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The following is an excerpt from a S-4/A SEC Filing, filed by ZAYO GROUP LLC on 11/8/2010.
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ZAYO GROUP LLC - S-4/A - 20101108 - MANAGEMENTS_DISCUSSION

 
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
You should read the following discussion together with our audited consolidated financial statements and the related notes as of June 30, 2010 and 2009 and for the years ended June 30, 2010, 2009, and 2008. Such financial statements are included in this prospectus beginning on page F-1. Below is a discussion of our financial condition and results of operations as at the end of and for each of such periods.
 
Some of the information set forth below and elsewhere in this prospectus includes forward-looking statements that involve risks and uncertainties. See “Forward-Looking Statements.”
 
Overview
 
Introduction
 
We are a provider of Bandwidth Infrastructure and network-neutral colocation and interconnection services, which are key components of telecommunications and Internet infrastructure services. These services enable our customers to manage, operate and scale their telecommunications and data networks and data center related operations. We provide our Bandwidth Infrastructure services over our dense regional and metropolitan fiber networks, enabling our customers to transport data, voice, video, and Internet traffic, as well as to interconnect their networks. Our Bandwidth Infrastructure services are primarily used by wireless service providers, carriers and other communications service providers, media and content companies, and other bandwidth-intensive enterprises. We typically provide our lit Bandwidth Infrastructure services for a fixed-rate monthly recurring fee under long-term contracts, which are usually three to five years in length (and typically seven to ten years for fiber-to-the-tower services). Our dark-fiber contracts are generally longer term in nature, up to 20 years and in a few cases longer. Our network-neutral colocation and interconnection services facilitate the exchange of voice, video, data and Internet traffic between multiple third-party networks.
 
Our fiber networks span over 22,000 route miles, serve 150 geographic markets in the United States, and connect to over 3,300 buildings, including 1,085 cellular towers, allowing us to provide our Bandwidth Infrastructure services to our customers over redundant fiber facilities between key customer locations. The majority of the markets that we serve and buildings to which we connect have few other networks capable of providing similar Bandwidth Infrastructure services, which we believe provides us with a sustainable competitive advantage in these markets. As a result, we believe that the services we provide our customers would be difficult to replicate in a cost- and time-efficient manner. We provide our network-neutral colocation and interconnection services utilizing our own data centers located within carrier hotels in the important gateway markets of New York and New Jersey. We currently manage over 2,600 interconnections, enabling our customers to directly connect their discrete networks with each other. See “Business.”
 
We are a wholly-owned subsidiary of Holdings, which is in turn wholly owned by CII, a Delaware limited liability company. As described in more detail below, certain equity holders of CII have committed to make further equity contributions to CII. See “Principal Equity Holders.”
 
Our Business Units
 
We are organized into three autonomous business units: Zayo Bandwidth, zColo and Zayo Enterprise Networks. Each business unit is structured to provide sales, delivery, and customer support for its specific telecom and Internet infrastructure services.
 
Zayo Bandwidth.   Through our Zayo Bandwidth unit, we provide Bandwidth Infrastructure services over our metropolitan and regional fiber networks. These services are primarily lit bandwidth, meaning that we use optronics to “light” the fiber, and consist of private line, wavelength and Ethernet services. Our target customers within this unit are primarily wireless service providers, telecommunications service providers (including ILECs, IXCs, RLECs, CLECs, and foreign carriers), media and content companies (including cable and satellite video providers), and other Internet-centric businesses that require an aggregate minimum of 10 Gbps of bandwidth across their networks.


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zColo.   Through our zColo unit, we provide network-neutral colocation and interconnection services in three major carrier hotels in the New York metropolitan area (60 Hudson Street and 111 8th Avenue in New York, New York, and 165 Halsey Street in Newark, New Jersey) and in facilities located in Chicago, Illinois; Los Angeles, California and Nashville, Tennessee. In addition, we are the exclusive operator of the Meet-Me Room at 60 Hudson Street, which is one of the most important carrier hotels in the United States with approximately 200 global networks interconnecting within this facility. Our zColo data centers house and power Internet and private network equipment in secure, environmentally-controlled locations that our customers use to aggregate and distribute data, voice, Internet, and video traffic. Throughout two of the three facilities we operate intra-building interconnect networks that, along with the Meet-Me Room at 60 Hudson Street, are utilized by our customers to efficiently and cost-effectively interconnect with other Internet, data, video, voice, and wireless networks.
 
Zayo Enterprise Networks.   Through our Zayo Enterprise Networks unit, we provide Bandwidth Infrastructure, enterprise IP, and other managed data and telecommunications services to customers who require fiber-based bandwidth solutions such as healthcare, financial, education, technology, and media and content companies, as well as schools, hospitals, municipalities and other governmental or semi-governmental entities. We operate exclusively in areas where we have fiber networks and primarily focus our sales efforts on customers who have at least 100 Mbps of bandwidth needs and, consequently, produce sufficient monthly recurring revenue potential to justify the capital investment required to connect their buildings to our fiber networks. The operations of our Zayo Enterprise Networks unit cover over 50% of our existing network footprint. We will continue to expand our market reach by adding new buildings to our fiber networks when we have entered into a contract that justifies the capital expenditure.
 
Recent Developments
 
Acquisition of AGL Networks
 
On July 1, 2010, we acquired 100% of the equity of AGL Networks from its parent, AGL Resources Inc., and changed AGL Networks’ name to Zayo Fiber Solutions, LLC. We paid the purchase price of approximately $73.7 million with cash on hand. AGL Networks’ assets were comprised of dense, high-fiber-count networks totaling 786 (761 of which are incremental to our existing footprint) route miles and over 190,000 fiber miles, and included 289 (281 incremental) on-net buildings across the metropolitan markets of Atlanta, Georgia, Charlotte, North Carolina, and Phoenix, Arizona. AGL Networks generated all of its revenue from providing dark-fiber related services to both wholesale and enterprise customers. Following our acquisition, we transferred to Zayo Fiber Solutions all of the dark-fiber customer contracts of Zayo Bandwidth and Zayo Enterprise Networks. For the year ended June 30, 2010, AGL Networks generated $25.2 million in revenue and $14.0 million in Adjusted EBITDA. Such results have not been subjected, on a pro forma basis or otherwise, to the adjustments that will be required under purchase accounting when we prepare our consolidated financial statements for future periods. See “Presentation of Financial and Statistical Information.” The former AGL Networks business (now within Zayo Fiber Solutions) often involves irregular, sometimes large, revenues associated with customer-related network construction projects. For the year ended June 30, 2010, AGL Networks’ results of operations included approximately $6.8 million of revenues related to such network construction projects that were generally non-recurring in nature.
 
The purchase accounting adjustments that we will be required to make with regard to our acquisition of AGL Networks will principally include a reduction to fair value of the AGL Networks deferred revenue liabilities which appear on its June 30, 2010 balance sheet, as well as other fair value adjustments to certain assets and liabilities of AGL Networks. As a result of such adjustments, the amount of such deferred revenue we recognize in future periods may decrease and depreciation and amortization expense associated with the assets we acquired may increase, thereby reducing our Adjusted EBITDA and our consolidated net income in those future periods. We have included elsewhere in the prospectus selected unaudited pro forma financial information, which is intended to give pro forma effect to our acquisition of AGL Networks, and certain other events, as if they had occurred at the beginning of Fiscal 2010.
 
