Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

 

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

For the quarterly period ended September 30, 2008

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: 0-29752

Leap Wireless International, Inc.

(Exact name of registrant as specified in its charter)

 

Delaware   33-0811062

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

10307 Pacific Center Court, San Diego, CA   92121
(Address of principal executive offices)   (Zip Code)

(858) 882-6000

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨

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. (Check one):

 

Large accelerated filer  þ

  Accelerated filer  ¨  

Non-accelerated filer  ¨

 

Smaller reporting company  ¨

    (Do not check if a smaller reporting company)  

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

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.    Yes  þ    No  ¨

The number of shares of registrant’s common stock outstanding on October 31, 2008 was 69,422,166.

 

 

 


Table of Contents

LEAP WIRELESS INTERNATIONAL, INC.

QUARTERLY REPORT ON FORM 10-Q

For the Quarter Ended September 30, 2008

TABLE OF CONTENTS

 

          Page
  

PART I — FINANCIAL INFORMATION

  

Item 1.

   Financial Statements    1

Item 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations    37

Item 3.

   Quantitative and Qualitative Disclosures About Market Risk    62

Item 4.

   Controls and Procedures    63

Item 4T.

   Controls and Procedures    64
  

PART II — OTHER INFORMATION

  

Item 1.

   Legal Proceedings    65

Item 1A.

   Risk Factors    68

Item 2.

   Unregistered Sales of Equity Securities and Use of Proceeds    88

Item 3.

   Defaults Upon Senior Securities    88

Item 4.

   Submission of Matters to a Vote of Security Holders    88

Item 5.

   Other Information    88

Item 6.

   Exhibits    88


Table of Contents

PART I

FINANCIAL INFORMATION

Item 1. Financial Statements.

LEAP WIRELESS INTERNATIONAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share amounts)

 

     September 30,
2008
    December 31,
2007
 
     (Unaudited)        

Assets

    

Cash and cash equivalents

   $ 541,804     $ 433,337  

Short-term investments

     284,511       179,233  

Restricted cash, cash equivalents and short-term investments

     4,870       15,550  

Inventories

     106,684       65,208  

Other current assets

     65,989       38,099  
                

Total current assets

     1,003,858       731,427  

Property and equipment, net

     1,661,540       1,316,657  

Wireless licenses

     1,836,622       1,866,353  

Assets held for sale

     45,569        

Goodwill

     429,968       425,782  

Other intangible assets, net

     31,378       46,102  

Other assets

     81,331       46,677  
                

Total assets

   $ 5,090,266     $ 4,432,998  
                

Liabilities and Stockholders’ Equity

    

Accounts payable and accrued liabilities

   $ 303,936     $ 225,735  

Current maturities of long-term debt

     12,500       10,500  

Other current liabilities

     178,163       114,808  
                

Total current liabilities

     494,599       351,043  

Long-term debt

     2,569,587       2,033,902  

Deferred tax liabilities

     210,949       182,835  

Other long-term liabilities

     93,777       90,172  
                

Total liabilities

     3,368,912       2,657,952  
                

Minority interests

     54,632       50,724  
                

Commitments and contingencies (Note 8)

    

Stockholders’ equity:

    

Preferred stock — authorized 10,000,000 shares; $.0001 par value, no shares issued and outstanding

            

Common stock — authorized 160,000,000 shares; $.0001 par value, 69,400,816 and 68,674,435 shares issued and outstanding at September 30, 2008 and December 31, 2007, respectively

     7       7  

Additional paid-in capital

     1,840,986       1,808,689  

Accumulated deficit

     (168,700 )     (75,699 )

Accumulated other comprehensive loss

     (5,571 )     (8,675 )
                

Total stockholders’ equity

     1,666,722       1,724,322  
                

Total liabilities and stockholders’ equity

   $ 5,090,266     $ 4,432,998  
                

See accompanying notes to condensed consolidated financial statements.

 

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LEAP WIRELESS INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited and in thousands, except per share data)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2008     2007     2008     2007  

Revenues:

        

Service revenues

   $ 434,523     $ 354,495     $ 1,250,595     $ 1,023,439  

Equipment revenues

     62,174       55,161       189,344       177,556  
                                

Total revenues

     496,697       409,656       1,439,939       1,200,995  
                                

Operating expenses:

        

Cost of service (exclusive of items shown separately below)

     (129,708 )     (100,907 )     (359,735 )     (281,906 )

Cost of equipment

     (113,057 )     (97,218 )     (332,405 )     (310,701 )

Selling and marketing

     (77,407 )     (54,265 )     (209,783 )     (150,045 )

General and administrative

     (87,522 )     (68,686 )     (240,662 )     (200,327 )

Depreciation and amortization

     (86,033 )     (77,781 )     (254,839 )     (218,996 )

Impairment of assets

     (177 )     (1,368 )     (177 )     (1,368 )
                                

Total operating expenses

     (493,904 )     (400,225 )     (1,397,601 )     (1,163,343 )

Gain (loss) on sale or disposal of assets

     (402 )     (38 )     559       902  
                                

Operating income

     2,391       9,393       42,897       38,554  

Minority interests in consolidated subsidiaries

     (1,266 )     182       (3,954 )     2,434  

Equity in net income (loss) of investee

     230       (807 )     (1,127 )     (807 )

Interest income

     4,072       10,148       11,439       22,567  

Interest expense

     (45,352 )     (33,336 )     (109,110 )     (86,922 )

Other income (expense), net

     1,161       (4,207 )     (3,182 )     (4,844 )
                                

Loss before income taxes

     (38,764 )     (18,627 )     (63,037 )     (29,018 )

Income tax expense

     (10,024 )     (24,662 )     (29,964 )     (28,857 )
                                

Net loss

   $ (48,788 )   $ (43,289 )   $ (93,001 )   $ (57,875 )
                                

Loss per share:

        

Basic

   $ (0.72 )   $ (0.64 )   $ (1.37 )   $ (0.86 )
                                

Diluted

   $ (0.72 )   $ (0.64 )   $ (1.37 )   $ (0.86 )
                                

Shares used in per share calculations:

        

Basic

     68,071       67,194       67,999       67,064  
                                

Diluted

     68,071       67,194       67,999       67,064  
                                

See accompanying notes to condensed consolidated financial statements.

 

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LEAP WIRELESS INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited and in thousands)

 

     Nine Months Ended
September 30,
 
     2008     2007  

Operating activities:

    

Net cash provided by operating activities

   $ 271,269     $ 195,841  
                

Investing activities:

    

Acquisition of business, net of cash acquired

     (31,201 )      

Purchases of property and equipment

     (528,333 )     (345,195 )

Change in prepayments for purchases of property and equipment

     (4,867 )     12,010  

Purchases of and deposits for wireless licenses and spectrum clearing costs

     (74,698 )     (4,418 )

Return of deposit for wireless licenses

     70,000        

Proceeds from sale of wireless licenses and operating assets

           9,500  

Purchases of investments

     (446,590 )     (518,916 )

Sales and maturities of investments

     341,239       287,066  

Purchase of minority interest

           (4,706 )

Purchase of membership units

     (1,033 )     (17,921 )

Changes in restricted cash, cash equivalents and short-term investments, net

     (1,980 )     317  
                

Net cash used in investing activities

     (677,463 )     (582,263 )
                

Financing activities:

    

Proceeds from long-term debt

     535,750       370,480  

Principal payments on capital lease obligations

     (12,900 )      

Repayment of long-term debt

     (7,750 )     (6,750 )

Payment of debt issuance costs

     (7,507 )     (5,257 )

Minority interest contributions

           4,014  

Proceeds from issuance of common stock, net

     7,068       7,847  
                

Net cash provided by financing activities

     514,661       370,334  
                

Net increase (decrease) in cash and cash equivalents

     108,467       (16,088 )

Cash and cash equivalents at beginning of period

     433,337       372,812  
                

Cash and cash equivalents at end of period

   $ 541,804     $ 356,724  
                

Supplementary disclosure of cash flow information:

    

Cash paid for interest

   $ 107,924     $ 89,992  

Cash paid for income taxes

   $ 1,916     $ 365  

See accompanying notes to condensed consolidated financial statements.

 

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LEAP WIRELESS INTERNATIONAL, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Note 1.    The Company

Leap Wireless International, Inc. (“Leap”), a Delaware corporation, together with its subsidiaries, is a wireless communications carrier that offers digital wireless service in the United States of America under the “Cricket®” brand. Cricket service offers customers unlimited wireless service for a flat monthly rate without requiring a fixed-term contract or a credit check. Leap conducts operations through its subsidiaries and has no independent operations or sources of income other than through dividends, if any, from its subsidiaries. Cricket service is offered by Cricket Communications, Inc. (“Cricket”), a wholly owned subsidiary of Leap, and is also offered in Oregon by LCW Wireless Operations, LLC (“LCW Operations”), a wholly owned subsidiary of LCW Wireless, LLC (“LCW Wireless”) and a designated entity under Federal Communications Commission (“FCC”) regulations. Cricket owns an indirect 73.3% non-controlling interest in LCW Operations through a 73.3% non-controlling interest in LCW Wireless. Cricket also owns an 82.5% non-controlling interest in Denali Spectrum, LLC (“Denali”), which purchased a wireless license in the FCC’s auction for Advanced Wireless Services (“AWS”) licenses (“Auction #66”), covering the upper mid-west portion of the United States, as a designated entity through its wholly owned subsidiary, Denali Spectrum License, LLC (“Denali License”). Leap, Cricket and their subsidiaries, including LCW Wireless and Denali, are collectively referred to herein as “the Company.”

The Company operates in a single operating segment as a wireless communications carrier that offers digital wireless service in the United States of America.

Note 2.    Basis of Presentation and Significant Accounting Policies

Basis of Presentation

The accompanying interim condensed consolidated financial statements have been prepared without audit, in accordance with the instructions to Form 10-Q and therefore do not include all information and footnotes required by accounting principles generally accepted in the United States of America for a complete set of financial statements. In the opinion of management, the unaudited financial information for the interim periods presented reflects all adjustments necessary for a fair statement of the Company’s results for the periods presented, with such adjustments consisting only of normal recurring adjustments. Accounting principles generally accepted in the United States of America require management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses. By their nature, estimates are subject to an inherent degree of uncertainty. Actual results could differ from management’s estimates and operating results for interim periods are not necessarily indicative of operating results for an entire fiscal year.

The condensed consolidated financial statements include the accounts of Leap and its wholly owned subsidiaries as well as the accounts of LCW Wireless and Denali and their wholly owned subsidiaries. The Company consolidates its interests in LCW Wireless and Denali in accordance with Financial Accounting Standards Board (“FASB”) Interpretation No. (“FIN”) 46(R), “Consolidation of Variable Interest Entities,” because these entities are variable interest entities and the Company will absorb a majority of their expected losses. All significant intercompany accounts and transactions have been eliminated in the condensed consolidated financial statements.

Revenues

Cricket’s business revenues principally arise from the sale of wireless services, handsets and accessories. Wireless services are generally provided on a month-to-month basis. In general, new and reactivating customers are required to pay for their service in advance and customers who activated their service prior to May 2006 pay

 

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in arrears. The Company does not require any of its customers to sign fixed-term service commitments or submit to a credit check. These terms generally appeal to less affluent customers who are considered more likely to terminate service for inability to pay than wireless customers in general. Consequently, the Company has concluded that collectibility of its revenues is not reasonably assured until payment has been received. Accordingly, service revenues are recognized only after services have been rendered and payment has been received.

When the Company activates a new customer, it frequently sells that customer a handset and the first month of service in a bundled transaction. Under the provisions of Emerging Issues Task Force (“EITF”) Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables,” (“EITF 00-21”) the sale of a handset along with a month of wireless service constitutes a multiple element arrangement. Under EITF 00-21, once a company has determined the fair value of the elements in the sales transaction, the total consideration received from the customer must be allocated among those elements on a relative fair value basis. Applying EITF 00-21 to these transactions results in the Company recognizing the total consideration received, less one month of wireless service revenue (at the customer’s stated rate plan), as equipment revenue.

Equipment revenues and related costs from the sale of handsets are recognized when service is activated by customers. Revenues and related costs from the sale of accessories are recognized at the point of sale. The costs of handsets and accessories sold are recorded in cost of equipment. In addition to handsets that the Company sells directly to its customers at Cricket-owned stores, the Company also sells handsets to third-party dealers. These dealers then sell the handsets to the ultimate Cricket customer, and that customer also receives the first month of service in a bundled transaction (identical to the sale made at a Cricket-owned store). Sales of handsets to third-party dealers are recognized as equipment revenues only when service is activated by customers, since the level of price reductions ultimately available to such dealers is not reliably estimable until the handsets are sold by such dealers to customers. Thus, handsets sold to third-party dealers are recorded as consigned inventory and deferred equipment revenue until they are sold to, and service is activated by, customers.

Through a third-party provider, the Company’s customers may elect to participate in an extended handset warranty/insurance program. The Company recognizes revenue on replacement handsets sold to its customers under the program when the customer purchases a replacement handset.

Sales incentives offered without charge to customers and volume-based incentives paid to the Company’s third-party dealers are recognized as a reduction of revenue and as a liability when the related service or equipment revenue is recognized. Customers have limited rights to return handsets and accessories based on time and/or usage, and customer returns of handsets and accessories have historically been negligible.

Amounts billed by the Company in advance of customers’ wireless service periods are not reflected in accounts receivable or deferred revenue since collectibility of such amounts is not reasonably assured. Deferred revenue consists primarily of cash received from customers in advance of their service period and deferred equipment revenue related to handsets and accessories sold to third-party dealers.

Costs and Expenses

The Company’s costs and expenses include:

Cost of Service.    The major components of cost of service are: charges from other communications companies for long distance, roaming and content download services provided to the Company’s customers; charges from other communications companies for their transport and termination of calls originated by the Company’s customers and destined for customers of other networks; and expenses for tower and network facility rent, engineering operations, field technicians and utility and maintenance charges, and salary and overhead charges associated with these functions.

 

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Cost of Equipment.    Cost of equipment primarily includes the cost of handsets and accessories purchased from third-party vendors and resold to the Company’s customers in connection with its services, as well as the lower of cost or market write-downs associated with excess or damaged handsets and accessories.

Selling and Marketing.    Selling and marketing expenses primarily include advertising expenses, promotional and public relations costs associated with acquiring new customers, store operating costs (such as retail associates’ salaries and rent), and salary and overhead charges associated with selling and marketing functions.

General and Administrative.    General and administrative expenses primarily include call center and other customer care program costs and salary, overhead and outside consulting costs associated with the Company’s customer care, billing, information technology, finance, human resources, accounting, legal and executive functions.

Cash and Cash Equivalents

The Company considers all highly liquid investments with a maturity at the time of purchase of three months or less to be cash equivalents. The Company invests its cash with major financial institutions in money market funds, short-term U.S. Treasury securities and other securities such as prime-rated short-term commercial paper. The Company has not experienced any significant losses on its cash and cash equivalents.

Short-Term Investments

Short-term investments generally consist of highly liquid, fixed-income investments with an original maturity at the time of purchase of greater than three months. Such investments consist of commercial paper, asset-backed commercial paper and obligations of the U.S. government.

Investments are classified as available-for-sale and stated at fair value. The net unrealized gains or losses on available-for-sale securities are reported as a component of comprehensive income (loss). The specific identification method is used to compute the realized gains and losses on investments. Investments are periodically reviewed for impairment. If the carrying value of an investment exceeds its fair value and the decline in value is determined to be other-than-temporary, an impairment loss is recognized for the difference. See Note 5 for a discussion regarding the Company’s impairment losses recognized on its short-term investments.

Fair Value of Financial Instruments

In January 2008, with respect to valuing its financial assets and liabilities, the Company adopted the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS 157”), which defines fair value for accounting purposes, establishes a framework for measuring fair value and expands disclosure requirements regarding fair value measurements. Fair value is defined as an exit price, which is the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date. The degree of judgment utilized in measuring the fair value of assets and liabilities generally correlates to the level of pricing observability. Financial assets and liabilities with readily available, actively quoted prices or for which fair value can be measured from actively quoted prices in active markets generally have more pricing observability and require less judgment in measuring fair value. Conversely, financial assets and liabilities that are rarely traded or not quoted have less pricing observability and are generally measured at fair value using valuation models that require more judgment. These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency of the asset, liability or market and the nature of the asset or liability. The Company has categorized its financial assets and liabilities measured at fair value into a three-level hierarchy in accordance with SFAS 157. See Note 5 for a further discussion regarding the Company’s measurement of financial assets and liabilities at fair value.

 

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Property and Equipment

Property and equipment are initially recorded at cost. Additions and improvements are capitalized, while expenditures that do not enhance the asset or extend its useful life are charged to operating expenses as incurred. Depreciation is applied using the straight-line method over the estimated useful lives of the assets once the assets are placed in service.

The following table summarizes the depreciable lives for property and equipment (in years):

 

     Depreciable
Life

Network equipment:

  

Switches

   10     

Switch power equipment

   15     

Cell site equipment and site improvements

   7     

Towers

   15     

Antennae

   5     

Computer hardware and software

   3-5     

Furniture, fixtures, retail and office equipment

   3-7     

The Company’s network construction expenditures are recorded as construction-in-progress until the network or other asset is placed in service, at which time the asset is transferred to the appropriate property or equipment category. The Company capitalizes salaries and related costs of engineering and technical operations employees as components of construction-in-progress during the construction period to the extent time and expense are contributed to the construction effort. The Company also capitalizes certain telecommunications and other related costs as construction-in-progress during the construction period to the extent they are incremental and directly related to the network under construction. In addition, interest is capitalized on the carrying values of both wireless licenses and equipment during the construction period and is depreciated over an estimated useful life of ten years. During the three and nine months ended September 30, 2008, the Company capitalized interest of $12.5 million and $38.6 million, respectively, to property and equipment. During the three and nine months ended September 30, 2007, the Company capitalized interest of $11.5 million and $33.3 million, respectively, to property and equipment.

Property and equipment to be disposed of by sale is not depreciated and is carried at the lower of carrying value or fair value less costs to sell. As of September 30, 2008 and December 31, 2007, there was no property or equipment classified as assets held for sale.

Wireless Licenses

The Company and LCW Wireless operate broadband Personal Communications Services (“PCS”) and AWS networks under PCS and AWS wireless licenses granted by the FCC that are specific to a particular geographic area on spectrum that has been allocated by the FCC for such services. In addition, through its participation in Auction #66 in December 2006, Denali License acquired an AWS wireless license. Wireless licenses are initially recorded at cost and are not amortized. Although FCC licenses are issued with a stated term (ten years in the case of PCS licenses and fifteen years in the case of AWS licenses), wireless licenses are considered to be indefinite-lived intangible assets because the Company expects its subsidiaries and joint ventures to provide wireless service using the relevant licenses for the foreseeable future, PCS and AWS licenses are routinely renewed for a nominal fee and management has determined that no legal, regulatory, contractual, competitive, economic or other factors currently exist that limit the useful life of the Company’s or its consolidated joint ventures’ PCS and AWS licenses. On a quarterly basis, the Company evaluates the remaining useful life of its indefinite-lived wireless licenses to determine whether events and circumstances, such as any legal, regulatory, contractual, competitive, economic or other factors, continue to support an indefinite useful life. If a wireless license is subsequently determined to have a finite useful life, the Company tests the wireless license for impairment in

 

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accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” (“SFAS 142”) and the wireless license would then be amortized prospectively over its estimated remaining useful life. In addition to its quarterly evaluation of the indefinite useful lives of its wireless licenses, the Company also tests its wireless licenses for impairment in accordance with SFAS 142 on an annual basis. As of September 30, 2008 and December 31, 2007, the carrying value of the Company’s and its consolidated joint ventures’ wireless licenses was $1.8 billion and $1.9 billion, respectively. Wireless licenses to be disposed of by sale are carried at the lower of carrying value or fair value less costs to sell. As of September 30, 2008, wireless licenses with a carrying value of $45.6 million were classified as assets held for sale, as more fully described in Note 7. As of December 31, 2007, there were no wireless licenses classified as assets held for sale.

Portions of the AWS spectrum that the Company and Denali License purchased in Auction #66 are currently used by U.S. federal government and/or incumbent commercial licensees. FCC rules require winning bidders to avoid interfering with these existing users or to clear the incumbent users from the spectrum through specified relocation procedures. The Company’s and Denali License’s spectrum clearing costs are capitalized to wireless licenses as incurred. During the three and nine months ended September 30, 2008, the Company and Denali License incurred approximately $2.0 million and $4.7 million, respectively, in spectrum clearing costs. During the three and nine months ended September 30, 2007, the Company and Denali License incurred approximately $1.7 million and $2.2 million, respectively, in spectrum clearing costs.

Derivative Instruments and Hedging Activities

The Company has entered into interest rate swap agreements with respect to $355 million of its debt. These interest rate swap agreements effectively fix the London Interbank Offered Rate (“LIBOR”) interest rate on $150 million of indebtedness at 8.3% and $105 million of indebtedness at 7.3% through June 2009 and $100 million of indebtedness at 8.0% through September 2010. The swap agreements were in a liability position as of September 30, 2008 and December 31, 2007 and had a fair value of $6.1 million and $7.2 million, respectively. The Company enters into these derivative contracts to manage its exposure to interest rate changes by achieving a desired proportion of fixed rate versus variable rate debt. In an interest rate swap, the Company agrees to exchange with a counterparty the difference between a variable interest rate and either a fixed or another variable interest rate, multiplied by a notional principal amount. The Company does not use derivative instruments for trading or other speculative purposes.

The Company records all derivatives in other assets or other liabilities on its condensed consolidated balance sheets at their fair values. If the derivative is designated as a cash flow hedge and the hedging relationship qualifies for hedge accounting, the effective portion of the change in fair value of the derivative is recorded in other comprehensive income (loss) and is recorded as interest expense when the hedged debt affects interest expense. The ineffective portion of the change in fair value of the derivative qualifying for hedge accounting and changes in the fair values of derivative instruments not qualifying for hedge accounting are recognized in interest expense in the period of the change.

At inception of the hedge and quarterly thereafter, the Company performs a quantitative and qualitative assessment to determine whether changes in the fair values or cash flows of the derivatives are deemed highly effective in offsetting changes in the fair values or cash flows of the hedged items. If at any time subsequent to the inception of the hedge, the correlation assessment indicates that the derivative is no longer highly effective as a hedge, the Company discontinues hedge accounting and recognizes all subsequent derivative gains and losses in results of operations.

As a result of the amendment to the Company’s senior secured credit agreement (“Credit Agreement”) in June 2008, which among other things introduced a LIBOR floor of 3.0% per annum, as more fully described in Note 6, the Company de-designated its existing interest rate swap agreements as cash flow hedges and discontinued its hedge accounting for these interest rate swaps during the second quarter of 2008. The loss accumulated in other comprehensive income (loss) on the date the Company discontinued its hedge accounting is

 

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amortized to interest expense, using the swaplet method, over the remaining term of the respective interest rate swap agreements. In addition, changes in the fair value of these interest rate swaps are recorded as a component of interest expense. During the three and nine months ended September 30, 2008, the Company recognized interest expense of $2.0 million and $1.3 million, respectively, related to these items.

