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<SEC-DOCUMENT>0001047469-03-010540.txt : 20030327
<SEC-HEADER>0001047469-03-010540.hdr.sgml : 20030327
<ACCEPTANCE-DATETIME>20030327161249
ACCESSION NUMBER: 0001047469-03-010540
CONFORMED SUBMISSION TYPE: 10-K
PUBLIC DOCUMENT COUNT: 25
CONFORMED PERIOD OF REPORT: 20021231
FILED AS OF DATE: 20030327

FILER:

COMPANY DATA:
COMPANY CONFORMED NAME: FAIRPOINT COMMUNICATIONS INC
CENTRAL INDEX KEY: 0001062613
STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE COMMUNICATIONS (NO RADIO TELEPHONE) [4813]
IRS NUMBER: 133725229
STATE OF INCORPORATION: DE
FISCAL YEAR END: 1231

FILING VALUES:
FORM TYPE: 10-K
SEC ACT: 1934 Act
SEC FILE NUMBER: 333-56365
FILM NUMBER: 03621132

BUSINESS ADDRESS:
STREET 1: 521 EAST MOREHEAD ST
STREET 2: STE 250
CITY: CHARLOTTE
STATE: NC
ZIP: 28202
BUSINESS PHONE: 7043448150

FORMER COMPANY:
FORMER CONFORMED NAME: MJD COMMUNICATIONS INC
DATE OF NAME CHANGE: 19980527
</SEC-HEADER>
<DOCUMENT>
<TYPE>10-K
<SEQUENCE>1
<FILENAME>a2105878z10-k.txt
<DESCRIPTION>FORM 10-K
<TEXT>
<Page>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-K

<Table>
<C> <S>
(MARK ONE)

/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934.*

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002.

/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934.

FOR THE TRANSITION PERIOD FROM TO
</Table>

COMMISSION FILE NUMBER 333-56365
------------------------
FAIRPOINT COMMUNICATIONS, INC.
(Exact Name of Registrant as Specified in Its Charter)

<Table>
<S> <C>
DELAWARE 13-3725229
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)

521 EAST MOREHEAD STREET, SUITE 250 28202
CHARLOTTE, NORTH CAROLINA (Zip code)
(Address of Principal Executive Offices)
</Table>

------------------------

Registrant's Telephone Number, Including Area Code:(704) 344-8150.

SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE

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 / / No /X/

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (Section 229.405 of this chapter) is not contained herein,
and will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. /X/

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes / / No /X/

As of March 25, 2003, the registrant had outstanding 45,773,784 shares of
Class A common stock and 4,269,440 shares of Class C common stock. There is no
public market for our Class A common stock or Class C common stock.

Documents incorporated by reference: None

* Although the registrant is not currently required pursuant to Section 13 or
15(d) of the Securities Exchange Act of 1934 to file this annual report, the
registrant is voluntarily filing this annual report on Form 10-K.

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<Page>
FAIRPOINT COMMUNICATIONS, INC. ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002

<Table>
<Caption>
ITEM PAGE
NUMBER NUMBER
- --------------------- --------
<S> <C> <C>
Index....................................................... i

PART I

1. Business.................................................... 1

2. Properties.................................................. 14

3. Legal Proceedings........................................... 14

4. Submission of Matters to a Vote of Security Holders......... 14

PART II

5. Market for Registrant's Common Equity and Related
Stockholder Matters......................................... 14

6. Selected Financial Data..................................... 15

7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 18

7A. Quantitative and Qualitative Disclosures about Market
Risk........................................................ 34

8. Independent Auditors' Report and Consolidated Financial
Statements.................................................. 36

9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................... 86

PART III

10. Directors and Executive Officers of the Registrant.......... 86

11. Executive Compensation...................................... 89

12. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters.................. 93

13. Certain Relationships and Related Transactions.............. 95

14. Controls and Procedures..................................... 97

PART IV

15. Exhibits, Financial Statement Schedules, and Reports on Form
8-K......................................................... 98

Reports on Form 8-K......................................... 98

Independent Auditors' Report and Schedule................... 99

Signatures.................................................. 101

Exhibit Index............................................... 102
</Table>

i
<Page>
PART I

Except as otherwise required by the context, references in this Annual
Report to "FairPoint," "our company," "we," "us," or "our" refer to the combined
business of FairPoint Communications, Inc. and all of its subsidiaries. All
references to the "Company" refer to FairPoint Communications, Inc. excluding
its subsidiaries and references to "Carrier Services" refer to FairPoint Carrier
Services, Inc. (formerly known as FairPoint Communications Solutions Corp.) and
its subsidiaries.

ITEM 1. BUSINESS

OUR BUSINESS

We are a leading provider of telecommunications services in rural
communities, offering an array of services including local voice, long distance,
data and Internet primarily to residential customers. According to an industry
source, we believe that we are the 16th largest local telephone company in the
United States, with over 243,000 access lines in service as of December 31,
2002.

We were incorporated in February 1991 for the purpose of acquiring and
operating telephone companies in rural markets. Since our inception, we have
acquired 29 such businesses, which are located in 18 states. All of our
telephone company subsidiaries qualify as rural local exchange carriers, or
RLECs, under the Telecommunications Act of 1996, or the Telecommunications Act.
RLECs are generally characterized by stable operating results and strong cash
flow margins and operate in generally supportive regulatory environments. In
particular, pursuant to existing state and federal regulations, we are able to
charge rates that enable us to recover our operating costs, plus a reasonable
rate of return on our invested capital (as determined by relevant regulatory
authorities). In addition, because RLECs primarily serve sparsely populated
rural areas and small towns, competition is typically limited due to the
generally unfavorable economics of constructing and operating competitive
systems in such areas and difficulties inherent in reselling such services to a
predominantly residential customer base.

COMPETITIVE STRENGTHS

We believe we are distinguished by the following competitive strengths:

- CONSISTENT AND PREDICTABLE CASH FLOW FROM RURAL TELEPHONE BUSINESS. Demand
for telephone services from residential and small business customers in
rural parts of the country has historically been very stable despite
changing economic conditions. As a result, we have experienced a stable
access line count during the last two years, while regional bell operating
companies, or RBOCs, have lost a significant number of access lines during
the same period. Our stable access line count helps us to generate
consistent revenues. Additionally, our telephone companies operate in
generally supportive regulatory environments that enable us to generate
strong cash flow margins.

- FAVORABLE RURAL MARKET DYNAMICS. We believe that the rural
telecommunications market is attractive due to generally supportive
regulatory environments and limited competition. All of our telephone
company subsidiaries qualify as RLECs. Therefore, they are exempt from
certain interconnection requirements and are entitled to benefit from a
number of cost recovery mechanisms associated with the "rural carrier"
designation. Each of our RLECs typically experiences little competition in
its market because the low customer density and high residential component
of our customer base will not support the significant capital investment
required to offer competitive service. As a result, we have virtually no
wireline competition in any of our markets. In addition, the rural areas
in which we operate attract only limited competition from cable and
wireless service providers.

- TECHNOLOGICALLY ADVANCED INFRASTRUCTURE AND SIGNIFICANT SCALE. Our
advanced RLEC networks consist of central office hosts and remote sites
with all digital switches, primarily manufactured

1
<Page>
by Nortel and Siemens, operating with the most current software. As of
December 31, 2002, we maintained over 25,000 miles of copper plant and
approximately 2,200 miles of fiber optic plant in order to service our
243,000 access lines. In addition, we believe that we have achieved
significant scale efficiencies by centralizing many functions from each
RLEC, such as purchasing, network planning and accounting.

- BROADEST SERVICE OFFERINGS IN OUR MARKETS. We believe that, as a result of
our advanced network and switching infrastructure we offer the only
complete bundle of telecommunications services, including local voice,
long distance, data and Internet services, in our markets. In addition, we
offer enhanced features such as caller name and number identification,
call waiting, call forwarding, teleconferencing, video conferencing and
voicemail. We also offer high-speed Internet access via digital subscriber
line, or DSL, technology, dedicated T-1 connections and Internet dial-up.

- EXPERIENCED MANAGEMENT TEAM WITH PROVEN TRACK RECORD. We have an
experienced management team that has demonstrated its ability to grow our
rural telephone business over the past decade. Our senior management team
has an average of 27 years of experience working with a variety of
telephone companies. Additionally, our regional presidents have an average
of 29 years of experience in the telecommunications industry. Our
management team has successfully integrated 29 business acquisitions since
1993, improving revenues and cash flow significantly while maintaining
service quality.

BUSINESS STRATEGY

The key elements of our business strategy include:

- CONTINUE TO IMPROVE OPERATING EFFICIENCY AND PROFITABILITY. We have
achieved significant operating efficiencies at our acquired RLECs by
applying our operating, regulatory, marketing, technical and management
expertise. We intend to continue to increase our operating efficiency by
consolidating various administrative functions and implementing best
practices across all of our regions. For example, we have initiated a
process to integrate all billing systems into a single, outsourced billing
platform. When completed, we plan to use this platform to develop regional
customer service and call centers, enhancing our operating efficiency and
creating a significantly improved customer data base to allow us to
optimize our marketing initiatives.

- CROSS-SELL AND OFFER ADDITIONAL SERVICES TO INCREASE REVENUE PER CUSTOMER.
We have focused and will continue to focus on increasing our revenues by
introducing innovative marketing strategies for enhanced and ancillary
services and by offering applications and technologies to meet the growing
needs of our rural customers. Approximately 79% of our customers are
residential, and we have long standing relationships with these customers.
This has allowed us to successfully cross-sell broadband and value-added
services, such as DSL, Internet dial-up, call waiting, caller ID and
voicemail, to our customers. We intend to continue to offer new products
and services for residential and business customers in our markets to
increase revenues and cash flows.

- INCREASE CUSTOMER LOYALTY AND BRAND IDENTITY. We seek to build long-term
relationships with our customers by offering an array of
telecommunications services and ongoing, consistent customer care. We
believe that our service driven customer relationships and local presence
lead to high levels of customer satisfaction and increased demand for
enhanced and ancillary services.

- PURSUE SELECTIVE ACQUISITIONS AND DIVESTITURES. Since 1993, we have
successfully completed 29 strategic acquisitions. We continue to evaluate
and pursue opportunities to make acquisitions which would be complementary
to our existing operations and provide the opportunity for revenue
enhancement and margin improvement. Given these requirements, we believe
that such

2
<Page>
acquisitions will be primarily in regions where we already operate. We
would also consider selective divestitures in order to enhance our
geographic focus.

RECENT DEVELOPMENTS

On March 6, 2003, the Company issued $225.0 million aggregate principal
amount of 11 7/8% Senior Notes due 2010. Interest is payable on the senior notes
at the rate of 11- 7/8% per annum on each March 1 and September 1, commencing on
September 1, 2003. The senior notes mature on March 1, 2010.