In connection with the AGL Networks acquisition, the Company established a fourth business unit on July 1, 2010 — Zayo Fiber Solutions. Because the acquisition occurred after the end of Fiscal 2010, Zayo Fiber Solutions did not generate any revenue for our fiscal year ended June 30, 2010. The assets of AGL Networks complement our


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existing dark-fiber services, which had previously been provided by Zayo Enterprise Networks and Zayo Bandwidth. After the acquisition, we transferred those existing dark-fiber customer contracts to our Zayo Fiber Solutions unit, and intend to leverage a portion our pre-existing fiber network to provide dark-fiber solution offerings.
 
Through our Zayo Fiber Solutions unit, we provide dark-fiber and related services primarily on our existing fiber footprint. We lease dark-fiber pairs to our customers and, as part of our service offering, we manage and maintain the underlying fiber network for the customer. Our customers light the fiber using their own optronics, and as such, we do not manage the bandwidth that the customer receives. This allows the customer to manage bandwidth on their own metro and long haul networks according to their specific business needs. Zayo Fiber Solutions’ customers include carriers, ISPs, wireless service providers, major media and content companies, large enterprises, and other companies that have the expertise to run their own fiber optic networks. We market and sell dark-fiber-related services under long-term contracts (up to 20 years and in a few cases longer); our customers generally pay us on a monthly recurring basis for these services. From time to time we construct and maintain greenfield networks for our customers, for which we are generally paid in advance for the construction component.
 
Acquisition of American Fiber Systems
 
On October 1, 2010, we acquired American Fiber Systems for a purchase price of $114.5 million, comprising a cash payment of $110.0 million and the issuance of a $4.5 million unsecured promissory note to the seller due in 2012. The merger was effected through a merger between American Fiber Systems and a special purpose vehicle created for the merger. The purchase price was based upon the valuation of both the business and assets directly owned by American Fiber Systems and the ownership interest in US Carrier, held by American Fiber Systems, Inc., a subsidiary of American Fiber Systems, and which we estimate the fair value to be $15.0 million. American Fiber Systems is a provider of Bandwidth Infrastructure services in nine metropolitan markets: Atlanta, Georgia, Boise, Idaho, Cleveland, Ohio, Kansas City, Missouri, Las Vegas, Nevada, Minneapolis, Minnesota, Nashville, Tennessee, Reno, Nevada and Salt Lake City, Utah. American Fiber Systems’ services and customers are the same or similar to those of Zayo Bandwidth, Zayo Enterprise Networks, and Zayo Fiber Solutions and, as a result, its contracts and assets will be assigned to the appropriate business units in order to retain Zayo’s current operating structure. American Fiber Systems owns and operates approximately 1,200 route miles (about 1,000 of which are incremental to our existing footprint) and approximately 160,000 fiber miles of fiber networks and has over 600 incremental on-net buildings in these markets.
 
The purchase accounting adjustments that we will be required to make with regard to our acquisition of American Fiber Systems will principally include a reduction to the fair value of the American Fiber Systems deferred revenue liabilities which appear on its September 30, 2010 balance sheet, as well as other fair value adjustments to certain assets and liabilities of American Fiber Systems. As a result of such adjustments, the amount of such deferred revenue we recognize in future periods may decrease and depreciation and amortization expense associated with the assets we acquired may increase, thereby reducing our Adjusted EBITDA and our consolidated net income in those future periods. The pro forma financial information included in the in the selected unaudited pro forma financial information section and throughout the prospectus does not give pro forma effect to our acquisition of AGL Networks.
 
Acquisition of Dolphini Assets
 
On September 20, 2010, zColo acquired certain colocation assets in Nashville, Tennessee of Dolphini Corporation for a cash purchase price of $0.2 million. In conjunction with the asset purchase, zColo also assumed the related customer and vendor contracts.
 
Broadband Stimulus Awards
 
In 2010, we have been an active participant in federal broadband stimulus projects created through the American Recovery and Reinvestment Act. To date, we have been awarded, as a direct recipient, federal stimulus funds for two projects by the National Telecommunication and Information Administration. One of these awards was announced after June 30, 2010. The projects involve the construction, ownership, and operation of fiber


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networks for the purpose of providing broadband services to governmental and educational institutions, as well as underserved, and usually rural, communities. As part of the award, the federal government funds a large portion of the construction and development costs. On the two projects awarded to us to date, the stimulus funding will cover, on average, approximately 77% of the total expected cost of the projects. Commitments by other third parties will provide additional funding representing approximately 10% of the total cost of the projects. Both of these projects allow for our ownership or use of the network for other commercial purposes, including the sale of our Bandwidth Infrastructure services to new and existing customers. The details of the two awards are as follows:
 
  •  In February 2010, Zayo Bandwidth, as the direct recipient, was awarded $25.1 million in funding to construct 626 miles of fiber network connecting 21 community colleges in Indiana.
 
  •  In July 2010, Zayo Bandwidth, as the direct recipient, was awarded a $13.4 million grant to construct 286 miles of fiber network in Anoka County, Minnesota, outside of Minneapolis.
 
In addition, there are three further stimulus applications, pending review or finalization, in which we may participate as a sub recipient, if successful.
 
Factors Affecting Our Results of Operations
 
Business Acquisitions
 
We were founded in 2007 in order to take advantage of the favorable Internet, data and wireless growth trends driving the demand for Bandwidth Infrastructure services. These trends have continued in the years since our founding, despite volatile economic conditions, and we believe that we are well-positioned to continue to capitalize on those trends. We have built our network and services through 16 acquisitions and asset purchases for an aggregate purchase consideration (including assumed debt) of $565.5 million (after deducting our acquisition cost for Onvoy Voice Services, a business unit operated by our subsidiary Onvoy, which we spun-off during Fiscal 2010).
 
During Fiscal 2008, we acquired all of the outstanding equity interests of Memphis Networx, LLC (“Memphis Networx”), PPL Telecom, LLC (“PPL Telecom”), Indiana Fiber Works, LLC (“Indiana Fiber Works”), Citynet Fiber Network, LLC (“Citynet Fiber Networks”) and all of the outstanding shares of common stock of Onvoy, Voicepipe Communications, Inc. (“Voicepipe”) and Northwest Telephone, Inc. (“Northwest Telephone”).
 
PPL Telecom, our predecessor, and the first company for which we entered into an acquisition agreement, was one of the largest acquisitions we made in Fiscal 2008. The PPL Telecom assets and legacy business are included in the Zayo Bandwidth business unit. Similarly, Onvoy was another of the most significant acquisitions in Fiscal 2008. Other than Onvoy Voice Services, which was one of the businesses included within Onvoy (and which we have spun-out of our group of companies), the majority of the Onvoy assets and businesses were added to the Zayo Bandwidth and Zayo Enterprise Networks business units. Citynet Fiber Networks was another of the more significant acquisitions in Fiscal 2008. The assets and business of Citynet Fiber Networks were added to the Zayo Bandwidth business unit.
 
During Fiscal 2009, we purchased all of the outstanding equity interests of Columbia Fiber Solutions LLC (“Columbia Fiber Solutions”), and all of the outstanding shares of common stock of Northwest Telephone, Inc. CA LLC (“Northwest Telephone California”). In addition, during this period we acquired certain telecom assets from CenturyTel (“CTel Tri-State Markets”), Citynet Holdings LLC (“Citynet Holdings Assets”) and from the Adesta Secured Creditors Trust (“Adesta Assets”).
 
