Table of Contents


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2017

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

For the transition period from to

Commission file number 001-35134

LEVEL 3 COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
Delaware
 
47-0210602
(State of Incorporation)
 
(I.R.S. Employer
 
 
Identification No.)
 
 
 
1025 Eldorado Blvd., Broomfield, CO
 
80021-8869
(Address of principal executive offices)
 
(Zip Code)
(720) 888-1000
(Registrant’s telephone number,
including area code)

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 x No o

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

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 definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x
 
Accelerated filer o
 
 
 
Non-accelerated filer o
 
Smaller reporting company o
(Do not check if a smaller reporting company)
 
 
 
 
Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

The number of shares outstanding of each class of the issuer’s common stock, as of August 2, 2017:

Common Stock: 362,691,792 shares.
 



Table of Contents


LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES


 
 
Page No.
 
 
 
 
 
Item 1.
 
Consolidated Statements of Income
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 6.
 
 
 
 
 
Certifications
 
 
 
 
 
 
 


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Part I - Financial Information
ITEM 1. FINANCIAL STATEMENTS

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Income
(unaudited)

 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
June 30,
 
June 30,
(dollars in millions, except per share data)
 
2017
 
2016
 
2017
 
2016
 
 
 
 
 
 
 
 
 
Revenue
 
$
2,061

 
$
2,056

 
$
4,109

 
$
4,107

Costs and Expenses:
 
 
 
 
 
 
 
 
Network access costs
 
675

 
676

 
1,366

 
1,370

Network related expenses
 
337

 
339

 
673

 
677

Depreciation and amortization
 
330

 
310

 
650

 
611

Selling, general and administrative expenses
 
366

 
357

 
730

 
713

Total Costs and Expenses
 
1,708

 
1,682

 
3,419

 
3,371

Operating Income
 
353

 
374

 
690

 
736

Other Income (Expense):
 
 
 
 
 
 
 
 
Interest income
 
3

 
1

 
5

 
2

Interest expense
 
(132
)
 
(140
)
 
(266
)
 
(275
)
Loss on modification and extinguishment of debt
 

 
(40
)
 
(44
)
 
(40
)
Other, net
 
(1
)
 
(5
)
 
3

 
(15
)
Total Other Expense
 
(130
)
 
(184
)
 
(302
)
 
(328
)
Income Before Income Taxes
 
223

 
190

 
388

 
408

Income Tax Expense
 
(69
)
 
(34
)
 
(139
)
 
(124
)
Net Income
 
$
154

 
$
156

 
$
249

 
$
284

 
 
 
 
 
 
 
 
 
Basic Earnings per Common Share
 


 
 
 
 
 
 
Net Income Per Share
 
$
0.42

 
$
0.44


$
0.69

 
$
0.79

Weighted-Average Shares Outstanding (in thousands)
 
362,385

 
357,924

 
361,942

 
357,355

 
 


 
 
 
 
 
 
Diluted Earnings per Common Share
 


 
 
 
 
 
 
Net Income Per Share
 
$
0.42

 
$
0.43


$
0.68

 
$
0.79

Weighted-Average Shares Outstanding (in thousands)
 
365,002

 
361,250

 
364,569

 
360,804



See accompanying notes to unaudited Consolidated Financial Statements.


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LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(unaudited)

 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
June 30,
 
June 30,
(dollars in millions)
 
2017
 
2016
 
2017
 
2016
Net Income
 
$
154

 
$
156

 
$
249

 
$
284

Other Comprehensive Income, net of Tax:
 
 
 
 
 

 
 
Foreign currency translation adjustments, net of tax effect of ($29), $16, ($37) and $24
 
42

 
(24
)
 
62

 
24

Defined benefit pension plan adjustments, net of tax effect of $0, $1, $0, and ($1)
 
(1
)
 
2

 

 
(1
)
Other Comprehensive Income, net of Tax
 
41

 
(22
)
 
62

 
23

Comprehensive Income
 
$
195

 
$
134

 
$
311

 
$
307



See accompanying notes to unaudited Consolidated Financial Statements.


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LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(unaudited)

 
 
June 30,
 
December 31,
(dollars in millions, except per share data)
 
2017
 
2016
Assets:
 
 
 
 
Current Assets:
 
 
 
 
Cash and cash equivalents
 
$
1,056

 
$
1,819

Marketable securities
 
1,127

 

Restricted cash and securities
 
5

 
7

Receivables, less allowances for doubtful accounts of $32 and $29, respectively
 
707

 
712

Other
 
141

 
115

Total Current Assets
 
3,036

 
2,653

Property, Plant and Equipment, net of accumulated depreciation of $11,874 and $11,249, respectively
 
10,392

 
10,139

Restricted Cash and Securities
 
29

 
31

Goodwill
 
7,737

 
7,729

Other Intangibles, net
 
809

 
915

Deferred Tax Assets
 
3,235

 
3,370

Other Assets, net
 
49

 
51

Total Assets
 
$
25,287

 
$
24,888

Liabilities and Stockholders’ Equity:
 
 
 
 
Current Liabilities:
 
 
 
 
Accounts payable
 
$
693

 
$
706

Current portion of long-term debt
 
306

 
7

Accrued payroll and employee benefits
 
178

 
195

Accrued interest
 
97

 
129

Current portion of deferred revenue
 
262

 
266

Other
 
162

 
168

Total Current Liabilities
 
1,698

 
1,471

Long-Term Debt, less current portion
 
10,584

 
10,877

Deferred Revenue, less current portion
 
1,058

 
1,001

Other Liabilities
 
632

 
622

Total Liabilities
 
13,972

 
13,971

Commitments and Contingencies
 


 


Stockholders’ Equity:
 
 
 
 
Preferred stock, $.01 par value, authorized 10,000,000 shares: no shares issued or outstanding
 

 

Common stock, $.01 par value, authorized 433,333,333 shares in both periods; 361,479,420 issued and outstanding at June 30, 2017 and 360,021,098 issued and outstanding at December 31, 2016
 
4

 
4

Additional paid-in capital
 
19,887

 
19,800

Accumulated other comprehensive loss
 
(325
)
 
(387
)
Accumulated deficit
 
(8,251
)
 
(8,500
)
Total Stockholders’ Equity
 
11,315

 
10,917

Total Liabilities and Stockholders’ Equity
 
$
25,287

 
$
24,888



See accompanying notes to unaudited Consolidated Financial Statements.