In connection with the issuance of the senior notes, the Company entered
into an amended and restated credit agreement, dated as of March 6, 2003, among
the Company, Bank of America, N.A., as syndication agent, Wachovia Bank, N.A.,
as documentation agent, Deutsche Bank Trust Company Americas, as administrative
agent, and various lending institutions. The amended and restated credit
agreement provides for: (i) a new $70.0 million revolving credit facility ($60.0
million of which has been committed) which matures on March 31, 2007 (loans
under the revolving credit facility bear interest per annum at either a base
rate plus 3.00% or LIBOR plus 4.00%) and (ii) a new term loan A facility of
$30 million which matures on March 31, 2007 (loans under the term loan A
facility bear interest per annum at either a base rate plus 3.00% or LIBOR plus
4.00%). The new term loan A facility was drawn in full on March 6, 2003. In
addition, mandatory payments under the term loan C facility were rescheduled to
be $2.0 million, $20.9 million, $20.0 million, $29.6 million and a final
$56.0 million in 2003, 2004, 2005, 2006 and on March 31, 2007, respectively, and
the interest rate per annum on loans under the term loan C facility was
increased to a base rate plus 3.50% or LIBOR plus 4.50%.

We used the proceeds from the offering of the senior notes and the
borrowings under the new term loan A facility to: (i) repay all tranche RF and
tranche AF revolving loans under our existing credit facility; (ii) repay all
tranche B term loans under our existing credit facility; (iii) repurchase at a
35% discount $13.3 million aggregate liquidation preference of our Series A
Preferred Stock (together with accrued and unpaid dividends thereon); (iv)
repurchase $9.8 million aggregate principal amount of our outstanding 9- 1/2%
senior subordinated notes due 2008 and $7.0 million aggregate principal amount
of our outstanding 12- 1/2% senior subordinated notes due 2010; and (vi) repay
at a 30% discount $2.2 million of loans made by Wachovia Bank, National
Association, under the Carrier Services credit facility. As a result, we
recorded $2.8 million and $0.7 million non-operating gains on the extinguishment
of the senior subordinated notes and the Carrier Services loans, respectively,
in the Statement of Operations and a $2.8 million gain for the retirement of the
Series A Preferred Stock directly to stockholders' deficit in 2003.
Additionally, we recorded a non-operating loss of $5.3 million for the write-off
of debt issue costs related to this extinguishment of debt in 2003.

OUR SERVICES

We offer a broad portfolio of high-quality telecommunications services for
residential, business, government and carrier customers in each of the markets
in which we operate. Our service offerings are locally managed to better serve
the needs of each community. We believe we are able to efficiently and reliably
provide, by using local personnel, all of the telecommunications services
required by our customers, thereby allowing us to establish and maintain a
recognized and respected brand identity within each of our service areas. These
include services traditionally associated with local telephone companies, as
well as other services such as long distance, data and Internet services, and
enhanced services. Based on our understanding of our local customers' needs, we
have attempted to be proactive by offering bundled services designed to simplify
the customer's purchasing and management process.

We operate in an industry that is subject to rapid and significant changes
in technology, frequent new service introductions and evolving industry
standards. We cannot predict the effect of these changes on our competitive
position, profitability or industry. Technological developments may reduce the
competitiveness of our networks and require unbudgeted upgrades or the
procurement of

3
<Page>
additional products that could be expensive and time consuming. In addition, new
products and services arising out of technological developments may reduce the
attractiveness of our services. If we fail to adapt successfully to
technological changes or obsolescence or fail to obtain access to important new
technologies, we could lose customers and be limited in our ability to attract
new customers and/or sell new services to our existing customers.

We primarily generate revenue through: (i) the provision of our basic local
telephone service to customers within our service areas; (ii) the provision of
network access to interexchange carriers, or IXCs, for origination and
termination of interstate and intrastate long distance phone calls;
(iii) Universal Service Fund or USF payments; and (iv) the provision of
ancillary services such as long distance resale, data and Internet services,
enhanced services, such as caller name and number identification, and billing
and collection for IXCs.

The following chart summarizes each component of our revenue sources for the
year ended December 31, 2002:

<Table>
<Caption>
REVENUE SOURCE % REVENUE DESCRIPTION
- -------------- --------- ----------------------------------------
<S> <C> <C>
Local Calling Services 23% Enables the local customer to originate
and receive an unlimited number of calls
within a defined "exchange" area. The
customer is charged a flat monthly fee
for basic service, usage charges for
local calls and service charges for
special calling features.
Network Access Charges 48% Enables long distance companies and
other customers to utilize our local
network to originate or terminate
intrastate and interstate calls. The
network access charges are paid by the
IXC to us and are regulated by state
regulatory agencies and the FCC,
respectively.
USF 10% We receive USF payments to support the
high cost of providing local telephone
service in rural locations. The funds
are allocated and distributed to us from
pools of funds generated by IXCs and
local exchange carriers, or LECs. This
10% represents high cost loop support
payments.
Long Distance Services 7% We receive revenues for intrastate and
interstate long distance services
provided to our retail and wholesale
long distance carriers.
Data and Internet Services 4% We receive revenues from monthly
recurring charges for services,
including DSL, special access, private
lines, Internet and other services.
Other Services 8% We generate revenues from other
services, including enhanced services
and billing and collection.
</Table>

See "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations" for more information regarding our revenue sources.

4
<Page>
LOCAL CALLING SERVICES

Local calling services includes basic local lines, private lines and
switched data services. We provide local calling services to residential,
business and government customers, generally for a fixed monthly charge. In an
RLEC's territories, the amount that we can charge a customer for local service
is determined by rate proceedings involving the appropriate state regulatory
authorities.

NETWORK ACCESS CHARGES

Network access charges relate to long distance, or toll calls, that
typically involve more than one company in the provision of telephone service.
Since toll calls are generally billed to the customer originating the call, a
mechanism is required to compensate each company providing services relating to
the call. We bill access charges to long distance companies and other customers
for the use of our facilities to access the customer, as described below.

INTRASTATE ACCESS CHARGES. We generate intrastate access revenue when an
intrastate long distance call involving an IXC is originated by a customer in
our RLEC exchange to a customer in another exchange in the same state. The IXC
pays us an intrastate access payment for either terminating or originating the
call. We record the details of the call through our carrier access billing
system, or CABS, and receive the access payment from the IXC. When one of our
customers originates the call, we typically provide billing and collection for
the IXC through a billing and collection agreement. The access charge for our
intrastate service is regulated and approved by the state regulatory authority.

INTERSTATE ACCESS CHARGES. We generate interstate access revenue when an
interstate long distance call is originated by a customer calling from one state
to a customer in another state. We bill interstate access charges in the same
manner as we bill intrastate access charges; however, the interstate access
charge is regulated and approved by the FCC instead of the state regulatory
authority.

USF REVENUE

The USF supplements the amount of local service revenue received by us to
ensure that basic local service rates for customers in high cost rural areas are
consistent with rates charged in lower cost urban and suburban areas. The USF,
which is funded by monthly fees charged to IXCs and LECs, distributes funds to
us on a monthly basis based upon our costs for providing local service. USF
payments represented approximately 17% of our revenues for the year ended
December 31, 2002. Of such support payments, approximately 10% of our revenues
resulted from the high cost loop support and is based upon our average cost per
loop compared to the national average cost per loop. The remaining 7% of our USF
payments consists of local switching support, long term support and interstate
common line support and is included in our interstate access revenues. This
reflects the changes in the universal service support as a result of the MAG
plan which moved the implicit support from access charges and made it explicit.
See "--Regulatory Environment."

LONG DISTANCE SERVICES

We offer switched and dedicated long distance services throughout our
service areas through resale agreements with national IXCs. In addition, through
Carrier Services, we offer wholesale long distance services to other independent
telephone companies. Currently, we provide long distance services to over forty
independent telephone companies in the United States.

DATA AND INTERNET SERVICES

We offer Internet access via DSL technology, dedicated T-1 connections,
Internet dial-up and wireless broadband. Customers can utilize this access in
combination with customer owned equipment and software to establish a presence
on the web. In addition, we offer enhanced Internet services, which include
obtaining Internet protocol addresses, basic web site design and hosting, domain
name

5
<Page>
services, content feeds and web-based e-mail services. Our services include
access to 24-hour, 7-day a week customer support.

OTHER SERVICES

We seek to capitalize on our RLECs' local presence and network
infrastructure by offering enhanced services to customers, as well as billing
and collection services for IXCs.

ENHANCED SERVICES. Our advanced digital switch platform allows us to offer
enhanced services such as call waiting, call forwarding and transferring, call
hunting, three-way calling, automatic callback, call hold, caller name and
number identification, voice mail, teleconferencing, video conferencing,
store-and-forward fax, follow-me numbers, Centrex services and direct inward
dial, or DID.

BILLING AND COLLECTION. Many IXCs provide long distance services to our
RLEC customers and elect to use our billing and collection services. Our RLECs
charge IXCs a billing and collection fee for each call record generated by the
IXC's customer.

OUR MARKETS

Our 29 RLECs operate as the incumbent local exchange carrier in each of
their respective markets. Our RLECs serve an average of approximately 13 access
lines per square mile versus the non-rural carrier average of approximately 128
access lines per square mile. Approximately 79% of these access lines serve
residential customers. Our business customers account for approximately 21% of
our access lines. Our business customers are predominantly in the agriculture,
light manufacturing and service industries.

SALES AND MARKETING

Our marketing approach emphasizes locally-managed, customer-oriented sales,
marketing and service. We believe most telecommunications companies devote their
resources and attention primarily toward customers in more densely populated
markets. We seek to differentiate ourself from our competitors by providing a
superior level of service to each of the customers in the rural markets we
serve.

Each of our RLECs has a long history in the communities it serves. It is our
policy to maintain and enhance the strong brand identity and reputation that
each RLEC enjoys in its markets, as we believe this is a significant competitive
advantage. As we market new services, we will seek to continue to utilize our
brand identity in order to attain higher recognition with potential customers.

To demonstrate our commitment to the markets we serve, we maintain local
offices in most of the population centers within our service territories. These
offices are typically staffed by local residents and provide sales and customer
support services in the community. We believe that local offices facilitate a
direct connection to the community, which improves customer satisfaction and
loyalty.

In addition, our strategy is to enhance our telecommunications services by
offering comprehensive bundling of services and deploying new technologies to
build upon the strong reputation we enjoy in our markets and to further promote
rural economic development in the rural communities we serve.

Many of the RLECs acquired by us traditionally have not devoted a
substantial amount of their operating budget to sales and marketing activities.
After acquiring the RLECs, we typically change this practice to provide
additional support for existing products and services as well as to support the
introduction of new services. As of December 31, 2002, we had 216 employees
engaged in sales, marketing and customer service.

We have two basic tiers of customers: (i) local customers located in our
local access and transport areas, or LATAs, who pay for local phone service and
(ii) the IXCs which pay us for access to customers located within our LATAs. In
general, the vast majority of our local customers are residential, as opposed to
business, which is typical for rural telephone companies.