We accounted for each of our acquisitions during Fiscal 2008 and Fiscal 2009 using the purchase method of accounting, with the assets acquired and liabilities assumed being recorded at estimated fair values.
 
During the quarter ended September 30, 2009, we completed our acquisition of all of the outstanding shares of common stock of FiberNet. We accounted for the FiberNet acquisition using the purchase method of accounting, with the assets acquired and liabilities recorded at estimated fair values. In conformity with applicable accounting standards effective for Fiscal 2010 that replaced the prior standards, third-party costs related to the acquisition were expensed rather than capitalized and the gain on bargain purchase recognized in earnings. You should also review our “Selected Unaudited Pro Forma Condensed Financial Information” which has been prepared to reflect, among


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other things, the pro forma effect of the inclusion of FiberNet in our results of operations for Fiscal 2010, as if it had been included throughout the entire period.
 
We formed our zColo business unit from a portion of the legacy FiberNet business, and thus that business unit is only included in our financial condition as of, and our results of operations for, the year ended June 30, 2010. The remaining portion of the legacy FiberNet business was added to our existing Zayo Bandwidth business unit.
 
We completed each of the acquisitions described above, with the exception of Voicepipe, with cash raised through combinations of equity and debt capital. We acquired Voicepipe from certain existing CII equity holders in exchange for CII preferred units.
 
The table below summarizes the dates and purchase prices (which includes assumption of debt and capital leases) of these acquisitions and asset purchases.
 
                 
Acquisition
 
Date
    Acquisition Cost  
          (In thousands)  
 
Memphis Networx
    July 31, 2007     $ 9,789  
PPL Telecom
    August 24, 2007       56,734  
Indiana Fiber Works
    September 28, 2007       23,134  
Onvoy
    November 7, 2007       77,167  
Voicepipe
    November 7, 2007       3,250  
Citynet Fiber Networks
    February 15, 2008       102,183  
Northwest Telephone
    May 30, 2008       6,897  
CenturyTel Tri-State Markets
    July 22, 2008       2,700  
Columbia Fiber Solutions
    September 30, 2008       12,161  
CityNet Holdings Assets
    September 30, 2008       3,350  
Adesta Assets
    September 30, 2008       6,430  
Northwest Telephone California
    May 26, 2009       15  
FiberNet
    September 9, 2009       104,083  
AGL Networks
    July 1, 2010       73,666  
Dolphini Assets
    September 20, 2010       235  
American Fiber Systems
    October 1, 2010       114,500  
Less portion of Onvoy costs related to Onvoy Voice Services
          (30,772 )
                 
Total
          $ 565,522  
                 
 
In addition to the acquisitions above, we have also entered a definitive agreement to acquire American Fiber Systems. See “— Overview — Recent Developments.”
 
Onvoy Spin-Off
 
In addition to the three business units mentioned above, we previously had another business unit, Onvoy Voice Services, which was engaged in the wholesale voice services segment of the telecommunications industry and was operated by one of our subsidiaries, Onvoy. After our acquisition of Onvoy, we transferred the non-Onvoy Voice Services assets and businesses within Onvoy to our Zayo Bandwidth and Zayo Enterprise Networks business units. During Fiscal 2010, we determined that the services provided by Onvoy Voice Services did not fit within our business model of providing telecom and Internet infrastructure services. On March 12, 2010 we distributed all of the shares of common stock of Onvoy to Holdings. Consistent with the discontinued operations reporting provisions of FASB ASC 280-20, Discontinued Operations, we determined that we had discontinued all significant cash flows and continuing involvement with respect to the Onvoy operations effective March 12, 2010. Therefore, for the periods presented the results of the operations of Onvoy have been aggregated and are presented in a single caption entitled “Earnings from discontinued operations, net of income taxes” on the accompanying consolidated statements of operations. The Company has not allocated any general corporate overhead to amounts presented in


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discontinued operations, nor has it elected to allocate interest costs. Assets and liabilities associated with Onvoy have been segregated from continuing operations and presented as assets and liabilities of discontinued operations on the accompanying June 30, 2009 consolidated balance sheet. All discussions contained in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” relate only to our results of operations from our continuing operations.
 
Substantial Capital Expenditures
 
In the years ended June 30, 2010, 2009, and 2008, we invested $59.8 million, $62.1 million, and $22.7 million, respectively, in capital expenditures related to property, plant and equipment to expand our fiber network, principally in connection with new customer contracts. We expect to continue to make significant capital expenditures in future periods.
 
As a result of the growth of our business from the acquisitions described above, as well as from such capital expenditures, our results of operations for the respective periods presented and discussed herein are not comparable.
 
Substantial Related Indebtedness and Decrease in Interest Rates During the Periods Presented
 
We had total indebtedness of $115.7 million, $151.5 million and $259.8 million as of June 30, 2008, 2009, and 2010, respectively, reflecting principally our borrowings related to our acquisitions described above and for other working capital purposes. Indebtedness incurred under our prior credit agreement, which was fully repaid with our March 12, 2010 offering of notes, bore interest at floating rates based on LIBOR. We economically hedged, in part, such interest rate risk by entering into interest rate swaps to exchange our floating-rate exposure for a fixed rate on a portion of such indebtedness.
 
LIBOR was, generally, declining during the periods presented, particularly following the autumn 2008 global economic crisis and the interest rate policy decisions of the U.S. Federal Reserve and other central banks around the world. For example, three-month LIBOR (which, together with 1-month LIBOR, comprised the base rates for a substantial portion of borrowings in the periods presented) went from an average of 4.12% per annum in Fiscal 2008 to an average of 1.93% per annum in Fiscal 2009 and to an average of 0.34% per annum in Fiscal 2010.
 
On March 12, 2010, we issued $250.0 million aggregate principal amount of the notes and used $163.5 million of the net proceeds to fully repay amounts outstanding under our prior credit agreement. On that same day, we also entered into our current credit agreement, which was amended on September 13, 2010 to permit us to borrow up to $100.0 million. This current credit facility bears interest per annum at a variable rate, at our option subject to certain restrictions, of LIBOR plus a leverage-based margin ranging from 450 to 350 basis points, or the Base Rate (as defined in the credit agreement) plus a leverage-based margin ranging from 350 to 250 basis points. As at June 30, 2010, the revolving credit facility was undrawn. For more information, see “— Liquidity and Capital Resources — Contractual Cash Obligations” and “Description of Other Indebtedness.”
 
Net Operating Losses
 
As of June 30, 2010, we had $102.0 million of net operating loss (“NOLs”) carry forwards. We acquired $5.1 million of NOLs in the Northwest Telephone acquisition and $94.7 million of NOLs in the FiberNet acquisition. Each of these acquisitions, however, was a “change in ownership” within the meaning of Section 382 of the Internal Revenue Code and, as a result, such NOLs are subject to an annual limitation, and thus we are limited in our ability to use such NOLs to reduce our income tax exposure. The current annual NOL usage limitation related to our acquired NOLs is $7.5 million. Additionally we generated $2.3 million of NOLs for the years ended June 30, 2009 and 2008 which are also available to offset future taxable income.
 
From the period of the respective acquisitions through June 30, 2010, we have not utilized any of our own or acquired NOLs; however we have used approximately $10.3 million of NOLs which were generated by Onvoy. We utilized $3.0 million of Onvoy’s NOL’s subsequent to the spin-off date of March 12, 2010.