Impairment of Indefinite-Lived Intangible Assets

The Company assesses potential impairments to its indefinite-lived intangible assets, including wireless licenses and goodwill, on an annual basis or when there is evidence that events or changes in circumstances indicate that an impairment condition may exist. The annual impairment test is conducted during the third quarter of each year.

The Company’s wireless licenses in its operating markets are combined into a single unit of account for purposes of testing impairment because management believes that utilizing these wireless licenses as a group represents the highest and best use of the assets, and the value of the wireless licenses would not be significantly impacted by a sale of one or a portion of the wireless licenses, among other factors. The Company’s non-operating licenses are tested for impairment on an individual basis. An impairment loss is recognized when the fair value of a wireless license is less than its carrying value and is measured as the amount by which the license’s carrying value exceeds its fair value. Estimates of the fair value of the Company’s wireless licenses are based primarily on available market prices, including successful bid prices in FCC auctions and selling prices observed in wireless license transactions. Any required impairment losses are recorded as a reduction in the carrying value of the wireless license and charged to results of operations. As a result of the annual impairment test of wireless licenses, the Company recorded an impairment charge of $0.2 million during the three and nine months ended September 30, 2008 and an impairment charge of $1.0 million during the three and nine months ended September 30, 2007 to reduce the carrying values of certain non-operating wireless licenses to their estimated fair values. No impairment charges were recorded for the Company’s licenses in its operating markets as the fair value of these licenses, as a group, exceeded the carrying value.

The goodwill impairment test involves a two-step process. First, the book value of the Company’s net assets, which are combined into a single reporting unit for purposes of the impairment test of goodwill, is compared to the fair value of the Company’s net assets. The fair value of the Company’s net assets is primarily based on its market capitalization. If the fair value is determined to be less than book value, a second step is performed to measure the amount of the impairment, if any. As of September 30, 2008, the Company completed the first step of the goodwill impairment test and did not identify any indicia of impairment.

The accounting estimates for the Company’s wireless licenses and goodwill require management to make significant assumptions about fair value. Management’s assumptions regarding fair value require significant judgment about economic factors, industry factors and technology considerations, as well as about the Company’s business prospects. Changes in these judgments may have a significant effect on the estimated fair values of the Company’s indefinite-lived intangible assets.

Investments in Other Entities

The Company uses the equity method to account for investments in common stock of corporations in which it has a voting interest of between 20% and 50% or in which the Company otherwise has the ability to exercise significant influence, and in limited liability companies that maintain specific ownership accounts in which it has more than a minor but not greater than a 50% ownership interest. Under the equity method, the investment is originally recorded at cost and is adjusted to recognize the Company’s share of net earnings or losses of the investee. During the three months ended September 30, 2008, the Company’s share of its equity method investee earnings was $0.2 million. During the nine months ended September 30, 2008, the Company’s share of its equity method investee losses was $1.1 million. At each of the three and nine months ended September 30, 2007, the Company’s share of its equity method investee losses was $0.8 million.

 

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The Company regularly monitors and evaluates the realizable value of its investments. When assessing an investment for an other-than-temporary decline in value, the Company considers such factors as, among other things, the performance of the investee in relation to its business plan, the investee’s revenue and cost trends, liquidity and cash position, market acceptance of the investee’s products or services, any significant news that has been released regarding the investee and the outlook for the overall industry in which the investee operates. If events and circumstances indicate that a decline in the value of these assets has occurred and is other-than-temporary, the Company records a reduction to the carrying value of its investment and a corresponding charge to the consolidated statements of operations.

Concentrations

The Company generally relies on one key vendor for billing services, one key vendor for handset logistics, one key vendor for its mobile broadband device, one key vendor for a majority of its voice and data communications transport services and a limited number of vendors for payment processing services. Loss or disruption of these services could adversely affect the Company’s business.

The Company does not have a national network, and it must pay fees to other carriers who provide the Company with roaming services. Currently, the Company has roaming agreements with several other carriers which allow its customers to roam on such carriers’ networks. If it were unable to cost-effectively provide roaming services to customers, the Company’s competitive position, financial condition, results of operations and business could be materially adversely affected.

Share-Based Compensation

The Company accounts for share-based awards exchanged for employee services in accordance with SFAS No. 123(R), “Share-Based Payment” (“SFAS 123(R)”). Under SFAS 123(R), share-based compensation expense is measured at the grant date, based on the estimated fair value of the award, and is recognized as expense, net of estimated forfeitures, over the employee’s requisite service period.

Total share-based compensation expense related to all of the Company’s share-based awards for the three and nine months ended September 30, 2008 and 2007 was allocated to the condensed consolidated statements of operations as follows (in thousands, except per share data):

 

     Three Months
Ended September 30,
   Nine Months
Ended September 30,
         2008            2007            2008            2007    

Cost of service

   $ 628    $ 535    $ 2,145    $ 1,680

Selling and marketing expenses

     871      843      3,406      2,404

General and administrative expenses

     6,967      5,696      19,951      17,628
                           

Share-based compensation expense

   $ 8,466    $ 7,074    $ 25,502    $ 21,712
                           

Share-based compensation expense per share:

           

Basic

   $ 0.12    $ 0.11    $ 0.38    $ 0.32
                           

Diluted

   $ 0.12    $ 0.11    $ 0.38    $ 0.32
                           

Income Taxes

The computation of the Company’s annual effective tax rate includes a forecast of the Company’s estimated “ordinary” income (loss), which is its annual income (loss) from continuing operations before tax, excluding unusual or infrequently occurring (discrete) items. Significant management judgment is required in projecting the Company’s ordinary income (loss). The Company’s projected ordinary income tax expense for the full year 2008, which excludes the effect of discrete items, consists primarily of the deferred tax effect of the amortization

 

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of wireless licenses and goodwill for income tax purposes. Because the Company’s projected 2008 income tax expense is a relatively fixed amount, a small change in the ordinary income (loss) projection can produce a significant variance in the effective tax rate, and therefore it is difficult to make a reliable estimate of the annual effective tax rate. As a result and in accordance with paragraph 82 of FIN 18, “Accounting for Income Taxes in Interim Periods — an interpretation of APB Opinion No. 28” (“FIN 18”), the Company has computed its provision for income taxes for the three and nine months ended September 30, 2008 and 2007 by applying the actual effective tax rate to the year-to-date income.

The Company calculates income taxes in each of the jurisdictions in which it operates. This process involves calculating the actual current tax expense and any deferred income tax expense resulting from temporary differences arising from differing treatments of items for tax and accounting purposes. These temporary differences result in deferred tax assets and liabilities. Deferred tax assets are also established for the expected future tax benefits to be derived from net operating loss carryforwards, capital loss carryforwards and income tax credits.

The Company must then periodically assess the likelihood that its deferred tax assets will be recovered from future taxable income, which assessment requires significant judgment. To the extent the Company believes it is more likely than not that its deferred tax assets will not be recovered, it must establish a valuation allowance. As part of this periodic assessment for the three and nine months ended September 30, 2008, the Company weighed the positive and negative factors with respect to this determination and, at this time, does not believe there is sufficient positive evidence and sustained operating earnings to support a conclusion that it is more likely than not that all or a portion of its deferred tax assets will be realized, except with respect to the realization of a $2.5 million Texas Margins Tax credit. The Company will continue to closely monitor the positive and negative factors to determine whether its valuation allowance should be released. Deferred tax liabilities associated with wireless licenses, tax goodwill and investments in certain joint ventures cannot be considered a source of taxable income to support the realization of deferred tax assets because these deferred tax liabilities will not reverse until some indefinite future period.

At such time as the Company determines that it is more likely than not that all or a portion of the deferred tax assets are realizable, the valuation allowance will be reduced. Pursuant to American Institute of Certified Public Accountants’ Statement of Position No. 90-7, “Financial Reporting by Entities in Reorganization under the Bankruptcy Code” (“SOP 90-7”), up to $218.5 million in future decreases in the valuation allowance established in fresh-start reporting will be accounted for as a reduction of goodwill rather than as a reduction of income tax expense if the valuation allowance decrease occurs prior to January 1, 2009, the effective date for the Company’s adoption of SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141(R)”). SFAS 141(R) provides that any reduction in the valuation allowance established in fresh-start reporting be accounted for as a reduction to income tax expense.

In January 2007, the Company adopted the provisions of FIN 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109” (“FIN 48”). At the date of adoption, during 2007 and during the three and nine months ended September 30, 2008, the Company’s unrecognized income tax benefits and uncertain tax positions were not material. Interest and penalties related to uncertain tax positions are recognized by the Company as a component of income tax expense but were immaterial on the date of adoption, during 2007 and during the three and nine months ended September 30, 2008. All of the Company’s tax years from 1998 to 2007 remain open to examination by federal and state taxing authorities.

 

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Comprehensive Loss

Comprehensive loss consisted of the following (in thousands):

 

     Three Months
Ended September 30,
    Nine Months
Ended September 30,
 
     2008     2007     2008     2007  

Net loss

   $ (48,788 )   $ (43,289 )   $ (93,001 )   $ (57,875 )

Other comprehensive loss:

        

Net unrealized holding gains (losses) on

investments, net of tax

     (123 )     27       683       15  

Unrealized losses on interest rate swaps

           (4,809 )     (1,470 )     (5,873 )
                                

Comprehensive loss

   $ (48,911 )   $ (48,071 )   $ (93,788 )   $ (63,733 )
                                

Components of accumulated other comprehensive loss consist of the following (in thousands):

 

     September 30,
2008
    December 31,
2007
 

Net unrealized holding losses on investments, net of tax

   $ (774 )   $ (1,457 )

Unrealized losses on interest rate swaps, net of swaplet amortization of $3,891 and $0 at September 30, 2008 and December 31, 2007, respectively

     (4,797 )     (7,218 )
                

Accumulated other comprehensive loss

   $ (5,571 )   $ (8,675 )
                

Recent Accounting Pronouncements

In December 2007, the FASB issued SFAS 141(R), which expands the definition of a business and a business combination, requires the fair value of the purchase price of an acquisition (including the issuance of equity securities) to be determined on the acquisition date and requires that all assets, liabilities, contingent consideration, contingencies and in-process research and development costs of an acquired business be recorded at fair value at the acquisition date. In addition, SFAS 141(R) requires that acquisition costs generally be expensed as incurred, requires that restructuring costs generally be expensed in periods subsequent to the acquisition date and requires certain changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period to impact income tax expense. The Company will be required to adopt SFAS 141(R) on January 1, 2009. The Company is currently evaluating what impact SFAS 141(R) will have on its consolidated financial statements; however, since the Company has significant deferred tax assets recorded through fresh-start reporting for which full valuation allowances were recorded as of its emergence from bankruptcy, this standard could materially affect the Company’s results of operations if changes in the valuation allowances occur once it adopts the standard.

In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements, an Amendment of ARB No. 51” (“SFAS 160”), which changes the accounting and reporting for minority interests such that minority interests will be recharacterized as noncontrolling interests and will be required to be reported as a component of equity. In addition, SFAS 160 requires that purchases or sales of equity interests that do not result in a change in control be accounted for as equity transactions and, upon a loss of control, requires the interest sold, as well as any interest retained, be recorded at fair value with any gain or loss recognized in earnings. The Company will be required to adopt SFAS 160 on January 1, 2009. The Company is currently evaluating what impact SFAS 160 will have on its consolidated financial statements.

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”), which is intended to help investors better understand how derivative instruments and hedging activities affect an entity’s financial position, financial performance and cash flows through enhanced disclosure requirements. The enhanced disclosures include, for example, a tabular summary of the fair values of

 

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derivative instruments and their gains and losses, disclosure of derivative features that are credit-risk-related to provide more information regarding an entity’s liquidity and cross-referencing within footnotes to make it easier to locate important information about derivative instruments. The Company will be required to adopt SFAS 161 on January 1, 2009. The Company is currently evaluating what impact SFAS 161 will have on its consolidated financial statements.

In May 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS 162”), which identifies the sources of accounting principles and the framework for selecting principles used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United States (“GAAP”). SFAS 162 emphasizes that an organization’s management and not its auditors has the responsibility to follow GAAP and categorizes sources of accounting principles that are generally accepted in descending order of authority. The Company will be required to adopt SFAS 162 within 60 days after the Securities and Exchange Commission’s (“SEC”) approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles.” SFAS 162 will not have an impact on the Company’s consolidated financial statements.

Note 3.    Supplementary Balance Sheet Information (in thousands):

 

     September 30,
2008
    December 31,
2007
 

Other current assets:

    

Accounts receivable, net(1)

   $ 38,168     $ 21,158  

Prepaid expenses

     27,275       16,076  

Other

     546       865  
                
   $ 65,989     $ 38,099  
                

Property and equipment, net(2):

    

Network equipment

   $ 1,793,917     $ 1,421,648  

Computer equipment and other

     229,074       184,224  

Construction-in-progress

     476,946       341,742  
                
     2,499,937       1,947,614  

Accumulated depreciation

     (838,397 )     (630,957 )
                
   $ 1,661,540     $ 1,316,657  
                

Accounts payable and accrued liabilities:

    

Trade accounts payable

   $ 173,842     $ 109,781  

Accrued payroll and related benefits

     49,163       41,048  

Other accrued liabilities

     80,931       74,906  
                
   $ 303,936     $ 225,735  
                

Other current liabilities:

    

Deferred service revenue(3)

   $ 54,359     $ 45,387  

Deferred equipment revenue(4)

     16,979       14,615  

Accrued sales, telecommunications, property and other taxes payable

     36,415       20,903  

Accrued interest

     54,251       18,508  

Other

     16,159       15,395  
                
   $ 178,163     $ 114,808  
                

 

(1) Accounts receivable consists primarily of amounts billed to third-party dealers for handsets and accessories and, as of September 30, 2008, included approximately $11.3 million of amounts reimbursable to the Company in connection with certain spectrum clearing activities.

 

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(2) As of September 30, 2008 and December 31, 2007, approximately $52.9 million and $49.5 million, respectively, of gross assets were held by the Company under capital lease arrangements. Accumulated amortization relating to these assets totaled $16.1 million and $5.6 million as of September 30, 2008 and December 31, 2007, respectively.
(3) Deferred service revenue consists primarily of cash received from customers in advance of their service period.
(4) Deferred equipment revenue relates to handsets and accessories sold to third-party dealers.

Note 4.    Basic and Diluted Earnings (Loss) Per Share

Basic earnings (loss) per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the sum of the weighted-average number of common shares outstanding during the period and the weighted-average number of dilutive common share equivalents outstanding during the period, using the treasury stock method and the if-converted method, where applicable. Dilutive common share equivalents are comprised of stock options, restricted stock awards, employee stock purchase rights, warrants and convertible senior notes.

The Company incurred losses for the three and nine months ended September 30, 2008 and for the three and nine months ended September 30, 2007; therefore, 8.8 million common share equivalents were excluded in computing diluted earnings (loss) per share for each of the three and nine months ended September 30, 2008, and 4.7 million common share equivalents were excluded in computing diluted earnings (loss) per share for each of the three and nine months ended September 30, 2007.

Note 5.    Fair Value of Financial Instruments

The Company has categorized its financial assets and liabilities measured at fair value into a three-level hierarchy in accordance with SFAS 157. Financial assets and liabilities measured at fair value using quoted prices in active markets for identical assets or liabilities are generally categorized as Level 1 assets and liabilities; financial assets and liabilities measured at fair value using observable market-based inputs or unobservable inputs that are corroborated by market data for similar assets or liabilities are generally categorized as Level 2 assets and liabilities; and financial assets and liabilities measured at fair value using unobservable inputs that cannot be corroborated by market data are generally categorized as Level 3 assets and liabilities. The lowest level input that is significant to the fair value measurement of a financial asset or liability is used to categorize that asset or liability, as determined in the judgment of management. Financial assets and liabilities presented at fair value in the Company’s condensed consolidated balance sheets are generally categorized as follows:

 

Level 1

   Quoted prices in active markets for identical assets or liabilities. The Company did not have Level 1 assets or liabilities as of September 30, 2008.

Level 2

   Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. The Company’s Level 2 assets and liabilities as of September 30, 2008 included its cash equivalents, its short-term investments in obligations of the U.S. government, a majority of its short-term investments in commercial paper and its interest rate swaps.

Level 3

   Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Such assets and liabilities may have values determined using pricing models, discounted cash flow methodologies, or similar techniques, and include instruments for which the determination of fair value requires significant management judgment or estimation. The Company’s Level 3 asset as of September 30, 2008 comprised its short-term investment in asset-backed commercial paper.

The following table sets forth by level within the fair value hierarchy the Company’s financial assets and liabilities that were recorded at fair value as of September 30, 2008. As required by SFAS 157, financial assets

 

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and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. Thus, financial assets and liabilities categorized as Level 3 may be measured at fair value using inputs that are observable (Levels 1 and 2) and unobservable (Level 3). Management’s assessment of the significance of a particular input to the fair value measurement requires judgment and may affect the valuation of financial assets and liabilities and their placement within the fair value hierarchy levels.

 

     At Fair Value as of September 30, 2008
     Level 1    Level 2    Level 3    Total
     (In thousands)

Assets:

           

Cash equivalents

   $    $ 267,081    $    $ 267,081

Short-term investments

          279,411      5,100      284,511
                           

Total

   $    $ 546,492    $ 5,100    $ 551,592
                           

Liabilities:

           

Interest rate swaps

   $    $ 6,114    $    $ 6,114
                           

Total

   $    $ 6,114    $    $ 6,114
                           

The following table provides a summary of the changes in the fair value of the Company’s Level 3 assets (in thousands).

 

Beginning balance, December 31, 2007

   $ 16,200  

Total losses (realized/unrealized):

  

Included in earnings

   $ (3,763 )

Included in other comprehensive loss

      

Purchases, issuances and settlements

     (7,337 )

Transfers in (out) of Level 3

      
        

Ending balance, September 30, 2008

   $ 5,100  
        

The realized losses included in earnings in the table above are presented in other income (expense), net in the condensed consolidated statements of operations and relate to both an investment still held by the Company and an investment no longer held by the Company as of September 30, 2008.

Cash Equivalents and Short-Term Investments

The fair value of the Company’s cash equivalents, short-term investments in obligations of the U.S. government and a majority of its short-term investments in commercial paper is determined using observable market-based inputs for similar assets, which primarily include yield curves and time to maturity factors. Such investments are therefore considered to be Level 2 items. The fair value of the Company’s investment in asset-backed commercial paper is determined using primarily unobservable inputs that cannot be corroborated by market data, which primarily include ABX and monoline indices and a valuation model that considers a liquidity factor that is subjective in nature, and therefore such investment is considered to be a Level 3 item.

Through its non-controlled consolidated subsidiary Denali, the Company holds an investment in asset-backed commercial paper for which the fair value was determined using the Level 3 inputs described above. This investment was purchased as a highly rated investment grade security. This security, which is collateralized, in part, by residential mortgages, has declined in value since December 31, 2007. As a result of declines in this remaining investment in asset-backed commercial paper and declines in an investment liquidated in the third quarter of 2008, during the nine months ended September 30, 2008, the Company recognized an other-than-temporary impairment loss of approximately $3.8 million. Future volatility and uncertainty in the financial markets could result in additional losses.

 

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Interest Rate Swaps

As more fully described in Note 2, the Company’s interest rate swaps effectively fix the LIBOR interest rate (subject to the LIBOR floor of 3.0% per annum, as more fully described in Note 6) on a portion of its floating rate debt. The fair value of the Company’s interest rate swaps is primarily determined using LIBOR spreads, which are significant observable inputs that can be corroborated, and therefore such swaps are considered to be Level 2 items. SFAS 157 states that the fair value measurement of a liability must reflect the nonperformance risk of the entity. Therefore, the impact of the Company’s creditworthiness has been considered in the fair value measurement of the interest rate swaps.

Long-Term Debt

The Company continues to report its long-term debt obligations at amortized cost; however, for disclosure purposes, the Company is required to measure the fair value of outstanding debt on a recurring basis. The fair value of the Company’s outstanding long-term debt is determined using quoted prices in active markets and was $2,375.2 million as of September 30, 2008. The carrying values of LCW Operations’ term loans approximate their fair values due to the floating rates of interest on such loans.

Note 6.    Long-Term Debt

Long-term debt as of September 30, 2008 and December 31, 2007 was comprised of the following (in thousands):

 

     September 30,
2008
    December 31,
2007
 

Term loans under senior secured credit facilities

   $ 918,750     $ 926,500  

Unamortized deferred lender fees

     (4,795 )     (1,898 )

Senior notes

     1,400,000       1,100,000  

Unamortized premium on $350 million senior notes due 2014

     18,132       19,800  

Convertible senior notes

     250,000        
                
     2,582,087       2,044,402  

Current maturities of long-term debt

     (12,500 )     (10,500 )
                
   $ 2,569,587     $ 2,033,902  
                

Senior Secured Credit Facilities

Cricket Communications

The senior secured credit facility under the Company’s Credit Agreement consists of a six-year $895.5 million term loan and a $200 million revolving credit facility. As of September 30, 2008, the outstanding indebtedness under the term loan was $879.8 million. Outstanding borrowings under the term loan must be repaid in 22 quarterly payments of $2.25 million each (which commenced on March 31, 2007) followed by four quarterly payments of $211.5 million (which commence on September 30, 2012).

In June 2008, the Company amended the Credit Agreement, among other things, to:

 

   

increase the size of the permitted unsecured debt basket under the Credit Agreement from $1.2 billion to $1.65 billion plus $1.00 for every $1.00 of cash proceeds from the issuance of new common equity by Leap, up to $200 million in the aggregate;

 

   

increase the add-back to consolidated earnings before interest, taxes, depreciation and amortization (“EBITDA”) for operating losses in new markets from $75 million to $100 million, and extend the period in which such add-back applies until December 31, 2011. For purposes of calculating the

 

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consolidated fixed charge coverage ratio under the Credit Agreement, an additional $125 million in new market operating losses can be added back to consolidated EBITDA through December 31, 2009;

 

   

exclude up to $125 million of capital expenditures made in connection with the expansion of network coverage, capability and capacity in markets in existence as of December 31, 2007 from the consolidated fixed charge coverage ratio calculation through December 31, 2009;

 

   

increase the baskets under the Credit Agreement for capital lease and purchase money security interests from $150 million to $250 million;

 

   

increase the baskets under the Credit Agreement for letters of credit from $15 million to $30 million;

 

   

exclude qualified preferred stock from the definition of indebtedness under the Credit Agreement and make certain other amendments to facilitate the issuance by Leap of qualified preferred stock;

 

   

establish that, if Cricket enters into an incremental facility for term loans or a revolving credit facility with an effective interest rate or weighted average yield (taking into account factors such as any interest rate floor, call protection, original issue discount and lender fees) that is higher than the then-existing interest rate for the existing term loans or revolving credit facility, as applicable, under the Credit Agreement, then the interest rate for the existing term loans or revolving credit facility, as applicable, shall be increased to match the effective interest rate or weighted average yield of such incremental facility;

 

   

cap any new incremental facilities under the Credit Agreement at $400 million in the aggregate;

 

   

increase the applicable rate spread on the term loans and revolving credit facility under the Credit Agreement by 50 basis points, and set a floor on the LIBOR under the Credit Agreement of 3.0% per annum; and

 

   

include a prepayment (or repayment) premium on the term loans of 2.0% on any principal amount prepaid (or repaid) prior to the first anniversary of the date of the amendment and 1.0% on any principal amount prepaid (or repaid) on or after the first anniversary but prior to the second anniversary of the date of amendment (other than prepayments in respect of extraordinary receipts).