6
<Page>
INFORMATION TECHNOLOGY AND SUPPORT SYSTEMS

Our approach to billing and OSS systems focuses on implementing
best-of-class applications that allow consistent communication and coordination
throughout our entire organization. Our objective is to improve profitability by
reducing individual company costs through the sharing of best practices,
centralization or standardization of functions and processes, and deployment of
technologies and systems that provide for greater efficiencies and
profitability.

NETWORK ARCHITECTURE AND TECHNOLOGY

Our RLEC networks consist of central office hosts and remote sites with
advanced digital switches, primarily manufactured by Nortel and Siemens,
operating with the most current software. The outside plant consists of
transport and distribution delivery networks connecting our host central office
with remote central offices and ultimately with our customers. As of
December 31, 2002, we maintained over 25,000 miles of copper plant and 2,200
miles of fiber optic plant. We own fiber optic cable, which has been deployed
throughout our current network and is the primary transport technology between
our host and remote central offices and interconnection points with other
incumbent carriers.

Our fiber optic transport system is primarily a synchronous optical network
and utilizes asynchronous optical systems for limited local or specialized
applications. Our fiber optic transport system of choice is capable of
supporting increasing customer demand for high bandwidth transport services and
applications due to its 240 gigabyte design and switching capacity. In the
future, this platform will enable direct asynchronous transfer mode, frame relay
and/or Internet protocol insertion into the synchronous optical network or
physical optical layer.

In our RLEC markets, DSL-enabled integrated access technology is being
deployed to provide significant broadband capacity to our customers. As of
December 31, 2002, we had invested approximately $7.6 million in this technology
and deployed this technology in all 29 of our RLECs, reaching 114 of 142
exchanges within these 29 RLECs.

To be successful, we will need to continue to provide our customers reliable
service over our network. Some of the risks to our network and infrastructure
include: physical damage to access lines; power surges or outages; software
defects; and disruptions beyond our control. Disruptions may cause interruptions
in service or reduced capacity for customers, either of which could cause us to
lose customers and incur expenses. In addition, rapid and significant changes in
technology are expected in the communications industry. Our future success will
depend, in part, on our ability to anticipate and adapt to technological
changes. We believe that our network architecture enables us to efficiently
respond to these technological changes.

DISCONTINUED OPERATIONS

In early 1998, we launched our competitive local exchange carrier, or CLEC,
enterprise through our wholly-owned subsidiary, Carrier Services. In
November 2001, we decided to discontinue such CLEC operations. This decision was
a proactive response to the deterioration in the capital markets, the general
slow-down of the economy and the slower-than-expected growth in Carrier
Services' CLEC operations. Carrier Services has discontinued its CLEC
operations.

Carrier Services will continue to provide wholesale long distance service
and support to our RLEC subsidiaries and other independent local exchange
companies. These services allow such companies to operate their own long
distance communication services and sell such services to their respective
customers.

7
<Page>
REGULATORY ENVIRONMENT

Our communications services are subject to extensive federal, state and
local regulation. We hold various regulatory authorizations for our service
offerings. At the federal level, the Federal Communications Commission, or FCC,
generally exercises jurisdiction over all facilities and services of
telecommunications common carriers, such as us, to the extent those facilities
are used to provide, originate, or terminate interstate or international
communications. State regulatory commissions generally exercise jurisdiction
over such facilities and services to the extent those facilities are used to
provide, originate or terminate intrastate communications. In addition, pursuant
to the Telecommunications Act, state and federal regulators share responsibility
for implementing and enforcing the domestic pro-competitive policies introduced
by that legislation. In particular, state regulatory agencies have substantial
oversight over the provision by incumbent telephone companies of interconnection
and non-discriminatory network access to competitive communications providers.
Local governments often regulate the public rights-of-way necessary to install
and operate networks, and may require communications services providers to
obtain licenses or franchises regulating their use of public rights-of-way.
Additionally, municipalities and other local government agencies may regulate
limited aspects of our business, including our use of public rights of way, and
by requiring us to obtain construction permits and abide by building codes.

We believe that competition in our telephone service areas will increase in
the future as a result of the Telecommunications Act, although the ultimate form
and degree of competition cannot be ascertained at this time. To date, we do not
believe that we have encountered significant competition in our traditional
telephone markets.

FEDERAL REGULATION

We must comply with the Communications Act of 1934, as amended, which
requires, among other things, that communications carriers offer services at
just and reasonable rates and on non-discriminatory terms and conditions. The
amendments to the Communications Act contained in the Telecommunications Act
dramatically changed and are expected to continue to change the landscape of the
telecommunications industry. The central aim of the Telecommunications Act was
to open local telecommunications marketplaces to competition while enhancing
universal service. Most significantly, the Telecommunications Act governs the
removal of barriers to market entry into local telephone services, requires
ILECs to interconnect with competitors, establishes procedures pursuant to which
ILECs may provide other services, such as the provision of long distance
services by RBOCs, and imposes on ILECs duties to negotiate in good faith.

REMOVAL OF ENTRY BARRIERS. Prior to the enactment of the Telecommunications
Act, many states limited the services that could be offered by a company
competing with an incumbent local telephone company. The Telecommunications Act
preempts state and local laws that prevent competitive entry into the provision
of any communications service. However, states can modify conditions of entry
into areas served by rural telephone companies where the state utility
commission determines that competitive entry is in the public interest. Since
the passage of the Telecommunications Act, we have experienced only limited
competition from cable and wireless service providers.

INTERCONNECTION WITH LOCAL TELEPHONE COMPANIES AND ACCESS TO OTHER
FACILITIES. In order to create an environment in which local competition is a
practical possibility, the Telecommunications Act imposes a number of access and
interconnection requirements on all local communications providers. All local
carriers must interconnect with other carriers, permit resale of their services,
provide local telephone number portability and dialing parity, provide access to
poles, ducts, conduits, and rights-of-way, and complete calls originated by
competing carriers under reciprocal compensation or mutual termination
arrangements.

8
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Because all of our 29 subsidiaries qualify as RLECs under the
Telecommunications Act, they have an exemption from the incumbent local
telephone company interconnection requirements until they receive a bona fide
request for interconnection and the applicable state telecommunications
regulatory commission lifts the exemption.

ACCESS CHARGES. The FCC regulates the prices that incumbent local telephone
companies charge for the use of their local telephone facilities in originating
or terminating interstate transmissions. The FCC has structured these prices,
also referred to as "access charges," as a combination of flat monthly charges
paid by the end-users and usage sensitive charges paid by long distance
carriers. State regulatory commissions regulate intrastate access charges. Many
states generally mirror the FCC price structure. A significant amount of our
revenues come from network access charges, which are paid to us by intrastate
carriers and interstate long distance carriers for originating and terminating
calls in the regions served by our rural telephone companies. The amount of
access charge revenues that we receive is based on rates set by federal and
state regulatory bodies, and such rates are subject to change at any time.

The FCC regulates the levels of interstate access charges by imposing price
caps on larger incumbent local telephone companies. These price caps can be
adjusted based on various formulae, such as inflation and productivity, and
otherwise through regulatory proceedings. Smaller incumbents may elect to base
access charges on price caps, but are not required to do so unless they elected
to use price caps in the past or their affiliated incumbent local telephone
companies base their access charges on price caps. Each of our 29 incumbent
local telephone subsidiaries elected not to apply federal price caps. Instead,
our subsidiaries employ rate-of-return regulation for their interstate access
charges.

The FCC has made, and is continuing to consider, various reforms to the
existing rate structure for charges assessed on long distance carriers for
connection to local networks. States often mirror federal rules in establishing
intrastate access charges. In 2001, the FCC adopted an order implementing the
beginning phases of the MAG plan to reform the access charge system for rural
carriers. The MAG plan is revenue neutral to our operating companies. Among
other things, the MAG plan reduces access charges and shifts a portion of cost
recovery, which historically have been based on minutes-of-use, to flat-rate,
monthly per line charges on end-user customers rather than long distance
carriers. As a result, the aggregate amount of access charges paid by long
distance carriers to access providers, such as our rural telephone companies has
decreased and may continue to decrease. In adopting the MAG plan, the FCC also
determined that rate-of-return carriers will continue to be permitted to set
rates based on the authorized rate of return of 11.25 percent. Additionally, the
FCC initiated a rulemaking proceeding to investigate the MAG's proposed
incentive regulation plan and other means of allowing rate-of-return carriers to
increase their efficiency and competitiveness. The MAG plan expires in 2006 and
will need to be renewed or replaced at such time. In addition, to the extent our
rural telephone companies become subject to competition in their own local
exchange areas, such access charges could be paid to competing local exchange
providers rather than to us. Additionally, the access charges we receive may be
reduced as a result of wireless competition. Such a circumstance could have a
material adverse effect on our financial condition and results of operations. It
is unknown at this time what additional changes, if any, the FCC may eventually
adopt.

RLEC SERVICES REGULATION. Our RLEC services segment revenue is subject to
regulation including incentive regulation by the FCC and various state
regulatory agencies. We believe that state lawmakers will continue to review the
statutes governing the level and type of regulation for telecommunications
services. It is expected that over the next few years, legislative and
regulatory actions will provide opportunities to restructure rates, introduce
more flexible incentive regulation programs and possibly reduce the overall
level of regulation. We expect the election of incentive regulation plans and
the expected reduction in the overall level of regulation to allow us to
introduce new services more expeditiously than in the past.

9
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The FCC generally must approve in advance most transfers of control and
assignments of operating authorizations by FCC-regulated entities. Therefore, if
we seek to acquire companies that hold FCC authorizations, in most instances we
will be required to seek approval from the FCC prior to completing those
acquisitions. The FCC has the authority to condition, modify, cancel, terminate
or revoke operating authority for failure to comply with applicable federal laws
or rules, regulations and policies of the FCC. Fines or other penalties also may
be imposed for such violations.

The FCC has required that incumbent, independent, local exchange carriers,
that provide interstate long distance services originating from their local
exchange service territories, must do so in accordance with "structural
separation" rules. These rules require that our long distance affiliates
(i) maintain separate books of account, (ii) not own transmission or switching
facilities jointly with the local exchange affiliate, and (iii) acquire any
services from its affiliated local exchange telephone company at tariffed rates,
terms and conditions. The FCC has initiated a rulemaking proceeding to examine
whether there is a continuing need for such requirements, however, we cannot
predict the outcome of that proceeding.

STATE REGULATION

Most states have some form of certification requirement that requires
providers of telecommunications services to obtain authority from the state
telecommunications regulatory commission prior to offering common carrier
services. Our 29 RLECs operate as the incumbent local telephone companies in
each of the 18 states in which we operate and are certified in those states to
provide local telephone services. State telecommunications regulatory
commissions generally regulate the rates incumbent local telephone companies
charge for intrastate services, including rates for intrastate access services
paid by providers of intrastate long distance services. Although the FCC has
preempted certain state regulations pursuant to the Telecommunications Act,
states have retained authority to impose requirements on carriers necessary to
preserve universal service, protect public safety and welfare, ensure quality of
service and protect consumers. For instance, incumbent local telephone companies
must file tariffs setting forth the terms, conditions and prices for their
intrastate services, and such tariffs may be challenged by third parties.
Subsidiaries of the Company recently completed rate cases in Vermont and
Illinois and have rate cases pending in Kansas and Maine.