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LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(unaudited)

 
 
Six Months Ended
 
 
June 30,
 
June 30,
(dollars in millions)
 
2017
 
2016
Cash Flows from Operating Activities:
 
 
 
 
Net income
 
$
249

 
$
284

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
650

 
611

Non-cash compensation expense attributable to stock awards
 
87

 
78

Loss on modification and extinguishment of debt
 
44

 
40

Accretion of debt discount and amortization of debt issuance costs
 
9

 
10

Accrued interest on long-term debt, net
 
(32
)
 
23

Deferred income taxes
 
119

 
101

Gain on sale of property, plant and equipment and other assets
 

 
(1
)
Other, net
 
(8
)
 
(3
)
Changes in working capital items:
 
 
 
 
Receivables
 
16

 
(69
)
Other current assets
 
(36
)
 
(40
)
Accounts payable
 
(17
)
 
132

Deferred revenue
 
50

 
42

Other current liabilities
 
(31
)
 
(67
)
Net Cash Provided by Operating Activities
 
1,100

 
1,141

Cash Flows from Investing Activities:
 
 
 
 
Capital expenditures
 
(696
)
 
(664
)
Change in restricted cash and securities, net
 
4

 
11

Purchases of marketable securities
 
(1,127
)
 

Proceeds from the sale of property, plant and equipment and other assets
 

 
1

Net Cash Used in Investing Activities
 
(1,819
)
 
(652
)
Cash Flows from Financing Activities:
 
 
 
 
Long-term debt borrowings, net of issuance costs
 
4,569

 
764

Payments on and repurchases of long-term debt and capital leases
 
(4,615
)
 
(816
)
Net Cash Used in Financing Activities
 
(46
)
 
(52
)
Effect of Exchange Rates on Cash and Cash Equivalents
 
2

 

Net Change in Cash and Cash Equivalents
 
(763
)
 
437

Cash and Cash Equivalents at Beginning of Period
 
1,819

 
854

Cash and Cash Equivalents at End of Period
 
$
1,056

 
$
1,291

Supplemental Disclosure of Cash Flow Information:
 
 
 
 
Cash interest paid
 
$
282

 
$
245

Income taxes paid, net of refunds
 
$
32

 
$
18


See accompanying notes to unaudited Consolidated Financial Statements.

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LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements


(1) Organization and Summary of Significant Accounting Policies

Description of Business

Level 3 Communications, Inc. and subsidiaries is a facilities-based provider (that is, a provider that owns or leases a substantial portion of the plant, property and equipment necessary to provide our services) of a broad range of integrated communications services. We created our communications network by constructing our own assets and through a combination of purchasing other companies and purchasing or leasing facilities from others. Our network is an international, facilities-based communications network. We designed our network to provide communications services that employ and take advantage of rapidly improving underlying optical, Internet Protocol, computing and storage technologies.

On October 31, 2016, we entered into an agreement and plan of merger (the "Merger Agreement") with CenturyLink, Inc., a Louisiana corporation ("CenturyLink"), Wildcat Merger Sub 1 LLC, a Delaware limited liability company and an indirect wholly owned subsidiary of CenturyLink ("Merger Sub 1"), and WWG Merger Sub LLC, a Delaware limited liability company and an indirect wholly owned subsidiary of CenturyLink ("Merger Sub 2"), pursuant to which, subject to the satisfaction or waiver of the conditions set forth in the Merger Agreement, we will be acquired by CenturyLink in a cash and stock transaction, including the assumption of our debt (the "CenturyLink Merger"). See Note 2 - CenturyLink Merger.

Principles of Consolidation and Basis of Presentation

The consolidated financial statements include our and our subsidiaries' accounts in which we have a controlling interest. All significant intercompany accounts and transactions have been eliminated. The accompanying Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP").

As part of our consolidation policy, we consider our controlled subsidiaries, investments in businesses in which we are not the primary beneficiary or do not have effective control but have the ability to significantly influence operating and financial policies, and variable interests resulting from economic arrangements that give us rights to economic risks or rewards of a legal entity. We do not have variable interests in a variable interest entity where we are required to consolidate the entity as the primary beneficiary. Due to exchange restrictions and other conditions, effective at the end of the third quarter of 2015 we deconsolidated our Venezuelan subsidiary and began accounting for our investment in our Venezuelan subsidiary using the cost method of accounting. The factors that led to our conclusions at the end of the third quarter of 2015 continued to exist through the end of the second quarter of 2017.

The accompanying Consolidated Balance Sheet as of December 31, 2016, which was derived from audited Consolidated Financial Statements, and the unaudited interim Consolidated Financial Statements as of June 30, 2017 and for the three and six months ended June 30, 2017 and 2016 have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) for quarterly reports on Form 10-Q and do not include all of the information and note disclosures required by GAAP for complete financial statements. These financial statements should be read in conjunction with our audited Consolidated Financial Statements and notes thereto included in our Form 10-K for the year ended December 31, 2016. In the opinion of our management, these financial statements contain all adjustments necessary for a fair presentation of financial position, results of operations and cash flows at the dates and for the interim periods presented herein. The results of

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operations for an interim period are not necessarily indicative of the results of operations expected for a full fiscal year.
The preparation of the Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses during the reported period. Actual results could differ from these estimates under different assumptions or conditions and such differences could be material.

Recently Issued Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2016-02, Leases ("ASC 842"), which requires entities that lease assets to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases. This ASU will replace most existing leasing guidance in U.S. GAAP when it becomes effective. The new standard is effective for fiscal years beginning after December 15, 2018, and interim periods within those years. Early application is permitted. The standard requires the use of a modified retrospective transition method. We are evaluating the effect that ASU 2016-02 will have on our Consolidated Financial Statements and related disclosures, and expect the new guidance to significantly increase the reported assets and liabilities on our Consolidated Balance Sheets.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which amended the existing accounting standards for revenue recognition and requires an entity to recognize the amount of revenue it expects to be entitled to for the transfer of promised goods or services to customers. The ASU and subsequent amendments have been codified as ASC 606, Revenue from Contracts with Customers (“ASC 606”). In July 2015, the FASB deferred the effective date to annual reporting periods beginning after December 15, 2017, and interim reporting periods within those periods. Early adoption is permitted using the original effective date of annual reporting periods beginning after December 15, 2016, and interim reporting periods within those periods. The new guidance may be applied retrospectively to each prior period presented or prospectively with the cumulative effect recognized as of the date of initial adoption. We will not adopt ASC 606 early.

We have performed a comprehensive analysis of our revenue streams and contractual arrangements to identify and quantify the effects of ASC 606 on our consolidated financial statements and are developing new accounting and reporting policies, business and internal control processes and procedures to facilitate adoption of the standard. Because we currently have service contracts that contain a significant financing component that are not currently separately accounted for, we will be required to estimate and record incremental revenue and interest cost associated with these contractual terms. In addition, we will be required to capitalize, and subsequently amortize, commission costs associated with obtaining or fulfilling our customer contracts, which we do not currently defer and amortize. We will also have to comply with new revenue disclosure requirements. We are continuing to review and evaluate underlying contract information that will be used to support new accounting and disclosure requirements under ASC 606 and evaluate other matters that may result from adoption of the standard. We have not yet selected a transition method, as our method of transition may be affected by the CenturyLink Merger, which we expect will be completed in the third quarter of 2017, and subsequent integration activities completed prior to the January 1, 2018 ASC 606 adoption date.

(2) CenturyLink Merger

On October 31, 2016, we entered into an agreement and plan of merger with CenturyLink, Inc., a Louisiana corporation, Wildcat Merger Sub 1 LLC, a Delaware limited liability company and an indirect wholly owned subsidiary of CenturyLink, and WWG Merger Sub LLC, a Delaware limited liability company and an indirect wholly owned subsidiary of CenturyLink, pursuant to which, subject to the

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satisfaction or waiver of the conditions set forth in the Merger Agreement, we will be acquired by CenturyLink in a cash and stock transaction, including the assumption of our debt.