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Critical Accounting Policies and Estimates
 
This discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue, expenses and related disclosures. We base our estimates on historical results which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We evaluate these estimates on an ongoing basis. Actual results may differ from these estimates under different assumptions or conditions.
 
We have accounting policies that involve estimates such as the allowance for doubtful accounts, revenue reserves, useful lives of long-lived assets, accruals for estimated tax and legal liabilities, cost of revenue disputes for communications services and valuation allowance for deferred tax assets. We have identified the policies below which require the most significant judgments and estimates to be made in the preparation of our consolidated financial statements, as critical to our business operations and an understanding of our results of operations.
 
Revenue
 
We recognize revenue derived from leasing fiber optic telecommunications infrastructure and the provision of telecommunications and co-location services when the service has been provided and when there is persuasive evidence of an arrangement, the fee is fixed or determinable and collection of the receivable is reasonably assured. Taxes collected from customers and remitted to government authorities are excluded from revenue.
 
Most revenue is billed in advance on a fixed-rate basis. The remainder of revenue is billed in arrears on a transaction basis determined by customer usage. Fees billed in connection with customer installations and other up-front charges are deferred and recognized as revenue ratably over the contract life. Revenue is recognized at the amount expected to be realized, which includes billing and service adjustments. We also assess the ability of customers to meet their financial obligations and establish an allowance for doubtful accounts based on these expectations.
 
Network Expenses and Accrued Liabilities
 
We lease certain network facilities, primarily circuits, from other local exchange carriers to augment our owned infrastructure for which we are generally billed a fixed monthly fee. We also use the facilities of other carriers for which we are billed on a usage basis.
 
We recognize the cost of these facilities or services when it is incurred in accordance with contractual requirements. We dispute incorrect billings. The most prevalent types of disputes include disputes for circuits that are not disconnected on a timely basis and usage bills with incorrect or inadequate call detail records. Depending on the type and complexity of the issues involved, it may take several quarters to resolve disputes.
 
In determining the amount of such operating expenses and related accrued liabilities to reflect in our financial statements, we consider the adequacy of documentation of disconnect notices, compliance with prevailing contractual requirements for submitting such disconnect notices and disputes to the provider of the facilities, and compliance with our interconnection agreements with these carriers. Significant judgment is required in estimating the ultimate outcome of the dispute resolution process, as well as any other amounts that may be incurred to conclude the negotiations or settle any litigation.
 
Goodwill and Purchased Intangibles
 
The Company performs an assessment of its goodwill for impairment annually in April each year, or more frequently if the Company determines that indicators of impairment exist. The Company’s impairment review process compares the fair value of each reporting unit to its carrying value. The Company’s reporting units are consistent with the reportable segments identified in Note 16 — Segment Reporting, to the Consolidated Financial Statements. Goodwill assigned to Zayo Bandwidth reportable segment totaled $66.5 million at both June 30, 2010 and 2009. Goodwill assigned to the Zayo Enterprise Networks reportable segment totaled $2.2 million at both June 30, 2010 and 2009. There was no goodwill assigned to the zColo reportable segment at June 30, 2010 or 2009.


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If the fair value of the reporting unit exceeds its carrying value, goodwill is not impaired and no further testing is performed. If the carrying value of the reporting unit exceeds its fair value, then a second step must be performed, and the implied fair value of the reporting unit’s goodwill must be determined and compared to the carrying value of the reporting unit’s goodwill. If the carrying value of a reporting unit’s goodwill exceeds its implied fair value, then an impairment loss equal to the difference will be recorded.
 
The Company considers the use of multiple valuation techniques in accordance with fair value measurements and disclosures guidance to estimate the fair value of its reporting segments and has consistently applied an income and market based approach to measure fair value.
 
Under the income approach, the Company estimates the reportable segments fair market value using the discounted cash flow method. The discounted cash flow method involves the following key steps:
 
  •  the development of projected free cash flows;
 
  •  the estimation of an appropriate risk adjusted present value discount rate;
 
  •  the calculation of the present value of projected free cash flow; and
 
  •  the calculation of a terminal value.
 
In developing the projected free cash flows, management utilizes expected growth rates implied by the financial projections which have been developed by senior management. The cash flow forecasts are based upon upside, midpoint and downside scenarios. The Company uses a discount rate of 12.85 and 14.22 percent for Zayo Bandwidth and Zayo Enterprise Networks, respectively, which represents each reporting segments estimated weighted cost of capital. Using the projected cash flow and discount rate inputs, the Company calculates the present value of the Company’s projected cash flows. In calculating the terminal value, the Company utilized a long term growth rate of 4.0 percent which management estimates to reflect the expected long-term growth in nominal U.S. gross domestic product. The terminal value is converted to a present value through the use of the appropriate present value factor. This figure is then summed with the present value of projected free cash flow for the projection period to render a valuation estimate for each reporting segment.
 
Under the market approach, the Company estimates the reportable segments fair market value using the Analysis of Guideline Public Companies method. The use of this method involve the following:
 
  •  identification and selection of a group of acceptable and relevant guideline companies;
 
  •  selection of financial ratios and time period most appropriate for the analysis;
 
  •  financial adjustments made to both or either of the guideline and/or subject companies to make the underlying financial figures comparable. Examples of adjustments include add-backs for non-recurring expenses and calculations to make the figure related to the same time period.
 
  •  subjective discounts or premiums to implied ratios to account for observations relating to substantial difference that would be perceived as having an impact on value between the collective guideline companies and the Company; and
 
  •  selection of a statistical midpoint or range within the dataset most appropriate for the analysis.
 
In identifying and selecting the guideline companies that could be deemed appropriate for Zayo’s reporting units, we screened potential companies using a research tool with parameters including constraints regarding geographic location, primary industry classification and market capitalization. We selected the Enterprise Value to Revenue and EBITDA ratios as the most appropriate market based valuation technique for the Company. With the assistance of a third-party vendor, the Company estimated the 2010 revenue trading multiples to be .83x to 2.87x with mean and median multiples of 2.02x and 2.24x and EBITDA trading multiples from 5.75x to 9.81x with mean and median multiples of 7.34x and 7.3x. Utilizing third-party market studies, management utilized a control premium of 15 percent as part of our market based calculations which is in-line with historical control premiums offered for comparable transaction in the communications industry, the availability of financing, and number of potential buyers.


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In estimating the fair market value of each of the Company’s reportable segments, management averaged the valuations from each of the approaches above resulting in a fair market estimate of $452 million and $90 million for the Zayo Bandwidth and Zayo Enterprise Networks segments, respectively. These valuations are significantly higher than the current carrying value of these segments. Although management estimates the fair value of its segments utilizing the average of various valuation techniques, none of the valuation techniques on a stand-alone basis indicated an impairment for any of the Company’s segments during the current year.
 
Background for Review of Our Results of Operations
 
Revenue and Billing
 
Zayo Bandwidth.   Our Zayo Bandwidth unit provides Bandwidth Infrastructure services over our metropolitan and regional fiber networks to targeted customers which are primarily wireless service providers, telecommunications service providers (including ILECs, IXCs, RLECs, CLECs, and foreign carriers), media companies (including cable and satellite video providers), and other Internet centric businesses that require an aggregate minimum of 10 Gbps of bandwidth across their networks. Zayo Bandwidth’s customers are generally billed a fixed fee per month for the agreed capacity of bandwidth provided.
 
zColo.   Our zColo unit provides network-neutral colocation and interconnection services primarily in three major carrier hotels in New York and New Jersey. Most customers are billed a fixed monthly fee for the space consumed within the colocation facility as well as a fixed monthly fee for any interconnection services they are utilizing.
 