In connection with the execution of the Credit Agreement amendment, the Company paid a fee equal to 50 basis points on the aggregate principal amount of the commitments and loans of each lender that executed the amendment.

Under the Credit Agreement, as amended, the term loan bears interest at LIBOR plus 3.50% (subject to the LIBOR floor of 3.0% per annum) or the bank base rate plus 2.50%, as selected by Cricket. These interest rates represent an increase of 50 basis points from the rates applicable to the term loan immediately prior to the amendment.

At September 30, 2008, the effective interest rate on the term loan was 7.7%, including the effect of interest rate swaps, as more fully described in Note 2. The terms of the Credit Agreement require the Company to enter into interest rate swap agreements in a sufficient amount so that at least 50% of the Company’s outstanding indebtedness for borrowed money bears interest at a fixed rate. The Company was in compliance with this requirement as of September 30, 2008.

Outstanding borrowings under the revolving credit facility, to the extent that there are any borrowings, are due in June 2011. As of September 30, 2008, the revolving credit facility was undrawn; however, approximately $4.1 million of letters of credit were issued under the Credit Agreement and were considered as usage of the revolving credit facility, as more fully described in Note 8. The commitment of the lenders under the revolving credit facility may be reduced in the event mandatory prepayments are required under the Credit Agreement. The commitment fee on the revolving credit facility is payable quarterly at a rate of between 0.25% and 0.50% per annum, depending on the Company’s consolidated senior secured leverage ratio, and the rate is currently 0.25%. As of September 30, 2008, borrowings under the revolving credit facility would have accrued interest at LIBOR plus 3.25% (subject to the LIBOR floor of 3.0% per annum), or the bank base rate plus 2.25%, as selected by Cricket.

 

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The facilities under the Credit Agreement are guaranteed by Leap and all of its direct and indirect domestic subsidiaries (other than Cricket, which is the primary obligor, and LCW Wireless and Denali and their respective subsidiaries) and are secured by substantially all of the present and future personal property and real property owned by Leap, Cricket and such direct and indirect domestic subsidiaries. Under the Credit Agreement, the Company is subject to certain limitations, including limitations on its ability to: incur additional debt or sell assets, with restrictions on the use of proceeds; make certain investments and acquisitions; grant liens; pay dividends; and make certain other restricted payments. In addition, the Company will be required to pay down the facilities under certain circumstances if it issues debt, sells assets or property, receives certain extraordinary receipts or generates excess cash flow (as defined in the Credit Agreement). The Company is also subject to a financial covenant with respect to a maximum consolidated senior secured leverage ratio and, if a revolving credit loan or uncollateralized letter of credit is outstanding or requested, with respect to a minimum consolidated interest coverage ratio, a maximum consolidated leverage ratio and a minimum consolidated fixed charge coverage ratio. In addition to investments in the Denali joint venture, the Credit Agreement allows the Company to invest up to $85 million in LCW Wireless and its subsidiaries and up to $150 million, plus an amount equal to an available cash flow basket, in other joint ventures, and allows the Company to provide limited guarantees for the benefit of Denali, LCW Wireless and other joint ventures. The Company was in compliance with these covenants as of September 30, 2008.

The Credit Agreement also prohibits the occurrence of a change of control, which includes the acquisition of beneficial ownership of 35% or more of Leap’s equity securities, a change in a majority of the members of Leap’s board of directors that is not approved by the board and the occurrence of a “change of control” under any of the Company’s other credit instruments.

Affiliates of Highland Capital Management, L.P. (an affiliate of James D. Dondero, a former director of Leap) participated in the syndication of the term loan in an amount equal to $222.9 million. Additionally, Highland Capital Management continues to hold a $40 million commitment under the $200 million revolving credit facility.

LCW Operations

LCW Operations has a senior secured credit agreement consisting of two term loans for $40 million in the aggregate. The loans bear interest at LIBOR plus the applicable margin ranging from 2.7% to 6.3%. At September 30, 2008, the effective interest rate on the term loans was 7.5%, and the outstanding indebtedness was $39.0 million. LCW Operations has entered into an interest rate cap agreement which effectively caps the three month LIBOR interest rate at 7.0% on $20 million of its outstanding borrowings through October 2011. The obligations under the loans are guaranteed by LCW Wireless and LCW Wireless License, LLC (a wholly owned subsidiary of LCW Operations) and are non-recourse to Leap, Cricket and their other subsidiaries. Outstanding borrowings under the term loans must be repaid in varying quarterly installments, which commenced in June 2008, with an aggregate final payment of $24.5 million due in June 2011. Under the senior secured credit agreement, LCW Operations and the guarantors are subject to certain limitations, including limitations on their ability to: incur additional debt or sell assets, with restrictions on the use of proceeds; make certain investments and acquisitions; grant liens; pay dividends; and make certain other restricted payments. In addition, LCW Operations will be required to pay down the facilities under certain circumstances if it or the guarantors issue debt, sell assets or generate excess cash flow. The senior secured credit agreement requires that LCW Operations and the guarantors comply with financial covenants related to EBITDA, gross additions of subscribers, minimum cash and cash equivalents and maximum capital expenditures, among other things. LCW Operations was in compliance with these covenants as of September 30, 2008.

 

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Senior Notes

Senior Notes Due 2014

In 2006, Cricket issued $750 million of 9.375% unsecured senior notes due 2014 in a private placement to institutional buyers, which were exchanged in 2007 for identical notes that had been registered with the SEC. In June 2007, Cricket issued an additional $350 million of 9.375% unsecured senior notes due 2014 in a private placement to institutional buyers at an issue price of 106% of the principal amount, which were exchanged in June 2008 for identical notes that had been registered with the SEC. These notes are all treated as a single class and have identical terms. The $21 million premium the Company received in connection with the issuance of the second tranche of notes has been recorded in long-term debt in the condensed consolidated financial statements and is being amortized as a reduction to interest expense over the term of the notes. At September 30, 2008, the effective interest rate on the $350 million of senior notes was 8.7%, which includes the effect of the premium amortization and excludes the effect of the additional interest that has been accrued in connection with the delay in the exchange of the notes, as more fully described below.

The notes bear interest at the rate of 9.375% per year, payable semi-annually in cash in arrears, which interest payments commenced in May 2007. The notes are guaranteed on an unsecured senior basis by Leap and each of its existing and future domestic subsidiaries (other than Cricket, which is the issuer of the notes, and LCW Wireless and Denali and their respective subsidiaries) that guarantee indebtedness for money borrowed of Leap, Cricket or any subsidiary guarantor. The notes and the guarantees are Leap’s, Cricket’s and the guarantors’ general senior unsecured obligations and rank equally in right of payment with all of Leap’s, Cricket’s and the guarantors’ existing and future unsubordinated unsecured indebtedness. The notes and the guarantees are effectively junior to Leap’s, Cricket’s and the guarantors’ existing and future secured obligations, including those under the Credit Agreement, to the extent of the value of the assets securing such obligations, as well as to future liabilities of Leap’s and Cricket’s subsidiaries that are not guarantors, and of LCW Wireless and Denali and their respective subsidiaries. In addition, the notes and the guarantees are senior in right of payment to any of Leap’s, Cricket’s and the guarantors’ future subordinated indebtedness.

Prior to November 1, 2009, Cricket may redeem up to 35% of the aggregate principal amount of the notes at a redemption price of 109.375% of the principal amount thereof, plus accrued and unpaid interest and additional interest, if any, thereon to the redemption date, from the net cash proceeds of specified equity offerings. Prior to November 1, 2010, Cricket may redeem the notes, in whole or in part, at a redemption price equal to 100% of the principal amount thereof plus the applicable premium and any accrued and unpaid interest, if any, thereon to the redemption date. The applicable premium is calculated as the greater of (i) 1.0% of the principal amount of such notes and (ii) the excess of (a) the present value at such date of redemption of (1) the redemption price of such notes at November 1, 2010 plus (2) all remaining required interest payments due on such notes through November 1, 2010 (excluding accrued but unpaid interest to the date of redemption), computed using a discount rate equal to the Treasury Rate plus 50 basis points, over (b) the principal amount of such notes. The notes may be redeemed, in whole or in part, at any time on or after November 1, 2010, at a redemption price of 104.688% and 102.344% of the principal amount thereof if redeemed during the twelve months ending October 31, 2011 and 2012, respectively, or at 100% of the principal amount if redeemed during the twelve months ending October 31, 2013 or thereafter, plus accrued and unpaid interest, if any, thereon to the redemption date.

If a “change of control” occurs (which includes the acquisition of beneficial ownership of 35% or more of Leap’s equity securities, a sale of all or substantially all of the assets of Leap and its restricted subsidiaries and a change in a majority of the members of Leap’s board of directors that is not approved by the board), each holder of the notes may require Cricket to repurchase all of such holder’s notes at a purchase price equal to 101% of the principal amount of the notes, plus accrued and unpaid interest, if any, thereon to the repurchase date.

In connection with the private placement of the $350 million of additional senior notes, the Company entered into a registration rights agreement with the initial purchasers of the notes in which the Company agreed to file a registration statement with the SEC to permit the holders to exchange or resell the notes. The Company

 

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was required to use reasonable best efforts to file such registration statement within 150 days after the issuance of the notes, have the registration statement declared effective within 270 days after the issuance of the notes and then consummate any exchange offer within 30 business days after the effective date of the registration statement. In the event that the registration statement was not filed or declared effective or the exchange offer was not consummated within these deadlines, the agreement provided that additional interest would accrue on the principal amount of the notes at a rate of 0.50% per annum during the 90-day period immediately following the first to occur of these events and would increase by 0.50% per annum at the end of each subsequent 90-day period until all such defaults were cured, but in no event would the penalty rate exceed 1.50% per annum. There were no other alternative settlement methods and, other than the 1.50% per annum maximum penalty rate, the agreement contained no limit on the maximum potential amount of penalty interest that could be paid in the event the Company did not meet these requirements. Due to the Company’s restatement of its historical consolidated financial results during the fourth quarter of 2007, the Company was unable to file the registration statement within 150 days after issuance of the notes. The Company filed the registration statement on March 28, 2008, which was declared effective on May 19, 2008, and consummated the exchange offer on June 20, 2008. Due to the delay in filing the registration statement and having it declared effective, the Company paid approximately $1.3 million of additional interest on May 1, 2008 and paid approximately $0.3 million of the remaining additional interest on November 3, 2008.

Convertible Senior Notes Due 2014

In June 2008, Leap issued $250 million of unsecured convertible senior notes due 2014 in a private placement to institutional buyers. The notes bear interest at the rate of 4.50% per year, payable semi-annually in cash in arrears commencing in January 2009. The notes are Leap’s general unsecured obligations and rank equally in right of payment with all of Leap’s existing and future senior unsecured indebtedness and senior in right of payment to all indebtedness that is contractually subordinated to the notes. The notes are structurally subordinated to the existing and future claims of Leap’s subsidiaries’ creditors, including under the Credit Agreement and the senior notes described above and below. The notes are effectively junior to all of Leap’s existing and future secured obligations, including those under the Credit Agreement, to the extent of the value of the assets securing such obligations.

Holders may convert their notes into shares of Leap common stock at any time on or prior to the third scheduled trading day prior to the maturity date of the notes, July 15, 2014. If, at the time of conversion, the applicable stock price of Leap’s common stock is less than or equal to approximately $93.21 per share, the notes will be convertible into 10.7290 shares of Leap common stock per $1,000 principal amount of the notes (referred to as the “base conversion rate”), subject to adjustment upon the occurrence of certain events. If, at the time of conversion, the applicable stock price of Leap’s common stock exceeds approximately $93.21 per share, the conversion rate will be determined pursuant to a formula based on the base conversion rate and an incremental share factor of 8.3150 shares per $1,000 principal amount of the notes, subject to adjustment.

Leap may be required to repurchase all outstanding notes in cash at a repurchase price of 100% of the principal amount of the notes, plus accrued and unpaid interest, if any, thereon to the repurchase date if (1) any person acquires beneficial ownership, directly or indirectly, of shares of Leap’s capital stock that would entitle the person to exercise 50% or more of the total voting power of all of Leap’s capital stock entitled to vote in the election of directors, (2) Leap (i) merges or consolidates with or into any other person, another person merges with or into Leap, or Leap conveys, sells, transfers or leases all or substantially all of its assets to another person or (ii) engages in any recapitalization, reclassification or other transaction in which all or substantially all of Leap’s common stock is exchanged for or converted into cash, securities or other property, in each case subject to limitations and excluding in the case of (1) and (2) any merger or consolidation where at least 90% of the consideration consists of shares of common stock traded on NYSE, ASE or NASDAQ, (3) a majority of the members of Leap’s board of directors ceases to consist of individuals who were directors on the date of original issuance of the notes or whose election or nomination for election was previously approved by the board of directors, (4) Leap is liquidated or dissolved or holders of common stock approve any plan or proposal for its

 

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liquidation or dissolution or (5) shares of Leap’s common stock are not listed for trading on any of the New York Stock Exchange, the NASDAQ Global Market or the NASDAQ Global Select Market (or any of their respective successors). Leap may not redeem the notes at its option.

In connection with the private placement of the convertible senior notes, the Company entered into a registration rights agreement with the initial purchasers of the notes in which the Company agreed, under certain circumstances, to use commercially reasonable efforts to cause a shelf registration statement covering the resale of the notes and the common stock issuable upon conversion of the notes to be declared effective by the SEC and to pay additional interest if such registration obligations are not performed. In the event that the Company does not comply with such obligations, the agreement provides that additional interest will accrue on the principal amount of the notes at a rate of 0.25% per annum during the 90-day period immediately following a registration default and will increase to 0.50% per annum beginning on the 91st day of the registration default until all such defaults have been cured. There are no other alternative settlement methods and, other than the 0.50% per annum maximum penalty rate, the agreement contains no limit on the maximum potential amount of penalty interest that could be paid in the event the Company does not meet these requirements. However, the Company’s obligation to file, have declared effective or maintain the effectiveness of a shelf registration statement (and pay additional interest) is suspended to the extent and during the periods that the notes are eligible to be transferred without registration under the Securities Act of 1933, as amended (the “Securities Act”) by a person who is not an affiliate of the Company (and has not been an affiliate for the 90 days preceding such transfer) pursuant to Rule 144 under the Securities Act without any volume or manner of sale restrictions. The Company did not issue any of the convertible senior notes to any of its affiliates. As a result, the Company currently expects that prior to the time by which the Company would be required to file and have declared effective a shelf registration statement covering the resale of the convertible senior notes that the notes will be eligible to be transferred without registration pursuant to Rule 144 without any volume or manner of sale restrictions. Accordingly, the Company does not believe that the payment of additional interest is probable, and therefore no related liability has been recorded in the condensed consolidated financial statements.

Senior Notes Due 2015

In June 2008, Cricket issued $300 million of 10.0% unsecured senior notes due 2015 in a private placement to institutional buyers. The notes bear interest at the rate of 10.0% per year, payable semi-annually in cash in arrears commencing in January 2009. The notes are guaranteed on an unsecured senior basis by Leap and each of its existing and future domestic subsidiaries (other than Cricket, which is the issuer of the notes, and LCW Wireless and Denali and their respective subsidiaries) that guarantee indebtedness for money borrowed of Leap, Cricket or any subsidiary guarantor. The notes and the guarantees are Leap’s, Cricket’s and the guarantors’ general senior unsecured obligations and rank equally in right of payment with all of Leap’s, Cricket’s and the guarantors’ existing and future unsubordinated unsecured indebtedness. The notes and the guarantees are effectively junior to Leap’s, Cricket’s and the guarantors’ existing and future secured obligations, including those under the Credit Agreement, to the extent of the value of the assets securing such obligations, as well as to future liabilities of Leap’s and Cricket’s subsidiaries that are not guarantors, and of LCW Wireless and Denali and their respective subsidiaries. In addition, the notes and the guarantees are senior in right of payment to any of Leap’s, Cricket’s and the guarantors’ future subordinated indebtedness.

Prior to July 15, 2011, Cricket may redeem up to 35% of the aggregate principal amount of the notes at a redemption price of 110.0% of the principal amount thereof, plus accrued and unpaid interest and additional interest, if any, thereon to the redemption date, from the net cash proceeds of specified equity offerings. Prior to July 15, 2012, Cricket may redeem the notes, in whole or in part, at a redemption price equal to 100% of the principal amount thereof plus the applicable premium and any accrued and unpaid interest, if any, thereon to the redemption date. The applicable premium is calculated as the greater of (i) 1.0% of the principal amount of such notes and (ii) the excess of (a) the present value at such date of redemption of (1) the redemption price of such notes at July 15, 2012 plus (2) all remaining required interest payments due on such notes through July 15, 2012 (excluding accrued but unpaid interest to the date of redemption), computed using a discount rate equal to the

 

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Treasury Rate plus 50 basis points, over (b) the principal amount of such notes. The notes may be redeemed, in whole or in part, at any time on or after July 15, 2012, at a redemption price of 105.0% and 102.5% of the principal amount thereof if redeemed during the twelve months ending July 15, 2013 and 2014, respectively, or at 100% of the principal amount if redeemed during the twelve months ending July 15, 2015, plus accrued and unpaid interest, if any, thereon to the redemption date.

If a “change of control” occurs (which includes the acquisition of beneficial ownership of 35% or more of Leap’s equity securities, a sale of all or substantially all of the assets of Leap and its restricted subsidiaries and a change in a majority of the members of Leap’s board of directors that is not approved by the board), each holder of the notes may require Cricket to repurchase all of such holder’s notes at a purchase price equal to 101% of the principal amount of the notes, plus accrued and unpaid interest, if any, thereon to the repurchase date.

In connection with the private placement of these senior notes, the Company entered into a registration rights agreement with the initial purchasers of the notes in which the Company agreed, under certain circumstances, to use its reasonable best efforts to offer registered notes in exchange for the notes or to cause a shelf registration statement covering the resale of the notes to be declared effective by the SEC and to pay additional interest if such registration obligations are not performed. In the event that the Company does not comply with such obligations, the agreement provides that additional interest will accrue on the principal amount of the notes at a rate of 0.50% per annum during the 90-day period immediately following a registration default and will increase by 0.50% per annum at the end of each subsequent 90-day period until all such defaults are cured, but in no event will the penalty rate exceed 1.50% per annum. There are no other alternative settlement methods and, other than the 1.50% per annum maximum penalty rate, the agreement contains no limit on the maximum potential amount of penalty interest that could be paid in the event the Company does not meet these requirements. However, the Company’s obligation to file, have declared effective or maintain the effectiveness of a registration statement for an exchange offer or a shelf registration statement (and pay additional interest) is only triggered to the extent that the notes are not eligible to be transferred without registration under the Securities Act by a person who is not an affiliate of the Company (and has not been an affiliate for the 90 days preceding such transfer) pursuant to Rule 144 under the Securities Act without any volume or manner of sale restrictions. The Company did not issue any of the senior notes to any of its affiliates. As a result, the Company currently expects that prior to the time by which the Company would be required to file and have declared effective a registration statement for an exchange offer or a shelf registration statement covering the senior notes that the notes will be eligible to be transferred without registration pursuant to Rule 144 without any volume or manner of sale restrictions. Accordingly, the Company does not believe that the payment of additional interest is probable, and therefore no related liability has been recorded in the condensed consolidated financial statements.

Note 7.    Significant Acquisitions and Dispositions

In April 2008, the Company completed the purchase of Hargray Communications Group’s wireless subsidiary, Hargray Wireless, LLC (“Hargray Wireless”), for $31.2 million, including acquisition-related costs of $0.6 million. Hargray Wireless owns a 15 MHz wireless license covering approximately 0.8 million potential customers and operated a wireless business in Georgia and South Carolina, which complements the Company’s existing market in Charleston, South Carolina. In April 2008, Hargray Wireless became a guarantor under the Credit Agreement and the indenture governing Cricket’s senior notes due 2014. Hargray Wireless is also a guarantor under the indenture governing Cricket’s senior notes due 2015. In October 2008, the Company launched Cricket service in Hargray Wireless’ Georgia and South Carolina markets.

 

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The Company has not presented pro forma financial information reflecting the effects of the business combination because such effects are not material. The acquisition was accounted for under the purchase method of accounting whereby the net tangible and intangible assets acquired and liabilities assumed were recorded at their fair values at the date of acquisition. The allocation of the purchase price to the assets acquired and liabilities assumed based on their estimated fair values was as follows (in thousands):

 

     Value

Total purchase price

   $ 31,201

Finite-lived intangible assets acquired

   $ 7,347

Indefinite-lived intangible assets acquired

     10,042

Goodwill

     4,186

Other net assets acquired (excluding cash acquired)

     9,626
      

Total net assets acquired

   $ 31,201
      

The purchase price exceeds the fair market value of the net identifiable tangible and intangible assets acquired due to the Company’s expectation of strategic and financial benefits associated with a larger customer base and expanded network coverage area.

Finite-lived intangible assets include amounts recognized for the fair value of customer relationships. The customer relationships are amortized on an accelerated basis over a useful life of up to four years. Indefinite-lived intangible assets include amounts recognized for the fair value of a wireless license. Consistent with the Company’s policy regarding the useful lives of its wireless licenses, the wireless license acquired has an indefinite useful life.

In addition, in May 2008, the Company completed its exchange of certain disaggregated spectrum with Sprint Nextel. An aggregate of 20 MHz of disaggregated spectrum under certain of the Company’s existing PCS licenses in Tennessee, Georgia and Arkansas was exchanged for an aggregate of 30 MHz of disaggregated and partitioned spectrum in New Jersey and Mississippi owned by Sprint Nextel. The fair value of the assets exchanged was approximately $8.1 million, and the Company recognized a non-monetary gain of approximately $1.3 million upon the closing of the transaction.

As more fully described in Note 8, on September 26, 2008, the Company and MetroPCS Communications, Inc. (“MetroPCS”) agreed to exchange certain wireless spectrum. Under the spectrum exchange agreement, the Company would acquire an additional 10 MHz of spectrum in San Diego, Fresno, Seattle and certain other Washington and Oregon markets, and MetroPCS would acquire an additional 10 MHz of spectrum in Dallas-Ft. Worth, Shreveport-Bossier City, Lakeland-Winter Haven, Florida and certain other northern Texas markets. Completion of the spectrum exchange is subject to customary closing conditions, including the consent of the FCC. The carrying values of the wireless licenses to be transferred to MetroPCS under the spectrum exchange agreement of $45.6 million have been classified in assets held for sale in the condensed consolidated balance sheet as of September 30, 2008.