Under the Merger Agreement, at the effective time of the merger of Merger Sub 1 with and into us (the "Initial Merger"), (i) each issued and outstanding share of our common stock, will be converted into 1.4286 shares (the "Stock Consideration") of CenturyLink's common stock par value $1.00 per share and (ii) the right to receive $26.50 in cash (the "Cash Consideration" and, together with the Stock Consideration, the "Merger Consideration"). In addition, the Merger Agreement provides that at the effective time of the CenturyLink Merger, each issued and outstanding restricted stock unit award granted prior to April 1, 2014 and each restricted stock unit award granted to a non-employee member of our Board of Directors will be exchanged for the Merger Consideration. Further, at the effective time of the CenturyLink Merger, each issued and outstanding restricted stock unit award granted on or after April 1, 2014, other than those granted to non-employee members of our Board of Directors, will be assumed and converted automatically into a restricted stock unit award of CenturyLink common stock that will be subject to the same service-based vesting conditions as applicable to such awards prior to the transaction (but not any performance-based vesting conditions, which will be deemed satisfied based on forecasted and adjusted results through the closing of the transaction (as determined by Compensation Committee of our Board of Directors)). The CenturyLink Merger is subject to the receipt of certain regulatory approvals, including expiration or termination of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act, review by the U.S. Federal Communications Commission, certain state regulatory approvals and other customary closing conditions.

The transaction has received approval of CenturyLink's shareholders and our stockholders. 

(3) Earnings Per Share

We compute basic earnings per share by dividing net income for the period by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing the net income for the period by the weighted average number of shares of common stock outstanding during the period and including the dilutive effect of common stock that would be issued assuming exercise of stock-based compensation awards.

The effects of approximately 3 million total restricted stock units ("RSUs") and performance restricted stock units ("PRSUs") outstanding at June 30, 2017 have been included in the computation of diluted earnings per share for the three and six months ended June 30, 2017. Less than 1 million of PRSUs granted in 2016 were excluded from the computation of diluted earnings per share for the three and six months ended June 30, 2017, as they were contingently issuable and no shares would have been issued if these periods were the end of the contingency period. The effect of approximately 3 million total outperform stock appreciation rights ("OSOs"), RSUs and PRSUs outstanding at June 30, 2016 was included in the computation of diluted earnings per share for the three and six months ended June 30, 2016.


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(4) Other Intangible Assets

Other intangible assets as of June 30, 2017 and December 31, 2016 were as follows (dollars in millions):

 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
June 30, 2017
 
 
 
 
 
Finite-Lived Intangible Assets:
 
 
 
 
 
Customer Contracts and Relationships
$
1,973

 
$
(1,205
)
 
$
768

Trademarks
55

 
(55
)
 

Patents and Developed Technology
227

 
(201
)
 
26

 
2,255

 
(1,461
)
 
794

Indefinite-Lived Intangible Assets:
 
 
 
 
 
Trade Name
15

 

 
15

 
$
2,270

 
$
(1,461
)
 
$
809

December 31, 2016
 
 
 
 
 
Finite-Lived Intangible Assets:
 
 
 
 
 
Customer Contracts and Relationships
$
1,973

 
$
(1,113
)
 
$
860

Trademarks
55

 
(55
)
 

Patents and Developed Technology
229

 
(189
)
 
40

 
2,257

 
(1,357
)
 
900

Indefinite-Lived Intangible Assets:
 
 
 
 
 
Trade Name
15

 

 
15

 
$
2,272

 
$
(1,357
)
 
$
915


Finite-lived intangible asset amortization expense was $52 million and $104 million for the three and six months ended June 30, 2017 and $53 million and $106 million for the three and six months ended June 30, 2016.

At June 30, 2017, the weighted average remaining useful lives of our finite-lived intangible assets was 4.4 in total; 4.4 for customer contracts and relationships, and 2.3 for patents and developed technology.

As of June 30, 2017, estimated amortization expense for our finite-lived intangible assets over the next five years is as follows (dollars in millions):

2017 (remaining six months)
$
95

2018
190

2019
179

2020
166

2021
143

2022
21

Thereafter

 
$
794




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(5) Fair Value of Financial Instruments

Our financial instruments consist of cash, cash equivalents, marketable securities, restricted cash and securities, receivables, accounts payable, capital leases, other liabilities and long-term debt (including the current portion). The carrying values of cash and cash equivalents, marketable securities, restricted cash and securities, receivables, accounts payable, capital leases and other liabilities approximated their fair values at June 30, 2017 and December 31, 2016.

GAAP defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements and disclosures for assets and liabilities required to be recorded at fair value, we consider the principal or most advantageous market in which we would transact and consider assumptions that market participants would use when pricing the asset or liability, such as interest and foreign exchange rates, transfer restrictions, and risk of nonperformance.

Fair Value Hierarchy

GAAP establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The fair value measurement of each class of assets and liabilities is dependent upon its categorization within the fair value hierarchy, based upon the lowest level of input that is significant to the fair value measurement of each class of asset and liability. GAAP establishes three levels of inputs that may be used to measure fair value:

Level 1— Unadjusted quoted prices in active markets for identical assets or liabilities.

Level 2— Unadjusted quoted prices for similar assets or liabilities in active markets, or unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability.

Level 3— Unobservable inputs for the asset or liability.

We recognize transfers between levels of the fair value hierarchy as of the end of the reporting period. There were no transfers within the fair value hierarchy during each of the six months ended June 30, 2017 and June 30, 2016.

Marketable Securities

Our securities include U.S. Treasury Bills and commercial paper, which are classified as held to maturity. Held to maturity securities are carried at amortized cost. The contractual maturities of held to maturity securities as of June 30, 2017 were all within one year.



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The table below presents the fair values for our long-term debt as well as the input levels used to determine these fair values as of June 30, 2017 and December 31, 2016:

 
 
 
 
 
 
Fair Value Measurement Using
 
 
Total Carrying Value in Consolidated Balance Sheets
 
Unadjusted Quoted Prices in Active
Markets for Identical Assets or Liabilities (Level 1)
 
Significant Other Observable Inputs (Level 2)
(dollars in millions)
 
June 30,
2017
 
December 31,
2016
 
June 30,
2017
 
December 31,
2016
 
June 30,
2017
 
December 31,
2016
Liabilities Not Recorded at Fair Value in the Financial Statements:
 
 
 
 
 
 
 
 
 
 
 
 
Long-term Debt, including the current portion:
 
 
 
 
 
 
 
 
 
 
 
 
Term Loans
 
$
4,569

 
$
4,566

 
$
4,622

 
$
4,671

 
$

 
$

Senior Notes
 
6,140

 
6,135

 
6,436

 
6,283

 

 

Capital Leases and Other
 
181

 
183

 

 

 
181

 
183

Total Long-term Debt, including the current portion
 
$
10,890

 
$
10,884

 
$
11,058

 
$
10,954

 
$
181

 
$
183


We do not have any assets or liabilities where the fair value is measured using significant unobservable inputs (Level 3).

Term Loans

The fair value of the Term Loans referenced above was approximately $4.6 billion and $4.7 billion at June 30, 2017 and December 31, 2016, respectively. The fair value of each loan is based on quoted prices. Each loan tranche is actively traded. For additional information on the refinancing of the Term Loans, see Note 6 - Long-Term Debt.

Senior Notes

The fair value of the Senior Notes referenced above was approximately $6.4 billion at June 30, 2017 and $6.3 billion at December 31, 2016, respectively, based on quoted prices for identical terms and maturities. Each series of notes is actively traded.