Under the Telecommunications Act, state telecommunications regulatory
agencies have jurisdiction to arbitrate and review interconnection disputes and
agreements between incumbent local telephone companies and competitive local
telephone companies, in accordance with rules set by the FCC. However, because
all of our 29 subsidiaries qualify as RLECs under the Telecommunications Act,
they have an exemption from the incumbent local telephone company
interconnection requirements until they receive a bona fide request for
interconnection and the applicable state telecommunications regulatory
commission lifts the exemption. State regulatory commissions may also formulate
rules regarding taxes and fees imposed on providers of telecommunications
services within their respective states to support state universal service
programs. States often require prior approvals or notifications for certain
acquisitions and transfers of assets, customers, or ownership of regulated
entities. Therefore, in most instances we will be required to seek state
approval prior to completing new acquisitions of RLECs. States generally retain
the right to sanction a carrier or to revoke certifications if a carrier
materially violates relevant laws and/or regulations.

LOCAL GOVERNMENT AUTHORIZATIONS

We may be required to obtain from municipal authorities permits for street
opening and construction or operating franchises to install and expand fiber
optic facilities in certain rural communities. Some of these franchises may
require the payment of franchise fees. We have obtained such municipal
franchises as were required. In some rural areas, we do not need to obtain such
permits

10
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or franchises because the subcontractors or electric utilities with which we
have contracts already possess the requisite authorizations to construct or
expand our networks.

THE PROMOTION OF LOCAL SERVICE COMPETITION AND TRADITIONAL TELEPHONE
COMPANIES

As discussed above, the Telecommunications Act provides, in general, for the
removal of barriers to entry into the telecommunications industry in order to
promote competition for the provision of local service. Congress, however, has
recognized that states should not be prohibited from taking actions necessary to
preserve and advance universal service, and has further recognized that special
consideration should be given to the appropriate conditions for competitive
entry in areas served by rural telephone companies.

Pursuant to the Telecommunications Act, local exchange carriers, including
both incumbent telephone companies and competitive communications providers, are
required to: (i) allow others to resell their services at retail rates;
(ii) ensure that customers can keep their telephone numbers when changing
carriers; (iii) ensure that competitors' customers can use the same number of
digits when dialing and receive nondiscriminatory access to telephone numbers,
operator service, directory assistance and directory listing; (iv) ensure access
to telephone poles, ducts, conduits and rights of way; and (v) compensate
competitors for the competitors' costs of completing calls to competitors'
customers. Competitors are required to compensate the incumbent telephone
company for the cost of providing these interconnection services. Under the
Telecommunications Act, our RLECs may request from state public utility
commissions, or PUCs, exemption, suspension or modification of any or all of the
requirements described above. A PUC may grant such a request if it determines
that such exemption, suspension or modification is consistent with the public
interest and necessary to avoid a significant adverse economic impact on
communications users and generally avoid imposing a requirement that is
technically unfeasible or unduly economically burdensome. If a PUC denies some
or all of any such request made by one of our RLECs, or did not allow us
adequate compensation for the costs of providing interconnection, our costs
could increase. In addition, with such a denial, competitors could enjoy
benefits that would make their services more attractive than if they did not
receive such interconnection rights. We have not filed any such requests.

The Telecommunications Act, with certain exceptions, imposes the following
additional duties on incumbent telephone companies, by requiring them to:
(i) interconnect their facilities and equipment with any requesting
telecommunications carrier at any technically feasible point; (ii) unbundle and
provide nondiscriminatory access to network elements, such as local loops,
switches and transport facilities, at nondiscriminatory rates and on
nondiscriminatory terms and conditions; (iii) offer their retail services for
resale at wholesale rates; (iv) provide reasonable notice of changes in the
information necessary for transmission and routing of services over the
incumbent telephone company's facilities or in the information necessary for
interoperability; and (v) provide, at rates, terms and conditions that are just,
reasonable and nondiscriminatory, for the physical co-location of equipment
necessary for interconnection or access to unbundled network elements at the
premises of the incumbent telephone company. Competitors are required to
compensate the incumbent telephone company for the cost of providing these
interconnection services. However, pursuant to the Telecommunications Act our
RLECs are automatically exempt from these additional incumbent telephone company
requirements, except in Florida where the legislature has determined that all
local exchange carriers are required to provide interconnection services as
prescribed in the Telecommunications Act. This exemption can be rescinded or
modified by a state PUC if a competing carrier files a bona fide request for
interconnection services or access to network elements. If such a request is
filed by a potential competitor with respect to one of our operating
territories, we are likely to ask the relevant PUC to retain the exemption. A
PUC may grant such a potential competitor's request if it determines such
interconnection request is not unduly economically burdensome, is technically
feasible and is consistent with universal service obligations. If a state PUC
rescinds such exemption in whole or in part and if the state PUC does not allow
us

11
<Page>
adequate compensation for the costs of providing the interconnection, our costs
would significantly increase and we could suffer a significant loss of customers
to competitors. In addition, we could incur additional administrative and
regulatory expenses as a result of the interconnection requirements.

PROMOTION OF UNIVERSAL SERVICE

The USF payments received by our RLECs from the USF Fund are intended to
support the high cost of our operations in rural markets. Such USF support
payments represented 17% of our revenues for the year ended December 31, 2002.
If our RLECs were unable to receive USF support payments, or if such support
payments were reduced, many of our RLECs would be unable to operate as
profitably as they have historically. Furthermore, under the current regulatory
scheme, as the number of access lines that we have in any given state increases,
the rate at which we can recover certain support payment decreases. Therefore,
as we implement our growth strategy, our eligibility for such support payments
may decrease.

Universal service rules have been adopted by both the FCC and the PUCs. One
of the implemented principles provides that USF funds will be distributed only
to carriers that are designated as eligible telecommunications carriers, or
ETCs, by a state PUC. All of our rural telephone companies have been designated
as ETCs pursuant to the Telecommunications Act. However, under the
Telecommunications Act, competitors could obtain the same support payments as we
do if a PUC determined that granting such support payments to competitors would
be in the public interest.

Traditional telephone companies receive USF payments pursuant to existing
mechanisms for determining the amounts of such payments with some limitations,
such as on the amount of corporate operating expense that can be recovered from
the USF.

Two notable regulatory changes enacted by the FCC in the last two years are
the adoption, with certain modifications, of the RTF's proposed framework for
rural high-cost universal service support and the implementation of the
beginning phases of the MAG plan. The RTF Order modifies the existing universal
service support mechanism for RLECs and adopts an interim embedded, or
historical, cost mechanism for a five-year period that provides predictable
levels of support to rural carriers. The FCC has stated its intention to develop
a long-term plan based on forward-looking costs when the five-year period
expires in 2006. The MAG plan creates a new universal service support mechanism,
Interstate Common Line Support, to replace implicit support for universal
service in access charges.

In addition, there are a number of appeals challenging several aspects of
the FCC's universal service rules. It is not possible to predict at this time
whether the FCC or Congress will order modification to those rules, or the
ultimate impact any such modification might have on us.

POTENTIAL INTERNET REGULATORY OBLIGATIONS

In connection with our Internet access offerings, we could become subject to
laws and regulations as they are adopted or applied to the Internet. There is
currently only a small body of laws and regulations applicable to access to or
commerce on the Internet. As the significance of the Internet expands, federal,
state and local governments may adopt rules and regulations, or apply existing
laws and regulations to the Internet. The FCC is currently reviewing the
appropriate regulatory framework governing broadband access to the Internet
through telephone and cable operators' communications networks. The outcome of
these proceedings may affect our regulatory obligations and the form of
competition for these services. We cannot predict the nature of these
regulations or their impact on our business.

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<Page>
OTHER REGULATIONS

Our operations and properties are subject to federal, state and local laws
and regulations relating to protection of the environment, natural resources,
and worker health and safety, including laws and regulations governing the
management, storage and disposal of hazardous substances, materials and wastes.
Under certain environmental laws, we could be held liable, jointly and severally
and without regard to fault, for the costs of investigating and remediating any
contamination at owned or operated properties; or for contamination arising from
the disposal by us or our predecessors of hazardous wastes at formerly-owned
properties or at third-party waste disposal sites. In addition, we could be held
responsible for third-party property or personal injury claims relating to any
such contamination or relating to violations of environmental laws. Changes in
existing laws or regulations or future acquisitions of businesses could require
us to incur substantial costs in the future relating to such matters.

COMPETITION

We believe that the Telecommunications Act and other recent actions taken by
the FCC and state regulatory authorities promote competition in the provision of
telecommunications services; however, many of the competitive threats now
confronting the large telephone companies do not currently exist in the RLEC
marketplace. Our RLECs historically have experienced little competition as the
incumbent carrier because the demographic characteristics of rural
telecommunications markets generally will not support the significant capital
investment required to offer competitive services. For instance, the per minute
cost of operating both telephone switches and interoffice facilities is higher
in rural areas, as RLECs typically have fewer, more geographically dispersed
customers and lower calling volumes. Also, the distance from the telephone
switch to the customer is typically longer in rural areas, which results in
increased distribution facilities costs. These relatively high costs tend to
discourage competitors from entering territories serviced by RLECs. As a result,
RLECs generally are not faced with the threat of significant competition. In
fact, we have virtually no wireline competition in any of our RLEC markets.

In certain of our rural markets, we face competition from wireless
technology. We do not expect this technology to represent a significant threat
in the near term, but as technology and economies of scale improve we may
experience increased competition from wireless carriers. We also face
competition from new market entrants, such as cable television and electric
utilities companies. Cable television companies are entering the
telecommunications market by upgrading their networks with fiber optics and
installing facilities to provide fully interactive transmission of broadband
voice, video and data communications. Electric utilities have existing assets
and low cost access to capital that could allow them to enter a market rapidly
and accelerate network development.

The Internet services market is also highly competitive, and we expect that
competition will continue to intensify. Internet services, meaning both Internet
access (wired and wireless) and on-line content services, are provided by
Internet service providers, satellite-based companies, long distance carriers
and cable television companies. Many of these companies provide direct access to
the Internet and a variety of supporting services to businesses and individuals.
In addition, many of these companies, such as America Online, Inc., Microsoft
Network and Yahoo, offer on-line content services consisting of access to
closed, proprietary information networks. Long distance companies and cable
television operators, among others, are aggressively entering the Internet
access markets. Long distance carriers have substantial transmission
capabilities, traditionally carry data to large numbers of customers and have an
established billing system infrastructure that permits them to add new services.
Satellite companies are offering broadband access to the Internet from desktop
PCs. Many of these competitors have substantially greater financial,
technological, marketing, personnel, name-brand recognition and other resources
than those available to us.

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In addition, we could face increased competition from CLECs, particularly in
offering services to Internet service providers.