Note 8.    Commitments and Contingencies

Patent Litigation

MetroPCS

On June 14, 2006, the Company sued MetroPCS in the United States District Court for the Eastern District of Texas, Marshall Division, for infringement of U.S. Patent No. 6,813,497 entitled “Method for Providing Wireless Communication Services and Network and System for Delivering Same.” The Company’s complaint sought damages and an injunction against continued infringement. On August 3, 2006, MetroPCS, together with certain related entities (referred to, collectively with MetroPCS, as the “MetroPCS entities”), counterclaimed against Leap, Cricket, numerous Cricket subsidiaries, Denali License, and current and former employees of Leap

 

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and Cricket, including the Company’s chief executive officer, S. Douglas Hutcheson. MetroPCS later amended its complaint to allege claims for breach of contract, misappropriation, conversion and disclosure of trade secrets, fraud, misappropriation of confidential information and breach of confidential relationship, relating to information allegedly provided by MetroPCS to such employees, including prior to their employment by Leap, and asked the court to award attorneys fees and damages (including punitive damages), impose an injunction enjoining the Company from participating in any auctions or sales of wireless spectrum, impose a constructive trust on the Company’s business and assets for the benefit of the MetroPCS entities, transfer the Company’s business and assets to MetroPCS, and declare that the MetroPCS entities had not infringed U.S. Patent No. 6,813,497 and that such patent was invalid. MetroPCS’s claims alleged that the Company and the other counterclaim defendants improperly obtained, used and disclosed trade secrets and confidential information of the MetroPCS entities and breached confidentiality agreements with the MetroPCS entities.

On September 22, 2006, Royal Street Communications, LLC (“Royal Street”), an entity affiliated with MetroPCS, filed an action in the United States District Court for the Middle District of Florida, Tampa Division, seeking a declaratory judgment that the Company’s U.S. Patent No. 6,813,497 (the same patent that was the subject of the Company’s infringement action against MetroPCS) was invalid and was not being infringed by Royal Street or its PCS systems. Upon the Company’s request, the court transferred the Royal Street case to the United States District Court for the Eastern District of Texas due to the affiliation between MetroPCS and Royal Street and the Royal Street matter was consolidated with the MetroPCS case.

On August 17, 2006, the Company was served with a complaint filed by certain MetroPCS entities, along with another affiliate, MetroPCS California, LLC, in the Superior Court of the State of California, which named Leap, Cricket, certain of its subsidiaries, and certain current and former employees of Leap and Cricket, including Mr. Hutcheson, as defendants. In their amended complaint, the plaintiffs alleged statutory unfair competition, statutory misappropriation of trade secrets, breach of contract, intentional interference with contract, and intentional interference with prospective economic advantage, sought preliminary and permanent injunction, and asked the court to award damages (including punitive damages), attorneys fees, and restitution.

On September 26, 2008, the Company, the MetroPCS entities and Royal Street settled these matters and all pending litigation between the parties and their respective affiliates was dismissed. In connection with the settlement, the companies entered into a cross-license agreement for intellectual property related to the litigation and for certain other intellectual property that is now or in the future held or applied for by either company. The parties also entered into an agreement to exchange wireless spectrum and a roaming agreement. Under the spectrum exchange agreement, the Company would acquire an additional 10 MHz of spectrum in San Diego, Fresno, Seattle and certain other markets in Washington and Oregon, and MetroPCS would acquire an additional 10 MHz of spectrum in Dallas-Ft. Worth, Shreveport-Bossier City, Lakeland-Winter Haven, Florida and certain other markets in northern Texas. Completion of the spectrum exchange is subject to customary closing conditions, including the consent of the FCC. The roaming agreement, which has an initial term of ten years, covers the companies’ existing and future operating markets and will enable the wireless subscribers of each company to receive wireless services in the other company’s operating markets. The Company may seek to enter into other mutually beneficial cost-saving arrangements with MetroPCS.

Freedom Wireless

On December 10, 2007, the Company was sued by Freedom Wireless, Inc. (“Freedom Wireless”), in the United States District Court for the Eastern District of Texas, Marshall Division, for alleged infringement of U.S. Patent No. 5,722,067 entitled “Security Cellular Telecommunications System,” U.S. Patent No. 6,157,823 entitled “Security Cellular Telecommunications System,” and U.S. Patent No. 6,236,851 entitled “Prepaid Security Cellular Telecommunications System.” Freedom Wireless alleges that its patents claim a novel cellular system that enables subscribers of prepaid services to both place and receive cellular calls without dialing access codes or using modified telephones. The complaint seeks unspecified monetary damages, increased damages under 35 U.S.C. § 284 together with interest, costs and attorneys’ fees, and an injunction. On September 3, 2008, Freedom Wireless amended its infringement contentions to assert that the Company’s Cricket unlimited voice

 

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service, in addition to its Jump® Mobile and Cricket by Week™ services, infringes claims under the patents at issue. The court issued a claim construction ruling on October 17, 2008, but has not issued a ruling with respect to a supplemental claim construction motion that the Company previously filed on July 17, 2008. Trial on this matter is currently scheduled to begin on January 5, 2009, and the Company intends to vigorously defend against this matter. Due to the complex nature of the legal and factual issues involved, however, the outcome of this matter is not presently determinable. If the plaintiff were to prevail in this matter, the Company could be required to pay substantial damages or settlement costs which could have a material adverse effect on the Company’s business, financial condition and results of operations.

Electronic Data Systems

On February 4, 2008, the Company and certain other wireless carriers were sued by Electronic Data Systems Corporation (“EDS”) in the United States District Court for the Eastern District of Texas, Marshall Division, for alleged infringement of U.S. Patent No. 7,156,300 entitled “System and Method for Dispensing a Receipt Reflecting Prepaid Phone Services” and U.S. Patent No. 7,255,268 entitled “System for Purchase of Prepaid Telephone Services.” EDS alleges that the sale and marketing by the Company of prepaid wireless cellular telephone services infringes these patents, and the complaint seeks an injunction against further infringement, damages (including enhanced damages) and attorneys’ fees. The Company filed an answer to the complaint on March 28, 2008 and intends to vigorously defend against this matter. Due to the complex nature of the legal and factual issues involved, however, the outcome of this lawsuit is not presently determinable.

EMSAT Advanced Geo-Location Technology

On October 7, 2008, the Company and certain other wireless carriers were sued by EMSAT Advanced Geo-Location Technology, LLC (“EMSAT”) and Location Based Services LLC (“LBS”) in the United States District Court for the Eastern District of Texas, Marshall Division for alleged infringement of U.S. Patent Nos. 5,946,611, 6,847,822, and 7,289,763 entitled “Cellular Telephone System that Uses Position of a Mobile Unit to Make Call Management Decisions.” EMSAT and LBS allege that the Company’s sale, offer for sale, use, and/or inducement to use mobile E911 services infringes one or more claims of these patents. While not directed at the Company, the complaint further alleges that the other defendants’ sale, offer for sale, use, and/or inducement to use commercial location-based services also infringes one or more claims of these patents. The complaint seeks damages (including pre- and post-judgment interest), costs, and attorney’s fees, but does not request injunctive relief. The Company intends to vigorously defend against this matter. Due to the complex nature of the legal and factual issues involved, however, the outcome of this lawsuit is not presently determinable.

American Wireless Group

On December 31, 2002, several members of American Wireless Group, LLC (“AWG”) filed a lawsuit against various officers and directors of Leap in the Circuit Court of the First Judicial District of Hinds County, Mississippi, referred to herein as the Whittington Lawsuit. Leap purchased certain FCC wireless licenses from AWG and paid for those licenses with shares of Leap stock. The complaint alleges that Leap failed to disclose to AWG material facts regarding a dispute between Leap and a third party relating to that party’s claim that it was entitled to an increase in the purchase price for certain wireless licenses it sold to Leap. In their complaint, plaintiffs seek rescission and/or damages according to proof at trial of not less than the aggregate amount paid for the Leap stock (alleged in the complaint to have a value of approximately $57.8 million in June 2001 at the closing of the license sale transaction), plus interest, punitive or exemplary damages in the amount of not less than three times compensatory damages, and costs and expenses. Plaintiffs contend that the named defendants are the controlling group that was responsible for Leap’s alleged failure to disclose the material facts regarding the third party dispute and the risk that the shares held by the plaintiffs might be diluted if the third party was successful with respect to its claim. The defendants in the Whittington Lawsuit filed a motion to compel

 

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arbitration or, in the alternative, to dismiss the Whittington Lawsuit. The motion noted that plaintiffs, as members of AWG, agreed to arbitrate disputes pursuant to the license purchase agreement, that they failed to plead facts that show that they are entitled to relief, that Leap made adequate disclosure of the relevant facts regarding the third party dispute and that any failure to disclose such information did not cause any damage to the plaintiffs. The court denied defendants’ motion and the defendants appealed the denial of the motion to the Mississippi Supreme Court. On November 15, 2007, the Mississippi Supreme Court issued an opinion denying the appeal and remanded the action to the trial court. The defendants filed an answer to the complaint on May 2, 2008.

In a related action to the action described above, in June 2003, AWG filed a lawsuit in the Circuit Court of the First Judicial District of Hinds County, Mississippi, referred to herein as the AWG Lawsuit, against the same individual defendants named in the Whittington Lawsuit. The complaint generally sets forth the same claims made by the plaintiffs in the Whittington Lawsuit. In its complaint, plaintiff seeks rescission and/or damages according to proof at trial of not less than the aggregate amount paid for the Leap stock (alleged in the complaint to have a value of approximately $57.8 million in June 2001 at the closing of the license sale transaction), plus interest, punitive or exemplary damages in the amount of not less than three times compensatory damages, and costs and expenses. Defendants filed a motion to compel arbitration or, in the alternative, to dismiss the AWG Lawsuit, making arguments similar to those made in their motion to dismiss the Whittington Lawsuit. AWG has since agreed to arbitrate this lawsuit and a hearing on the arbitration has been scheduled to begin on November 10, 2008.

Although Leap is not a defendant in either the Whittington or AWG Lawsuits, several of the defendants have indemnification agreements with the Company. Management believes that the defendants’ liability, if any, from the AWG and Whittington Lawsuits and any further indemnity claims of the defendants against Leap is not presently determinable.

Securities Litigation

Two shareholder derivative lawsuits were filed in the California Superior Court for the County of San Diego in November 2007 and January 2008 purporting to assert claims on behalf of Leap against certain of its current and former directors and officers, and naming Leap as a nominal defendant. In February 2008, the plaintiff in one of these lawsuits voluntarily dismissed his action and filed a derivative complaint in the United States District Court for the Southern District of California. On April 21, 2008, the plaintiff in the state derivative lawsuit filed an amended complaint. Leap and the individual defendants filed demurrers to the state action and motions to dismiss the federal action. On August 22, 2008, before those motions and demurrers were fully briefed or heard, the state action was stayed pending resolution of the federal action. On September 12, 2008, the plaintiff in the federal action filed an amended complaint which included certain claims and allegations that previously had been made in the state action. The complaints in the federal and state derivative actions assert various claims, including alleged breaches of fiduciary duty, gross mismanagement, waste of corporate assets, unjust enrichment and proxy violations based on Leap’s November 9, 2007 announcement that it would restate certain of its financial statements, claims alleging breach of fiduciary duty based on the September 2007 unsolicited merger proposal from MetroPCS, and claims based on sales of Leap common stock by certain of the defendants prior to the restatement announcement. The derivative complaints seek judicial determination that the claims may be asserted derivatively on behalf of Leap, as well as unspecified damages, equitable and/or injunctive relief, imposition of a constructive trust, disgorgement, and attorney’s fees and costs. On October 27, 2008, Leap and the individual defendants filed motions to dismiss the amended federal derivative complaint. Due to the complex nature of the legal and factual issues involved, the outcome of these matters is not presently determinable.

The Company and certain of its current and former officers and directors and its independent registered public accounting firm, PricewaterhouseCoopers LLP, have been named as defendants in a consolidated securities class action lawsuit filed in the United States District Court for the Southern District of California. Several securities class action lawsuits initially filed between November 2007 and February 2008 have either been voluntarily dismissed or consolidated in the remaining action. The court-appointed lead plaintiff filed a consolidated complaint on July 7, 2008 purportedly on behalf of investors who purchased Leap common stock between August 3, 2006 and November 9, 2007. The consolidated complaint alleges that the defendants violated

 

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Section 10(b) of the Exchange Act and Rule 10b-5, and further alleges that the individual defendants violated Section 20(a) of the Exchange Act. The consolidated complaint also alleges the Company made false and misleading statements about its internal controls, business and financial results. The claims are based primarily on Leap’s November 9, 2007 announcement that it would restate certain of its financial statements and statements made in Leap’s August 7, 2007 second quarter 2007 earnings release. The class action lawsuit seeks, among other relief, a determination that the alleged claims may be asserted on a class-wide basis and unspecified damages and attorney’s fees and costs. Defendants filed motions to dismiss the consolidated complaint on August 28, 2008. The Company intends to vigorously defend against these lawsuits. Due to the complex nature of the legal and factual issues involved, however, the outcome of these matters is not presently determinable.

If the plaintiffs were to prevail in these matters, the Company could be required to pay substantial damages or settlement costs, which could materially adversely affect its business, financial condition and results of operations.

Other Litigation

In addition to the matters described above, the Company is often involved in certain other claims, including disputes alleging intellectual property infringement, which arise in the ordinary course of business and seek monetary damages and other relief. Based upon information currently available to the Company, none of these other claims is expected to have a material adverse effect on the Company’s business, financial condition or results of operations.

Spectrum Clearing Obligations

Portions of the AWS spectrum that was auctioned in Auction #66 are currently used by U.S. government and/or incumbent commercial licensees. FCC rules require winning bidders to avoid interfering with these existing users or to clear the incumbent users from the spectrum through specified relocation procedures. To facilitate the clearing of this spectrum, the FCC adopted a transition and cost-sharing plan whereby incumbent non-governmental users may be reimbursed for costs they incur in relocating from the spectrum by AWS licensees benefiting from the relocation. In addition, this plan requires the AWS licensees and the applicable incumbent non-governmental user to negotiate for a period of two or three years (depending on the type of incumbent user and whether the user is a commercial or non-commercial licensee), triggered from the time that an AWS licensee notifies the incumbent user that it desires the incumbent to relocate. If no agreement is reached during this period of time, the FCC rules provide that an AWS licensee may force the incumbent non-governmental user to relocate at the licensee’s expense. The FCC rules also provide that a portion of the proceeds raised in Auction #66 will be used to reimburse the costs of governmental users relocating from the AWS spectrum. However, some such users may delay relocation for an extended and undetermined period of time. The Company is continuing to evaluate its spectrum clearing obligations, and the potential costs that may be incurred could be material.

FCC Hurricane Katrina Order

The FCC regulates the licensing, construction, modification, operation, ownership, sale and interconnection of wireless communications systems, as do some state and local regulatory agencies. In 2007, the FCC released an order implementing certain recommendations of an independent panel reviewing the impact of Hurricane Katrina on communications networks, which requires wireless carriers to provide emergency back-up power sources for their equipment and facilities, including 24 hours of emergency power for mobile switch offices and up to eight hours for cell site locations. The order was expected to become effective sometime in 2008. However, on February 28, 2008, the United States Court of Appeals for the District of Columbia Circuit stayed the effective date of the order pending resolution of a petition for review of the FCC’s rules. On July 8, 2008, the court declared the case not ripe for review and held the matter in abeyance, pending further review by the U.S. Office of Management and Budget of certain information collection requirements under the order. In order for the Company to comply with the requirements of the order, it would likely need to purchase additional equipment, obtain additional state and local permits, authorizations and approvals and incur additional operating

 

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expenses. The Company is currently evaluating its compliance with this order should it become effective, and the potential costs that may be incurred to achieve compliance could be material.

System Equipment Purchase Agreements

In June 2007, the Company entered into certain system equipment purchase agreements, which generally have a term of three years. In the agreements, the Company agreed to purchase and/or license wireless communications systems, products and services designed to be AWS functional at a current estimated cost to the Company of approximately $266 million, which commitments are subject, in part, to the necessary clearance of spectrum in the markets to be built. Under the terms of the agreements, the Company is entitled to certain pricing discounts, credits and incentives, which credits and incentives are subject to the Company’s achievement of its purchase commitments, and to certain technical training for the Company’s personnel. If the purchase commitment levels per the agreements are not achieved, the Company may be required to refund any previous credits and incentives it applied to historical purchases.

Outstanding Letters of Credit and Surety Bonds

As of September 30, 2008 and December 31, 2007, the Company had approximately $9.4 million and $4.6 million, respectively, of letters of credit outstanding, which were collateralized by restricted cash, related to contractual commitments under certain of its administrative facility leases and surety bond programs and its workers’ compensation insurance program. As of September 30, 2008 and December 31, 2007, approximately $4.1 million and $2.0 million, respectively, of these letters of credit were issued pursuant to the Credit Agreement and were considered as usage for purposes of determining availability under the revolving credit facility.

As of September 30, 2008 and December 31, 2007, the Company had approximately $4.7 million and $2.1 million, respectively, of surety bonds outstanding to guarantee the Company’s performance with respect to certain of its contractual obligations.

Losses Resulting from Hurricane Ike

In September 2008, Hurricane Ike made landfall in the U.S. causing major damage to homes, civil infrastructure and commercial properties. Among the states most affected by Hurricane Ike was Texas, specifically, the cities of Galveston and Houston. Although mostly concentrated in Texas, the effects of Hurricane Ike were felt throughout the southeastern and midwestern regions of the U.S. The Company restored service in markets affected by the hurricane in September 2008. As a result of damage from the hurricane, the Company has written off equipment with a net book value of $0.2 million and has incurred additional operating costs during the three months ended September 30, 2008. These losses have been reflected as operating expenses in the condensed consolidated statements of operations for the three months ended September 30, 2008. The Company expects to incur additional equipment write-offs and operating expenses; however, the Company does not expect them to be material. In addition, the Company is considering pursuing insurance claims for losses it has incurred.

Note 9.    Guarantor Financial Information

Of the $1,400 million of senior notes issued by Cricket (the “Issuing Subsidiary”), $1,100 million are due in 2014 and $300 million are due in 2015. The notes are jointly and severally guaranteed on a full and unconditional basis by Leap (the “Guarantor Parent Company”) and certain of its direct and indirect wholly owned subsidiaries, including Cricket’s subsidiaries that hold real property interests or wireless licenses (collectively, the “Guarantor Subsidiaries”).

The indentures governing these notes limit, among other things, Leap’s, Cricket’s and the Guarantor Subsidiaries’ ability to: incur additional debt; create liens or other encumbrances; place limitations on distributions from restricted subsidiaries; pay dividends; make investments; prepay subordinated indebtedness or

 

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make other restricted payments; issue or sell capital stock of restricted subsidiaries; issue guarantees; sell assets; enter into transactions with its affiliates; and make acquisitions or merge or consolidate with another entity.

Condensed consolidating financial information of the Guarantor Parent Company, the Issuing Subsidiary, the Guarantor Subsidiaries, non-Guarantor Subsidiaries and total consolidated Leap and subsidiaries as of September 30, 2008 and December 31, 2007 and for the three and nine months ended September 30, 2008 and 2007 is presented below. The equity method of accounting is used to account for ownership interests in subsidiaries, where applicable.

Condensed Consolidating Balance Sheet as of September 30, 2008 (unaudited and in thousands):

 

    Guarantor
Parent
Company
  Issuing
Subsidiary
  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiaries
  Consolidating
and
Eliminating
Adjustments
    Consolidated

Assets

           

Cash and cash equivalents

  $ 80   $ 496,718   $ 252   $ 44,754   $     $ 541,804

Short-term investments

        279,411         5,100           284,511

Restricted cash, cash equivalents and short-term investments

    1,607     3,223         40           4,870

Inventories

        105,445     509     730           106,684

Other current assets

    133     61,833     1,767     2,256           65,989
                                     

Total current assets

    1,820     946,630     2,528     52,880           1,003,858

Property and equipment, net

    5     1,453,883     14,253     199,635     (6,236 )     1,661,540

Investments in and advances to affiliates and consolidated subsidiaries

    1,916,249     1,983,643     132,072     5,743     (4,037,707 )    

Wireless licenses

        18,533     1,489,376     328,713           1,836,622

Assets held for sale

            45,569               45,569

Goodwill

        425,781     4,187               429,968

Other intangible assets, net

        25,988     5,390               31,378

Other assets

    8,355     70,660         2,316           81,331
                                     

Total assets

  $ 1,926,429   $ 4,925,118   $ 1,693,375   $ 589,287   $ (4,043,943 )   $ 5,090,266
                                     

Liabilities and Stockholders’ Equity

         

Accounts payable and accrued liabilities

  $ 41   $ 271,421   $   $ 32,474   $     $ 303,936

Current maturities of long-term debt

        9,000         3,500           12,500

Intercompany payables

    8,826     386,782     22,479     22,542     (440,629 )    

Other current liabilities

    840     171,329     1,285     4,709           178,163
                                     

Total current liabilities

    9,707     838,532     23,764     63,225     (440,629 )     494,599

Long-term debt

    250,000     2,284,087         448,509     (413,009 )     2,569,587

Deferred tax liabilities

        22,255     188,694               210,949

Other long-term liabilities

        88,641     859     4,277           93,777
                                     

Total liabilities

    259,707     3,233,515     213,317     516,011     (853,638 )     3,368,912

Minority interests

        24,321             30,311       54,632

Membership units subject to repurchase

                40,817     (40,817 )    

Stockholders’ equity

    1,666,722     1,667,282     1,480,058     32,459     (3,179,799 )     1,666,722
                                     

Total liabilities and stockholders’ equity

  $ 1,926,429   $ 4,925,118   $ 1,693,375   $ 589,287   $ (4,043,943 )   $ 5,090,266
                                     

 

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Condensed Consolidating Balance Sheet as of December 31, 2007 (in thousands):

 

    Guarantor
Parent
Company
  Issuing
Subsidiary
  Guarantor
Subsidiaries
  Non-Guarantor
Subsidiaries
  Consolidating
and
Eliminating
Adjustments
    Consolidated

Assets

           

Cash and cash equivalents

  $ 62   $ 399,153   $   $ 34,122   $     $ 433,337

Short-term investments

        163,258         15,975           179,233

Restricted cash, cash equivalents and short-term investments

    7,671     7,504         375           15,550

Inventories

        64,583         625           65,208

Other current assets

    102     37,201         796           38,099
                                     

Total current assets

    7,835     671,699         51,893           731,427

Property and equipment, net

    30     1,254,856         66,901     (5,130 )     1,316,657

Investments in and advances to affiliates and consolidated subsidiaries

    1,728,602     1,903,009     173,922     5,325     (3,810,858 )    

Wireless licenses

        18,533     1,519,638     328,182           1,866,353

Goodwill

        425,782                   425,782

Other intangible assets, net

        45,948         154           46,102

Other assets

    41     44,464       2,172           46,677
                                     

Total assets

  $ 1,736,508   $ 4,364,291   $ 1,693,560   $ 454,627   $ (3,815,988 )   $ 4,432,998
                                     