Capital Leases

The fair value of our capital leases is determined by discounting anticipated future cash flows derived from the contractual terms of the obligations and observable market interest and foreign exchange rates.


12


(6) Long-Term Debt

    The following table summarizes our long-term debt (amounts in millions):
 
Date of
 
June 30, 2017
December 31, 2016
 
Issuance/Amendment
Maturity
Interest Payments
Interest Rate
Amount
Amount
Senior Secured Term Loans:
 
 
 
 
 
 
Borrowed by Level 3 Financing, Inc.
Tranche B-III 2019 Term Loan (1)(4)
Aug 2013
Quarterly
LIBOR +3.00%
$

$
815

Tranche B 2020 Term Loan (1)(4)
Oct 2013
Quarterly
LIBOR +3.00%

1,796

Tranche B-II 2022 Term Loan (1)(4)
May 2015
Quarterly
LIBOR +2.75%

2,000

Tranche B 2024 Term Loan (1)(4)
Feb 2017
Feb 2024
Quarterly
LIBOR +2.25%
4,611


Senior Notes:
 
 
 
 
 
 
Issued by Level 3 Financing, Inc.
Floating Rate Senior Notes due 2018 (2)(4)
Nov 2013
Jan 2018
May/Nov
6-Month LIBOR +3.50%
300

300

6.125% Senior Notes due 2021 (2)
Nov 2013
Jan 2021
Apr/Oct
6.125%
640

640

5.375% Senior Notes due 2022 (2)
Aug 2014
Aug 2022
May/Nov
5.375%
1,000

1,000

5.625% Senior Notes due 2023 (2)
Jan 2015
Feb 2023
Jun/Dec
5.625%
500

500

5.125% Senior Notes due 2023 (2)
Apr 2015
May 2023
Mar/Sept
5.125%
700

700

5.375% Senior Notes due 2025 (2)
Apr 2015
May 2025
Mar/Sept
5.375%
800

800

5.375% Senior Notes due 2024 (2)
Nov 2015
Jan 2024
Jan/Jul
5.375%
900

900

5.25% Senior Notes due 2026 (2)
Mar 2016
Mar 2026
Apr/Oct
5.250%
775

775

Issued by Level 3 Communications, Inc.
5.75% Senior Notes due 2022 (3)
Dec 2014
Dec 2022
Mar/Sept
5.750%
600

600

Capital Leases and Other Debt
 
 
 
 
181

183

Total Debt Obligations
 
 
 
 
11,007

11,009

Unamortized discounts
 
 
 
 

(13
)
Unamortized debt issuance costs
 
 
 
 
(117
)
(112
)
Current Portion
 
 
 
 
(306
)
(7
)
Total Long-Term Debt
 
 
 
 
$
10,584

$
10,877


(1) The term loans are secured obligations and guaranteed by Level 3 Communications, Inc. and Level 3 Communications, LLC and certain other subsidiaries.
(2) The notes are fully and unconditionally guaranteed on an unsubordinated unsecured basis by Level 3 Communications, Inc. and Level 3 Communications, LLC.
(3) The notes were not guaranteed by any of Level 3 Communications, Inc.'s subsidiaries.
(4) The Tranche B 2024 Term Loan had an interest rate of 3.466% as of June 30, 2017. All other term loans were refinanced on February 22, 2017 as described below. The Tranche B-III 2019 Term Loan and the Tranche B 2020 Term Loan each had an interest rate of 4.000% as of December 31, 2016. The Tranche B-II 2022 Term Loan had an interest rate of 3.500% as of December 31, 2016. The interest rate on the Tranche B-III 2019 Term Loan and the Tranche B 2020 Term Loan were set with a minimum LIBOR of 1.00%. The interest rate on the Tranche B-II 2022 Term Loan was set with a minimum LIBOR of 0.75% and the interest rate on the Tranche B 2024 Term Loan is set with a minimum LIBOR of zero percent. The Floating Rate Senior Notes due 2018 had an interest rate of 4.939% as of June 30, 2017 and 4.762% as of December 31, 2016.


Senior Secured Term Loans

As of June 30, 2017, Level 3 Financing, Inc., Level 3 Communications, Inc.'s direct wholly owned subsidiary ("Level 3 Financing") had a senior secured credit facility consisting of a $4.611 billion Tranche B Term Loan due 2024.
    
On February 22, 2017, we completed the refinancing of all of our then outstanding $4.611 billion senior secured term loans through the issuance of a new Tranche B 2024 Term Loan in the principal

13


amount of $4.611 billion. The term loans refinanced were our Tranche B-III 2019 Term Loan, Tranche B 2020 Term Loan, and the Tranche B-II 2022 Term Loan. The new Tranche B 2024 Term Loan bears interest at LIBOR plus 2.25 percent, with a zero percent minimum LIBOR, and will mature on February 22, 2024. The Tranche B 2024 Term Loan was priced to lenders at par, with the payment to the lenders at closing of an upfront 25 basis point fee. We recognized a charge of approximately $44 million for modification and extinguishment in the first quarter of 2017 related to this refinancing.

As the new Tranche B 2024 Term Loan represents a new tranche to our existing credit facility, new regulatory approvals are required for Level 3 Communications, LLC and certain other regulated subsidiaries of Level 3 Financing to guarantee and to provide security for the Tranche B 2024 Term Loan. As a result, the guarantees and a portion of the collateral provided by those entities to support the term loans that were refinanced are not available to support the Tranche B 2024 Term Loan unless and until those regulatory approvals are obtained.

Senior Notes

All of the notes pay interest semiannually, and allow for the redemption of the notes at the option of the issuer upon not less than 30 or more than 60 days’ prior notice by paying the greater of 101% of the principal amount or a “make-whole” amount, plus accrued interest. In addition, the notes also have a provision that allows for an additional right of optional redemption using cash proceeds received from the sale of equity securities. For specific details of these features and requirements, including the applicable premiums and timing, refer to the indentures for the respective senior notes in connection with the original issuances.

7% Senior Notes due 2020 and 5.25% Senior Notes due 2026

On March 22, 2016, Level 3 Financing issued $775 million in aggregate principal amount of our 5.25% Senior Notes due 2026 (the “5.25% Senior Notes due 2026”). The 5.25% Senior Notes due 2026 are fully and unconditionally guaranteed on an unsubordinated unsecured basis by Level 3 Communications, Inc. and Level 3 Communications, LLC.

On April 21, 2016, all of the outstanding principal amount of the 7% Senior Notes Due 2020 was redeemed at a redemption price equal to 104.138% of the principal amount, along with accrued and unpaid interest to but excluding the redemption date. To fund the redemption of these notes, Level 3 Financing used the net proceeds, along with cash on hand, from the March 22, 2016 issuance of our 5.25% Senior Notes due 2026. We recognized a charge of approximately $40 million for modification and extinguishment in the second quarter of 2016 related to this refinancing.

Capital Leases

As of June 30, 2017, we had $181 million of capital leases. We lease property, equipment, certain dark fiber facilities and metro fiber under non-cancelable IRU agreements that are accounted for as capital leases. The weighted average interest rate on these capital leases approximated 5.8% as of June 30, 2017.

Covenant Compliance

At June 30, 2017 and December 31, 2016, we were in compliance with the financial covenants on all outstanding debt issuances.