Zayo Enterprise Networks.   Our Zayo Enterprise Networks unit provides Bandwidth Infrastructure, enterprise IP, and other managed data and telecommunications services to customers who require fiber-based bandwidth solutions such as healthcare, financial, education, technology, and media and content companies, as well as schools, hospitals, municipalities and other governmental or semi-governmental entities. These customers use Bandwidth Infrastructure services for a wide array of their internal information technology and telecom applications, including disaster recovery, video conferencing, and remote medical imaging, as well as for private networks and connectivity to major Internet access point and hosting centers. Customers’ are primarily billed a fixed monthly fee for the services provided; however a monthly usage fee may also apply to certain services.
 
Operating Costs
 
Our operating costs consist primarily of third-party network service costs, colocation facility costs and colocation facility utilities costs. Third-party network service costs result from our leasing of certain network facilities, primarily circuits, from other local exchange carriers to augment our owned infrastructure for which we are generally billed a fixed monthly fee. Our colocation facility costs represent rent and license fees paid to the landlords of the buildings in which our zColo business operates. The colocation facility utilities cost is the cost of power used in those facilities.
 
Recurring transport costs are the largest component of our operating costs and primarily include monthly service charges from telecommunication carriers related to the circuits utilized by us to interconnect our customers. While traffic increases will drive additional operating costs in our business, we expect to primarily utilize our existing network infrastructure and augment, when necessary, with additional circuits or services from third-party providers. Non-recurring transport costs primarily include the initial installation of such circuits.
 
Selling, General and Administrative Expenses
 
Our selling, general and administrative (“SG&A”) expenses include personnel costs, costs associated with the operation of our network (network operations) and other related expenses, including sales commissions, marketing programs, office rent, professional fees, travel, software maintenance costs and other.
 
After compensation and benefits, network operations costs are the largest component of our SG&A expenses. Network operations costs include all of the non-personnel related expenses of maintaining our network infrastructure, including contracted maintenance fees, right-of-way costs, rent for locations where fiber is located (including cellular towers), pole attachment fees, relocation expenses and, since 2009, transaction costs.


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Our Stock-Based Compensation
 
As described in more detail under “Executive Officers and Directors — Compensation Discussion and Analysis,” we compensate certain members of our management through grants of common units of CII, which vest over varying periods of time, depending on the terms of employment of each such member of management. In addition, certain of our senior executives have been granted Class A preferred units of CII.
 
For the common units granted to members of management, we recognize an expense equal to the fair value of all of those common units granted during the period, and record a liability in respect of that amount. Subsequently, we recognize changes in the fair value of those common units through increases or decreases in stock-based compensation expense and related adjustments to the related stock-based compensation liability.
 
When the Class A preferred units are initially granted, we recognize no expense. We use the straight line method, over a four year period, to amortize the fair value of those units, as determined on the date of grant. Subsequent changes in the fair value of the Class A preferred units granted to those executive officers are not taken into consideration as we amortize that expense. As of June 30, 2010, we had $0.2 million of unamortized stock-based compensation expense relating to those Class A preferred units which will be recognized in the first quarter of Fiscal 2011.
 
Results of Operations
 
Year Ended June 30, 2010 Compared with Fiscal Year Ended June 30, 2009
 
Revenue
 
Our total revenue for the year ended June 30, 2010 increased by $73.2 million, or 48.5%, from $150.8 million in the year ended June 30, 2009 to $224.0 million, principally as a result of increased revenue from our Zayo Bandwidth business unit as well as from the addition in September 2009 of our zColo business unit following our acquisition of FiberNet. Our zColo business unit is comprised of a portion of the legacy business of FiberNet.
 
Below is a summary of our revenue by business unit for the years ended June 30, 2010 and 2009, respectively.
 
                 
    Year Ended June 30  
    2010     2009  
    (In thousands)  
 
Zayo Bandwidth
  $ 169,736     $ 124,761  
zColo
    21,064        
Zayo Enterprise Networks
    33,245       26,043  
                 
Total revenue
  $ 224,045     $ 150,804  
                 
 
Zayo Bandwidth.   Our revenues from our Zayo Bandwidth business unit increased by $44.9 million, or 36.0%, from $124.8 million during the year ended June 30, 2009 to $169.7 million during the year ended June 30, 2010, principally as a result of increased revenues attributable to our acquisition of FiberNet and the allocation of a portion of the FiberNet assets and legacy business to the Zayo Bandwidth business unit.
 
zColo.   Our zColo business unit, which only began operations in September 2009 following our acquisition of FiberNet, recognized $21.1 million of revenues during the year ended June 30, 2010.
 
Zayo Enterprise Networks.   Our revenues from our Zayo Enterprise Networks business unit increased by $7.2 million, or 27.7%, from $26.0 million in the year ended June 30, 2009 to $33.2 million in the year ended June 30, 2010, principally as a result of the transfer of certain customer accounts from our Zayo Bandwidth business unit to the Zayo Enterprise Networks business unit following our decision to focus Zayo Enterprise Networks on regional bandwidth users while Zayo Bandwidth narrowed its focus to the 200 largest Bandwidth Infrastructure users in the United States.


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Operating Costs and Expenses
 
Operating Costs, Excluding Depreciation and Amortization.   Our operating costs, excluding depreciation and amortization, increased by $24.7 million, or 50.6%, from $48.8 million during the year ended June 30, 2009 to $73.5 million during the year ended June 30, 2010, reflecting the increased operating costs of our growing network.
 
SG&A Expense.   The table below sets forth the components of our SG&A expenses during the years ended June 30, 2010 and 2009, respectively.
 
                 
    Year Ended June 30  
    2010     2009  
    (In thousands)  
 
Compensation and benefits expenses
  $ 36,456     $ 29,309  
Network operating expenses
    20,846       17,915  
Other SG&A expenses
    15,077       14,476  
Transaction costs
    1,392       719  
                 
Total SG&A expenses
  $ 73,771     $ 62,419  
                 
 
Compensation and Benefits Expenses.   Compensation and benefits expenses increased by $7.2 million, or 24.6%, from $29.3 million during the year ended June 30, 2009 to $36.5 million during the year ended June 30, 2010, reflecting the increased number of employees as our business grew during this period, principally as a result of our acquisition of FiberNet in September 2009. We had 347 employees as of June 30, 2010 as compared to 287 employees as of June 30, 2009.
 
Network Operations Expenses.   Network operations expenses increased by $2.9 million, or 16.2%, from $17.9 million during the year ended June 30, 2009 to $20.8 million during the year ended June 30, 2010. The increase in such expenses principally reflected the growth of our network assets and the related expenses of operating that expanded network following our acquisition of FiberNet in September 2009.
 
Other SG&A.   Other SG&A expenses, which includes expenses such as property tax, travel, office expense and maintenance expense on colocation facilities, increased by $0.6 million, or 4.1%, from $14.5 million during the year ended June 30, 2009 to $15.1 million during the year ended June 30, 2010, principally from our acquisition of FiberNet and the resulting increase in our business operations.
 