Liabilities and Stockholders’ Equity

         

Accounts payable and accrued liabilities

  $ 6,459   $ 210,707   $ 7   $ 8,562   $     $ 225,735

Current maturities of long-term debt

      9,000         1,500           10,500

Intercompany payables

    5,727     179,248     726     2,986     (188,687 )    

Other current liabilities

        112,626         2,182           114,808
                                     

Total current liabilities

    12,186     511,581     733     15,230     (188,687 )     351,043

Long-term debt

        1,995,402         311,052     (272,552 )     2,033,902

Deferred tax liabilities

        19,606     163,229               182,835

Other long-term liabilities

        88,570         1,602           90,172
                                     

Total liabilities

    12,186     2,615,159     163,962     327,884     (461,239 )     2,657,952

Minority interests

        20,530             30,194       50,724

Membership units subject to repurchase

                37,879     (37,879 )    

Stockholders’ equity

    1,724,322     1,728,602     1,529,598     88,864     (3,347,064 )     1,724,322
                                     

Total liabilities and stockholders’ equity

  $ 1,736,508   $ 4,364,291   $ 1,693,560   $ 454,627   $ (3,815,988 )   $ 4,432,998
                                     

 

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Condensed Consolidating Statement of Operations for the Three Months Ended September 30, 2008 (unaudited and in thousands):

 

    Guarantor
Parent
Company
    Issuing
Subsidiary
    Guarantor
Subsidiaries
    Non-Guarantor
Subsidiaries
    Consolidating
and
Eliminating
Adjustments
    Consolidated  

Revenues:

           

Service revenues

  $     $ 416,782     $ 4,853     $ 12,907     $ (19 )   $ 434,523  

Equipment revenues

          60,852       228       1,094             62,174  

Other revenues

                18,444             (18,444 )      
                                               

Total revenues

          477,634       23,525       14,001       (18,463 )     496,697  
                                               

Operating expenses:

           

Cost of service (exclusive of items shown separately below)

          (134,241 )     (2,888 )     (10,941 )     18,362       (129,708 )

Cost of equipment

          (109,239 )     (1,240 )     (2,578 )           (113,057 )

Selling and marketing

          (69,540 )     (594 )     (7,273 )           (77,407 )

General and administrative

    (1,105 )     (78,485 )     (856 )     (7,177 )     101       (87,522 )

Depreciation and amortization

    (5 )     (81,506 )     (2,292 )     (2,230 )           (86,033 )

Impairment of assets

                (177 )                 (177 )
                                               

Total operating expenses

    (1,110 )     (473,011 )     (8,047 )     (30,199 )     18,463       (493,904 )

Loss on sale or disposal of assets

          (402 )                       (402 )
                                               

Operating income (loss)

    (1,110 )     4,221       15,478       (16,198 )           2,391  

Minority interests in consolidated subsidiaries

          (1,064 )                 (202 )     (1,266 )

Equity in net loss of consolidated subsidiaries

    (50,663 )     (17,112 )                 67,775        

Equity in net income of investee

          230                         230  

Interest income

    6,067       16,020             876       (18,891 )     4,072  

Interest expense

    (3,082 )     (51,488 )     (1 )     (7,844 )     17,063       (45,352 )

Other income, net

          1,161                         1,161  
                                               

Income (loss) before income taxes

    (48,788 )     (48,032 )     15,477       (23,166 )     65,745       (38,764 )

Income tax expense

          (2,633 )     (7,391 )                 (10,024 )
                                               

Net income (loss)

  $ (48,788 )   $ (50,665 )   $ 8,086     $ (23,166 )   $ 65,745     $ (48,788 )
                                               

 

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Condensed Consolidating Statement of Operations for the Nine Months Ended September 30, 2008 (unaudited and in thousands):

 

    Guarantor
Parent
Company
    Issuing
Subsidiary
    Guarantor
Subsidiaries
    Non-Guarantor
Subsidiaries
    Consolidating
and
Eliminating
Adjustments
    Consolidated  

Revenues:

           

Service revenues

  $     $ 1,203,015     $ 10,157     $ 37,461     $ (38 )   $ 1,250,595  

Equipment revenues

          185,749       400       3,195             189,344  

Other revenues

                53,376             (53,376 )      
                                               

Total revenues

          1,388,764       63,933       40,656       (53,414 )     1,439,939  
                                               

Operating expenses:

           

Cost of service (exclusive of items shown separately below)

          (382,170 )     (5,767 )     (24,904 )     53,106       (359,735 )

Cost of equipment

          (322,429 )     (2,286 )     (7,690 )           (332,405 )

Selling and marketing

          (194,871 )     (960 )     (13,952 )           (209,783 )

General and administrative

    (3,926 )     (218,192 )     (1,930 )     (16,922 )     308       (240,662 )

Depreciation and amortization

    (24 )     (245,181 )     (3,167 )     (6,467 )           (254,839 )

Impairment of assets

                (177 )                 (177 )
                                               

Total operating expenses

    (3,950 )     (1,362,843 )     (14,287 )     (69,935 )     53,414       (1,397,601 )

Gain (loss) on sale or disposal of assets

          (715 )     1,274                   559  
                                               

Operating income (loss)

    (3,950 )     25,206       50,920       (29,279 )           42,897  

Minority interests in consolidated subsidiaries

          (3,790 )                 (164 )     (3,954 )

Equity in net loss of consolidated subsidiaries

    (92,613 )     (22,569 )                 115,182        

Equity in net loss of investee

          (1,127 )                       (1,127 )

Interest income

    6,483       43,788             2,032       (40,864 )     11,439  

Interest expense

    (3,288 )     (121,173 )     (2 )     (24,405 )     39,758       (109,110 )

Other income (expense), net

    367       (3,549 )                       (3,182 )
                                               

Income (loss) before income taxes

    (93,001 )     (83,214 )     50,918       (51,652 )     113,912       (63,037 )

Income tax expense

          (9,404 )     (20,560 )                 (29,964 )
                                               

Net income (loss)

  $ (93,001 )   $ (92,618 )   $ 30,358     $ (51,652 )   $ 113,912     $ (93,001 )
                                               

 

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Condensed Consolidating Statement of Operations for the Three Months Ended September 30, 2007 (unaudited and in thousands):

 

    Guarantor
Parent
Company
    Issuing
Subsidiary
    Guarantor
Subsidiaries
    Non-Guarantor
Subsidiaries
    Consolidating
and
Eliminating
Adjustments
    Consolidated  

Revenues:

           

Service revenues

  $     $ 344,695     $     $ 9,813     $ (13 )   $ 354,495  

Equipment revenues

          54,276             885             55,161  

Other revenues

                13,633             (13,633 )      
                                               

Total revenues

          398,971       13,633       10,698       (13,646 )     409,656  
                                               

Operating expenses:

           

Cost of service (exclusive of items shown separately below)

          (110,686 )           (3,854 )     13,633       (100,907 )

Cost of equipment

          (94,371 )           (2,847 )           (97,218 )

Selling and marketing

          (52,023 )           (2,242 )           (54,265 )

General and administrative

    (263 )     (66,441 )     (13 )     (1,982 )     13       (68,686 )

Depreciation and amortization

    (22 )     (75,531 )           (2,228 )           (77,781 )

Impairment of assets

          (383 )     (985 )                 (1,368 )
                                               

Total operating expenses

    (285 )     (399,435 )     (998 )     (13,153 )     13,646       (400,225 )

Loss on sale or disposal of assets

          (38 )                       (38 )
                                               

Operating income (loss)

    (285 )     (502 )     12,635       (2,455 )           9,393  

Minority interests in consolidated subsidiaries

          (548 )                 730       182  

Equity in net loss of consolidated subsidiaries

    (43,014 )     (2,794 )                 45,808        

Equity in net loss of investee

          (807 )                       (807 )

Interest income

    10       18,946             180       (8,988 )     10,148  

Interest expense

          (33,350 )           (8,185 )     8,199       (33,336 )

Other expense, net

          (4,207 )                       (4,207 )
                                               

Income (loss) before income taxes

    (43,289 )     (23,262 )     12,635       (10,460 )     45,749       (18,627 )

Income tax expense

          (19,752 )     (4,910 )                 (24,662 )
                                               

Net income (loss)

  $ (43,289 )   $ (43,014 )   $ 7,725     $ (10,460 )   $ 45,749     $ (43,289 )
                                               

 

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Condensed Consolidating Statement of Operations for the Nine Months Ended September 30, 2007 (unaudited and in thousands):

 

    Guarantor
Parent
Company
    Issuing
Subsidiary
    Guarantor
Subsidiaries
    Non-Guarantor
Subsidiaries
    Consolidating
and
Eliminating
Adjustments
    Consolidated  

Revenues:

           

Service revenues

  $     $ 999,825     $     $ 23,627     $ (13 )   $ 1,023,439  

Equipment revenues

          173,895             3,661             177,556  

Other revenues

          25       40,255             (40,280 )      
                                               

Total revenues

          1,173,745       40,255       27,288       (40,293 )     1,200,995  
                                               

Operating expenses:

           

Cost of service (exclusive of items shown separately below)

          (311,639 )           (10,521 )     40,254       (281,906 )

Cost of equipment

          (299,610 )           (11,091 )           (310,701 )

Selling and marketing

    (8 )     (143,157 )           (6,880 )           (150,045 )

General and administrative

    (1,076 )     (194,395 )     (64 )     (4,831 )     39       (200,327 )

Depreciation and amortization

    (45 )     (212,667 )           (6,284 )           (218,996 )

Impairment of assets

          (383 )     (985 )                 (1,368 )
                                               

Total operating expenses

    (1,129 )     (1,161,851 )     (1,049 )     (39,607 )     40,293       (1,163,343 )

Gain (loss) on sale or disposal of assets

          (349 )     1,251                   902  
                                               

Operating income (loss)

    (1,129 )     11,545       40,457       (12,319 )           38,554  

Minority interests in consolidated subsidiaries

          (1,097 )                 3,531       2,434  

Equity in net loss of consolidated subsidiaries

    (56,776 )     (10,562 )                 67,338        

Equity in net loss of investee

          (807 )                       (807 )

Interest income

    30       47,472             759       (25,694 )     22,567  

Interest expense

          (85,456 )           (25,783 )     24,317       (86,922 )

Other expense, net

          (4,844 )                       (4,844 )
                                               

Income (loss) before income taxes

    (57,875 )     (43,749 )     40,457       (37,343 )     69,492       (29,018 )

Income tax expense

          (13,027 )     (15,830 )                 (28,857 )
                                               

Net income (loss)

  $ (57,875 )   $ (56,776 )   $ 24,627     $ (37,343 )   $ 69,492     $ (57,875 )
                                               

 

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Condensed Consolidating Statement of Cash Flows for the Nine Months Ended September 30, 2008 (unaudited and in thousands):

 

    Guarantor
Parent
Company
    Issuing
Subsidiary
    Guarantor
Subsidiaries
    Non-Guarantor
Subsidiaries
    Consolidating
and
Eliminating
Adjustments
    Consolidated  

Operating activities:

           

Net cash provided by operating activities

  $ 999     $ 240,677     $ 9,629     $ 20,011     $ (47 )   $ 271,269  
                                               

Investing activities:

           

Acquisition of business, net of cash acquired

          (31,658 )     457                   (31,201 )

Purchases of and changes in prepayments for property and equipment

          (400,453 )     (5,667 )     (127,080 )           (533,200 )

Return of deposits for wireless licenses

          70,000                         70,000  

Purchases of and deposits for wireless licenses and spectrum clearing costs

          (70,000 )     (4,167 )     (531 )           (74,698 )

Purchases of investments

          (446,590 )                       (446,590 )

Sales and maturities of investments

          329,939             11,300             341,239  

Investments in and advances to affiliates and consolidated subsidiaries

    (7,068 )                       7,068        

Purchase of membership units

          (1,033 )                       (1,033 )

Other

    68       (2,393 )           345             (1,980 )
                                               

Net cash used in investing activities

    (7,000 )     (552,188 )     (9,377 )     (115,966 )     7,068       (677,463 )
                                               

Financing activities:

           

Proceeds from long-term debt

    242,500       535,750             107,634       (350,134 )     535,750  

Issuance of related party debt

    (242,500 )     (107,634 )                 350,134        

Principal payments on capital lease obligations

          (12,900 )                       (12,900 )

Repayment of long-term debt

          (6,750 )           (1,000 )           (7,750 )

Payment of debt issuance costs

    (1,049 )     (6,458 )                       (7,507 )

Capital contributions, net

    7,068       7,068                   (7,068 )     7,068  

Minority interest distribution

                      (47 )     47        
                                               

Net cash provided by financing activities

    6,019       409,076             106,587       (7,021 )     514,661  
                                               

Net increase in cash and cash equivalents

    18       97,565       252       10,632             108,467  

Cash and cash equivalents at beginning of period

    62       399,153             34,122             433,337  
                                               

Cash and cash equivalents at end of period

  $ 80     $ 496,718     $ 252     $ 44,754     $     $ 541,804  
                                               

 

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Condensed Consolidating Statement of Cash Flows for the Nine Months Ended September 30, 2007 (unaudited and in thousands):

 

    Guarantor
Parent
Company
    Issuing
Subsidiary
    Guarantor
Subsidiaries
    Non-Guarantor
Subsidiaries
    Consolidating
and
Eliminating
Adjustments
    Consolidated  

Operating activities:

           

Net cash provided by (used in) operating activities

  $ (979 )   $ 209,292     $ (5,515 )   $ (20,802 )   $ 13,845     $ 195,841  
                                               

Investing activities:

           

Purchases of and changes in prepayments for property and equipment

          (315,962 )           (17,223 )           (333,185 )

Purchases of and deposits for wireless licenses and spectrum clearing costs

          (890 )     (3,985 )     457             (4,418 )

Proceeds from sale of wireless licenses and operating assets

                9,500                   9,500  

Purchases of investments

          (518,916 )                       (518,916 )

Sales and maturities of investments

          287,066                         287,066  

Investments in and advances to affiliates and consolidated subsidiaries

    (7,847 )     (4,706 )                 7,847       (4,706 )

Purchase of membership units

          (17,921 )                       (17,921 )

Other

    773       (426 )           (30 )           317  
                                               

Net cash provided by (used in) investing activities

    (7,074 )     (571,755 )     5,515       (16,796 )     7,847       (582,263 )
                                               

Financing activities:

           

Proceeds from long-term debt

          370,480             6,000       (6,000 )     370,480  

Issuance of related party debt

          (6,000 )                 6,000        

Repayment of long-term debt

          (6,750 )                       (6,750 )

Payment of debt issuance costs

          (5,249 )           (8 )           (5,257 )

Capital contributions, net

          7,847             17,859       (21,692 )     4,014  

Proceeds from issuance of common stock, net

    7,847                               7,847  
                                               

Net cash provided by financing activities

    7,847       360,328             23,851       (21,692 )     370,334  
                                               

Net decrease in cash and cash equivalents

    (206 )     (2,135 )           (13,747 )           (16,088 )

Cash and cash equivalents at beginning of period

    206       329,240             43,366             372,812  
                                               

Cash and cash equivalents at end of period

  $     $ 327,105     $     $ 29,619     $     $ 356,724  
                                               

 

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

As used in this report, unless the context suggests otherwise, the terms “we,” “our,” “ours,” and “us” refer to Leap Wireless International, Inc., or Leap, and its subsidiaries, including Cricket Communications, Inc., or Cricket. Leap, Cricket and their subsidiaries are sometimes collectively referred to herein as “the Company.” Unless otherwise specified, information relating to population and potential customers, or POPs, is based on 2008 population estimates provided by Claritas Inc.

The following information should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto included in Item 1 of this Quarterly Report and the audited consolidated financial statements and notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2007 filed with the Securities and Exchange Commission, or SEC, on February 29, 2008.

Cautionary Statement Regarding Forward-Looking Statements

Except for the historical information contained herein, this report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements reflect management’s current forecast of certain aspects of our future. You can identify most forward-looking statements by forward-looking words such as “believe,” “think,” “may,” “could,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “seek,” “plan,” “expect,” “should,” “would” and similar expressions in this report. Such statements are based on currently available operating, financial and competitive information and are subject to various risks, uncertainties and assumptions that could cause actual results to differ materially from those anticipated in or implied by our forward-looking statements. Such risks, uncertainties and assumptions include, among other things:

 

   

our ability to attract and retain customers in an extremely competitive marketplace;

 

   

changes in economic conditions, including interest rates, consumer credit conditions, consumer debt levels, unemployment rates, energy costs and other macro-economic factors that could adversely affect the demand for the services we provide;

 

   

the impact of competitors’ initiatives;

 

   

our ability to successfully implement product offerings and execute effectively on our planned coverage expansion, launches of markets we acquired in the Federal Communications Commission’s, or FCC’s, auction for Advanced Wireless Services, or Auction #66, expansion of our mobile broadband product offering and other activities;

 

   

our ability to obtain roaming services from other carriers at cost-effective rates;

 

   

our ability to maintain effective internal control over financial reporting;

 

   

delays in our market expansion plans, including delays resulting from any difficulties in funding such expansion through our existing cash, cash generated from operations or additional capital, or delays by existing U.S. government and other private sector wireless operations in clearing the Advanced Wireless Services, or AWS, spectrum, some of which users are permitted to continue using the spectrum for several years;

 

   

our ability to attract, motivate and retain an experienced workforce;

 

   

our ability to comply with the covenants in our senior secured credit facilities, indentures and any future credit agreement, indenture or similar instrument;

 

   

failure of our network or information technology systems to perform according to expectations; and

 

   

other factors detailed in “Part II — Item 1A. Risk Factors” below.

All forward-looking statements in this report should be considered in the context of these risk factors. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new

 

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information, future events or otherwise. In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this report may not occur and actual results could differ materially from those anticipated or implied in the forward-looking statements. Accordingly, users of this report are cautioned not to place undue reliance on the forward-looking statements.

Overview

Company Overview

We are a wireless communications carrier that offers digital wireless service in the U.S. under the “Cricket®” brand. Our Cricket service offers customers unlimited wireless service for a flat monthly rate without requiring a fixed-term contract or a credit check. Cricket service is offered by Cricket, a wholly owned subsidiary of Leap, and is also offered in Oregon by LCW Wireless Operations, LLC, or LCW Operations, a designated entity under FCC regulations. Cricket owns an indirect 73.3% non-controlling interest in LCW Operations through a 73.3% non-controlling interest in LCW Wireless, LLC, or LCW Wireless. Cricket also owns an 82.5% non-controlling interest in Denali Spectrum, LLC, or Denali, which purchased a wireless license in Auction #66 covering the upper mid-west portion of the U.S. as a designated entity through its wholly owned subsidiary, Denali Spectrum License, LLC, or Denali License. We consolidate our interests in LCW Wireless and Denali in accordance with Financial Accounting Standards Board Interpretation No., or FIN, 46(R), “Consolidation of Variable Interest Entities,” because these entities are variable interest entities and we will absorb a majority of their expected losses.

At September 30, 2008, Cricket service was offered in 29 states and had approximately 3.5 million customers. As of September 30, 2008, we, LCW Wireless License, LLC, or LCW License (a wholly owned subsidiary of LCW Operations), and Denali Spectrum License Sub, LLC, or Denali License Sub, (a wholly owned subsidiary of Denali License) owned wireless licenses covering an aggregate of approximately 186 million POPs (adjusted to eliminate duplication from overlapping licenses). The combined network footprint in our operating markets covered approximately 61.7 million POPs as of September 30, 2008, which includes incremental POPs attributed to ongoing footprint expansion in existing markets. The licenses we and Denali License purchased in Auction #66, together with the existing licenses we own, provide 20 MHz of coverage and the opportunity to offer enhanced data services in almost all markets in which we currently operate or are building out, assuming Denali License Sub were to make available to us certain of its spectrum.

We plan to expand our network footprint by launching our Cricket service in additional new markets and increasing and enhancing coverage in our existing markets. We and Denali License have identified up to 50 million additional POPs (as measured on a cumulative basis beginning January 2008) that we may cover with Cricket service by the end of 2010. We and Denali License expect to cover up to approximately 36 million of these additional POPs by the middle of 2009, which includes the eight million POPs covered by the markets we have already launched this year in Oklahoma City, southern Texas, Las Vegas and St. Louis. With respect to the approximately 14 million remaining additional POPs that we may cover by the end of 2010, we expect to finalize our plans with respect to the launch of these additional POPs by the middle of 2009. We currently intend to fund the costs required to build out and launch the new markets associated with these 14 million remaining additional POPs with cash generated from operations, and the pace and timing of our build-out and launch activities will depend upon the performance of our business and the amount of cash generated by our operations. We also plan to continue to expand and enhance our network coverage and capacity in many of our existing markets, allowing us to offer our customers an improved service area. In addition to these expansion plans, we estimate that we and Denali License Sub hold licenses in other markets that include up to approximately 35 million additional POPs that are suitable for Cricket service, and we and Denali License may develop some of the licenses covering these additional POPs through partnerships with others.

Portions of the AWS spectrum that was auctioned in Auction #66 are currently used by U.S. federal government and/or incumbent commercial licensees. Several federal government agencies have cleared or developed plans to clear spectrum covered by licenses we and Denali License purchased in Auction #66 or have indicated that we and Denali License can operate on the spectrum without interfering with the agencies’ current

 

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uses. As a result, we do not expect spectrum clearing issues to impact our near-term market launches. In other markets, we continue to work with various federal agencies to ensure that the agencies either relocate their spectrum use to alternative frequencies or confirm that we can operate on the spectrum without interfering with their current uses. If our efforts with these agencies are not successful, their continued use of the spectrum could delay the launch of certain markets.

Our Cricket rate plans are based on providing unlimited wireless services to customers, and the value of unlimited wireless services is the foundation of our business. Our most popular rate plan combines unlimited local and U.S. long distance service from any Cricket service area with unlimited use of multiple calling features and messaging services. Our premium rate plans offer these same services but are bundled with specified roaming minutes in the continental U.S. or unlimited mobile web access and directory assistance. In addition, we offer basic service plans that allow customers to make unlimited calls within their Cricket service area and receive unlimited calls from any area, combined with unlimited messaging and unlimited U.S. long distance service options. We have also launched a weekly rate plan, Cricket By Week™, and a flexible payment option, BridgePay™, which give our customers greater flexibility in the use and payment of wireless service and which we believe will help us to improve customer retention. In September 2007, we introduced our first unlimited mobile broadband offering, Cricket Wireless Internet Service™, in select markets, allowing customers to access the internet through their laptops for one low, flat rate with no long-term commitments or credit checks. As of September 30, 2008, our Cricket Wireless Internet Service was available to approximately 32 million covered POPs, and we expect to expand the availability of this product offering to cover approximately 63 million POPs by the end of 2008 and approximately 88 million POPs by the middle of 2009. We expect to continue to broaden our voice and data product and service offerings in 2008 and beyond.

