Business and Summary of Significant Accounting Principles

In the following discussion, GCI, Inc. and its direct and indirect subsidiaries are referred to as “we,” “us” and “our.”

Basis of Presentation

We were incorporated in Alaska in 1997 to affect the issuance of Senior Notes. As a wholly owned subsidiary of General Communication, Inc. ("GCI"), we received through our initial capitalization all ownership interests in subsidiaries previously held by GCI. The GCI and GCI, Inc. interim consolidated financial statements include substantially the same account activity.


(a)	Business

We offer the following services primarily in Alaska:


•	Postpaid and prepaid wireless telephone services and sale of wireless telephone handsets and accessories,


•	Video services,


•	Internet access services,


•	Wholesale wireless, including postpaid and prepaid wireless plans for resale by other carriers and roaming for certain wireless carriers,


•	Origination and termination of wireline traffic for certain common carriers,


•	Local and long-distance voice services,


•	Data network services,


•	Broadband services, including our SchoolAccess^® offering to rural school districts, our ConnectMD^® offering to rural hospitals and health clinics, and managed video conferencing,


•	Managed services to certain commercial customers,


•	Sales and service of dedicated communications systems and related equipment, and


•	Lease, service arrangements and maintenance of capacity on our fiber optic cable systems used in the transmission of services within Alaska and between Alaska and the remaining United States and foreign countries.


(b)	Principles of Consolidation

Our consolidated financial statements include the consolidated accounts of GCI, Inc. and its wholly owned subsidiaries, The Alaska Wireless Network, LLC ("AWN") of which we own a two-third interest and four variable interest entities (“VIEs”) for which we are the primary beneficiary after providing certain loans and guarantees. These VIEs are Terra GCI Investment Fund, LLC (“TIF”), Terra GCI 2 Investment Fund, LLC (“TIF 2”), Terra GCI 2-USB Investment Fund, LLC (“TIF 2-USB”) and Terra GCI 3 Investment Fund, LLC (“TIF 3”). TIF became a VIE on August 30, 2011. TIF 2 and TIF 2-USB became VIEs on October 3, 2012. TIF 3 became a VIE on December 11, 2012. We also include in our consolidated financial statements non-controlling interests in consolidated subsidiaries for which our ownership is less than 100 percent. All significant intercompany transactions between non-regulated affiliates of our company are eliminated. Intercompany transactions generated between regulated and non-regulated affiliates of our company are not eliminated in consolidation.


(c)	Non-controlling Interests

Non-controlling interests represent the equity ownership interests in consolidated subsidiaries not owned by us. Non-controlling interests are adjusted for contributions, distributions, and loss attributable to the non-controlling interest partners of the consolidated entities. Income and loss is allocated to the non-controlling interests based on the respective governing documents.


(d)	Acquisition

On July 22, 2013, GCI closed the transactions under the Asset Purchase and Contribution Agreement (“Wireless Agreement”) entered into on June 4, 2012 by and among Alaska Communications Systems Group, Inc. (“ACS”), GCI, ACS Wireless, Inc., a wholly owned subsidiary of ACS, GCI Wireless Holdings, LLC, a wholly owned subsidiary of GCI, and AWN, pursuant to which the parties agreed to contribute the respective wireless network assets of GCI, ACS and their affiliates to AWN. This transaction provides a statewide network with the spectrum mix, scale, advanced technology and cost structure necessary to compete with Verizon Wireless and AT&T Mobility in Alaska. AWN will provide wholesale services to GCI and ACS. GCI and ACS will use the AWN network in order to continue to sell services to their respective retail customers. GCI and ACS will continue to compete against each other and other wireless providers in the retail market.

Under the terms of the Wireless Agreement, we, on GCI's behalf, contributed our wireless network assets and certain rights to use capacity to AWN. Additionally, ACS contributed its wireless network assets and certain rights to use capacity to AWN. As consideration for the contributed business assets and liabilities, ACS received $100.0 million in cash, a one-third ownership percentage in AWN and entitlements to receive preferential cash distributions totaling $190.0 million over the first four years of AWN’s operations ("Preference Period") contingent on the future cash flows of AWN. The preferential cash distribution is cumulative and may be paid beyond the Preference Period until the entire $190.0 million is paid. ACS's preferential cash distributions are expected to be higher than that which they would receive from their one-third interest. We received a two-third ownership percentage in AWN, as well as entitlements to receive all remaining cash distributions after ACS’s preferential cash distributions during the Preference Period. The distributions to each member are subject to adjustment based on the number of ACS and GCI wireless subscribers, with the aggregate adjustment capped at $21.8 million for each member over the Preference Period. Following the Preference Period, we and ACS will receive distributions proportional to our ownership interests.

