Sales and use   -          -           -            (1,200)        -
tax settlement

Integration
and separation  -          -           3,800        -              7,225
costs

Gain on
non-monetary    (18)       (83)        -            (242)          -
transaction

Adjusted        $ 64,238   $ 63,526    $ 57,788     $ 191,686      $ 177,432
EBITDA

PAETEC Holding Corp. and Subsidiaries

Expected Adjusted EBITDA
Reconciliation to Expected Net Loss

(in millions)

The table below sets forth, for the period indicated, a reconciliation of
expected adjusted EBITDA to expected net loss, as net loss is calculated in
accordance with GAAP:

                                       Twelve Months Ended  Twelve Months Ended

                                       December 31,         December 31,

                                       2009                 2009

                                       Low End of Guidance  High End of Guidance

Expected net loss                      $ (48)               $ (38)

Add back non-EBITDA items included in
expected net loss:

Depreciation and amortization          187                  187

Interest expense, net of interest      74                   74
income

Provision for income taxes             4                    4

Expected EBITDA                        217                  227

Stock-based compensation               19                   19

Debt extinguishment and related costs  10                   10

Sales and use tax settlement           (1)                  (1)

Expected adjusted EBITDA               $ 245                $ 255

PAETEC Holding Corp. and Subsidiaries

Free Cash Flow Calculation and Reconciliation

(in thousands)

Free cash flow, as defined by PAETEC, consists of adjusted EBITDA less capital
expenditures (purchases of property and equipment). Free cash flow, as defined
by PAETEC, is not a financial measurement prepared in accordance with GAAP.

PAETEC has included data with respect to free cash flow because its management
believes free cash flow provides a measure of the cash generated by PAETEC's
operations before giving effect to non-cash accounting charges, changes in
operating assets and liabilities, acquisition-related items, tax items and
similar items that do not directly relate to the day-to-day cash expenses of
PAETEC's operations, and after giving effect to application of capital
expenditures. PAETEC's management uses free cash flow to monitor the effect of
PAETEC's daily operations on its cash reserves and its ability to generate
sufficient cash flow to fund PAETEC's scheduled debt maturities and other
financing activities, including potential refinancings and retirements of
debt, and other cash items.

PAETEC's management believes that consideration of free cash flow should be
supplemental, however, because free cash flow has limitations as an analytical
financial measure. These limitations include the following:

free cash flow does not reflect PAETEC's cash expenditures for scheduled debt
maturities and other fixed obligations, such as capital leases, vendor
financing arrangements and the other cash items excluded from free cash flow;
and

free cash flow may be calculated in a different manner by other companies in
PAETEC's industry, which limits its usefulness as a comparative measure.

PAETEC's management compensates for these limitations by relying primarily on
PAETEC's results under GAAP to evaluate its operating performance and by
considering independently the economic effects of the foregoing items that are
not reflected in free cash flow. As a result of these limitations, free cash
flow should not be considered as an alternative to net cash provided by
operating activities, investing activities, financing activities or changes in
cash and cash equivalents as calculated in accordance with GAAP, nor should it
be used as a measure of the amount of cash available for debt service or for
the payment of dividends or other discretionary expenditures.

Following is a reconciliation of free cash flow to net cash provided by
operating activities, as net cash provided by operating activities is
calculated in accordance with GAAP:

              Three Months Ended                  Nine Months Ended

              September  June 30,  September 30,  September 30,  September 30,
              30,

              2009       2009      2008           2009           2008

Adjusted
EBITDA (see   $ 64,238   $ 63,526  $ 57,788       $ 191,686      $ 177,432
previous
page)

Purchases of
property and  (27,737)   (27,192)  (31,344)       (84,914)       (87,425)
equipment

Free cash
flow, as      36,501     36,334    26,444         106,772        90,007
defined

Purchases of
property and  27,737     27,192    31,344         84,914         87,425
equipment

Interest
expense, net  (19,628)   (17,030)  (18,147)       (53,499)       (53,751)
of interest
income

Other         (752)      (735)     167            (2,234)        515

Swap
termination   -          (4,531)   -              (4,531)        -
payment

Integration
and           -          -         (3,800)        -              (7,225)
separation
costs

Amortization
of debt       584        513       514            1,610          1,548
issuance
costs

Amortization
of debt       495        274       273            1,043          732
discount

Changes in
operating     (4,125)    (3,847)   (11,957)       (43,933)       (47,722)
assets and
liabilities

Net cash
provided by   $ 40,812   $ 38,170  $ 24,838       $ 90,142       $ 71,529
operating
activities

PAETEC Holding Corp. and Subsidiaries

Selected Financial and Operating Data

                                         As of                 As of

                                         September 30, 2009    December 31, 2008

Financial Data (in thousands):

Cash and cash equivalents              $ 141,529             $ 164,528

Accounts receivable, net               $ 204,251             $ 202,843

Property and equipment, net            $ 608,831             $ 638,941

Accounts payable                       $ 58,904              $ 89,465

Other accrued expenses                 $ 126,292             $ 140,424

Current portion of long-term debt and  $ 6,527               $ 14,258
capital lease obligations

Long-term debt and capital lease       $ 921,852             $ 916,575
obligations

Operating Data

Geographic markets served (1)            84                    80

Number of switches deployed              122                   118

Total digital T1 transmission lines      225,675               215,768
installed (2)

Total access line equivalents            5,834,480             5,669,614
installed (2) (3)

Total employees                          3,663                 3,685

(1) In the top 100 metropolitan statistical areas

(2) The number of lines as of December 31, 2008 have been adjusted to reflect
consistent application of the PAETEC reporting methodology. The digital T1
transmission lines and access line equivalents as of December 31, 2008 include
47,408 digital T1 transmission lines, or 1,137,792 access line equivalents,
representing high capacity transmission lines acquired through the McLeodUSA
merger reported on a basis consistent with the PAETEC methodology.

(3) Includes Plain Old Telephone Service ("POTS"), which involves basic
telephone services supplying standard single line telephones, telephone lines
and access to the public switched network.

    Source: PAETEC Holding Corp.

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