Our customer activity is influenced by seasonal effects related to traditional retail selling periods and other factors that arise from our target customer base. Based on historical results, we generally expect new sales activity to be highest in the first and fourth quarters, and customer turnover, or churn, to be highest in the third quarter and lowest in the first quarter. However, sales activity and churn can be strongly affected by the launch of new markets, promotional activity, economic conditions and competitive actions, any of which have the ability to reduce or outweigh certain seasonal effects. From time to time, we offer programs to help promote customer activity for our wireless services. For example, during the second quarter of 2008 we increased our use of a program which allowed existing customers to activate an additional line of voice service on a previously-activated Cricket handset not currently in service. Customers accepting this offer received a free month of service on the additional line of service after paying a $15 activation fee. We continued our use of this promotional program during the third quarter of 2008, and believe that this kind of program and other promotions provide important long-term benefits to us by extending the period of time over which customers use our handsets and wireless services.

We believe that our business model is scalable and can be expanded successfully into adjacent and new markets because we offer a differentiated service and an attractive value proposition to our customers at costs significantly lower than most of our competitors, and accordingly we continue to enhance our current market clusters and expand our business into new geographic markets. In addition to our current business expansion efforts, we may also pursue other activities to build our business, which could include (without limitation) the acquisition of additional spectrum through FCC auctions or private transactions, entering into partnerships with others to launch and operate additional markets or reduce existing operating costs, or the acquisition of other wireless communications companies or complementary businesses. We also expect to continue to look for opportunities to optimize the value of our spectrum portfolio. Because some of the licenses that we and Denali License Sub hold include large regional areas covering both rural and metropolitan communities, we and Denali License Sub may sell some of this spectrum or pursue the deployment of alternative products or services in portions of this spectrum.

Our principal sources of liquidity are our existing unrestricted cash, cash equivalents and short-term investments and cash generated from operations. From time to time, we may also generate additional liquidity

 

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through capital markets transactions or by selling assets that are not material to or are not required for our ongoing business operations. See “Liquidity and Capital Resources” below.

Among the most significant factors affecting our financial condition and performance from period to period are our new market expansions and growth in customers, the impacts of which are reflected in our revenues and operating expenses. Throughout 2006, 2007 and the nine months ended September 30, 2008, we and our joint ventures continued expanding existing market footprints and expanded into 29 new markets, increasing the number of potential customers covered by our networks from approximately 27.7 million covered POPs as of December 31, 2005, to approximately 48.0 million covered POPs as of December 31, 2006, to approximately 53.2 million covered POPs as of December 31, 2007 and to approximately 61.7 million covered POPs as of September 30, 2008. This network expansion, together with organic customer growth in our existing markets, has resulted in substantial additions of new customers, as our total end-of-period customers increased from 1.67 million customers as of December 31, 2005, to 2.23 million customers as of December 31, 2006, to 2.86 million customers as of December 31, 2007 and to 3.46 million customers as of September 30, 2008. In addition, our total revenues have increased from $957.8 million for fiscal 2005, to $1.17 billion for fiscal 2006, and to $1.63 billion for fiscal 2007, and from $1.20 billion for the nine months ended September 30, 2007 to $1.44 billion for the nine months ended September 30, 2008. During 2006 and 2007, we introduced several higher-priced, higher-value service plans which helped increase average revenue per user per month as a result of customer acceptance of the plans. During 2008, we have experienced slightly lower average revenue per user per month due to customer acceptance of our lower-priced rate plans, greater customer deactivations and reactivations in certain periods and the successful expansion of our mobile broadband product offering.

As our business activities have expanded, our operating expenses have also grown, including increases in cost of service reflecting the increase in customers and the broader variety of products and services provided to such customers; increased depreciation expense related to our expanded networks; and increased selling and marketing expenses and general and administrative expenses generally attributable to expansion into new markets, selling and marketing to a broader potential customer base, and expenses required to support the administration of our growing business. In particular, total operating expenses increased from $901.4 million for fiscal 2005, to $1.17 billion for fiscal 2006 and to $1.57 billion for fiscal 2007, and from $1.16 billion for the nine months ended September 30, 2007 to $1.40 billion for the nine months ended September 30, 2008. We also incurred substantial additional indebtedness to finance the costs of our business expansion and acquisitions of additional wireless licenses in 2006, 2007 and during the first nine months of 2008. As a result, our interest expense has increased from $30.1 million for fiscal 2005, to $61.3 million for fiscal 2006 and to $121.2 million for fiscal 2007, and from $86.9 million for the nine months ended September 30, 2007 to $109.1 million for the nine months ended September 30, 2008. Also, in September 2007, we changed our tax accounting method for amortizing wireless licenses, contributing substantially to our income tax expense of $37.4 million for the year ended December 31, 2007 as compared to $9.3 million for the year ended December 31, 2006, and to our income tax expense of $30.0 million for the nine months ended September 30, 2008 as compared to $28.9 million for the nine months ended September 30, 2007.

Primarily as a result of the factors described above, our net income of $30.7 million for fiscal 2005 decreased to a net loss of $24.4 million for fiscal 2006 and to a net loss of $75.9 million for fiscal 2007, and our net loss of $57.9 million for the nine months ended September 30, 2007 increased to a net loss of $93.0 million for the nine months ended September 30, 2008. We believe, however, that the significant initial costs associated with building out and launching new markets and further expanding our existing business will provide substantial future benefits as the new markets we have launched continue to develop, our existing markets mature and we continue to add subscribers and generate additional revenues.

We expect that we will continue to build out and launch new markets and pursue other expansion activities for the next several years. We intend to be disciplined as we pursue these expansion efforts and to remain focused on our position as a low-cost leader in wireless telecommunications. We expect to achieve increased revenues and

 

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incur higher operating expenses as our existing business grows and as we build out and after we launch service in new markets. Large-scale construction projects for the build-out of our new markets will require significant capital expenditures and may suffer cost overruns. Any such significant capital expenditures or increased operating expenses will decrease operating income before depreciation and amortization, or OIBDA, and free cash flow for the periods in which we incur such costs. However, we are willing to incur such expenditures because we expect our expansion activities will be beneficial to our business and create additional value for our stockholders.

Results of Operations

Operating Items

The following tables summarize operating data for our consolidated operations for the three and nine months ended September 30, 2008 and 2007 (in thousands, except percentages):

 

     Three Months Ended September 30,  
     2008     % of 2008
Service
Revenues
    2007     % of 2007
Service
Revenues
    Change from
Prior Year
 
           Dollars     Percent  

Revenues:

            

Service revenues

   $ 434,523       $ 354,495       $ 80,028     22.6 %

Equipment revenues

     62,174         55,161         7,013     12.7 %
                                  

Total revenues

     496,697         409,656         87,041     21.2 %
                                  

Operating expenses:

            

Cost of service

     129,708     29.9 %     100,907     28.5 %     28,801     28.5 %

Cost of equipment

     113,057     26.0 %     97,218     27.4 %     15,839     16.3 %

Selling and marketing

     77,407     17.8 %     54,265     15.3 %     23,142     42.6 %

General and administrative

     87,522     20.1 %     68,686     19.4 %     18,836     27.4 %

Depreciation and amortization

     86,033     19.8 %     77,781     21.9 %     8,252     10.6 %

Impairment of assets

     177     0.0 %     1,368     0.4 %     (1,191 )   (87.1 )%
                                          

Total operating expenses

     493,904     113.7 %     400,225     112.9 %     93,679     23.4 %

Loss on sale or disposal of assets

     (402 )   (0.1 )%     (38 )   0.0 %     (364 )   (957.9 )%
                                          

Operating income

   $ 2,391     0.6 %   $ 9,393     2.6 %   $ (7,002 )   (74.5 )%
                                          

 

     Nine Months Ended September 30,  
     2008    % of 2008
Service
Revenues
    2007    % of 2007
Service
Revenues
    Change from
Prior Year
 
             Dollars     Percent  

Revenues:

              

Service revenues

   $ 1,250,595      $ 1,023,439      $ 227,156     22.2 %

Equipment revenues

     189,344        177,556        11,788     6.6 %
                                

Total revenues

     1,439,939        1,200,995        238,944     19.9 %
                                

Operating expenses:

              

Cost of service

     359,735    28.8 %     281,906    27.5 %     77,829     27.6 %

Cost of equipment

     332,405    26.6 %     310,701    30.4 %     21,704     7.0 %

Selling and marketing

     209,783    16.8 %     150,045    14.7 %     59,738     39.8 %

General and administrative

     240,662    19.2 %     200,327    19.6 %     40,335     20.1 %

Depreciation and amortization

     254,839    20.4 %     218,996    21.4 %     35,843     16.4 %

Impairment of assets

     177    0.0 %     1,368    0.1 %     (1,191 )   (87.1 )%
                                        

Total operating expenses

     1,397,601    111.8 %     1,163,343    113.7 %     234,258     20.1 %

Gain on sale or disposal of assets

     559    0.0 %     902    0.1 %     (343 )   (38.0 )%
                                        

Operating income

   $ 42,897    3.4 %   $ 38,554    3.8 %   $ 4,343     11.3 %
                                        

 

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The following tables summarize customer activity for the three and nine months ended September 30, 2008 and 2007. For purposes of measuring customer activity and calculating our performance metrics, we consider each active line for our voice service or mobile broadband service to constitute a customer:

 

               Change  
     2008    2007    Amount    Percent  

For the Three Months Ended September 30:

           

Gross customer additions

   593,619    450,954    142,665    31.6 %

Net customer additions(1)

   155,779    36,484    119,295    327.0 %

Weighted-average number of customers

   3,371,932    2,654,555    717,377    27.0 %

 

               Change  
     2008    2007    Amount    Percent  

For the Nine Months Ended September 30:

           

Gross customer additions

   1,686,143    1,478,443    207,700    14.0 %

Net customer additions(1)

   557,012    481,621    75,391    15.7 %

Weighted average number of customers

   3,163,480    2,544,872    618,608    24.3 %

As of September 30:

           

Total customers

   3,460,140    2,711,447    748,693    27.6 %

 

(1) Net customer additions for the three and nine months ended September 30, 2008 reflect the operations of Cricket markets and exclude customers in the Hargray Wireless markets in South Carolina and Georgia that we acquired in April 2008. We completed the upgrade of the Hargray Wireless networks and introduced Cricket service in these markets in October 2008. Commencing in the fourth quarter of 2008, our net customer additions will include customers in the former Hargray Wireless markets.

Three and Nine Months Ended September 30, 2008 Compared to Three and Nine Months Ended September 30, 2007

Service Revenues

Service revenues increased $80.0 million, or 22.6%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. This increase resulted from a 27.0% increase in average total customers due to new market launches, existing market customer growth and customer acceptance of our mobile broadband product offering. This increase was partially offset by a 3.5% decline in average monthly revenues per customer. The decline in average monthly revenues per customer reflected customer acceptance of our lower-priced rate plans, greater customer deactivations and reactivations during the quarter as compared to the corresponding period of the prior year and the successful expansion of our mobile broadband product offering.

Service revenues increased $227.2 million, or 22.2%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. This increase resulted from a 24.3% increase in average total customers due to new market launches, existing market customer growth and customer acceptance of our mobile broadband product offering. This increase was partially offset by a 1.7% decline in average monthly revenues per customer. The decline in average monthly revenues per customer reflected customer acceptance of our lower-priced rate plans, greater customer deactivations and reactivations during the quarter as compared to the corresponding period of the prior year and the successful expansion of our mobile broadband product offering.

Equipment Revenues

Equipment revenues increased $7.0 million, or 12.7%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. A 30% increase in handset sales volume was largely offset by a reduction in the average revenue per handset sold. The reduction in the average revenue per handset sold was primarily due to the expansion of our low-cost handset offerings.

 

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Equipment revenues increased $11.8 million, or 6.6%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. A 14% increase in handset sales volume was partially offset by a reduction in the average revenue per handset sold. The reduction in the average revenue per handset sold was primarily due to the expansion of our low-cost handset offerings.

Cost of Service

Cost of service increased $28.8 million, or 28.5%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. As a percentage of service revenues, cost of service increased to 29.9% from 28.5% in the prior year period. Network operating costs increased by 3.2% as a percentage of service revenues primarily due to costs associated with new market launches and EvDO-related network costs which were incurred in large part to support our mobile broadband product offering. This increase in network operating costs was partially offset by a 1.8% decrease in variable product costs as a percentage of service revenues due to an improved product cost structure and a shift in customer usage of certain value-added services to lower-cost services that yield higher margins.

Cost of service increased $77.8 million, or 27.6%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. As a percentage of service revenues, cost of service increased to 28.8% from 27.5% in the prior year period. Network operating costs increased by 2.3% as a percentage of service revenues primarily due to costs associated with new market launches and EvDO-related network costs which were incurred in large part to support our mobile broadband product offering. In addition, during the nine months ended September 30, 2007, we negotiated amendments to agreements that reduced our liability for the removal of equipment on certain cell sites at the end of the lease term, which resulted in a net gain of $6.1 million and lower network operating costs during that period. The increase in network operating costs in the first nine months of 2008 was partially offset by a 1.1% decrease in variable product costs as a percentage of service revenues due to an improved product cost structure and a shift in customer usage of certain value-added services to lower-cost services that yield higher margins.

Cost of Equipment

Cost of equipment increased $15.8 million, or 16.3%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. A 30% increase in handset sales volume and an increase in handset replacement-related costs were largely offset by a reduction in the average cost per handset sold, primarily due to the expansion of our low-cost handset offerings.

Cost of equipment increased $21.7 million, or 7.0%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. A 14% increase in handset sales volume and an increase in handset replacement-related costs were partially offset by a reduction in the average cost per handset sold, primarily due to the expansion of our low-cost handset offerings.

Selling and Marketing Expenses

Selling and marketing expenses increased $23.1 million, or 42.6%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. As a percentage of service revenues, such expenses increased to 17.8% from 15.3% in the prior year period. This percentage increase was largely attributable to a 1.5% increase in store and staffing costs as a percentage of service revenues due to the launch of new markets and incremental distribution costs to support our footprint expansion in select existing markets. In addition, there was a 1.0% increase in media and advertising costs as a percentage of service revenues reflecting a greater number of new market launches in the current year period and the advertising costs associated with those launches.

Selling and marketing expenses increased $59.7 million, or 39.8%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. As a percentage of service revenues, such expenses

 

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increased to 16.8% from 14.7% in the prior year period. This percentage increase was largely attributable to a 1.2% increase in store and staffing costs as a percentage of service revenues due to the launch of new markets and incremental distribution costs to support our footprint expansion in select existing markets. In addition, there was a 0.9% increase in media and advertising costs as a percentage of service revenues reflecting a greater number of new market launches in the current year period and the advertising costs associated with those launches.

General and Administrative Expenses

General and administrative expenses increased $18.8 million, or 27.4%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. As a percentage of service revenues, such expenses increased to 20.1% from 19.4% in the prior year period. This percentage increase was largely attributable to a 1.8% increase in employee-related costs as a percentage of service revenues primarily to support our network expansion and was partially offset by a 1.2% reduction in customer care-related costs as a percentage of service revenues due to the increase in service revenues and consequent benefits of scale.

General and administrative expenses increased $40.3 million, or 20.1%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. As a percentage of service revenues, such expenses decreased to 19.2% from 19.6% in the prior year period due to the increase in service revenues and consequent benefits of scale. This percentage decrease was largely attributable to a 1.5% decrease in customer care-related costs as a percentage of service revenues due to the increase in service revenues and consequent benefits of scale and was partially offset by a 0.8% increase in employee-related costs primarily to support our network expansion.

Depreciation and Amortization

Depreciation and amortization expense increased $8.3 million, or 10.6%, for the three months ended September 30, 2008 compared to the corresponding period of the prior year. The increase in depreciation and amortization expense was due primarily to an increase in property, plant and equipment in connection with the build-out and launch of our new markets throughout 2007 and during the first nine months of 2008 and the improvement and expansion of our networks in existing markets. As a percentage of service revenues, depreciation and amortization decreased to 19.8% from 21.9% in the prior year period.

Depreciation and amortization expense increased $35.8 million, or 16.4%, for the nine months ended September 30, 2008 compared to the corresponding period of the prior year. The increase in depreciation and amortization expense was due primarily to an increase in property, plant and equipment in connection with the build-out and launch of our new markets throughout 2007 and during the first nine months of 2008 and the improvement and expansion of our networks in existing markets. As a percentage of service revenues, depreciation and amortization decreased to 20.4% from 21.4% in the prior year period.

 

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Non-Operating Items

The following tables summarize non-operating data for our consolidated operations for the three and nine months ended September 30, 2008 and 2007 (in thousands):

 

     Three Months Ended September 30,  
     2008     2007     Change  

Minority interests in consolidated subsidiaries

   $ (1,266 )   $ 182     $ (1,448 )

Equity in net income (loss) of investee

     230       (807 )     1,037  

Interest income

     4,072       10,148       (6,076 )

Interest expense

     (45,352 )     (33,336 )     (12,016 )

Other income (expense), net

     1,161       (4,207 )     5,368  

Income tax expense

     (10,024 )     (24,662 )     14,638  

 

     Nine Months Ended September 30,  
     2008     2007     Change  

Minority interests in consolidated subsidiaries

   $ (3,954 )   $ 2,434     $ (6,388 )

Equity in net loss of investee

     (1,127 )     (807 )     (320 )

Interest income

     11,439       22,567       (11,128 )

Interest expense

     (109,110 )     (86,922 )     (22,188 )

Other expense, net

     (3,182 )     (4,844 )     1,662  

Income tax expense

     (29,964 )     (28,857 )     (1,107 )

Three and Nine Months Ended September 30, 2008 Compared to Three and Nine Months Ended September 30, 2007

Minority Interests in Consolidated Subsidiaries

Minority interests in consolidated subsidiaries primarily reflects the share of net earnings or losses allocated to the other members of certain consolidated entities, as well as accretion expense associated with certain members’ put options.

Equity in Net Income (Loss) of Investee

Equity in net income (loss) of investee reflects our share of income or losses in a regional wireless service provider, in which we previously made investments.

Interest Income

Interest income decreased $6.1 million and $11.1 million during the three and nine months ended September 30, 2008, respectively, compared to the corresponding periods of the prior year. These decreases were primarily attributable to a change in our investment policy (and a resulting change in the mix of our investment portfolio), and a decline in interest rates from the corresponding periods of the prior year. Currently, the majority of our portfolio consists of lower-yielding Treasury bills whereas a large percentage of our portfolio previously consisted of higher-yielding corporate securities.

Interest Expense

Interest expense increased $12.0 million and $22.2 million during the three and nine months ended September 30, 2008, respectively, compared to the corresponding periods of the prior year. The increase in interest expense resulted primarily from our issuance of $300 million of senior notes and $250 million of convertible senior notes in June 2008. We capitalized $12.5 million of interest during the three months ended September 30, 2008 compared to $11.5 million during the corresponding period of the prior year, and we capitalized $38.6 million of interest during the nine months ended September 30, 2008 compared to $33.3

 

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million during the corresponding period of the prior year. We capitalize interest costs associated with our wireless licenses and property and equipment during the build-out of new markets. The amount of such capitalized interest depends on the carrying values of the licenses and property and equipment involved in those markets and the duration of the build-out. We expect capitalized interest to continue to be significant during the build-out of our planned new markets during the remainder of 2008 and beyond. See “— Liquidity and Capital Resources” below.

Other Income (Expense), Net

During the three months ended September 30, 2008, we recognized a $1.5 million gain upon the settlement of one of our investments in asset-backed commercial paper and also recognized an other-than-temporary impairment charge of $0.3 million on our remaining investment in asset-backed commercial paper.

During the nine months ended September 30, 2008, we recognized $3.8 million of net other-than-temporary impairment charges on our investments in asset-backed commercial paper.

Income Tax Expense

The computation of our annual effective tax rate includes a forecast of our estimated “ordinary” income (loss), which is our annual income (loss) from continuing operations before tax, excluding unusual or infrequently occurring (discrete) items. Significant management judgment is required in projecting our ordinary income (loss). Our projected ordinary income tax expense for the full year 2008, which excludes the effect of discrete items, consists primarily of the deferred tax effect of the amortization of wireless licenses and tax goodwill for income tax purposes. Because our projected 2008 income tax expense is a relatively fixed amount, a small change in the ordinary income (loss) projection can produce a significant variance in the effective tax rate and therefore it is difficult to make a reliable estimate of the annual effective tax rate. As a result, and in accordance with paragraph 82 of FIN 18, “Accounting for Income Taxes in Interim Periods — an interpretation of APB Opinion No. 28,” we have calculated our provision for income taxes for the three and nine months ended September 30, 2008 and 2007 based on the actual effective tax rate by applying the actual effective tax rate to the year-to-date income.

During the three and nine months ended September 30, 2008, we recorded income tax expense of $10.0 million and $30.0 million, respectively, compared to income tax expense of $24.7 million and $28.9 million for the three and nine months ended September 30, 2007, respectively. The increase in income tax expense during the three months ended September 30, 2007 related primarily to our change in August 2007 in our tax accounting method for amortizing wireless licenses. The new method generally allows us to accelerate our tax amortization of wireless licenses, thereby increasing our net operating loss carryforwards. These net operating loss carryforwards can be used to offset future taxable income and reduce the amount of cash required to settle future tax liabilities. At the same time, the new method increases our income tax expense as a result of the deferred tax effect of accelerating wireless license amortization.

We expect that we will recognize income tax expense for the full year 2008 despite the fact that we have recorded a full valuation allowance on our deferred tax assets. This is because of the deferred tax effect of the amortization of wireless licenses and tax basis goodwill for income tax purposes. We do not expect to release any fresh-start related valuation allowance from 2008 ordinary income.

We record deferred tax assets and liabilities arising from differing treatments of items for tax and accounting purposes. Deferred tax assets are also established for the expected future tax benefits to be derived from net operating loss carryforwards, capital loss carryforwards and income tax credits. We then periodically assess the likelihood that our deferred tax assets will be recovered from future taxable income. This assessment requires significant judgment. To the extent we believe it is more likely than not that our deferred tax assets will not be recovered, we must establish a valuation allowance. As part of this periodic assessment, we have weighed the positive and negative factors with respect to this determination and, at this time, we do not believe there is

 

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sufficient positive evidence and sustained operating earnings to support a conclusion that it is more likely than not that all or a portion of our deferred tax assets will be realized, except with respect to the realization of a $2.5 million Texas Margins Tax credit. We will continue to closely monitor the positive and negative factors to determine whether our valuation allowance should be released.

At such time as we determine that it is more likely than not that all or a portion of the deferred tax assets are realizable, the valuation allowance will be reduced. Pursuant to American Institute of Certified Public Accountants’ Statement of Position No. 90-7, “Financial Reporting by Entities in Reorganization under the Bankruptcy Code” (“SOP 90-7”), up to $218.5 million in future decreases in the valuation allowance established in fresh-start reporting will be accounted for as a reduction of goodwill rather than as a reduction of income tax expense if the valuation allowance decrease occurs prior to January 1, 2009, the effective date for the Company’s adoption of SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141(R)”). SFAS 141(R) provides that any reduction in the valuation allowance established in fresh-start reporting be accounted for as a reduction to income tax expense.