EMPLOYEES

As of December 31, 2002, we employed a total of 803 full-time employees,
including 126 employees of our RLEC companies represented by four unions. We
believe the state of our relationship with our union and non-union employees is
satisfactory. Within our Company, 26 employees are employed at our corporate
office, 771 employees are employed at our RLEC companies and 6 employees are
employed by Carrier Services.

ITEM 2. PROPERTIES

We own all of the properties material to our business. Our headquarters is
located in Charlotte, North Carolina. We also have administrative offices,
maintenance facilities, rolling stock, central office and remote switching
platforms and transport and distribution network facilities in each of the 18
states in which we operate our RLEC business. Our administrative and maintenance
facilities are generally located in or near the rural communities served by our
RLECs and our central offices are often within the administrative building and
outlying customer service centers. Auxiliary battery or other non-utility power
sources are at each central office to provide uninterrupted service in the event
of an electrical power failure. Transport and distribution network facilities
include fiber optic backbone and copper wire distribution facilities, which
connect customers to remote switch locations or to the central office and to
points of presence or interconnection with the incumbent long distance carrier.
These facilities are located on land pursuant to permits, easements or other
agreements. Our rolling stock includes service vehicles, construction equipment
and other required maintenance equipment.

We believe each of our respective properties is suitable and adequate for
the business conducted therein, is being appropriately used consistent with past
practice and has sufficient capacity for the present intended purposes.

ITEM 3. LEGAL PROCEEDINGS

We currently and from time to time are involved in litigation and regulatory
proceedings incidental to the conduct of our business, but we are not a party to
any lawsuit or proceeding which, in our opinion, is likely to have a material
adverse effect on us.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of our security holders during the
fourth quarter of the fiscal year.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

There is no established public market for the common equity of the Company.
Substantially all of the Company's outstanding common equity securities are
owned by affiliates of Kelso & Company ("Kelso"), Thomas H. Lee Equity Fund IV,
L.P. ("THL"), certain institutional investors and the Company's executive
officers and directors.

As of March 25, 2003, there were approximately 69 record holders of the
Company's Class A common stock and 14 record holders of the Company's Class C
common stock.

14
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There were 6,201,546 options to purchase shares of Class A common stock
outstanding as of March 25, 2003, of which 4,303,376 were fully vested.

There are no shares of the Company's common stock that could be sold
pursuant to Rule 144 under the Securities Act or, other than pursuant to the
Company's registration rights agreement with certain of our stockholders, that
we have agreed to register under the Securities Act for sale by the security
holders.

Our ability to pay dividends is governed by restrictive covenants contained
in the indentures governing our publicly held debt as well as restrictive
covenants in our bank lending arrangements. We have never paid cash dividends on
our equity securities and currently have no intention of paying cash dividends
on our equity securities for the foreseeable future. For a description of
certain restrictions on our ability to pay dividends, see "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Description of Certain Indebtedness."

EQUITY COMPENSATION PLAN INFORMATION

<Table>
<S> <C> <C> <C>
Number of shares
remaining available
for
future issuance under
Number of shares Weighted-average equity compensation
to be issued upon exercise price of plans (excluding
exercise of outstanding securities reflected
outstanding options, options, warrants, in
warrants and rights and rights column (a))
Plan Category (a) (b) (c)
- --------------------- --------------------- --------------------- ---------------------
Equity compensation
plans approved by
stockholders....... 6,244,401 $2.85 3,818,009
Equity compensation
plans not approved
by stockholders.... 0 $0 0
</Table>

For a description of our equity compensation plans, see "Item 11. Executive
Compensation."

ITEM 6. SELECTED FINANCIAL DATA

Certain of the selected financial data presented below under the captions
"Statement of Operations," "Operating Data," "Summary Cash Flow Data" and
"Balance Sheet Data" as of December 31, 2001 and 2002, and for each of the years
in the three-year period ended December 31, 2002, are derived from the
consolidated financial statements of FairPoint, which financial statements have
been audited by KPMG LLP, independent auditors. The consolidated financial
statements as of December 31, 2001 and 2002, and of each of the years in the
three-year period ended December 31, 2002, and the report thereon, are included
elsewhere in this report. The following financial information should be read in
conjunction with "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations" and "Item 8. Independent Auditors Report
and Consolidated Financial Statements." All amounts are in thousands, except
access lines and ratios.

15
<Page>

<Table>
<Caption>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
1998 1999 2000 2001 2002
-------- -------- -------- --------- --------
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS:
Revenues.......................................... $ 91,168 $136,422 $195,696 $ 235,213 $235,860
-------- -------- -------- --------- --------
Operating expenses:
Operating costs................................. 50,449 72,518 97,587 117,801 112,272
Depreciation and amortization(1)................ 20,041 30,885 47,070 56,064 47,060
Stock-based compensation expense................ -- 3,386 12,323 1,337 924
-------- -------- -------- --------- --------
Total operating expenses.......................... 70,490 106,789 156,980 175,202 160,256
-------- -------- -------- --------- --------
Income from operations............................ 20,678 29,633 38,716 60,011 75,604
Interest expense(2)............................... (27,170) (50,464) (59,556) (81,053) (79,796)
Other income (expense), net(3).................... (1,180) 4,892 13,281 (1,874) (1,549)
-------- -------- -------- --------- --------
Loss from continuing operations before income
taxes........................................... (7,672) (15,939) (7,559) (22,916) (5,741)
Income tax (expense) benefit(3)................... 2,164 (2,179) (5,607) (431) (518)
Minority interest in income of subsidiaries....... (80) (100) (3) (2) (2)
-------- -------- -------- --------- --------
Loss from continuing operations................... (5,588) (18,218) (13,169) (23,349) (6,261)
Income (loss) from discontinued operations........ (2,412) (10,822) (75,948) (188,251) 19,500
-------- -------- -------- --------- --------
Net income (loss)................................. (8,000) (29,040) (89,117) (211,600) 13,239
-------- -------- -------- --------- --------
Redeemable preferred stock dividends and
accretion....................................... -- -- -- -- (11,918)
Net income (loss) attributable to common
shareholders.................................... $ (8,000) $(29,040) $(89,117) $(211,600) $ 1,321
======== ======== ======== ========= ========

OPERATING DATA:
RLEC revenues(4).................................. $ 86,724 $133,835 $191,778 $ 225,070 $228,543
Adjusted RLEC EBITDA(5)........................... 44,076 69,015 111,403 123,564 132,685
Adjusted RLEC EBITDA margin(6).................... 50.8% 51.6% 58.1% 54.9% 58.1%
Depreciation and amortization(1).................. $ 20,041 $ 30,885 $ 47,070 $ 56,064 $ 47,060
Capital expenditures.............................. 10,917 28,293 50,253 43,701 39,454
Total access lines in service..................... 129,649 150,612 235,823 244,626 243,408
Residential..................................... 103,656 120,387 184,798 191,570 191,598
Business........................................ 25,993 30,225 51,025 53,056 51,810
Ratio of earnings to fixed charges(7)............. -- -- -- -- --

SUMMARY CASH FLOW DATA:
Net cash provided by operating activities of
continuing operations......................... $ 17,778 $ 25,187 $ 48,110 $ 38,757 $ 58,752
Net cash provided by (used in) investing
activities of continuing operations........... (223,836) (61,233) (285,907) (57,944) (31,179)
Net cash provided by (used in) financing
activities of continuing operations........... 217,074 47,480 300,089 101,234 (12,546)
Net cash contributed from continuing operations
to discontinued operations.................... (4,693) (15,309) (67,431) (83,114) (12,518)

BALANCE SHEET DATA (AT PERIOD END):
Cash.............................................. $ 13,145 $ 9,269 $ 4,130 $ 3,063 $ 5,572
Working capital (deficit)(8)(9)................... 9,557 13,880 (37,384) (143,434) (27,358)
Property, plant and equipment, net................ 140,838 162,202 277,369 283,280 276,717
Total assets(9)................................... 446,410 517,356 863,547 875,015 829,253
Total long-term debt.............................. 368,112 462,395 756,812 907,602 804,190
Total net debt(10)................................ 354,967 453,126 752,682 904,539 798,618
RLEC total net debt(11)........................... 354,967 431,379 672,682 778,739 769,789
Series A preferred stock.......................... -- -- -- -- 90,307
Total stockholders' equity (deficit).............. 9,886 (11,581) 64,378 (149,510) (146,150)
</Table>

- --------------------------

(1) On January 1, 2002, the Company adopted SFAS No. 142, "Business
Combinations." Pursuant to the requirements of SFAS No. 142, the Company
ceased amortizing goodwill beginning January 1, 2002, and instead tests for
goodwill impairment annually. Amortization expense for goodwill and equity
method goodwill was $3,332, $5,497, $9,950 and $12,180 in fiscal 1998, 1999,
2000 and 2001, respectively. Depreciation and amortization excludes
amortization of debt issue costs.

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<Page>
(2) Interest expense includes amortization of debt issue costs aggregating
$1,368, $1,575, $2,362, $4,018 and 3,664 for the fiscal years ended
December 31, 1998, 1999, 2000, 2001 and 2002, respectively. In 1999,
interest expense includes $13,331 related to the retirement of put warrants
of one of our subsidiaries.

(3) On January 1, 2001, the Company adopted the provisions of SFAS No. 133,
"Accounting for Derivative Instruments and Certain Hedging Activities," as
amended by SFAS No. 138. On the date of adoption, the Company recorded a
cumulative adjustment of $4,664 in accumulated other comprehensive income
for the fair value of the interest rate swaps. Because the interest rate
swaps do not qualify as accounting hedges under SFAS No. 133, the change in
fair value of the interest rate swaps are recorded as non-operating gains or
losses, which the Company classifies in other income (expense). The Company
also recorded other income (expense) in 2001 and 2002 for the amortization
of the transition adjustment of the swaps initially recognized in
accumulated other comprehensive income.

In the second quarter of 2002, the Company adopted SFAS No. 145, "Rescission
of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13 and
Technical Corrections." This statement eliminates the requirement that gains
and losses from the extinguishment of debt be required to be aggregated and,
if material, classified as an extraordinary item, net of related income tax
effect. Accordingly, the Company has reclassified the loss and income tax
benefit associated with the extinguishment of debt in 1998, which was
previously reported as an extraordinary loss of $2,521. The
reclassifications decreased nonoperating other income (expense) by $4,276
and increased income tax benefit by $1,755 in 1998.

(4) "RLEC revenues" means revenues of the Company and its subsidiaries,
excluding Carrier Services.