14


Long-Term Debt Maturities

Aggregate future contractual maturities of long-term debt and capital leases (excluding debt issuance costs) were as follows as of June 30, 2017 (dollars in millions):

2017 (remaining six months)
$
4

2018
307

2019
7

2020
8

2021
650

2022
1,610

Thereafter
8,421

 
$
11,007




(7) Accumulated Other Comprehensive Loss

The accumulated balances for each classification of other comprehensive income (loss) were as follows:

(dollars in millions)
 
Net Foreign Currency Translation Adjustment
 
Defined Benefit Pension Plans
 
Total
Balance at December 31, 2015
 
$
(273
)
 
$
(28
)
 
$
(301
)
Other comprehensive income (loss) before reclassifications, net of tax
 
24

 
(1
)
 
23

Amounts reclassified from accumulated other comprehensive loss
 

 

 

Balance at June 30, 2016
 
$
(249
)
 
$
(29
)
 
$
(278
)

Balance at December 31, 2016
 
$
(353
)
 
$
(34
)
 
$
(387
)
Other comprehensive income before reclassifications, net of tax
 
62

 
1

 
63

Amounts reclassified from accumulated other comprehensive loss
 

 
(1
)
 
(1
)
Balance at June 30, 2017
 
$
(291
)

$
(34
)

$
(325
)






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(8) Stock-Based Compensation
The following table summarizes non-cash compensation expense for each of the three and six months ended June 30, 2017 and 2016 (dollars in millions):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Outperform Stock Appreciation Rights
$

 
$
1

 
$

 
$
2

Restricted Stock Units
28

 
13

 
56

 
34

Performance Restricted Stock Units
3

 
10

 
12

 
24

401(k) Match Expense
8

 
8

 
19

 
19

 
39

 
32

 
87

 
79

Capitalized Non-Cash Comp

 
(1
)
 

 
(1
)
Total
$
39

 
$
31

 
$
87

 
$
78


As of June 30, 2017, there were approximately 6 million total restricted stock and performance restricted stock units outstanding.

(9) Segment Information

Operating segments are defined under GAAP as components of an enterprise for which separate financial information is available and evaluated regularly by our chief operating decision maker ("CODM") in deciding how to allocate resources and assess performance. Our reportable segments consist of: 1) North America; 2) Europe, the Middle East and Africa (EMEA); and 3) Latin America. Other separate business interests that are not segments include interest, certain corporate assets and overhead costs, and certain other general and administrative costs that are not allocated to any of the operating segments.

The CODM measures and evaluates segment performance primarily based upon revenue, revenue growth and Adjusted EBITDA. Adjusted EBITDA, as defined by us, is equal to net income from the Consolidated Statements of Income before (1) income tax benefit (expense), (2) total other income (expense), (3) non-cash impairment charges included within selling, general and administrative expenses and network related expenses, (4) depreciation and amortization expense, and (5) non-cash stock-based compensation expense included within selling, general and administrative expenses and network related expenses.

Adjusted EBITDA is not a measurement under GAAP and may not be used in the same way by other companies. Management believes that Adjusted EBITDA is an important part of our internal reporting and is a key measure used by management to evaluate our profitability and operating performance and to make resource allocation decisions. Management believes such measurement is especially important in a capital-intensive industry such as telecommunications. Management also uses Adjusted EBITDA to compare our performance to that of our competitors and to eliminate certain non-cash and non-operating items in order to consistently measure from period to period our ability to fund capital expenditures, fund growth, service debt and determine bonuses.

Adjusted EBITDA excludes non-cash impairment charges and non-cash stock-based compensation expense because of the non-cash nature of these items. Adjusted EBITDA also excludes interest income, interest expense and income tax benefit (expense) because these items are associated with our capitalization and tax structures. Adjusted EBITDA also excludes depreciation and amortization expense because these non-cash expenses reflect the effect of capital investments which management

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believes are better evaluated through cash flow measures. Adjusted EBITDA excludes net other income (expense) because these items are not related to our primary operations.

There are limitations to using non-GAAP financial measures such as Adjusted EBITDA, including the difficulty associated with comparing companies that use similar performance measures whose calculations may differ from our calculations. Additionally, this financial measure does not include certain significant items such as interest income, interest expense, income tax benefit (expense), depreciation and amortization expense, non-cash impairment charges, non-cash stock-based compensation expense, and net other income (expense). Adjusted EBITDA should not be considered a substitute for other measures of financial performance reported in accordance with GAAP.

The following table presents revenue by segment:
 
 
Three Months Ended
 
Six Months Ended
(dollars in millions)
 
June 30, 2017
 
June 30, 2016(1)
 
June 30, 2017
 
June 30, 2016(1)
Core Network Services Revenue:
 
 
 
 
 
 
 
 
North America
 
$
1,607

 
$
1,605

 
$
3,201

 
$
3,206

EMEA
 
176

 
191

 
351

 
381

Latin America
 
182

 
160

 
359

 
315

Total Core Network Services Revenue
 
1,965

 
1,956

 
3,911

 
3,902

 
 
 
 
 
 
 
 
 
Wholesale Voice Services Revenue:
 
 
 
 
 
 
 
 
North America
 
91

 
95

 
189

 
194

EMEA
 
2

 
3

 
5

 
7

Latin America
 
3

 
2

 
4

 
4

Total Wholesale Voice Services Revenue
 
96

 
100

 
198

 
205

 
 
 
 
 
 
 
 
 
Total Revenue
 
$
2,061

 
$
2,056

 
$
4,109

 
$
4,107

(1) The 2016 results have been adjusted to reflect changes made to customer assignments between the wholesale and enterprise channels as of the beginning of 2017.


The following table presents Adjusted EBITDA by segment and reconciles Adjusted EBITDA to net income:
 
 
Three Months Ended
 
Six Months Ended
(dollars in millions)
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Adjusted EBITDA:
 
 
 
 
 
 
 
 
North America
 
$
815

 
$
819

 
$
1,624

 
$
1,631

EMEA
 
69

 
52

 
126

 
106

Latin America
 
77

 
64

 
157

 
138

Unallocated Corporate Expenses
 
(239
)
 
(220
)
 
(480
)
 
(450
)
Adjusted EBITDA
 
722

 
715

 
1,427

 
1,425

Income Tax Expense
 
(69
)
 
(34
)
 
(139
)
 
(124
)
Total Other Expense
 
(130
)
 
(184
)
 
(302
)
 
(328
)
Depreciation and Amortization
 
(330
)
 
(310
)
 
(650
)
 
(611
)
Non-Cash Stock Compensation
 
(39
)
 
(31
)
 
(87
)
 
(78
)
Net Income
 
$
154

 
$
156

 
$
249

 
$
284


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The following table presents capital expenditures by segment and reconciles capital expenditures by segment to total capital expenditures:
 
 
Three Months Ended
 
Six Months Ended
(dollars in millions)
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Capital Expenditures:
 
 
 
 
 
 
 
 
North America
 
$
220

 
$
237

 
$
474

 
$
432

EMEA
 
27

 
40

 
58

 
79

Latin America
 
43

 
51

 
78

 
74

Unallocated Corporate Capital Expenditures
 
38

 
39

 
86

 
79

Total Capital Expenditures
 
$
328

 
$
367

 
$
696

 
$
664


The following table presents total assets by segment:
(dollars in millions)
 
June 30, 2017
 
December 31, 2016
Assets:
 
 
 
 
North America
 
$
21,082

 
$
20,818

EMEA
 
1,739

 
1,639

Latin America
 
2,339

 
2,304

Other
 
127

 
127

Total Assets
 
$
25,287

 
$
24,888



The changes in the carrying amount of goodwill by segment during the six months ended June 30, 2017 were as follows (in millions):
 
 
North America
 
EMEA
 
Latin America
 
Total
Balance at December 31, 2016
$
7,024


$
109

 
$
596

 
$
7,729

  Effect of foreign currency rate change

 
8

 

 
8

Balance at June 30, 2017
$
7,024


$
117

 
$
596

 
$
7,737

 
There were no events or changes in circumstances during the first three and six months of 2017 that indicated the carrying value of goodwill may not be recoverable.
 