Transaction Costs.   As a result of a recently implemented accounting standard, we expensed during the year ended June 30, 2010, approximately $1.4 million of transactions costs related to our acquisition of FiberNet. During the year ended June 30, 2009, we expensed $0.7 million of transaction costs primarily related to our then ongoing acquisition of FiberNet.
 
Stock-Based Compensation Expenses.   Stock-based compensation expenses increased by $11.8 million, or 184.4%, from $6.4 million during the year ended June 30, 2009 to $18.2 million during the year ended June 30, 2010. The increase is primarily a result of an additional 23.5 million common units granted during the year ended June 30, 2010 and an increase in the fair market value of the Class A, B and C common units from $0.16, $0 and $0 per unit, respectively as of June 30, 2009 to $0.49, $0.28 and $0.03 per unit, respectively as of June 30, 2010.
 
Depreciation and Amortization.   Depreciation and amortization expense increased by $11.6 million, or 39.2%, from $29.6 million during the year ended June 30, 2009 to $41.2 million during the year ended June 30, 2010. The increase is a result of the substantial increase in our capital assets and intangible assets, principally from the FiberNet acquisition in September 2009, and the resulting depreciation and amortization of such capitalized amounts.
 
Operating Income
 
Our operating income increased by $13.7 million, or 380.1%, from $3.6 million during the year ended June 30, 2009 to $17.3 million during the year ended June 30, 2010. Our operating margin increased to 7.7% during the year ended June 30, 2010 from 2.4% during the year ended June 30, 2009.


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Total Other Expense, Net
 
The table below sets forth the components of our total other expense, net for the years ended June 30, 2010 and 2009, respectively.
 
                 
    Year Ended June 30  
    2010     2009  
    (In thousands)  
 
Interest expense
  $ (18,692 )   $ (15,248 )
Interest income
    10       201  
Other income/(expense), net
    1,516       48  
Gain on bargain purchase
    9,081        
Loss on extinguishment of debt
    (5,881 )      
                 
Total other expenses, net
  $ (13,966 )   $ (14,999 )
                 
 
Interest Expense.   Interest expense increased by $3.5 million, or 22.9%, from $15.2 million during the year ended June 30, 2009 to $18.7 million during the year ended June 30, 2010. The increase is a result of the increase in our debt balance beginning in March 2010 as a result of the offering of $250.0 million of outstanding notes and the higher interest rate (10.25%) associated with the notes. This increase was offset by the decline in the LIBOR rates during the nine months ended March 31, 2010 as compared to Fiscal 2009 as the interest rate on our term loans, which were paid off with proceeds from the offering of outstanding notes in March 2010, were adjustable based on the LIBOR rate. Interest expense associated with our interest rate swaps was $0.7 million in Fiscal 2010 compared to $3.1 million in Fiscal 2009.
 
Other Income.   During the year ended June 30, 2010 the Company recognized a gain on bargain purchase associated with the FiberNet acquisition. The bargain purchase is primarily the result of recording of deferred income tax assets for the NOL carry forwards of FiberNet. Also contributing to the increase in other income during the year ended June 30, 2010 was our realization in Fiscal 2010 of a reduction in the price we originally paid for the Onvoy acquisition. We received $0.8 million from the Onvoy purchase escrow account during the period when such amount was released from escrow. In accordance with ASC 805-10, the Company recognized the release from escrow as other income as the release was outside of the one year acquisition accounting true-up period.
 
Loss on Extinguishment of Debt:   A portion of the proceeds from our issuance in March 2010 of $250.0 million in principal amount of notes was used to pay off all of our then-outstanding term loans. Upon the termination of the term loans, the Company wrote off the unamortized portion of the debt issuance costs associated with those loans resulting in a loss on extinguishment of debt of $5.9 million.
 
Provision for Income Taxes
 
We recorded a provision for income taxes of $6.3 million during the year ended June 30, 2010, as compared to a tax benefit of $2.1 million for year ended June 30, 2009. The increase was primarily due to an increase in operating income of $13.7 million. Our provision for income taxes includes both the current provision and a provision for deferred income tax expense resulting from timing differences between tax and financial reporting accounting. We are unable to combine our NOLs for application to the income of our subsidiaries in some states and thus our state income tax expense is higher than the expected combined rate. In addition, as noted above, we are subject to limits on the amount of carry forward NOLs which we may use each year for federal and other purposes. “See “— Factors Affecting Our Results of Operations — Net Operating Losses.”
 
Fiscal Year Ended June 30, 2009 Compared with Fiscal Year Ended June 30, 2008
 
Revenue
 
Our total revenue for the year ended June 30, 2009 increased by $73.3 million, or 94.6%, from $77.5 million during the year ended June 30, 2008 to $150.8 million during the year ended June 30, 2009. The increase is principally a result of a full year of additional operations resulting from the seven acquisitions which were


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consummated during the year ended June 30, 2008 and the additional revenue associated with the Columbia Fiber Solutions acquisition in September 2008.
 
Below is a summary of our revenue by business segment for the year ended June 30, 2009 and 2008, respectively.
 
                 
    Year Ended June 30  
    2009     2008  
    (In thousands)  
 
Zayo Bandwidth
  $ 124,761     $ 64,623  
zColo
           
Zayo Enterprise Networks
    26,043       12,946  
                 
Total revenue
  $ 150,804     $ 77,569  
                 
 
Zayo Bandwidth.   Our revenues from the Zayo Bandwidth business unit increased by $60.2 million, or 93.2%, from $64.6 million during the year ended June 30, 2008 to $124.8 million during the year ended June 30, 2009. The increase in revenue is primarily a result of the increase in revenues associated with the acquisitions discussed above and organic growth.
 
Zayo Enterprise Networks.   Our revenues from our Zayo Enterprise Networks business unit increased by $13.1 million, or 101.6%, from $12.9 million during the year ended June 30, 2008 to $26.0 million during the year ended June 30, 2009. The increase in revenue is primarily a result of the increase in revenues associated with the acquisitions discussed above, including principally the revenues associated with the customers transferred to this business unit.
 
Operating Costs and Expenses
 
Operating Costs, Excluding Depreciation and Amortization.   Our operating costs, excluding depreciation and amortization, increased by $24.5 million, or 100.8%, from $24.3 million in the year ended June 30, 2008 to $48.8 million in the year ended June 30, 2009, reflecting the increased operating costs of our growing network in Fiscal 2009 as compared to Fiscal 2008 and the full year impact in Fiscal 2009 of acquisitions we made in Fiscal 2008.
 
SG&A Expense.   The table below sets forth the components of our SG&A expenses for the years ended June 30, 2009 and 2008, respectively.
 
                 
    Year Ended June 30  
    2009     2008  
    (In thousands)  
 
Compensation and benefits expenses
  $ 29,309     $ 16,859  
Network operating expenses
    17,915       9,468  
Other SG&A expenses
    14,476       11,077  
Transaction costs
    719        
                 
Total SG&A expenses
  $ 62,419     $ 37,404  
                 
 
Compensation and Benefits Expenses.   Compensation and benefits expenses increased by $12.4 million, or 73.4%, from $16.9 million in the year ended June 30, 2008 to $29.3 million in the year ended June 30, 2009, reflecting principally the full year impact in Fiscal 2009 of the acquisitions made in Fiscal 2008 and the related increase in numbers of employees and their compensation and benefits expense. We had 287 employees as at June 30, 2009 as compared to 253 employees as at June 30, 2008.
 