Performance Measures

In managing our business and assessing our financial performance, management supplements the information provided by financial statement measures with several customer-focused performance metrics that are widely used in the telecommunications industry. These metrics include average revenue per user per month, or ARPU, which measures service revenue per customer; cost per gross customer addition, or CPGA, which measures the average cost of acquiring a new customer; cash costs per user per month, or CCU, which measures the non-selling cash cost of operating our business on a per customer basis; and churn, which measures turnover in our customer base. CPGA and CCU are non-GAAP financial measures. A non-GAAP financial measure, within the meaning of Item 10 of Regulation S-K promulgated by the SEC, is a numerical measure of a company’s financial performance or cash flows that (a) excludes amounts, or is subject to adjustments that have the effect of excluding amounts, which are included in the most directly comparable measure calculated and presented in accordance with generally accepted accounting principles in the condensed consolidated balance sheets, condensed consolidated statements of operations or condensed consolidated statements of cash flows; or (b) includes amounts, or is subject to adjustments that have the effect of including amounts, which are excluded from the most directly comparable measure so calculated and presented. See “Reconciliation of Non-GAAP Financial Measures” below for a reconciliation of CPGA and CCU to the most directly comparable GAAP financial measures.

ARPU is service revenue divided by the weighted-average number of customers, divided by the number of months during the period being measured. Management uses ARPU to identify average revenue per customer, to track changes in average customer revenues over time, to help evaluate how changes in our business, including changes in our service offerings and fees, affect average revenue per customer, and to forecast future service revenue. In addition, ARPU provides management with a useful measure to compare our subscriber revenue to that of other wireless communications providers. We do not recognize service revenue until payment has been received and services have been provided to the customer. In addition, customers are generally disconnected from service approximately 30 days after failing to pay a monthly bill. Therefore, because our calculation of weighted-average number of customers includes customers who have not paid their last bill and have yet to disconnect service, ARPU may appear lower during periods in which we have significant disconnect activity. We believe investors use ARPU primarily as a tool to track changes in our average revenue per customer and to compare our per customer service revenues to those of other wireless communications providers. Other companies may calculate this measure differently.

CPGA is selling and marketing costs (excluding applicable share-based compensation expense included in selling and marketing expense), and equipment subsidy (generally defined as cost of equipment less equipment revenue), less the net loss on equipment transactions unrelated to initial customer acquisition, divided by the total number of gross new customer additions during the period being measured. The net loss on equipment transactions unrelated to initial customer acquisition includes the revenues and costs associated with the sale of handsets to existing customers as well as costs associated with handset replacements and repairs (other than

 

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warranty costs which are the responsibility of the handset manufacturers). We deduct customers who do not pay their first monthly bill from our gross customer additions, which tends to increase CPGA because we incur the costs associated with this customer without receiving the benefit of a gross customer addition. Management uses CPGA to measure the efficiency of our customer acquisition efforts, to track changes in our average cost of acquiring new subscribers over time, and to help evaluate how changes in our sales and distribution strategies affect the cost-efficiency of our customer acquisition efforts. In addition, CPGA provides management with a useful measure to compare our per customer acquisition costs with those of other wireless communications providers. We believe investors use CPGA primarily as a tool to track changes in our average cost of acquiring new customers and to compare our per customer acquisition costs to those of other wireless communications providers. Other companies may calculate this measure differently.

CCU is cost of service and general and administrative costs (excluding applicable share-based compensation expense included in cost of service and general and administrative expense) plus net loss on equipment transactions unrelated to initial customer acquisition (which includes the gain or loss on the sale of handsets to existing customers and costs associated with handset replacements and repairs (other than warranty costs which are the responsibility of the handset manufacturers)), divided by the weighted-average number of customers, divided by the number of months during the period being measured. CCU does not include any depreciation and amortization expense. Management uses CCU as a tool to evaluate the non-selling cash expenses associated with ongoing business operations on a per customer basis, to track changes in these non-selling cash costs over time, and to help evaluate how changes in our business operations affect non-selling cash costs per customer. In addition, CCU provides management with a useful measure to compare our non-selling cash costs per customer with those of other wireless communications providers. We believe investors use CCU primarily as a tool to track changes in our non-selling cash costs over time and to compare our non-selling cash costs to those of other wireless communications providers. Other companies may calculate this measure differently.

Churn, which measures customer turnover, is calculated as the net number of customers that disconnect from our service divided by the weighted-average number of customers divided by the number of months during the period being measured. Customers who do not pay their first monthly bill are deducted from our gross customer additions in the month in which they are disconnected; as a result, these customers are not included in churn. In addition, customers are generally disconnected from service approximately 30 days after failing to pay a monthly bill, and pay-in-advance customers who ask to terminate their service are disconnected when their paid service period ends. Management uses churn to measure our retention of customers, to measure changes in customer retention over time, and to help evaluate how changes in our business affect customer retention. In addition, churn provides management with a useful measure to compare our customer turnover activity to that of other wireless communications providers. We believe investors use churn primarily as a tool to track changes in our customer retention over time and to compare our customer retention to that of other wireless communications providers. Other companies may calculate this measure differently.

The following table shows metric information for the three months ended September 30, 2008 and 2007:

 

     Three Months Ended
September 30,
 
     2008     2007  

ARPU

   $ 42.95     $ 44.51  

CPGA

   $ 201     $ 199  

CCU

   $ 21.50     $ 21.24  

Churn(1)

     4.2 %     5.2 %

 

(1) Churn for the three months ended September 30, 2008 reflects the operations of Cricket markets and excludes customers in the Hargray Wireless markets in South Carolina and Georgia that we acquired in April 2008. We completed the upgrade of the Hargray Wireless networks and introduced Cricket service in these markets in October 2008. Commencing in the fourth quarter of 2008, our churn metrics will include customers in the former Hargray Wireless markets.

 

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Reconciliation of Non-GAAP Financial Measures

We utilize certain financial measures, as described above, that are widely used in the industry but that are not calculated based on GAAP. Certain of these financial measures are considered “non-GAAP” financial measures within the meaning of Item 10 of Regulation S-K promulgated by the SEC.

CPGA — The following table reconciles total costs used in the calculation of CPGA to selling and marketing expense, which we consider to be the most directly comparable GAAP financial measure to CPGA (in thousands, except gross customer additions and CPGA):

 

     Three Months Ended
September 30,
 
     2008     2007  

Selling and marketing expense

   $ 77,407     $ 54,265  

Less share-based compensation expense included in selling and marketing expense

     (871 )     (843 )

Plus cost of equipment

     113,057       97,218  

Less equipment revenue

     (62,174 )     (55,161 )

Less net loss on equipment transactions unrelated to initial customer acquisition

     (7,880 )     (5,747 )
                

Total costs used in the calculation of CPGA

   $ 119,539     $ 89,732  

Gross customer additions

     593,619       450,954  
                

CPGA

   $ 201     $ 199  
                

CCU — The following table reconciles total costs used in the calculation of CCU to cost of service, which we consider to be the most directly comparable GAAP financial measure to CCU (in thousands, except weighted-average number of customers and CCU):

 

    Three Months Ended
September 30,
 
    2008     2007  

Cost of service

  $ 129,708     $ 100,907  

Plus general and administrative expense

    87,522       68,686  

Less share-based compensation expense included in cost of service and general and administrative expense

    (7,595 )     (6,231 )

Plus net loss on equipment transactions unrelated to initial customer acquisition

    7,880       5,747  
               

Total costs used in the calculation of CCU

  $ 217,515     $ 169,109  

Weighted-average number of customers

    3,371,932       2,654,555  
               

CCU

  $ 21.50     $ 21.24  
               

Liquidity and Capital Resources

Overview

Our principal sources of liquidity are our existing unrestricted cash, cash equivalents and short-term investments and cash generated from operations. We had a total of $826.3 million in unrestricted cash, cash equivalents and short-term investments as of September 30, 2008. We generated $271.3 million of net cash from operating activities during the nine months ended September 30, 2008, and we expect that cash from operations will continue to be a significant and increasing source of liquidity as our markets mature and our business continues to grow. In addition, we generated $514.7 million of net cash from financing activities during the nine months ended September 30, 2008, which included proceeds from our issuances of senior notes and convertible senior notes in June 2008.

 

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We believe that our existing unrestricted cash, cash equivalents and short-term investments, together with cash generated from operations, provide us with sufficient liquidity to meet the future operating and capital requirements for our current business operations and our current business expansion efforts. These current business expansion efforts, which are described further below, include our plans to expand our network footprint, expand and enhance network coverage and capacity in many of our existing markets and expand availability of our mobile broadband product offering.

In evaluating our liquidity and managing our financial resources, we plan to maintain what we consider to be at least a reasonable surplus of unrestricted cash, cash equivalents and short-term investments to address variations in working capital, unanticipated operating or capital requirements, and significant changes in our financial performance. In addition, if our business or financial results were to be adversely impacted by changes in general economic conditions, slower-than-anticipated growth, increased competition in our markets or other factors, we believe that we could defer or significantly reduce our investments in expansion efforts and other business expenditures, to the extent that we deemed necessary, to match our capital requirements to our available sources of liquidity. Our projections regarding future capital and operating requirements and liquidity are based upon current operating, financial and competitive information and projections regarding our business and its financial performance. There are a number of risks and uncertainties (including the risks to our business described above and others set forth in this report in Part II — Item 1A under the heading entitled “Risk Factors”) that could cause our financial and operating results and capital requirements to differ materially from our projections and that could cause our liquidity to differ materially from the assessment set forth above.

We plan to expand our network footprint by launching Cricket service in new markets and increasing and enhancing coverage in our existing markets. We and Denali License have identified up to 50 million additional POPs (as measured on a cumulative basis beginning January 2008) that we may cover with Cricket service by the end of 2010. We and Denali License expect to cover up to approximately 36 million of these additional POPs by the middle of 2009 (which includes the eight million POPs covered by the markets we have already launched this year). With respect to the approximately 14 million remaining additional POPs that we may cover by the end of 2010, we expect to finalize our plans with respect to the launch of these additional POPs by the middle of 2009. We currently intend to fund the costs required to build out and launch the new markets associated with these 14 million remaining additional POPs with cash generated from operations, and the pace and timing of our build-out and launch activities will depend upon the performance of our business and the amount of cash generated by our operations. Aggregate capital expenditures for the build-out of new markets through their first full year of operation after commercial launch are currently anticipated to be approximately $25.00 per covered POP, excluding capitalized interest.

In addition, we plan to continue to expand and enhance our network coverage and capacity in many of our existing markets, allowing us to offer our customers an improved service area. We have substantially completed the first phase of this program, which called for us to deploy approximately 600 new cell sites in our existing markets. In the second phase of this program (which recently began), we currently plan to deploy up to an additional 600 cell sites in our existing markets by the end of 2010.

We also plan to expand the availability of our mobile broadband product offering, Cricket Wireless Internet Service. As of September 30, 2008, our Cricket Wireless Internet Service was available to approximately 32 million covered POPs, and we expect to further expand the availability of this product offering to cover approximately 63 million POPs by the end of 2008 and approximately 88 million POPs by the end of 2008.

In addition to our current business expansion efforts, we may also pursue other activities to build our business, which could include (without limitation) the acquisition of additional spectrum through FCC auctions or private transactions, entering into partnerships with others to launch and operate additional markets or reduce existing operating costs, or the acquisition of other wireless communications companies or complementary businesses. If we were to pursue any of these activities at a significant level, we would likely need to re-direct capital otherwise available for our current business operations and expansion efforts or raise additional funding.

 

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We do not intend to pursue any of these other activities at a significant level unless we believe we have sufficient liquidity to support the operating and capital requirements for our current business operations, expansion efforts and any such other activities.

Our total outstanding indebtedness under our Credit Agreement was $879.8 million as of September 30, 2008. Outstanding term loan borrowings under our Credit Agreement must be repaid in 22 quarterly payments of $2.25 million each (which commenced on March 31, 2007) followed by four quarterly payments of $211.5 million (which commence on September 30, 2012). The term loan under our Credit Agreement bears interest at the London Interbank Offered Rate, or LIBOR, plus 3.5% (subject to a LIBOR floor of 3.0% per annum) or the bank base rate plus 2.5%, as selected by us. The Credit Agreement also includes a $200 million revolving credit facility, which was undrawn as of September 30, 2008. In addition to our Credit Agreement, we also had $1,650 million in unsecured senior indebtedness outstanding as of September 30, 2008, which included $1,100 million of 9.375% senior notes due 2014, $250 million of 4.5% convertible senior notes due 2014 and $300 million of 10.0% senior notes due 2015.

The Credit Agreement and the indentures governing Cricket’s senior notes contain covenants that restrict the ability of Leap, Cricket and the subsidiary guarantors to take certain actions, including incurring additional indebtedness beyond specified thresholds. In addition, under certain circumstances we are required to use some or all of the proceeds we receive from incurring indebtedness beyond defined levels to pay down outstanding borrowings under our Credit Agreement. Our Credit Agreement also contains financial covenants with respect to a maximum consolidated senior secured leverage ratio and, if a revolving credit loan or uncollateralized letter of credit is outstanding or requested, with respect to a minimum consolidated interest coverage ratio, a maximum consolidated leverage ratio and a minimum consolidated fixed charge coverage ratio. Based upon our existing levels of indebtedness, and depending on our results of operations and the scope and pace of our current business expansion efforts and other activities we may pursue, our consolidated leverage ratio could restrict or prevent us from borrowing under the revolving credit facility or restrict our ability to undertake additional debt financing for one or more quarters. We do not intend, however, to pursue business expansion efforts or other activities that would prevent or restrict us from borrowing under the revolving credit facility or raising additional indebtedness unless we believe we have sufficient other sources of liquidity to support the operating and capital requirements for our current operations and business expansion efforts or other activities.

Although our significant outstanding indebtedness results in certain risks to our business that could materially affect our financial condition and performance, we believe that these risks are manageable and that we are taking appropriate actions to monitor and address them. For example, in connection with our financial planning process and capital raising activities, we seek to maintain an appropriate balance between our debt and equity capitalization and we review our business plans and forecasts, including projected trends in interest rates, to monitor our ability to service our debt and to comply with the financial and other covenants in our Credit Agreement and the indentures governing Cricket’s senior notes. In addition, as the new markets that we have launched over the past few years continue to develop and our existing markets mature, we expect that increased cash flows from such new and existing markets will ultimately result in improvements in our consolidated leverage ratio and the other ratios underlying our financial covenants, although our consolidated leverage ratio may be adversely affected in the interim as described above. Our $1,650 million of senior notes and convertible senior notes bear interest at a fixed rate and we have entered into interest rate swap agreements covering $355 million of outstanding debt under our term loan, which help to mitigate our exposure to interest rate fluctuations. Due to the fixed rate on our senior notes and convertible senior notes and our interest rate swaps, approximately 78.2% of our total indebtedness accrues interest at a fixed rate. In light of the actions described above, our expected cash flows from operations, and our ability to defer or reduce our investments in business expansion efforts or other activities as necessary to match our capital requirements to our available liquidity, management believes that it has the ability to effectively manage our levels of indebtedness and address the risks to our business and financial condition related to our indebtedness.

 

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Cash Flows

Operating Activities

Net cash provided by operating activities was $271.3 million during the nine months ended September 30, 2008 compared to $195.8 million during the nine months ended September 30, 2007. This increase was primarily attributable to increased operating income and changes in working capital.

Investing Activities

Net cash used in investing activities was $677.5 million during the nine months ended September 30, 2008, which included the effects of the following transactions:

 

   

During the nine months ended September 30, 2008, we purchased Hargray Communications Group’s wireless subsidiary, Hargray Wireless, LLC, or Hargray Wireless, for $31.2 million, including acquisition-related costs of $0.6 million.

 

   

During the nine months ended September 30, 2008, we made investment purchases of $446.6 million, offset by sales or maturities of investments of $341.2 million.

 

   

During the nine months ended September 30, 2008, we and our consolidated joint ventures purchased $528.3 million of property and equipment for the build-out of our new markets and the expansion and improvement of our existing markets.

 

   

During the nine months ended September 30, 2008, we deposited $70.0 million with the FCC in connection with our participation in Auction #73, all of which was returned to us in April 2008.

Financing Activities

Net cash provided by financing activities was $514.7 million during the nine months ended September 30, 2008, which included the effects of the following transactions:

 

   

During the nine months ended September 30, 2008, we issued $300 million of unsecured senior notes, which resulted in net proceeds of $293.3 million, and $250 million of convertible senior notes, which resulted in net proceeds of $242.5 million. These note issuances were offset by payments of $6.8 million on our $895.5 million senior secured term loan and a payment of $1.0 million on LCW Operations’ $40 million senior secured term loans. These note issuances were further offset by the payment of $7.5 million in debt issuance costs.

 

   

During the nine months ended September 30, 2008, we made payments of $12.9 million on our capital lease obligations.

 

   

During the nine months ended September 30, 2008, we issued common stock upon the exercise of stock options held by our employees, resulting in aggregate net proceeds of $7.1 million.

Senior Secured Credit Facilities

Cricket Communications

The senior secured credit facility under the Credit Agreement consists of a six-year $895.5 million term loan and a $200 million revolving credit facility. As of September 30, 2008, the outstanding indebtedness under the term loan was $879.8 million. Outstanding borrowings under the term loan must be repaid in 22 quarterly payments of $2.25 million each (which commenced on March 31, 2007) followed by four quarterly payments of $211.5 million (which commence on September 30, 2012).

In June 2008, we amended the Credit Agreement, among other things, to:

 

   

increase the size of the permitted unsecured debt basket under the Credit Agreement from $1.2 billion to $1.65 billion plus $1.00 for every $1.00 of cash proceeds from the issuance of new common equity by Leap, up to $200 million in the aggregate;

 

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increase the add-back to consolidated earnings before interest, taxes, depreciation and amortization, or EBITDA, for operating losses in new markets from $75 million to $100 million, and extend the period in which such add-back applies until December 31, 2011. For purposes of calculating the consolidated fixed charge coverage ratio under the Credit Agreement, an additional $125 million in new market operating losses can be added back to consolidated EBITDA through December 31, 2009;

 

   

exclude up to $125 million of capital expenditures made in connection with the expansion of network coverage, capability and capacity in markets in existence as of December 31, 2007 from the consolidated fixed charge coverage ratio calculation through December 31, 2009;

 

   

increase the baskets under the Credit Agreement for capital lease and purchase money security interests from $150 million to $250 million;

 

   

increase the baskets under the Credit Agreement for letters of credit from $15 million to $30 million;

 

   

exclude qualified preferred stock from the definition of indebtedness under the Credit Agreement and make certain other amendments to facilitate the issuance by Leap of qualified preferred stock;

 

   

establish that, if Cricket enters into an incremental facility for term loans or a revolving credit facility with an effective interest rate or weighted average yield (taking into account factors such as any interest rate floor, call protection, original issue discount and lender fees) that is higher than the then-existing interest rate for the existing term loans or revolving credit facility, as applicable, under the Credit Agreement, then the interest rate for the existing term loans or revolving credit facility, as applicable, shall be increased to match the effective interest rate or weighted average yield of such incremental facility;

 

   

cap any new incremental facilities under the Credit Agreement at $400 million in the aggregate;

 

   

increase the applicable rate spread on the term loans and revolving credit facility under the Credit Agreement by 50 basis points, and set a floor on the LIBOR under the Credit Agreement of 3.0% per annum; and

 

   

include a prepayment (or repayment) premium on the term loans of 2.0% on any principal amount prepaid (or repaid) prior to the first anniversary of the date of the amendment and 1.0% on any principal amount prepaid (or repaid) on or after the first anniversary but prior to the second anniversary of the date of amendment (other than prepayments in respect of extraordinary receipts).

In connection with the execution of the Credit Agreement amendment, we paid a fee equal to 50 basis points on the aggregate principal amount of the commitments and loans of each lender that executed the amendment.

Under the Credit Agreement, as amended, the term loan bears interest at LIBOR plus 3.50% (subject to the LIBOR floor of 3.0% per annum) or the bank base rate plus 2.50%, as selected by Cricket. These interest rates represent an increase of 50 basis points from the rates applicable to the term loan immediately prior to the amendment.

At September 30, 2008, the effective interest rate on the term loan was 7.7%, including the effect of interest rate swaps. The terms of the Credit Agreement require us to enter into interest rate swap agreements in a sufficient amount so that at least 50% of our outstanding indebtedness for borrowed money bears interest at a fixed rate. We were in compliance with this requirement as of September 30, 2008. We have entered into interest rate swap agreements with respect to $355 million of our debt. These interest rate swap agreements effectively fix the LIBOR interest rate on $150 million of indebtedness at 8.3% and $105 million of indebtedness at 7.3% through June 2009 and $100 million of indebtedness at 8.0% through September 2010. The fair value of the swap agreements as of September 30, 2008 and December 31, 2007 were liabilities of $6.1 million and $7.2 million, respectively, which were recorded in other liabilities in the condensed consolidated balance sheets.

Outstanding borrowings under the revolving credit facility, to the extent that there are any borrowings, are due in June 2011. As of September 30, 2008, the revolving credit facility was undrawn; however, approximately

 

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$4.1 million of letters of credit were issued under the Credit Agreement and were considered as usage of the revolving credit facility, as more fully described in Note 8 to our condensed consolidated financial statements in “Part I — Item 1. Financial Statements” included in this report. The commitment of the lenders under the revolving credit facility may be reduced in the event mandatory prepayments are required under the Credit Agreement. The commitment fee on the revolving credit facility is payable quarterly at a rate of between 0.25% and 0.50% per annum, depending on our consolidated senior secured leverage ratio, and the rate is currently 0.25%. As of June 30, 2008, borrowings under the revolving credit facility would have accrued interest at LIBOR plus 3.25% (subject to the LIBOR floor of 3.0% per annum), or the bank base rate plus 2.25%, as selected by Cricket.

The facilities under the Credit Agreement are guaranteed by Leap and all of its direct and indirect domestic subsidiaries (other than Cricket, which is the primary obligor, and LCW Wireless and Denali and their respective subsidiaries) and are secured by substantially all of the present and future personal property and real property owned by Leap, Cricket and such direct and indirect domestic subsidiaries. Under the Credit Agreement, we are subject to certain limitations, including limitations on our ability to: incur additional debt or sell assets, with restrictions on the use of proceeds; make certain investments and acquisitions; grant liens; pay dividends; and make certain other restricted payments. In addition, we will be required to pay down the facilities under certain circumstances if we issue debt, sell assets or property, receive certain extraordinary receipts or generate excess cash flow (as defined in the Credit Agreement). We are also subject to a financial covenant with respect to a maximum consolidated senior secured leverage ratio and, if a revolving credit loan or uncollateralized letter of credit is outstanding or requested, with respect to a minimum consolidated interest coverage ratio, a maximum consolidated leverage ratio and a minimum consolidated fixed charge coverage ratio. In addition to investments in the Denali joint venture, the Credit Agreement allows us to invest up to $85 million in LCW Wireless and our subsidiaries and up to $150 million, plus an amount equal to an available cash flow basket, in other joint ventures, and allows us to provide limited guarantees for the benefit of Denali, LCW Wireless and other joint ventures. We were in compliance with these covenants as of September 30, 2008.