(5) "EBITDA" means net income (loss) from continuing operations before interest
expense, income taxes, and depreciation and amortization. "Adjusted RLEC
EBITDA" means EBITDA of the Company and its subsidiaries, adjusted to
exclude the effects of: (i) changes in the fair value of the interest rate
swaps and related amortization of the transition adjustment required
following the adoption of SFAS No. 133, (ii) non-cash stock based
compensation expense, (iii) losses from the extinguishment of debt,
(iv) impairment losses for declines in the fair value of investments
"other-than-temporary", and (v) Carrier Services' EBITDA. We believe that
EBITDA and Adjusted EBITDA are generally considered as useful information
regarding a company's ability to incur and service debt. While providing
useful information, EBITDA should not be considered in isolation or as a
substitute for consolidated statement of operations and cash flows data
prepared in accordance with generally accepted accounting principles. See
"Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources." Adjusted RLEC
EBITDA is calculated as follows (in thousands):

<Table>
<Caption>
YEAR ENDED DECEMBER 31
----------------------------------------------------
1998 1999 2000 2001 2002
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Loss from continuing operations............ $ (5,588) $(18,218) $(13,169) $(23,349) $ (6,261)
Adjustments:
Interest expense(2)...................... 27,170 50,464 59,556 81,053 79,796
Provision for income taxes............... (2,164) 2,179 5,607 431 518
Depreciation and amortization............ 20,041 30,885 47,070 56,064 47,060
-------- -------- -------- -------- --------
EBITDA..................................... 39,459 65,310 99,064 114,199 121,113
Adjustments:
Interest rate swaps(12).................. -- -- -- 8,134 (698)
Non-cash stock based compensation........ -- 3,386 12,323 1,337 924
Loss on extinguishment of debt........... 4,276 -- -- -- --
Impairment of investments................ -- -- -- -- 12,568
Carrier Services EBITDA.................. 341 319 16 (106) (1,222)
-------- -------- -------- -------- --------
Adjusted RLEC EBITDA....................... $ 44,076 $ 69,015 $111,403 $123,564 $132,685
======== ======== ======== ======== ========
</Table>

(6) "Adjusted RLEC EBITDA margin" means Adjusted RLEC EBITDA as a percentage of
RLEC revenues.

(7) For purposes of determining the ratio of earnings to fixed charges, earnings
are defined as earnings (losses) from continuing operations before income
taxes, minority interest and income or loss from equity investments, plus
distributed income of equity investments, amortization of capitalized
interest, and fixed charges. Fixed charges include interest expense on
indebtedness, capitalized interest and rental expense on operating leases
representing that portion of rental expense deemed to be attributable to
interest. We had a deficiency to cover

17
<Page>
fixed charges of $8,485, $15,846, $9,255, $22,854 and $4,596 for the years
ended December 31, 1998, 1999, 2000, 2001 and 2002, respectively.

(8) In 2001, the working capital deficit included $125.8 million related to the
debt under the Carrier Services credit facility classified as a current
liability.

(9) On January 1, 2002, the Company adopted the provisions of SFAS No. 144,
which required reclassification of the net liabilities of discontinued
operations to the applicable asset and liability sections on the balance
sheets. There was no change to the measurement of the Company's provisions
for discontinued operations as the Company initiated its plan of disposal
prior to December 31, 2001.

(10) "Total net debt" means long term debt of Company and its subsidiaries less
cash on hand.

(11) "RLEC total net debt" means total debt of the Company and its subsidiaries
less cash on hand, excluding Carrier Services' debt.

(12) Represents an increase or decrease in the estimated amount we would have to
pay to cancel or transfer to third parties interest rate swaps to which we
are a party. Interest rate swaps with notional amounts of $75,000 and
$100,000 expire in May 2003 and November 2003, respectively.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

OVERVIEW

We were incorporated in February 1991 for the purpose of acquiring and
operating telephone companies in rural markets. Since our inception, we have
acquired 29 such businesses, which are located in 18 states. All of our
telephone company subsidiaries qualify as RLECs under the Telecommunications
Act. RLECs are generally characterized by stable operating results and strong
cash flow margins and operate in generally supportive regulatory environments.
In particular, pursuant to existing state and federal regulations, we are able
to charge rates that enable us to recover our operating costs, plus a reasonable
rate of return on our invested capital (as determined by the relevant regulatory
authorities). In addition, because RLECs primarily serve sparsely populated
rural areas and small towns, competition is typically limited due to the
generally unfavorable economics of constructing and operating competitive
systems in such areas and difficulties inherent in reselling such services to a
predominantly residential customer base.

REVENUES

We derive our revenues from:

- LOCAL CALLING SERVICES. We receive revenues from providing local exchange
telephone services, including monthly recurring charges for basic service,
usage charges for local calls and service charges for special calling
features.

- UNIVERSAL SERVICE FUND, OR USF. We receive payments from the USF to
support the high cost of providing local telephone services in rural
locations.

- INTERSTATE ACCESS REVENUE. These revenues are primarily based on a
regulated return on rate base and recovery of allowable expenses
associated with the origination and termination of toll calls both to and
from our customers. Interstate access charges to long distance carriers
and other customers are based on access rates filed with the FCC.

- INTRASTATE ACCESS REVENUE. These revenues consist primarily of charges
paid by long distance companies and other customers for access to our
networks in connection with the origination

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<Page>
and/or termination of long distance telephone calls both to and from our
customers. Intrastate access charges to long distance carriers and other
customers are based on access rates filed with the state regulatory
agencies.

- LONG DISTANCE SERVICES. We receive revenues for long distance services to
our retail and wholesale long distance customers.

- DATA AND INTERNET SERVICES. We receive revenues from monthly recurring
charges for services, including digital subscriber line, special access,
private lines, Internet and other services.

- OTHER SERVICES. We receive revenues from other services, including billing
and collection, directory services and sale and maintenance of customer
premise equipment.

The following summarizes our percentage of revenues from continuing
operations from these sources:

<Table>
<Caption>
% OF REVENUE
REVENUE (IN THOUSANDS) YEARS ENDED
YEARS ENDED DECEMBER 31 DECEMBER 31
------------------------------ ------------------------------
REVENUE SOURCE 2000 2001 2002 2000 2001 2002
- -------------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Local calling services......................... $43,624 $52,056 $55,296 22% 22% 23%
USF--high cost loop support.................... 12,390 19,119 22,601 6% 8% 10%
Interstate access revenue...................... 53,115 68,102 67,955 27% 29% 29%
Intrastate access revenue...................... 49,944 49,302 44,688 26% 21% 19%
Long distance services......................... 12,816 20,050 17,270 7% 9% 7%
Data and Internet services..................... 4,445 7,352 9,599 2% 3% 4%
Other services................................. 19,362 19,232 18,451 10% 8% 8%
</Table>

OPERATING EXPENSES

Our operating expenses are categorized as operating expenses; depreciation
and amortization; and stock-based compensation.

- Operating expenses include costs incurred in connection with the operation
of our central offices and outside plant facilities and related
operations. In addition to the operational costs of owning and operating
our own facilities, we also purchase long distance services from the
RBOCs, large independent telephone companies and third party long distance
providers. In addition, our operating expenses include expenses relating
to sales and marketing, customer service and administration and corporate
and personnel administration.

- Depreciation and amortization includes depreciation of our communications
network and equipment. Prior to January 1, 2002, and the implementation of
SFAS No. 142, this category also included amortization of goodwill
relating to our acquisitions.

- Stock-based compensation consists of non-cash compensation charges
incurred in connection with the employee stock options of our executive
officers, and stockholder appreciation rights agreements granted to two
executive officers.

ACQUISITIONS

Our past acquisitions have had a major impact on our operations.

- During 2002, we made no acquisitions.

- During 2001, we acquired one RLEC and certain assets of additional
telephone exchanges for an aggregate purchase price of $24.2 million,
which included $0.7 million of acquired debt. At the respective dates of
acquisition, these businesses served an aggregate of approximately 5,600
access lines.

19
<Page>
- During 2000, we acquired four RLECs for an aggregate purchase price of
$363.1 million, which included $86.9 million of acquired debt. At the
respective dates of acquisition, these companies served an aggregate of
approximately 79,500 access lines.

We expect that a portion of our future growth will result from additional
acquisitions, some of which may be material. We may not be able to succesfully
complete the integration of the businesses we have already acquired or
successfully integrate any businesses we might acquire in the future. If we fail
to do so, or if we do so at a greater cost than anticipated, or if our acquired
businesses do not experience significant growth, there will be a risk that our
business may be adversely affected.

STOCK-BASED COMPENSATION

In March 2002, we recognized a non-cash compensation benefit of
$0.2 million associated with the reduction in estimated fair market value of the
stockholder appreciation rights agreements. In December 2002, an additional
charge of $0.1 million was recognized in connection with these agreements. This
benefit was offset by a non-cash compensation charge of $1.2 million in
connection with the modification of employee stock options by one of our
executive officers.

In December 2001, we recognized a non-cash compensation charge of
$2.2 million in connection with the modification of employee stock options by
one of our executive officers. This charge was offset by a non-cash compensation
benefit of $0.9 million associated with the reduction in estimated fair market
value of the stockholder appreciation rights agreements.

In January 2000, we recognized a non-cash compensation charge of
$12.3 million. The charge consisted of compensation expense of $3.8 million
recognized in connection with the modification of employee stock options and the
settlement of employee stock options for cash by one of our principal
shareholders. The compensation expense also included the settlement of a cash
payment obligation between certain of our employee-shareholders and our
principal shareholders under their pre-existing shareholder's agreement for
$8.5 million.

DISCONTINUED OPERATIONS

In November 2001, we decided to discontinue the CLEC operations of Carrier
Services. This decision was a proactive response to the deterioration in the
capital markets, the general slow-down of the economy and the
slower-than-expected growth in Carrier Services CLEC operations.

Prior to our decision to discontinue Carrier Services' CLEC operations,
Carrier Services entered into an agreement on October 19, 2001 to sell certain
of its assets in the Northwest to ATG. On November 7, 2001, Carrier Services
entered into an agreement to sell certain of its assets in the Northeast to
Choice One. Included in the terms of the Choice One sales agreement was an
opportunity for Carrier Services to earn additional restricted shares of Choice
One common stock based on the number of access lines converted to the Choice One
operating platform. Carrier Services earned 1,000,000 restricted shares of
Choice One common stock under these provisions. These shares were recognized as
a gain of approximately $0.8 million within discontinued operations during the
second quarter of 2002.

In addition, Carrier Services notified its remaining customers in the
Southwest, Southeast, and Mid-Atlantic competitive markets to find alternative
carriers. The transition of customers to ATG, Choice One and alternative
carriers was completed in April 2002. As a result of these transactions and the
transition of all Carrier Services customers to other service providers, Carrier
Services has completed the disposition of its CLEC operations.

Carrier Services will continue to provide wholesale long distance services
and support to our RLEC subsidiaries and other independent local exchange
companies. These services allow such companies to operate their own long
distance communication services and sell such services to their

20
<Page>
respective customers. Our long distance business is included as part of
continuing operations in the accompanying financial statements.

RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 2002 COMPARED WITH YEAR ENDED DECEMBER 31, 2001

REVENUES FROM CONTINUING OPERATIONS. Revenues from continuing operations
increased $0.7 million to $235.9 million in 2002 compared to $235.2 million in
2001. Of this increase, $4.3 million was attributable to revenues from companies
we acquired in 2001. This was offset by a reduction of $0.8 million in revenues
from our earlier acquired RLECs and a decrease in revenues of $2.8 million
attributable to revenues from our wholesale long distance company. We derived
our revenues from the following sources.