Network Operations Expenses.   Network operations expenses increased by $8.4 million or 88.4%, from $9.5 million in the year ended June 30, 2008 to $17.9 million in the year ended June 30, 2009. The increase in such expenses principally reflected the full year impact in Fiscal 2009 of the acquisitions made in Fiscal 2008.


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Other SG&A.   Other SG&A expenses increased by $3.4 million, or 30.6%, from $11.1 million in the year ended June 30, 2008 to $14.5 million in the year ended June 30, 2009, reflecting principally the full year impact in Fiscal 2009 of the acquisitions made in Fiscal 2008 and the related increase in our other SG&A expenses.
 
Transaction Costs.   As a result of the recently implemented accounting standards applicable in Fiscal 2009, we expensed approximately $0.7 million in transaction costs related to our then ongoing acquisition of FiberNet.
 
Stock-based Compensation Expenses.   Stock-based compensation expenses increased by $3.0 million, or 88.2%, from $3.4 million in the year ended June 30, 2008 to $6.4 million in the year ended June 30, 2009, principally reflecting the fair value adjustment related to the increased valuation of common equity units awarded to our management.
 
Depreciation and Amortization.   Depreciation and amortization expense increased by $17.7 million, or 148.7%, from $11.9 million in the year ended June 30, 2008 to $29.6 million in the year ended June 30, 2009, as a result of the substantial increase in our capital assets and intangible assets which occurred throughout Fiscal 2008 and the resulting depreciation and amortization of such capitalized amounts.
 
Total Other Expense, Net
 
The table below sets forth the components of our total other expense, net for the years ended June 30, 2009 and 2008, respectively.
 
                 
    Year Ended June 30  
    2009     2008  
    (In thousands)  
 
Interest expense
  $ (15,248 )   $ (6,287 )
Interest income
    201       280  
Other income
    48       71  
                 
Total other income (expenses)
  $ (14,999 )   $ (5,936 )
                 
 
Interest expense increased by $8.9 million, or 141.3%, from $6.3 million in the year ended June 30, 2008 to $15.2 million in the year ended June 30, 2009, reflecting the impact of a full year’s interest expense in Fiscal 2009 on the substantial increase in our total outstanding indebtedness which occurred throughout Fiscal 2008. In addition, interest expenses in the year ended June 30, 2009 included $3.1 million of additional expense associated with our interest rate swaps.
 
Partially offsetting the impact of such increased indebtedness and the expense associated with our outstanding interest rate swaps was the impact of the decline in LIBOR during Fiscal 2008 and 2009.
 
Our interest income decreased slightly to $0.2 million in Fiscal 2009 from $0.3 million in Fiscal 2008, principally as a result of yields available on U.S. treasury money market funds in which we invested surplus cash during Fiscal 2009.
 
Provision for Income Taxes
 
We recorded a tax benefit of $0.7 million for the year ended June 30, 2008 and $2.1 million for the year ended June 30, 2009. Our provision for income taxes includes both the current income taxes and a provision for deferred income taxes resulting from timing differences between tax and financial reporting bases.
 
Liquidity and Capital Resources
 
Our primary sources of liquidity have been cash provided by operations, equity contributions, and borrowings under our credit facility. Our principal uses of cash have been acquisitions, capital expenditures, working capital and debt service requirements. See “— Cash flows” below. We anticipate that our principal uses of cash in the future will be for acquisitions (some of which may be quite large), capital expenditures, working capital and debt service.
 
We have debt covenants, that, under certain circumstances, restrict our ability to incur additional indebtedness. These covenants prohibit us from increasing our secured indebtedness above $100 million, our unsecured


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indebtedness above $200 million and our unsecured subordinate debt above $100 million. Any increase in secured indebtedness would be subject to a pro-forma senior secured leverage test not to exceed 3.5 times our previous quarter’s annualized EBITDA. Under no circumstances can the Company’s indebtedness exceed 4.25 times our previous quarter’s annualized EBITDA.
 
As of June 30, 2010, we had $89.2 million in cash and cash equivalents and $0.8 million in restricted cash. Cash and cash equivalents consist of amounts held in bank accounts and highly liquid U.S. treasury money market funds. The restricted cash balance is pledged as collateral for certain commercial letters of credit. Working capital at June 30, 2010 was $66.7 million. As of June 30, 2010 the Company has $69.1 million available on its line-of-credit subject to certain conditions.
 
Our capital expenditures of $59.8 million for the year ended June 30, 2010 related primarily to the construction of fiber and the installation of equipment in existing and new locations. We expect to continue to invest in our network (in part driven by fiber-to-the-tower activities) for the foreseeable future. Over the next two fiscal years we expect the level of our investment will be closely correlated to the amount of Adjusted EBITDA we generate. Adjusted EBITDA is a performance, rather than cash flow measure. Correlating our capital expenditures to our Adjusted EBITDA does not imply that we will be able to fund such capital expenditures solely with cash from operations. We expect to fund such capital expenditures with cash from operations, available borrowings under our credit agreement, and available cash on hand. These capital expenditures will, however, primarily be success-based, that is, we will not invest the capital until we have an executed customer contract, which supports the investment. As a result, the amount we invest in such capital expenditures will be based on contracts that are executed and may at times be above or below our actual adjusted EBITDA generation.
 
As part of our corporate strategy, we continue to be regularly involved in discussions regarding potential acquisitions of companies and assets, some of which may be quite large. See “Risk Factors — Risks Relating to Our Business — Future acquisitions are a component of our strategic plan, and will include integration and other risks that could harm our business.” We expect to fund such acquisitions with cash from operations, debt (including available borrowings under our revolving credit facility), equity contributions, and available cash on hand.
 
Cash Flows
 
We believe that our cash flow from operating activities, in addition to cash and cash equivalents currently on-hand, will be sufficient to fund our operating activities for the foreseeable future and in any event for at least the next 12 to 18 months. Given the generally negative and highly volatile global economic climate and the challenges and uncertainties in the global credit markets, however, no assurance can be given that this will be the case.
 
We regularly review acquisitions and additional strategic opportunities, including large acquisitions, which may require additional debt or equity financing.
 
The following table sets forth components of our cash flow for the years ended June 30, 2010 and 2009.
 
                 
    Year Ended June 30
    2010   2009
    (In thousands)
 
Net cash provided by operating activities
  $ 61,415     $ 28,408  
Net cash used in investing activities
    (156,350 )     (73,645 )
Net cash provided by financing activities
    136,010       67,921  
 
Net Cash Flows from Operating Activities
 
Our largest source of operating cash flows is payments from customers which are generally received between 20 to 30 days following the end of the billing month. Our primary uses of cash from operating activities are for network and personnel related expenditures. We had net cash flow from operating activities of $61.4 million and $28.4 million for the years ended June 30, 2010 and 2009, respectively. See “Risk Factors — Risks Relating to Our Business — Since our inception we have used more cash than we have generated from operations and we expect to continue to do so in the next several quarters.”


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Cash Flows Used for Investing Activities
 
We used cash in investing activities of $156.4 million and $73.6 million for the years ended June 30, 2010 and 2009, respectively. For the year ended June 30, 2010, our principal uses of cash in investing activities was our $96.6 million purchase of FiberNet and $59.8 million in purchases of network related equipment. For the year ended June 30, 2009, our principal uses of cash from investing activities was our $62.1 million purchase of network related equipment and our acquisition of Columbia Fiber Solutions LLC for $12.1 million.
 