(10) Commitments, Contingencies and Other Items

We are subject to various legal proceedings and other contingent liabilities that individually or in the aggregate could materially affect our financial condition, future results of operations or cash flows. Amounts accrued for such contingencies aggregate to $100 million and are included in “Other” current liabilities and “Other Liabilities” in our Consolidated Balance Sheet at June 30, 2017. The establishment of an accrual does not mean that actual funds have been set aside to satisfy a given contingency. Thus, the resolution of a particular contingency for the amount accrued would have no effect on our results of operations but could materially adversely affect our cash flows for the affected period.

We review our accruals at least quarterly and adjust them to reflect the impact of negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular matter. Below is a description of material legal proceedings and other contingencies pending at June 30, 2017. Although we believe we have accrued for these matters in accordance with the accounting guidance for contingencies, contingencies are inherently unpredictable and it is possible that results of operations or cash flows could be materially and adversely affected in any particular period by

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unfavorable developments in, or resolution or disposition of, one or more of these matters. For those contingencies in respect of which we believe it is reasonably possible that a loss may result that is materially in excess of the accrual (if any) established for the matter, we have either provided an estimate of such possible loss or range of loss or included a statement that such an estimate cannot be made. In addition to the contingencies described below, we are party to many other legal proceedings and contingencies, the resolution of which is not expected to materially affect our financial condition or future results of operations beyond the amounts accrued.

Rights-of-Way Litigation

We are party to a number of purported class action lawsuits involving our right to install fiber optic cable network in railroad right-of-ways adjacent to plaintiffs' land. In general, we obtained the rights to construct our networks from railroads, utilities, and others, and have installed our networks along the rights-of-way so granted. Plaintiffs in the purported class actions assert that they are the owners of lands over which the fiber optic cable networks pass, and that the railroads, utilities and others who granted us the right to construct and maintain our network did not have the legal authority to do so. The complaints seek damages on theories of trespass, unjust enrichment and slander of title and property, as well as punitive damages. We have also received, and may in the future receive, claims and demands related to rights-of-way issues similar to the issues in these cases that may be based on similar or different legal theories. We have defeated motions for class certification in a number of these actions but expect that, absent settlement of these actions, plaintiffs in the pending lawsuits will continue to seek certification of statewide or multi-state classes. The only lawsuit in which a class was certified against us, absent an agreed upon settlement, occurred in Koyle, et. al. v. Level 3 Communications, Inc., et. al., a purported two state class action filed in the United States District Court for the District of Idaho. The Koyle lawsuit has been dismissed pursuant to a settlement reached in November 2010 as described further below.

We negotiated a series of class settlements affecting all persons who own or owned land next to or near railroad rights of way in which we have installed our fiber optic cable networks. The United States District Court for the District of Massachusetts in Kingsborough v. Sprint Communications Co. L.P. granted preliminary approval of the proposed settlement; however, on September 10, 2009, the court denied a motion for final approval of the settlement on the basis that the court lacked subject matter jurisdiction and dismissed the case.

In November 2010, we negotiated revised settlement terms for a series of state class settlements affecting all persons who own or owned land next to or near railroad rights of way in which we have installed our fiber optic cable networks. We are currently pursuing presentment of the settlement in applicable jurisdictions. The settlements, affecting current and former landowners, have received final federal court approval in all but one of the applicable states and the parties are actively engaged in, or have completed, the claims process for the vast majority of the applicable states, including payment of claims. We continue to seek approval in the remaining state.

Management believes that we have substantial defenses to the claims asserted in all of these actions and intends to defend them vigorously if a satisfactory settlement is not ultimately approved for all affected landowners.

Peruvian Tax Litigation

Beginning in 2005, one of our Peruvian subsidiaries received a number of assessments for tax, penalties and interest for calendar years 2001 and 2002. Peruvian tax authorities ("SUNAT") took the position that the Peruvian subsidiary incorrectly documented its importations resulting in additional income tax withholding and value-added taxes ("VAT"). The total amount of the asserted claims, including potential interest and penalties, was $26 million, consisting of $3 million for income tax withholding in connection with the import of services for calendar years 2001 and 2002, $7 million for VAT in connection with the import of services for calendar years 2001 and 2002, and $16 million in connection with the

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disallowance of VAT credits for periods beginning in 2005. After taking into account the developments described below, as well as the accrued interest and foreign exchange effects, the total amount of exposure is $17 million at June 30, 2017.

We challenged the tax assessments during 2005 by filing administrative claims before SUNAT. During August 2006 and June 2007, SUNAT rejected our administrative claims, thereby confirming the assessments. Appeals were filed in September 2006 and July 2007 with the Tribunal Fiscal, the highest level of administrative review, which is not part of the Peru judiciary (the "Tribunal"). The 2001 and 2002 assessed withholding tax assessments were resolved in our favor in separate administrative resolutions; however, the penalties with respect to withholding tax remain at issue in the administrative appeals.

In October 2011, the Tribunal issued its administrative resolution with respect to the calendar year 2002 tax period regarding VAT, associated penalties and penalties associated with withholding taxes, deciding the central issue underlying the assessments in the government's favor, while confirming the assessment in part and denying a portion of the assessment on procedural grounds. We appealed the Tribunal's October 2011 administrative resolutions to the judicial court in Peru. In September 2014, the first judicial court rendered a decision largely in our favor on the central issue underlying the assessments. SUNAT appealed the court’s decision to the next judicial level. The court of appeal remanded the case to the first judicial court for further development of the facts and legal analysis supporting its decision. In April 2016, the first judicial level rendered a decision in our favor on the central issue underlying the assessments. SUNAT has appealed the substantive issue to the next judicial level. We also appealed certain procedural points. In May 2017, the court of appeal issued a decision reversing the favorable decision reached by the first judicial level. In June 2017, we filed an appeal of the decision to the Supreme Court of Justice, the final judicial level.     

In October 2013, the Tribunal notified us of its July 2013 administrative resolution with respect to the calendar year 2001 tax period regarding VAT, associated penalties and penalties associated with withholding taxes, determining the central issue underlying the assessments in the government's favor, while confirming the assessment in part and denying a portion of the assessment on procedural grounds. We appealed the Tribunal's July 2013 administrative resolutions to the judicial court in Peru. In April 2015, the first judicial court rendered a decision largely in SUNAT’s favor on the central issue underlying the assessments. We appealed the court’s decision to the next judicial level. In April 2016, the court of appeal rendered a decision that declared null the April 2015 decision and remanded the case to the first judicial court for further development of the facts and legal analysis supporting its decision. In June 2017, the first judicial court issued a ruling against us primarily based on the same grounds from the original decision. In June 2017, we filed an appeal with the court of appeal.