Based upon our existing levels of indebtedness, and depending on our results of operations and the scope and pace of our current business expansion efforts and other activities we may pursue, our consolidated leverage ratio could restrict or prevent us from borrowing under the revolving credit facility or restrict our ability to undertake additional debt financing for one or more quarters. We do not intend, however, to pursue business expansion efforts or other activities that would prevent or restrict us from borrowing under the revolving credit facility or raising additional indebtedness unless we believe we have sufficient other sources of liquidity to support the operating and capital requirements for our current operations and business expansion efforts or other activities.

The Credit Agreement also prohibits the occurrence of a change of control, which includes the acquisition of beneficial ownership of 35% or more of Leap’s equity securities, a change in a majority of the members of Leap’s board of directors that is not approved by the board and the occurrence of a “change of control” under any of our other credit instruments.

Affiliates of Highland Capital Management, L.P. (an affiliate of James D. Dondero, a former director of Leap) participated in the syndication of the term loan in an amount equal to $222.9 million. Additionally, Highland Capital Management continues to hold a $40 million commitment under the $200 million revolving credit facility.

LCW Operations

LCW Operations has a senior secured credit agreement consisting of two term loans for $40 million in the aggregate. The loans bear interest at LIBOR plus the applicable margin ranging from 2.7% to 6.3%. At September 30, 2008, the effective interest rate on the term loans was 7.5%, and the outstanding indebtedness was $39.0 million. LCW Operations has entered into an interest rate cap agreement which effectively caps the three month LIBOR interest rate at 7.0% on $20 million of its outstanding borrowings through October 2011. The obligations under the loans are guaranteed by LCW Wireless and LCW Wireless License, LLC (a wholly owned

 

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subsidiary of LCW Operations), and are non-recourse to Leap, Cricket and their other subsidiaries. Outstanding borrowings under the term loans must be repaid in varying quarterly installments, which commenced in June 2008, with an aggregate final payment of $24.5 million due in June 2011. Under the senior secured credit agreement, LCW Operations and the guarantors are subject to certain limitations, including limitations on their ability to: incur additional debt or sell assets, with restrictions on the use of proceeds; make certain investments and acquisitions; grant liens; pay dividends; and make certain other restricted payments. In addition, LCW Operations will be required to pay down the facilities under certain circumstances if it or the guarantors issue debt, sell assets or generate excess cash flow. The senior secured credit agreement requires that LCW Operations and the guarantors comply with financial covenants related to EBITDA, gross additions of subscribers, minimum cash and cash equivalents and maximum capital expenditures, among other things. LCW Operations was in compliance with these covenants as of September 30, 2008.

Senior Notes

Senior Notes Due 2014

In 2006, Cricket issued $750 million of 9.375% unsecured senior notes due 2014 in a private placement to institutional buyers, which were exchanged in 2007 for identical notes that had been registered with the SEC. In June 2007, Cricket issued an additional $350 million of 9.375% unsecured senior notes due 2014 in a private placement to institutional buyers at an issue price of 106% of the principal amount, which were exchanged in June 2008 for identical notes that had been registered with the SEC. These notes are all treated as a single class and have identical terms. The $21 million premium we received in connection with the issuance of the second tranche of notes has been recorded in long-term debt in the condensed consolidated financial statements and is being amortized as a reduction to interest expense over the term of the notes. At September 30, 2008, the effective interest rate on the $350 million of senior notes was 8.7%, which includes the effect of the premium amortization and excludes the effect of the additional interest that has been accrued in connection with the delay in the exchange of the notes, as more fully described below.

The notes bear interest at the rate of 9.375% per year, payable semi-annually in cash in arrears, which interest payments commenced in May 2007. The notes are guaranteed on an unsecured senior basis by Leap and each of its existing and future domestic subsidiaries (other than Cricket, which is the issuer of the notes, and LCW Wireless and Denali and their respective subsidiaries) that guarantee indebtedness for money borrowed of Leap, Cricket or any subsidiary guarantor. The notes and the guarantees are Leap’s, Cricket’s and the guarantors’ general senior unsecured obligations and rank equally in right of payment with all of Leap’s, Cricket’s and the guarantors’ existing and future unsubordinated unsecured indebtedness. The notes and the guarantees are effectively junior to Leap’s, Cricket’s and the guarantors’ existing and future secured obligations, including those under the Credit Agreement, to the extent of the value of the assets securing such obligations, as well as to future liabilities of Leap’s and Cricket’s subsidiaries that are not guarantors, and of LCW Wireless and Denali and their respective subsidiaries. In addition, the notes and the guarantees are senior in right of payment to any of Leap’s, Cricket’s and the guarantors’ future subordinated indebtedness.

Prior to November 1, 2009, Cricket may redeem up to 35% of the aggregate principal amount of the notes at a redemption price of 109.375% of the principal amount thereof, plus accrued and unpaid interest and additional interest, if any, thereon to the redemption date, from the net cash proceeds of specified equity offerings. Prior to November 1, 2010, Cricket may redeem the notes, in whole or in part, at a redemption price equal to 100% of the principal amount thereof plus the applicable premium and any accrued and unpaid interest, if any, thereon to the redemption date. The applicable premium is calculated as the greater of (i) 1.0% of the principal amount of such notes and (ii) the excess of (a) the present value at such date of redemption of (1) the redemption price of such notes at November 1, 2010 plus (2) all remaining required interest payments due on such notes through November 1, 2010 (excluding accrued but unpaid interest to the date of redemption), computed using a discount rate equal to the Treasury Rate plus 50 basis points, over (b) the principal amount of such notes. The notes may be redeemed, in whole or in part, at any time on or after November 1, 2010, at a redemption price of 104.688%

 

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and 102.344% of the principal amount thereof if redeemed during the twelve months ending October 31, 2011 and 2012, respectively, or at 100% of the principal amount if redeemed during the twelve months ending October 31, 2013 or thereafter, plus accrued and unpaid interest, if any, thereon to the redemption date.

If a “change of control” occurs (which includes the acquisition of beneficial ownership of 35% or more of Leap’s equity securities, a sale of all or substantially all of the assets of Leap and its restricted subsidiaries and a change in a majority of the members of Leap’s board of directors that is not approved by the board), each holder of the notes may require Cricket to repurchase all of such holder’s notes at a purchase price equal to 101% of the principal amount of the notes, plus accrued and unpaid interest, if any, thereon to the repurchase date.

The indenture governing the notes limits, among other things, our ability to: incur additional debt; create liens or other encumbrances; place limitations on distributions from restricted subsidiaries; pay dividends; make investments; prepay subordinated indebtedness or make other restricted payments; issue or sell capital stock of restricted subsidiaries; issue guarantees; sell assets; enter into transactions with our affiliates; and make acquisitions or merge or consolidate with another entity.

In connection with the private placement of the $350 million of additional senior notes, we entered into a registration rights agreement with the initial purchasers of the notes in which we agreed to file a registration statement with the SEC to permit the holders to exchange or resell the notes. We were required to use reasonable best efforts to file such registration statement within 150 days after the issuance of the notes, have the registration statement declared effective within 270 days after the issuance of the notes and then consummate any exchange offer within 30 business days after the effective date of the registration statement. In the event that the registration statement was not filed or declared effective or the exchange offer was not consummated within these deadlines, the agreement provided that additional interest would accrue on the principal amount of the notes at a rate of 0.50% per annum during the 90-day period immediately following the first to occur of these events and would increase by 0.50% per annum at the end of each subsequent 90-day period until all such defaults were cured, but in no event would the penalty rate exceed 1.50% per annum. There were no other alternative settlement methods and, other than the 1.50% per annum maximum penalty rate, the agreement contained no limit on the maximum potential amount of penalty interest that could be paid in the event we did not meet these requirements. Due to the restatement of our historical consolidated financial results during the fourth quarter of 2007, we were unable to file the registration statement within 150 days after issuance of the notes. We filed the registration statement on March 28, 2008, which was declared effective on May 19, 2008, and consummated the exchange offer on June 20, 2008. Due to the delay in filing the registration statement and having it declared effective, we paid approximately $1.3 million of additional interest on May 1, 2008 and paid approximately $0.3 million of the remaining additional interest on November 3, 2008.

Convertible Senior Notes Due 2014

In June 2008, Leap issued $250 million of unsecured convertible senior notes due 2014 in a private placement to institutional buyers. The notes bear interest at the rate of 4.50% per year, payable semi-annually in cash in arrears commencing in January 2009. The notes are Leap’s general unsecured obligations and rank equally in right of payment with all of Leap’s existing and future senior unsecured indebtedness and senior in right of payment to all indebtedness that is contractually subordinated to the notes. The notes are structurally subordinated to the existing and future claims of Leap’s subsidiaries’ creditors, including under the Credit Agreement and the senior notes described above and below. The notes are effectively junior to all of Leap’s existing and future secured obligations, including under the Credit Agreement, to the extent of the value of the assets securing such obligations.

Holders may convert their notes into shares of Leap common stock at any time on or prior to the third scheduled trading day prior to the maturity date of the notes, July 15, 2014. If, at the time of conversion, the applicable stock price of Leap’s common stock is less than or equal to approximately $93.21 per share, the notes will be convertible into 10.7290 shares of Leap common stock per $1,000 principal amount of the notes (referred

 

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to as the “base conversion rate”), subject to adjustment upon the occurrence of certain events. If, at the time of conversion, the applicable stock price of Leap’s common stock exceeds approximately $93.21 per share, the conversion rate will be determined pursuant to a formula based on the base conversion rate and an incremental share factor of 8.3150 shares per $1,000 principal amount of the notes, subject to adjustment.

Leap may be required to repurchase all outstanding notes in cash at a repurchase price of 100% of the principal amount of the notes, plus accrued and unpaid interest, if any, thereon to the repurchase date if (1) any person acquires beneficial ownership, directly or indirectly, of shares of Leap’s capital stock that would entitle the person to exercise 50% or more of the total voting power of all of Leap’s capital stock entitled to vote in the election of directors, (2) Leap (i) merges or consolidates with or into any other person, another person merges with or into Leap, or Leap conveys, sells, transfers or leases all or substantially all of its assets to another person or (ii) engages in any recapitalization, reclassification or other transaction in which all or substantially all of Leap’s common stock is exchanged for or converted into cash, securities or other property, in each case subject to limitations and excluding in the case of (1) and (2) any merger or consolidation where at least 90% of the consideration consists of shares of common stock traded on NYSE, ASE or NASDAQ, (3) a majority of the members of Leap’s board of directors ceases to consist of individuals who were directors on the date of original issuance of the notes or whose election or nomination for election was previously approved by the board of directors, (4) Leap is liquidated or dissolved or holders of common stock approve any plan or proposal for its liquidation or dissolution or (5) shares of Leap’s common stock are not listed for trading on any of the New York Stock Exchange, the NASDAQ Global Market or the NASDAQ Global Select Market (or any of their respective successors). Leap may not redeem the notes at its option.

In connection with the private placement of the convertible senior notes, we entered into a registration rights agreement with the initial purchasers of the notes in which we agreed, under certain circumstances, to use commercially reasonable efforts to cause a shelf registration statement covering the resale of the notes and the common stock issuable upon conversion of the notes to be declared effective by the SEC and to pay additional interest if such registration obligations are not performed. In the event that we do not comply with the registration requirements, the agreement provides that additional interest will accrue on the principal amount of the notes at a rate of 0.25% per annum during the 90-day period immediately following a registration default and will increase to 0.50% per annum beginning on the 91 st day of the registration default until all such defaults have been cured. There are no other alternative settlement methods and, other than the 0.50% per annum maximum penalty rate, the agreement contains no limit on the maximum potential amount of penalty interest that could be paid in the event we do not meet these requirements. However, our obligation to file, have declared effective or maintain the effectiveness of a shelf registration statement (and pay additional interest) is suspended to the extent and during the periods that the notes are eligible to be transferred without registration under the Securities Act of 1933, as amended, or the Securities Act, by a person who is not an affiliate of ours (and has not been an affiliate for the 90 days preceding such transfer) pursuant to Rule 144 under the Securities Act without any volume or manner of sale restrictions. We did not issue any of the convertible senior notes to any of our affiliates. As a result, we currently expect that prior to the time by which we would be required to file and have declared effective a shelf registration statement covering the resale of the convertible senior notes that the notes will be eligible to be transferred without registration pursuant to Rule 144 without any volume or manner of sale restrictions. Accordingly, we do not believe that the payment of additional interest is probable and, therefore, no related liability has been recorded in the condensed consolidated financial statements.

Senior Notes Due 2015

In June 2008, Cricket issued $300 million of 10.0% unsecured senior notes due 2015 in a private placement to institutional buyers. The notes bear interest at the rate of 10.0% per year, payable semi-annually in cash in arrears commencing in January 2009. The notes are guaranteed on an unsecured senior basis by Leap and each of its existing and future domestic subsidiaries (other than Cricket, which is the issuer of the notes, and LCW Wireless and Denali and their respective subsidiaries) that guarantee indebtedness for money borrowed of Leap, Cricket or any subsidiary guarantor. The notes and the guarantees are Leap’s, Cricket’s and the guarantors’

 

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general senior unsecured obligations and rank equally in right of payment with all of Leap’s, Cricket’s and the guarantors’ existing and future unsubordinated unsecured indebtedness. The notes and the guarantees are effectively junior to Leap’s, Cricket’s and the guarantors’ existing and future secured obligations, including those under the Credit Agreement, to the extent of the value of the assets securing such obligations, as well as to future liabilities of Leap’s and Cricket’s subsidiaries that are not guarantors, and of LCW Wireless and Denali and their respective subsidiaries. In addition, the notes and the guarantees are senior in right of payment to any of Leap’s, Cricket’s and the guarantors’ future subordinated indebtedness.

Prior to July 15, 2011, Cricket may redeem up to 35% of the aggregate principal amount of the notes at a redemption price of 110.0% of the principal amount thereof, plus accrued and unpaid interest, if any, thereon to the redemption date, from the net cash proceeds of specified equity offerings. Prior to July 15, 2012, Cricket may redeem the notes, in whole or in part, at a redemption price equal to 100% of the principal amount thereof plus the applicable premium and any accrued and unpaid interest, if any, thereon to the redemption date. The applicable premium is calculated as the greater of (i) 1.0% of the principal amount of such notes and (ii) the excess of (a) the present value at such date of redemption of (1) the redemption price of such notes at July 15, 2012 plus (2) all remaining required interest payments due on such notes through July 15, 2012 (excluding accrued but unpaid interest to the date of redemption), computed using a discount rate equal to the Treasury Rate plus 50 basis points, over (b) the principal amount of such notes. The notes may be redeemed, in whole or in part, at any time on or after July 15, 2012, at a redemption price of 105.0% and 102.5% of the principal amount thereof if redeemed during the twelve months ending July 15, 2013 and 2014, respectively, or at 100% of the principal amount if redeemed during the twelve months ending July 15, 2015, plus accrued and unpaid interest, if any, thereon to the redemption date.

If a “change of control” occurs (which includes the acquisition of beneficial ownership of 35% or more of Leap’s equity securities, a sale of all or substantially all of the assets of Leap and its restricted subsidiaries and a change in a majority of the members of Leap’s board of directors that is not approved by the board), each holder of the notes may require Cricket to repurchase all of such holder’s notes at a purchase price equal to 101% of the principal amount of the notes, plus accrued and unpaid interest, if any, thereon to the repurchase date.

The indenture governing the notes limits, among other things, our ability to: incur additional debt; create liens or other encumbrances; place limitations on distributions from restricted subsidiaries; pay dividends; make investments; prepay subordinated indebtedness or make other restricted payments; issue or sell capital stock of restricted subsidiaries; issue guarantees; sell assets; enter into transactions with our affiliates; and make acquisitions or merge or consolidate with another entity.

In connection with the private placement of these senior notes, we entered into a registration rights agreement with the initial purchasers of the notes in which we agreed, under certain circumstances, to use reasonable best efforts to offer registered notes in exchange for the notes or to cause a shelf registration statement covering the resale of the notes to be declared effective by the SEC and to pay additional interest if such registration obligations are not performed. In the event that we do not comply with such obligations, the agreement provides that additional interest will accrue on the principal amount of the notes at a rate of 0.50% per annum during the 90-day period immediately following a registration default and will increase by 0.50% per annum at the end of each subsequent 90-day period until all such defaults are cured, but in no event will the penalty rate exceed 1.50% per annum. There are no other alternative settlement methods and, other than the 1.50% per annum maximum penalty rate, the agreement contains no limit on the maximum potential amount of penalty interest that could be paid in the event we do not meet these requirements. However, our obligation to file, have declared effective or maintain the effectiveness of a registration statement for an exchange offer or a shelf registration statement (and pay additional interest) is only triggered to the extent that the notes are not eligible to be transferred without registration under the Securities Act by a person who is not an affiliate of ours (and has not been an affiliate for the 90 days preceding such transfer) pursuant to Rule 144 under the Securities Act without any volume or manner of sale restrictions. We did not issue any of the senior notes to any of its affiliates. As a result, we currently expect that prior to the time by which we would be required to file and have

 

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declared effective a registration statement for an exchange offer or a shelf registration statement covering the senior notes that the notes will be eligible to be transferred without registration pursuant to Rule 144 without any volume or manner of sale restrictions. Accordingly, we do not believe that the payment of additional interest is probable and, therefore, no related liability has been recorded in the condensed consolidated financial statements.

Fair Value of Financial Instruments

As more fully described in Notes 2 and 5 to our condensed consolidated financial statements included in “Part I — Item 1. Financial Statements” of this report, we adopted the provisions of SFAS No. 157, “Fair Value Measurements,” or SFAS 157, during the first quarter of 2008 with respect to our financial assets and liabilities. SFAS 157 defines fair value as an exit price, which is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The degree of judgment utilized in measuring the fair value of assets and liabilities generally correlates to the level of pricing observability. Financial assets and liabilities with readily available, actively quoted prices or for which fair value can be measured from actively quoted prices in active markets generally have more pricing observability and less judgment utilized in measuring fair value. Conversely, financial assets and liabilities rarely traded or not quoted have less pricing observability and are generally measured at fair value using valuation models that require more judgment. These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency or market for the asset or liability and the complexity of the asset or liability.

We have categorized our financial assets and liabilities measured at fair value into a three-level hierarchy in accordance with SFAS 157. Financial assets and liabilities that use quoted prices in active markets for identical assets or liabilities are generally categorized as Level 1 assets and liabilities, financial assets and liabilities that use observable market-based inputs or unobservable inputs that are corroborated by market data for similar assets or liabilities are generally categorized as Level 2 assets and liabilities and financial assets and liabilities that use unobservable inputs that cannot be corroborated by market data are generally categorized as Level 3 assets and liabilities. Such Level 3 assets and liabilities have values determined using pricing models for which the determination of fair value requires judgment and estimation. As of September 30, 2008, $5.1 million of our financial assets required fair value to be measured using Level 3 inputs.

Generally, our results of operations are not significantly impacted by our assets and liabilities accounted for at fair value due to the nature of each asset and liability. However, through our non-controlled consolidated subsidiary Denali, we hold an investment in asset-backed commercial paper, which was purchased as a highly rated investment grade security. This security, which is collateralized, in part, by residential mortgages, has declined in value since December 31, 2007. As a result of declines in this remaining investment in asset-backed commercial paper and declines in an investment liquidated in the third quarter of 2008, during the nine months ended September 30, 2008, we recognized an other-than-temporary impairment loss of approximately $3.8 million. Future volatility and uncertainty in the financial markets could result in additional losses and difficulty in monetizing our remaining investment.

As a result of the amendment to our Credit Agreement, which among other things introduced a LIBOR floor of 3.0% per annum, as more fully described above, we de-designated our existing interest rate swap agreements as cash flow hedges and discontinued our hedge accounting for these interest rate swaps during the second quarter of 2008. The loss accumulated in other comprehensive income (loss) on the date we discontinued hedge accounting is amortized to interest expense, using the swaplet method, over the remaining term of the respective interest rate swap agreements. In addition, changes in the fair value of these interest rate swaps are recorded as a component of interest expense. During the three and nine months ended September 30, 2008, we recognized interest expense of $2.0 million and $1.3 million, respectively, related to these items. We continue to report our long-term debt obligations at amortized cost and disclose the fair value of such obligations. There was no transition adjustment as a result of our adoption of SFAS 157 given our historical practice of measuring and reporting our short-term investments and interest rate swaps at fair value.

 

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System Equipment Purchase Agreements

In June 2007, we entered into certain system equipment purchase agreements which generally have a term of three years. In these agreements, we agreed to purchase and/or license wireless communications systems, products and services designed to be AWS functional at a current estimated cost to us of approximately $266 million, which commitments are subject, in part, to the necessary clearance of spectrum in the markets to be built. Under the terms of the agreements, we are entitled to certain pricing discounts, credits and incentives, which discounts, credits and incentives are subject to our achievement of our purchase commitments, and to certain technical training for our personnel. If the purchase commitment levels per the agreements are not achieved, we may be required to refund previous credits and incentives we applied to historical purchases.

Capital Expenditures and Other Asset Acquisitions and Dispositions

Capital Expenditures

As part of our current business expansion efforts, we and Denali License have identified up to 50 million additional POPs (as measured on a cumulative basis beginning January 2008) that we may cover with Cricket service by the end of 2010. We and Denali License expect to cover up to approximately 36 million of these additional POPs by the middle of 2009 and expect to finalize our plans with respect to the launch of the approximately 14 million remaining additional POPs by the middle of 2009. Aggregate capital expenditures for the build-out of new markets through their first full year of operation after commercial launch are currently anticipated to be approximately $25.00 per covered POP, excluding capitalized interest. Ongoing capital expenditures to support the growth and development of our markets after their first year of commercial operation are expected to be in the mid-teens as a percentage of annual service revenue, excluding costs of any significant expansion in our existing markets.

During the nine months ended September 30, 2008, we and our consolidated joint ventures made approximately $528.3 million in capital expenditures. These capital expenditures were primarily for: (i) the build-out of new markets, including related capitalized interest, (ii) expansion and improvement of our and their existing wireless networks, and (iii) the deployment of EvDO technology.

Auction #66 Properties and Build-Out Plans

In December 2006, we completed the purchase of 99 wireless licenses in Auction #66 covering 124.9 million POPs (adjusted to eliminate duplication among certain overlapping Auction #66 licenses) for an aggregate purchase price of $710.2 million. In April 2007, Denali License completed the purchase of one wireless license in Auction #66 covering 59.9 million POPs (which includes markets covering 5.8 million POPs which overlap with certain licenses we purchased in Auction #66) for a net purchase price of $274.1 million.

We and Denali License have identified up to 50 million additional POPs (as measured on a cumulative basis beginning January 2008) that we may cover with Cricket service by the end of 2010. We and Denali License expect to cover up to approximately 36 million of these additional POP