LOCAL CALLING SERVICES. Local calling service revenues increased
$3.3 million from $52.0 million to $55.3 million, including an increase of
$2.1 million from an increase in the number of access lines and local services
provided in our earlier acquired RLEC companies, as well as an increase of
$1.2 million from the companies we acquired in 2001.

USF HIGH COST LOOP. USF high cost loop receipts increased $3.5 million to
$22.6 million in 2002 from $19.1 million in 2001. Our earlier acquired RLEC
companies accounted for $3.3 million of the increase with the balance obtained
from companies we acquired in 2001. The support from the high cost loop fund is
associated with historical expense levels of our companies that exceed the
national average cost per loop.

INTERSTATE ACCESS. Interstate access revenues were relatively flat from
year to year, decreasing $0.2 million from $68.1 million in 2001 to $67.9 in
2002. A reduction of $1.2 million from our earlier acquired RLEC's is offset by
$1.0 million associated with companies we acquired in 2001. The $1.2 million
revenue reductions are due mainly to our cost reductions at acquired entities,
which correspondingly lowered our rate base. During the last two years, the
FCC's Rural Task Force, or RTF, and Multi-Association Group, or MAG, made
certain modifications to the USF that removed implicit universal service support
from access charges and made it explicit support. Our interstate revenues
include $16.5 million in explicit support received from the USF and have been
offset by reductions in interstate access rates, resulting in an overall revenue
neutral effect on our operating companies.

INTRASTATE ACCESS. Intrastate access revenues decreased $4.6 million from
$49.3 million in 2001 to $44.7 in 2002. An increase of $1.6 million from
companies we acquired in 2001 was offset by a reduction of $6.2 million from our
earlier acquired RLECs. The decrease was mainly due to rate and state support
reductions in Maine, Kansas, Vermont and Illinois. We continue to expect
downward pressure on our intrastate access rates. To the extent these pressures
reduce our earnings levels below authorized rates of return, our companies are
allowed to file and seek approval from the state public utility commissions for
recovery of these reductions through increases in local rates and, where they
exist, state universal service funds.

LONG DISTANCE SERVICES. Long distance services revenues decreased
$2.8 million from $20.0 million in 2001 to $17.2 million in 2002, all attributed
to reduction in Carrier Services long distance wholesale operations. Wholesale
customers were lost when one of our underlying wholesale carriers declared
bankruptcy.

DATA AND INTERNET SERVICES. Data and Internet services revenues increased
$2.2 million from $7.4 million in 2001 to $9.6 million in 2002, including an
increase of $0.1 million from acquisitions and an increase of $2.1 million as a
result of increased service offerings to our customers of our earlier acquired
RLEC businesses.

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<Page>
OTHER. Other revenues decreased by $0.8 million from $19.2 million in 2001
to $18.4 million in 2002 as other revenue contributed by the companies we
acquired in 2001 of $0.1 million was offset by a reduction in other revenues of
$0.9 million from our earlier acquired RLEC operations. This decrease is mainly
associated with reductions in billing and collections revenues, as interexchange
carriers, or IXCs, "take back" the billing function for their long distance
customers. This trend is expected to continue.

OPERATING EXPENSES OF CONTINUING OPERATIONS

OPERATING EXPENSES. Operating expenses from continuing operations decreased
$5.5 million, or 4.7%, to $112.3 million in 2002 from $117.8 million in 2001.
Expenses of our wholesale long distance company decreased $2.5 million as a
result of lower minutes of use from our wholesale customers. In addition,
expenses of our earlier acquired RLECs decreased by $4.4 million, mainly
attributable to overall cost reduction efforts throughout the company. This
decrease was offset by an increase of $1.4 million attributable to expenses of
RLEC telephone companies we acquired in 2001.

DEPRECIATION AND AMORTIZATION. Depreciation and amortization from
continuing operations decreased $9.0 million to $47.1 million in 2002 from
$56.1 million in 2001. The decrease of $12.2 million attributable to the
discontinuance of amortizing goodwill upon the implementation of SFAS No. 142
was offset by increases in depreciation of property, plant and equipment
consisting of $2.5 million attributable to the increased investment in our
communications network by RLEC companies we acquired prior to 2001 and
$0.7 million related to the companies we acquired in 2001.

STOCK-BASED COMPENSATION. For the year ended December 31, 2002, stock-based
compensation of $0.9 million was related to a non-cash stock-based compensation
charge of $1.2 million related to a modification of an employee stock option
agreement with an executive officer, offset by the decrease in the estimated
value of fully vested stockholder appreciation rights agreements of
$0.3 million between certain members of our management and our principal
stockholders. For the year ended December 31, 2001, stock-based compensation of
$0.9 million was related to the decrease in the estimated value of fully vested
stockholder appreciation rights agreements between certain members of our
management and our principal stockholders. This is offset by a $2.2 million
non-cash stock-based compensation charge related to a modification of an
employee stock option agreement with an executive officer. The net charge for
the year ended December 31, 2001 was $1.3 million.

INCOME FROM OPERATIONS. Income from continuing operations increased
$15.6 million to $75.6 million in 2002 from $60.0 million in 2001. Of this
increase, $13.5 million was attributable to our earlier acquired RLEC telephone
companies and $2.1 million was attributable to the RLEC telephone companies we
acquired in 2001. Income from our wholesale long distance company decreased
$0.4 million, and stock based compensation expense decreased $0.4 million.

OTHER INCOME (EXPENSE). Total other expense from continuing operations
decreased $1.6 million to $81.3 million in 2002 from $82.9 million in 2001. The
expense consists primarily of interest expense on long-term debt. Interest
expense decreased $1.3 million to $79.8 million in 2002 from $81.1 million in
2001. During 2002, we recorded non-cash impairment of investments of
$12.6 million which is associated with other than temporary declines in fair
value of approximately $8.2 million of Choice One stock and a write-down of
$4.4 million for certain investments accounted for under the equity method.
Earnings in equity investments increased $2.9 million to $7.9 million in 2002
from $5.0 million in 2001. Other nonoperating income (expense) includes
mark-to-market adjustments for interest rate swaps that do not qualify as
accounting hedges under SFAS No. 133. In 2001, mark-to-market losses of
$8.1 million were accrued to record the Company's estimated liability value for
the swaps as compared to mark-to-market gains of $0.7 million in 2002. These
noncash adjustments to the fair value of the swaps resulted in an increase in
nonoperating income (expense) of $8.8 million in 2002 as compared to 2001.

22
<Page>
INCOME TAX EXPENSE. Income tax expense from continuing operations increased
$0.1 million to $0.5 million in 2002 from $0.4 million in 2001. The income tax
expense relates primarily to income taxes owed in certain states.

DISCONTINUED OPERATIONS. Income from discontinued operations was
$19.5 million in 2002 primarily as a result of a gain on extinguishment of debt
of $17.5 million. Losses from discontinued operations for 2001 were
$188.3 million. This loss was associated with a loss on the disposition of the
CLEC operations of $95.3 million and losses from the discontinued operations of
$93.0 million.

NET LOSS. Our 2002 net income attributable to common shareholders was
$1.3 million after giving effect to $11.9 million in dividends and accretion
related to the Redeemable Preferred Stock. Our net loss was $211.6 million for
2001, as a result of the factors discussed above and mainly associated with the
loss from discontinued operations.

YEAR ENDED DECEMBER 31, 2001 COMPARED WITH YEAR ENDED DECEMBER 31, 2000

REVENUES FROM CONTINUING OPERATIONS. Revenues from continuing operations
increased $39.5 million to $235.2 million in 2001 compared to $195.7 million in
2000. Of this increase, $30.7 million was attributable to revenues from
companies we acquired in 2001 and 2000, $6.2 million was attributable to
revenues from our wholesale long distance company and $2.6 million was related
to the internal growth of our earlier acquired RLEC businesses. We derived our
revenues from the following sources.

LOCAL CALLING SERVICES. Local calling service revenues increased
$8.4 million from $43.6 million to $52.0 million, including an increase of
$1.0 million from an increase in the number of access lines and local services
provided in our earlier acquired RLEC companies, as well as an increase of
$7.4 million from the companies we acquired in 2001 and 2000.

USF HIGH COST LOOP. USF high cost loop receipts increased $6.7 million to
$19.1 million in 2001 from $12.4 million in 2000. Our earlier acquired RLEC
companies accounted for $1.2 million of the increase with the balance of
$5.5 million coming from companies we acquired in 2001 and 2000. The support
from the high cost loop fund is associated with historical expense levels of our
companies that exceed the national average cost per loop.

INTERSTATE ACCESS. Interstate access revenues increased $15.0 million from
$53.1 million in 2000 to $68.1 in 2001. Companies we acquired in 2001 and 2000
accounted for $9.9 million of the increase. The remaining increase of
$5.1 million from our earlier acquired RLEC companies is mainly attributable to
cost study true-ups received in 2001 related to the expense levels and return on
rate base of the operating companies. During 2001, the RTF and MAG made certain
modifications to the USF that removed implicit universal service support from
access charges and made it explicit support. Our interstate revenues include
$11.6 million in explicit support received from the USF and have been offset by
reductions in interstate access rates, resulting in an overall revenue neutral
effect on our operating companies.

INTRASTATE ACCESS. Intrastate access revenues decreased $0.6 million from
$49.9 million in 2000 to $49.3 million in 2001. An increase of $4.2 million from
companies we acquired in 2001 and 2000 was offset by a reduction of
$4.8 million from our earlier acquired RLECs. The decrease was mainly due to
intrastate rate reductions in Maine. Intrastate access will continue to decline
in 2002 as additional rate reductions are required in Maine.

LONG DISTANCE SERVICES. Long distance services revenues increased
$7.2 million, of which $6.2 million is attributed to new long distance wholesale
customers of Carrier Services, and the remainder is associated with companies
acquired in 2001 and 2000.

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<Page>
DATA AND INTERNET SERVICES. Data and Internet services revenues increased
$2.9 million, including an increase of $0.8 million from acquisitions and an
increase of $2.1 million as a result of increased service offerings to our
customers of our earlier acquired RLEC businesses.

OTHER. Other revenues decreased by $0.1 million as other revenue
contributed by the companies we acquired in 2001 and 2000 of $2.0 million was
offset by a reduction in other revenues of $2.1 million from our earlier
acquired RLEC operations. This decrease is mainly associated with reductions in
billing and collections revenues, as IXCs "take back" the billing function for
their long distance customers. This trend is expected to continue.

OPERATING EXPENSES OF CONTINUING OPERATIONS

OPERATING EXPENSES. Operating expenses from continuing operations increased
$20.2 million to $117.8 million in 2001 from $97.6 million in 2000. Expenses of
RLEC telephone companies we acquired in 2001 and 2000 made up $11.5 million of
the increase. Wholesale long distance costs increased $4.6 million as a result
of the new long distance wholesale customers. In addition, expenses of our
earlier acquired RLECs increased by $4.1 million, mainly associated with
increased health insurance costs and legal and consulting expenses incurred in
connection with several rate proceedings.