In December 2013, SUNAT initiated an audit of calendar year 2001. In June 2014, we were served with SUNAT’s assessments of the 2001 VAT credits declared null by the Tribunal and the corresponding fine. In July 2014, we challenged these assessments by filing administrative claims before SUNAT. In January 2015, SUNAT rejected the administrative claims, thereby confirming the assessments. We filed an appeal with the Tribunal in February 2015. In May 2015, the Tribunal notified us of its administrative resolution declaring the assessments and corresponding fines null. The time for SUNAT to appeal this resolution has closed. Under local practice, notification of an appeal can take several months. Counsel confirmed in the first quarter of 2016 that SUNAT has not filed an appeal to the resolution. Nevertheless, SUNAT retains the right to reissue the assessments declared null or start a new audit. However, we are under no obligation to provide additional information and any fine issued by SUNAT based on the same information that it has already used in the past would be declared null. Accordingly, in March 2016, we released an accrual of approximately $15 million for an assessment and associated interest.

In addition, based on a change in legal interpretation by the Peruvian judicial courts, the statute of limitations with respect to the 2001 fines has expired. Accordingly, in the fourth quarter of 2016, we released an accrual of approximately $11 million of fines and associated interest.

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Employee Severance and Contractor Termination Disputes

A number of former employees and third-party contractors have asserted a variety of claims in litigation against certain of our Latin American subsidiaries for separation pay, severance, commissions, pension benefits, unpaid vacation pay, breach of employment contracts, unpaid performance bonuses, property damages, moral damages and related statutory penalties, fines, costs and expenses (including accrued interest, attorneys fees and statutorily mandated inflation adjustments) as a result of their separation from us or termination of service relationships. We are vigorously defending ourselves against the asserted claims, which aggregate to approximately $33 million at June 30, 2017.

Brazilian Tax Claims

In December 2004, March 2009, April 2009 and July 2014, the São Paulo state tax authorities issued tax assessments against one of our Brazilian subsidiaries for the Tax on Distribution of Goods and Services (“ICMS”) with respect to revenue from leasing movable properties (in the case of the December 2004, March 2009 and July 2014 assessments) and revenue from the provision of Internet access services (in the case of the April 2009 and July 2014 assessments), by treating such activities as the provision of communications services, to which the ICMS tax applies. During the third quarter of 2014, we released an accrual of $6 million for tax, penalty and associated interest corresponding to the ICMS applicable on the provision of Internet access services due to the expiration of the statute of limitations for the January 2008 to June 2009 tax periods. In September 2002, July 2009 and May 2012, the Rio de Janeiro state tax authorities issued tax assessments to the same Brazilian subsidiary on similar issues. We have filed objections to these assessments, arguing that the lease of assets and the provision of Internet access are not communication services subject to ICMS. The objections to the September 2002, December 2004 and March 2009 assessments were rejected by the respective state administrative courts, and we have appealed those decisions to the judicial courts. In October 2012 and June 2014, we received favorable rulings from the lower court on the December 2004 and March 2009 assessments regarding equipment leasing, but those rulings are subject to appeal by the state. No ruling has been obtained with respect to the September 2002 assessment. The objections to the April and July 2009 and May 2012 assessments are still pending final administrative decisions. The July 2014 assessment was confirmed during the fourth quarter of 2014 at the first administrative level and we appealed this decision to the second administrative level. During the fourth quarter of 2014, we entered into an amnesty with the Rio de Janeiro state tax authorities with respect to potential ICMS liability for the 2008 tax period. As a result, we paid $5 million and released an accrual of $3 million of tax corresponding to the ICMS applicable on the provision of Internet access services in the fourth quarter of 2014.

We are vigorously contesting all such assessments in both states and, in particular, view the assessment of ICMS on revenue from leasing movable properties to be without merit. Nevertheless, we believe it is reasonably possible that these assessments could result in a loss of up to $50 million at June 30, 2017 in excess of the accruals established for these matters.

Letters of Credit

It is customary for us to use various financial instruments in the normal course of business. These instruments include letters of credit. Letters of credit are conditional commitments issued on our behalf in accordance with specified terms and conditions. As of June 30, 2017 and December 31, 2016, we had outstanding letters of credit or other similar obligations of approximately $35 million and $39 million, respectively, of which $30 million and $33 million are collateralized by cash that is reflected on the Consolidated Balance Sheets as restricted cash and securities. We do not believe exposure to loss related to our letters of credit is material.



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Table of Contents


(11) Condensed Consolidating Financial Information

Level 3 Financing, Inc., a wholly owned subsidiary, has issued Senior Notes that are unsecured obligations of Level 3 Financing, Inc.; however, they are also fully and unconditionally and jointly and severally guaranteed on an unsecured senior basis by Level 3 Communications, Inc. and Level 3 Communications, LLC.

In conjunction with the registration of the Level 3 Financing, Inc. Senior Notes, the accompanying condensed consolidating financial information has been prepared and presented pursuant to SEC Regulation S-X Rule 3-10 “Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered.”

The operating activities of the separate legal entities included in our Consolidated Financial Statements are interdependent. The accompanying condensed consolidating financial information presents the statements of comprehensive income, balance sheets and statements of cash flows of each legal entity and, on an aggregate basis, the other non-guarantor subsidiaries based on amounts incurred by such entities, and is not intended to present the operating results of those legal entities on a stand-alone basis. Level 3 Communications, LLC leases equipment and certain facilities from other wholly owned subsidiaries of Level 3 Communications, Inc. These transactions are eliminated in our consolidated results.




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Condensed Consolidating Statements of Comprehensive Income (Loss)
Three Months Ended June 30, 2017

 
Level 3 Communications, Inc.
 
Level 3 Financing, Inc.
 
Level 3 Communications, LLC
 
Other Non-Guarantor Subsidiaries
 
Eliminations
 
Total
 
(dollars in millions)
Revenue
$

 
$

 
$
933

 
$
1,174

 
$
(46
)
 
$
2,061

Costs and Expense:
 
 
 
 
 
 
 
 
 
 
 
Network Access Costs

 

 
339

 
382

 
(46
)
 
675

Network Related Expenses

 

 
246

 
91

 

 
337

Depreciation and Amortization

 

 
109

 
221

 

 
330

Selling, General and Administrative Expenses
1

 
1

 
294

 
70

 

 
366

Total Costs and Expenses
1

 
1

 
988

 
764

 
(46
)
 
1,708

Operating Income (Loss)
(1
)
 
(1
)
 
(55
)
 
410

 

 
353

Other Income (Expense):
 
 
 
 
 
 
 
 
 
 
 
Interest income

 

 
3

 

 

 
3

Interest expense
(9
)
 
(117
)
 
(1
)
 
(5
)
 

 
(132
)
Interest income (expense) affiliates, net
378

 
567

 
(868
)
 
(77
)
 

 

Equity in net earnings (losses) of subsidiaries
(216
)
 
(632
)
 
200

 

 
648

 

Other, net

 

 
(1
)
 

 

 
(1
)
Total Other Income (Expense)
153

 
(182
)
 
(667
)
 
(82
)
 
648

 
(130
)
Income (Loss) before Income Taxes
152

 
(183
)
 
(722
)
 
328

 
648

 
223

Income Tax Benefit (Expense)
2

 
(33
)
 
(1
)
 
(37
)
 

 
(69
)
Net Income (Loss)
154

 
(216
)
 
(723
)
 
291

 
648

 
154

Other Comprehensive Income (Loss), Net of Income Taxes
41

 

 

 
41

 
(41
)
 
41

Comprehensive Income (Loss)
$
195

 
$
(216
)
 
$
(723
)
 
$
332

 
$
607

 
$
195






























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Condensed Consolidating Statements of Comprehensive Income (Loss)
Six Months Ended June 30, 2017

 
Level 3 Communications, Inc.
 