We accounted for the acquisition of AWN using the acquisition method of accounting for business combinations with GCI treated as the acquiring entity. Accordingly, the assets and liabilities contributed from ACS were recorded at estimated fair values as of the date of acquisition. We used a combination of the discounted cash flows and market method to value the wireless licenses. We used the cost approach to value the acquired fixed assets and right-to-use assets. We used a discounted cash flow method to determine the fair value of the non-controlling interest. The assets and liabilities contributed by us to AWN were measured at their carrying amount immediately prior to the contribution as we are maintaining control over the assets and liabilities.

We have not completed our analysis of the valuation, therefore, the amounts recorded and classifications used for the assets acquired and liabilities assumed are provisional and subject to change. We will finalize the amounts recognized as we obtain the information necessary to complete our analysis. The following table summarizes the preliminary purchase price and the estimated fair value of ACS’s assets acquired and liabilities assumed, effective July 23, 2013 (amounts in thousands):



Purchase price:
Cash consideration paid	$	100,000
Fair value of the one-third ownership interest of AWN	272,198
Total purchase price	$	372,198

Purchase price allocation:
Acquired assets
Current assets	$	17,132
Property and equipment, including construction in progress	82,865
Goodwill	138,090
Wireless licenses	65,600
Other assets	74,523
Fair value of liabilities assumed	(6,012		)
Total fair value of assets acquired and liabilities assumed	$	372,198

Goodwill in the amount of $138.1 million was recorded as a result of the acquisition and assigned to our Wireless segment. The recorded amount is provisional and subject to change as we obtain the necessary information to complete our analysis. Goodwill is calculated as the excess of the consideration transferred over the net assets recognized and represents the estimated future economic benefits arising from other assets acquired that could not be individually identified and separately recognized. The goodwill is primarily the result of synergies expected from the combination and to obtain access to wireless spectrum. Other assets is primarily comprised of capacity rights to use.

The acquisition resulted in additional revenues of $27.7 million for the three and nine months ended September 30, 2013. It is impracticable for us to determine the amount of earnings of the acquired business included in our Consolidated Income Statement for the three and nine months ended September 30, 2013, due to the significant transfer of personnel, fixed assets and other expenses into and between newly created and historical cost centers that has occurred subsequent to the acquisition.

Unaudited pro forma financial information does not purport to be indicative of the actual results that would have occurred if the acquisition had actually been completed on January 1, 2012, nor is it necessarily indicative of the future revenue of the combined company. The following unaudited pro forma financial information is presented as if the acquisition occurred on January 1, 2012 (amounts in thousands):



	(unaudited)			(unaudited)
	Three Months Ended September 30,			Nine Months Ended September 30,
	2013		2012	2013	2012
Pro forma consolidated revenue	$	229,706	213,118	681,926	630,376

Supplemental pro forma earnings have not been provided as it would be impracticable due to the nature of GCI's and ACS's respective wireless operations prior to the business combination. GCI and ACS were unable to disaggregate the components of expenses related to their wireless operations contributed to AWN and thus the amounts would require estimates so significant as to render the disclosure irrelevant.

Transaction costs of $4.6 million were incurred during 2012 and 2013 of which $1.6 million were recorded in selling, general and administrative expense the nine months ended September 30, 2013.


(e)	Recently Issued Accounting Pronouncements

There were various updates recently issued which represented technical corrections to the accounting literature or application to specific industries. None of the updates are expected to a have a material impact on our consolidated financial position, results of operations or cash flows.


(f)	Recently Adopted Accounting Pronouncements

Accounting Standards Update (“ASU”) 2012-2, “Intangibles – Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment” allows an entity to assess qualitative factors (such as changes in management, key personnel, strategy, key technology or customers) to determine if it is more likely than not that an indefinite-lived intangible asset is impaired and thus whether it is necessary to perform the quantitative impairment test in accordance with GAAP. The adoption of ASU 2012-2 on January 1, 2013 did not have a material impact on our income statements, financial position or cash flows.

ASU 2012-4, “Technical Corrections and Improvements” includes amendments that cover a wide range of topics in the Accounting Standards Codification (“ASC”). These amendments include technical corrections and improvements to the ASC and conforming amendments related to fair value measurements. The adoption of ASU 2012-4 on January 1, 2013 did not have a material impact on our income statements, financial position or cash flows.