Cash Flows from Financing Activities
 
Our net cash provided by financing activities was $136.0 million and $67.9 million for the years ended June 30, 2010 and 2009, respectively. Our cash flows from financing activities for the year ended June 30, 2010 comprise $246.9 million in cash proceeds from our March 2010 offering of $250.0 million of outstanding notes and $30.0 million in cash proceeds from a short-term loan entered into in September 2009, and $39.8 million in equity contributions. These investing cash inflows were offset by $166.2 million related to paying off our term loans and $12.4 million in debt issuance costs incurred. Our cash flows from financing activities for the year ended June 30, 2009 comprised $35.5 million from equity contributions and $47.0 million from borrowings, offset by our application of such cash flows to make $10.7 million in principal repayments on outstanding indebtedness and $2.3 million in repayments on capital leases.
 
Contractual Cash Obligations
 
The following table represents a summary of our estimated future payments under contractual cash obligations as of June 30, 2010. Changes in our business needs, cancellation provisions, changing interest rates and other factors may result in actual payments differing from these estimates. We cannot provide certainty regarding the timing and amounts of payments.
 
                                         
          Less Than
                More Than
 
    Total     1 Year     2-3 Years     4-5 Years     5 Years  
    (In thousands)  
 
Long-term debt (principal and interest)
  $ 429,796     $ 25,625     $ 51,250     $ 51,250     $ 301,671  
Operating leases
    175,335       22,688       36,434       29,866       86,347  
Purchase obligations
    26,847       26,847                    
Capital leases
    18,115       2,572       3,454       3,297       8,792  
                                         
Total
  $ 650,093     $ 77,732     $ 91,138     $ 84,413     $ 396,810  
                                         
 
Long-Term Debt
 
As of June 30, 2010, prior to our September 13, 2010 amendment to our credit agreement, we had outstanding approximately $247.1 million of fixed-rate debt, and approximately $12.7 million of capital lease obligations. We had $69.1 million available for borrowing under our $75.0 million revolving credit facility, at floating rates subject to certain conditions. As of June 30, 2010, we had not drawn any amounts under our credit facility, but our borrowing capacity was reduced by outstanding letters of credit under the terms of our credit agreement. On September 13, 2010, we amended our credit agreement to increase our borrowing capacity from $75.0 million to $100.0 million.
 
Letters of Credit
 
We use letters of credit to secure certain facility leases and other obligations. At June 30, 2010 we had $5.9 million of letters of credit outstanding which are supported by our revolving line of credit. We also had $0.8 million in letters of credit outstanding from other institutions that are cash collateralized.
 
Operating Leases
 
We lease office space, warehouse space, switching and transport sites, points of presence and equipment under non-cancelable operating leases. Lease expense was $30.4 million, $15.2 million and $7.0 million for the years


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ended June 30, 2010, 2009 and 2008, respectively. At June 30, 2010, total contractual lease payments under our long-term operating leases are $175.3 million and extend beyond 2015.
 
Purchase Commitment
 
At June 30, 2010 we had commitments of approximately $26.8 million for construction materials and acquisition of property and equipment, all of which are expected to be incurred in 2010.
 
Other Commitments
 
In February 2010, the Company was awarded a broadband stimulus project in Indiana pursuant to the federal government’s economic stimulus plan. The Indiana Stimulus Project involves the expenditure of approximately $31.4 million of capital expenditures, of which $25.1 million is to be funded with a government grant and approximately $6.3 million is to be funded by the Company. The Company expects to receive $2.5 million in up-front customer payments related to this project. In connection with this project, 626 route miles of fiber will be constructed and lit. The Company began construction on this project in April of 2010 and began receiving grant funds in May 2010.
 
Off-Balance Sheet Arrangements
 
We do not have any off-balance sheet arrangements, other than as disclosed above under “— Contractual Cash Obligations.”
 
New Accounting Pronouncements
 
In January 2010, the FASB issued ASU 2010-06, Improving Disclosures about Fair Value Measurements. ASU 2010-06 requires a reporting entity to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 and describe the reasons for the transfers. A reporting entity should separately disclose information about purchases, sales, issuances and settlements for Level 3 reconciliation disclosures. The new disclosures and clarifications of existing disclosures are effective for financial statements issued interim or annual financial periods ending after December 15, 2009, with the exception for the reconciliation disclosures for Level 3, which are effective for financial statements issued interim or annual financial periods ending after December 15, 2010. The adoption of the new accounting standards update did not have a material impact on the Company’s consolidated results of operations, financial condition or financial disclosures.
 
In June 2009, the FASB issued ASU 2009-17, Consolidations (ASC Topic 860), a new accounting standard that changes the consolidation rules as they relate to variable interest entities. The new standard makes significant changes to the model for determining who should consolidate a variable interest entity, and also addresses how often this assessment should be performed. The standard became effective for Zayo on July 1, 2010. The adoption of the new accounting standard update is not expected to have a material impact on the Company’s consolidated results of operations, financial condition, or financial disclosure.
 
In October 2009, the FASB issued Accounting Standards Update Number 2009-13, “Revenue Recognition (ASC 605) Multiple-Deliverable Revenue Arrangements a consensus of the FASB Emerging Issues Task Force.” This ASU establishes a new selling price hierarchy to use when allocating the sales price of a multiple element arrangement between delivered and undelivered elements. This ASU is generally expected to result in revenue recognition for more delivered elements than under current rules. The Company is required to adopt this ASU prospectively for new or materially modified agreements beginning January 1, 2011. The Company is evaluating the effect of this ASU, but does not expect its adoption to have a material effect on its financial statements.
 
Quantitative and Qualitative Disclosures About Market Risk
 
Our exposure in the financial markets consists of changes in interest rates from time to time.
 
As of June 30, 2010, prior to our September 13, 2010 amendment to our credit agreement, we had outstanding approximately $247.1 million of fixed-rate debt, approximately $12.7 million of capital lease obligations, and $69.1 million available for borrowing under our $75.0 million revolving credit facility, at floating rates, subject to


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certain conditions. Based on current market interest rates for debt of similar terms and average maturities and based on recent transactions, we estimate the fair value of our long-term debt as of June 30, 2010 to be $252.5 million compared to carrying value of $247.1 million.
 
We are exposed to interest rate risk as it relates to our interest rate swaps. We have open interest rate swap contracts which were entered into in connection with term loan borrowings under our previous credit agreement. We do not otherwise invest in financial instruments or derivatives for any trading or other speculative purposes. The term loans were paid in full from the proceeds of our offering in March 2010 of $250.0 million in principal amount of notes. The interest rate swaps associated with the term loans were not cancelled; however, the contracts terminate in September 2010. Our liability associated with the interest rates swap was $0.6 million and $2.3 million as of June 30, 2010 and 2009, respectively. We estimate that the cost to terminate the swap agreement or enter into an offsetting swap exceeds the estimated costs associated with the potential interest rate fluctuations through September 2010, the termination date of these swaps.
 
We are exposed to the risk of changes in interest rates if it is necessary to acquire additional funding to support the expansion of our business and to support acquisitions. The interest rate that we will be able to obtain on future debt financings will be dependent on market conditions.
 
Zayo does not have any material foreign currency or commodity pricing risk.


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