Level 3 Financing, Inc.
 
Level 3 Communications, LLC
 
Other Non-Guarantor Subsidiaries
 
Eliminations
 
Total
 
(dollars in millions)
Revenue
$

 
$

 
$
1,853

 
$
2,331

 
$
(75
)
 
$
4,109

Costs and Expense:
 
 
 
 
 
 
 
 
 
 
 
Network Access Costs

 

 
662

 
779

 
(75
)
 
1,366

Network Related Expenses

 

 
489

 
184

 

 
673

Depreciation and Amortization

 

 
213

 
437

 

 
650

Selling, General and Administrative Expenses
2

 
2

 
571

 
155

 

 
730

Total Costs and Expenses
2

 
2

 
1,935

 
1,555

 
(75
)
 
3,419

Operating Income (Loss)
(2
)
 
(2
)
 
(82
)
 
776

 

 
690

Other Income (Expense):
 
 
 
 
 
 
 
 
 
 
 
Interest income

 

 
5

 

 

 
5

Interest expense
(18
)
 
(237
)
 
(2
)
 
(9
)
 

 
(266
)
Interest income (expense) affiliates, net
755

 
1,141

 
(1,737
)
 
(159
)
 

 

Equity in net earnings (losses) of subsidiaries
(491
)
 
(1,278
)
 
403

 

 
1,366

 

Other, net

 
(44
)
 
4

 
(1
)
 

 
(41
)
Total Other Income (Expense)
246

 
(418
)
 
(1,327
)
 
(169
)
 
1,366

 
(302
)
Income (Loss) before Income Taxes
244

 
(420
)
 
(1,409
)
 
607

 
1,366

 
388

Income Tax Benefit (Expense)
5

 
(71
)
 
(1
)
 
(72
)
 

 
(139
)
Net Income (Loss)
249

 
(491
)
 
(1,410
)
 
535

 
1,366

 
249

Other Comprehensive Income (Loss), Net of Income Taxes
62

 

 

 
62

 
(62
)
 
62

Comprehensive Income (Loss)
$
311

 
$
(491
)
 
$
(1,410
)
 
$
597

 
$
1,304

 
$
311



24


Table of Contents




Condensed Consolidating Statements of Comprehensive Income (Loss)
Three Months Ended June 30, 2016

 
Level 3 Communications, Inc.
 
Level 3 Financing, Inc.
 
Level 3 Communications, LLC
 
Other Non-Guarantor Subsidiaries
 
Eliminations
 
Total
 
(dollars in millions)
Revenue
$

 
$

 
$
879

 
$
1,211

 
$
(34
)
 
$
2,056

Costs and Expense:
 
 
 
 
 
 
 
 
 
 
 
Network Access Costs

 

 
315

 
395

 
(34
)
 
676

Network Related Expenses

 

 
237

 
102

 

 
339

Depreciation and Amortization

 

 
92

 
218

 

 
310

Selling, General and Administrative Expenses
1

 
2

 
263

 
91

 

 
357

Total Costs and Expenses
1

 
2

 
907

 
806

 
(34
)
 
1,682

Operating (Loss) Income
(1
)
 
(2
)
 
(28
)
 
405

 

 
374

Other Income (Expense):
 
 
 
 
 
 
 
 
 
 
 
Interest income

 

 
1

 

 

 
1

Interest expense
(9
)
 
(128
)
 

 
(3
)
 

 
(140
)
Interest income (expense) affiliates, net
343

 
528

 
(802
)
 
(69
)
 

 

Equity in net earnings (losses) of subsidiaries
(187
)
 
(489
)
 
201

 

 
475

 

Other, net

 
(39
)
 
1

 
(7
)
 

 
(45
)
Total Other Income (Expense)
147

 
(128
)
 
(599
)
 
(79
)
 
475

 
(184
)
Income (Loss) before Income Taxes
146

 
(130
)
 
(627
)
 
326

 
475

 
190

Income Tax Expense
3

 
(50
)
 
(1
)
 
14

 

 
(34
)
Net Income (Loss)
149

 
(180
)
 
(628
)
 
340

 
475

 
156

Other Comprehensive Income (Loss), Net of Income Taxes
(22
)
 

 

 
(22
)
 
22

 
(22
)
Comprehensive Income (Loss)
$
127

 
$
(180
)
 
$
(628
)
 
$
318

 
$
497

 
$
134































25


Table of Contents


Condensed Consolidating Statements of Comprehensive Income (Loss)
Six Months Ended June 30, 2016

 
Level 3 Communications, Inc.
 
Level 3 Financing, Inc.
 
Level 3 Communications, LLC
 
Other Non-Guarantor Subsidiaries
 
Eliminations
 
Total
 
(dollars in millions)
Revenue
$

 
$

 
$
1,745

 
$
2,430

 
$
(68
)
 
$
4,107

Costs and Expense:
 
Network Access Costs

 

 
635

 
803

 
(68
)
 
1,370

Network Related Expenses

 

 
474

 
203

 

 
677

Depreciation and Amortization

 

 
180

 
431

 

 
611

Selling, General and Administrative Expenses
2

 
3

 
513

 
195

 

 
713

Total Costs and Expenses
2

 
3

 
1,802

 
1,632

 
(68
)
 
3,371

Operating (Loss) Income
(2
)
 
(3
)
 
(57
)
 
798

 

 
736

Other Income (Expense):
 
 
 
 
 
 
 
 
 
 
 
Interest income

 

 
1

 
1

 

 
2

Interest expense
(18
)
 
(256
)
 
(1
)
 

 

 
(275
)
Interest income (expense) affiliates, net
685

 
1,059

 
(1,603
)
 
(141
)
 

 

Equity in net earnings (losses) of subsidiaries
(399
)
 
(1,030
)
 
400

 

 
1,029

 

Other, net

 
(39
)
 
3

 
(19
)
 

 
(55
)
Total Other Income (Expense)
268

 
(266
)
 
(1,200
)
 
(159
)
 
1,029

 
(328
)
Income (Loss) before Income Taxes
266

 
(269
)
 
(1,257
)
 
639

 
1,029

 
408

Income Tax Expense
7

 
(119
)
 
(2
)
 
(10
)
 

 
(124
)
Net Income (Loss)
273

 
(388
)
 
(1,259
)
 
629

 
1,029

 
284

Other Comprehensive Income (Loss), Net of Income Taxes
23

 

 

 
23

 
(23
)
 
23

Comprehensive Income (Loss)
$
296

 
$
(388
)
 
$
(1,259
)
 
$
652

 
$
1,006

 
$
307




26


Table of Contents


Condensed Consolidating Balance Sheets
June 30, 2017

 
Level 3 Communications, Inc.
 
Level 3 Financing, Inc.
 
Level 3 Communications, LLC