(g)	Regulatory Accounting

We account for our regulated operations in accordance with the accounting principles for regulated enterprises. These accounting principles recognize the economic effects of rate regulation by recording cost and a return on investment as such amounts are recovered through rates authorized by regulatory authorities. Accordingly, plant and equipment is depreciated over lives approved by regulators and certain costs and obligations are deferred based upon approvals received from regulators to permit recovery of such amounts in future years. Our cost studies and depreciation rates for our regulated operations are subject to periodic audits that could result in a change to recorded revenues.

(h) Earnings per Share

We are a wholly owned subsidiary of GCI and, accordingly, are not required to present earnings per share. Our common stock is not publicly traded.

(i) Revenue Recognition

We recorded high cost support revenue under the Universal Service Fund (“USF”) program of $14.9 million and $10.7 million for the three months ended September 30, 2013 and 2012, respectively, and $36.0 million and $31.8 million for the nine months ended September 30, 2013 and 2012, respectively. At September 30, 2013, we have $46.8 million in high cost support accounts receivable.

As an Eligible Telecommunications Carrier ("ETC"), we receive support from the Universal Service Fund ("USF") to support the provision of wireline local access and wireless service in high cost areas. On November 29, 2011, the FCC published a final rule to reform the methodology for distributing USF high cost support for voice and broadband services, as well as to the access charge regime for terminating traffic between carriers (“High Cost Order”). The High Cost Order defined the division of support to Alaska between Urban and Remote areas. Our Remote high cost support revenue recognition policy is described in Note 1(t) of our December 31, 2012 annual report on Form 10-K.

The High Cost Order mandated that as of January 1, 2012, Urban high cost support payments were frozen at the monthly average of the subject CETC’s 2011 annual support. A 20% annual phase down commenced July 1, 2012, decreasing support 20% each annual period until no support is paid starting July 1, 2016. If a successor funding mechanism is not operational on July 1, 2014, the phase down will stop at 60% and the subject CETCs will continue to receive annual support payments at the 60% level until a successor funding mechanism is operational. Urban high cost support is not dependent upon line counts.

We apply the proportional performance revenue recognition method to account for the impact of the declining payments while our level of service provided and associated costs remain constant. Included in the original calculation were the scheduled Urban high cost support payments from October 2011 through June 2014 net of our Urban accounts receivable balance at September 30, 2011. An equal amount of this result was recognized as Urban support revenue each period through the six months ended June 30, 2013. When the original calculation was performed we could not predict the likelihood of a successor funding mechanism being operational on July 1, 2014; therefore we did not included projected support payments beyond June 2014. At September 30, 2013, we believe a successor funding mechanism may be operational in January 2015 therefore we have updated our calculation to include the scheduled Urban high cost support payments from July 2013 through January 2017 net of the remaining Urban accounts receivable balance at September 30, 2011.

For both Remote and Urban high cost support revenue our ability to collect our accrued USF support is contingent upon continuation of the USF program and upon our eligibility to participate in that program, which is subject to change by future regulatory, legislative or judicial actions. We adjust revenue and the account receivable in the period the FCC makes a program change or we assess the likelihood that such a change has increased or decreased revenue. We do not recognize revenue until our ETC status has been approved by the RCA.

(j) Use of Estimates

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant items subject to estimates and assumptions include the allowance for doubtful receivables, unbilled revenues, accrual of the USF high cost remote area program support, share-based compensation, inventory at lower of cost or market, reserve for future customer credits, liability for incurred but not reported medical insurance claims, valuation allowances for deferred income tax assets, depreciable and amortizable lives of assets, the carrying value of long-lived assets including goodwill, cable certificates and wireless licenses, our effective tax rate, purchase price allocations, deferred lease expense, asset retirement obligations, the accrual of cost of goods sold (exclusive of depreciation and amortization expense) (“Cost of Goods Sold”), depreciation and the accrual of contingencies and litigation. Actual results could differ from those estimates.

(k) Income Taxes

GCI, Inc., as a wholly owned subsidiary and member of the GCI controlled group of corporations, files its income tax returns as part of the consolidated group of corporations under GCI. Accordingly, all discussions regarding income taxes reflect the consolidated group's activity. Out income tax expense and deferred income tax assets and liabilities are presented herein using the separate-entity method.

(l) Classification of Taxes Collected from Customers

We report sales, use, excise, and value added taxes assessed by a governmental authority that is directly imposed on a revenue-producing transaction between us and a customer on a net basis in our Consolidated Income Statements. The following are certain surcharges reported on a gross basis in our Consolidated Income Statements (amounts in thousands):



	Three Months Ended September 30,			Nine Months Ended September 30,
	2013		2012	2013	2012
Surcharges reported gross	$	1,116	1,214	3,549	4,094