DEPRECIATION AND AMORTIZATION. Depreciation and amortization from
continuing operations increased $9.0 million to $56.1 million in 2001 from
$47.1 million in 2000. This increase consisted of $1.9 million attributable to
the increased investment in our communication network by our RLECs acquired
prior to 2000 and $7.1 million related to the companies we acquired in 2001 and
2000.

STOCK-BASED COMPENSATION. For the year ended December 31, 2001, stock-based
compensation of $0.9 million was related to the decrease in the estimated value
of fully vested stockholder appreciation rights agreements between certain
members of our management and our principal stockholders. This is offset by a
$2.2 million non-cash stock-based compensation charge related to a modification
of an employee stock option agreement with an executive officer. The net charge
for the year ended December 31, 2001 was $1.3 million. As discussed above, in
January 2000 we recognized non-cash compensation charges of $12.3 million for
the year ended December 31, 2000.

INCOME FROM OPERATIONS. Income from continuing operations increased
$21.3 million to $60.0 million in 2001 from $38.7 million in 2000. This increase
was primarily attributable to an $11.0 million decrease in stock-based
compensation charges, while $12.1 million was attributable to the companies we
acquired in 2001 and 2000 and $1.6 million was attributable to our wholesale
long distance company. Operating income of our earlier acquired RLECs decreased
$3.4 million as higher expenses (predominately health insurance costs and legal
and consulting expenses) outpaced revenue growth.

OTHER INCOME (EXPENSE). Total other expense from continuing operations
increased $36.6 million to $82.9 million in 2001 from $46.3 million in 2000. The
expense consists primarily of interest expense on long-term debt and a
$7.3 million decrease in net gain on sale of stock and cellular investments for
the year ended December 31, 2001, compared to the year ended December 31, 2000.
In addition, other nonoperating income (expense) includes mark-to-market
adjustments for interest rate swaps that do not qualify as accounting hedges
under SFAS No. 133. In 2001, mark-to-market losses of $8.1 were accrued to
record the Company's estimated liability value as compared to no corresponding
amount in 2000.

INCOME TAX EXPENSE. Income tax expense from continuing operations decreased
$5.2 million to $0.4 million in 2001 from $5.6 million in 2000. The income tax
expense in 2001 relates primarily to income taxes owed in certain states. In
2000, income tax expense relates to $2.4 million in Federal income tax as well
as income taxes owed in certain states.

DISCONTINUED OPERATIONS. Losses from discontinued operations for 2001 were
$188.3 million, an increase of $112.4 from a loss of $75.9 million for the
comparable period in 2000. This increase is

24
<Page>
primarily associated with a loss on the disposition of the CLEC operations of
$95.3 million, which consists of the net loss on disposition and impairment of
assets of $67.2 million and a provision of $28.1 million for operating losses
during the phase-out period. The loss from the CLEC operations increased
$17.1 million to $93.0 million from the loss of $75.9 million in 2000.

NET LOSS. Our net loss was $211.6 million for 2001, compared to a loss of
$89.1 million for 2000, as a result of the factors discussed above and mainly
associated with the loss from discontinued operations.

LIQUIDITY AND CAPITAL RESOURCES

We intend to fund our operations, capital expenditures, interest expense and
working capital requirements from internal cash from operations. To fund future
acquisitions, we intend to use borrowings under our revolving credit facility,
or we will need to secure additional funding through the sale of public or
private debt and/or equity securities or enter into another bank credit
facility. Our ability to make principal payments on our indebtedness will depend
on our ability to generate cash in the future. We will need to refinance all or
a portion of our indebtedness on or before maturity. We may not be able to
refinance our indebtedness on commercially reasonable terms or at all. For the
years ended December 31, 2002, 2001 and 2000, cash provided by operating
activities of continuing operations was $58.8 million, $38.8 million and
$48.1 million, respectively.

Net cash used in investing activities from continuing operations was
$31.2 million, $57.9 million and $285.9 million for the years ended
December 31, 2002, 2001 and 2000, respectively. These cash flows primarily
reflect capital expenditures of $39.5 million, $43.7 million and $50.3 million
for the years ended December 31, 2002, 2001 and 2000, respectively and
acquisitions of telephone properties, net of cash acquired $0 million,
$18.9 million, and $256.1 million for the years ended December 31, 2002, 2001
and 2000, respectively.

Net cash provided by (used in) financing activities from continuing
operations was $(12.5) million, $101.2 million and $300.1 million for the years
ended December 31, 2002, 2001 and 2000, respectively. These cash flows primarily
represent net proceeds of long term debt of $104.2 million and $150.6 million
for the years ended December 31, 2001 and 2000, respectively. For the year ended
December 31, 2002, net repayments were $11.5 million.

Our annual capital expenditures for our rural telephone operations have
historically been significant. Because existing regulations allow us to recover
our operating and capital costs, plus a reasonable return on our invested
capital in regulated telephone assets, capital expenditures constitute an
attractive use of our cash flow. Net capital expenditures were approximately
$39.1 million in 2002 and are expected to be approximately $30.7 million in
2003.

Our credit facility was amended and restated on March 6, 2003. Our amended
and restated credit facility consists of a $70.0 million revolving facility
($60.0 million of which has been committed) and two term facilities, a tranche A
term loan facility of $30.0 million that matures on March 31, 2007, and a
tranche C term loan facility with $128.5 million principal amount outstanding as
of March 25, 2003 that matures on March 31, 2007. All $30.0 million was drawn
under the tranche A term loan facility on March 6, 2003. See "--Description of
Certain Indebtedness."

In 1998, the Company issued $125.0 million aggregate principal amount of
9 1/2% senior subordinated notes and $75.0 million aggregate principal amount of
floating rate notes. Both series of these notes mature on May 1, 2008. These
notes are general unsecured obligations of the Company, subordinated in right of
payment to all of the Company's senior debt. In 2000, the Company issued
$200.0 million aggregate principal amount of 12 1/2% senior subordinated notes.
These notes mature on May 10, 2010. These notes are general unsecured
obligations of the Company, subordinated in right of payment to all of the
Company's senior debt. In addition, on March 6, 2003, the Company issued
$225.0 million aggregate principal amount of 11 7/8% senior notes. These notes
mature on March 1,

25
<Page>
2010. These notes are general unsecured obligations of the Company, ranking PARI
PASSU in right of payment with all existing and future senior debt of the
Company, including all obligations under our credit facility, and senior in
right of payment to all existing and future subordinated indebtedness of the
Company. See "--Description of Certain Indebtedness."

The proceeds from the offering of the senior notes and the borrowings under
the tranche A term loan facility were used to: (i) repay the entire amount of
all loans outstanding under the revolving facility, the acquisition facility and
the tranche B term loan facility of our credit facility; (ii) repurchase
$13.3 million aggregate liquidation preference of our Series A Preferred Stock
(together with accrued and unpaid dividends thereon) at 65% of its liquidation
preference; (iii) repurchase $9.8 million aggregate principal amount of the
Company's outstanding 9 1/2% senior subordinated notes due 2008 (together with
accrued and unpaid interest thereon) for approximately $7.9 million:
(iv) repurchase $7.0 million aggregate principal amount of the Company's
outstanding 12 1/2% senior subordinated notes due 2010 (together with accrued
and unpaid interest thereon) for approximately $6.1 million; (v) make a capital
contribution of approximately $1.5 million to Carrier Services, which used these
proceeds to retire a portion of its debt; and (vi) pay transaction fees.

In May 2002, Carrier Services entered into an amended and restated credit
facility with its lenders to restructure its obligations under its credit
facility. In the restructuring, (i) Carrier Services paid certain of its lenders
$5.0 million to satisfy $7.0 million of obligations under the credit facility,
(ii) the lenders converted approximately $93.9 million of the loans under the
credit facility into shares of the Company's Series A Preferred Stock and
(iii) the remaining loans under the credit facility and certain swap obligations
were converted into $27.9 million of new term loans. The Series A Preferred
Stock is non-voting, and is not convertible into common stock of the Company.
The Series A Preferred Stock has a dividend rate equal to 17.428% per annum,
payable either in cash or in additional shares of Series A Preferred Stock, at
our option. See "--Description of Certain Indebtedness."

Carrier Services has completed the cessation of its competitive
communications business operations. Carrier Services' cash flow requirements
include general corporate expenditures, expenses related to discontinued
operations and debt service. We expect Carrier Services' cash flow requirements,
other than debt amortization, will be funded primarily from cash flows from
operations. Our amended and restated credit facility and the indentures
governing the Company's senior subordinated notes and senior notes contain
certain restrictions on our ability to make investments in Carrier Services. In
the event Carrier Services is unable to make a scheduled amortization payment or
to pay any amount due at maturity, the lenders' sole remedy will be to convert
their debt under the Carrier Services credit facility into shares of our
Series A Preferred Stock.

The Company is also obligated under certain leases of Carrier Services and
would therefore be obligated to make certain lease and other payments if Carrier
Services and/or certain sublessee's default on their obligations. See "Summary
of Contractual Obligations."

Under a tax sharing agreement, the Company has been and continues to be
obligated to reimburse Carrier Services for any tax benefits the Company and its
affiliates receive from net operating losses attributable to Carrier Services,
including net operating losses attributable to Carrier Services carried forward
from prior taxable years. As of December 31, 2002, approximately $210 million of
the $258 million of combined net operating losses of the Company and its
affiliates were attributable to Carrier Services. As of December 31, 2002, the
amount payable to Carrier Services under the tax sharing agreement was
approximately $3.1 million. The Company does not anticipate making substantial
payments under the tax sharing agreement for taxable income with respect to
taxable years 2003 to 2007.

26
<Page>
In January 2000, we completed an equity financing and recapitalization
transaction, pursuant to which THL, Kelso and certain other institutional
investors and members of management acquired an aggregate of $408.8 million of
our equity securities. We received $158.9 million of net proceeds in such
transaction, which we used to repay debt, to finance certain acquisitions and to
fund the expansion of our telecommunications business. This transaction
represented an initial investment from THL and a follow-on investment from
Kelso.

SUMMARY OF CONTRACTUAL OBLIGATIONS

The tables set forth below contain information with regard to disclosures
about contractual obligations and commercial commitments.

The following table discloses aggregate information about our contractual
obligations and the periods in which payments are due, after giving effect to
the transactions described in "Item 1. Business--Recent Developments":

<Table>
<Caption>
LESS THAN AFTER 5
TOTAL 1 YEAR 2-3 YEARS 4-5 YEARS YEARS
-------- --------- --------- --------- --------
PAYMENTS DUE BY PERIOD
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Contractual obligations:
Debt maturing within one year............... $ 3,894 $ 3,894 $ -- $ -- $ --
Long-term debt.............................. 813,087 -- 57,632 141,209 614,246
Redeemable preferred stock(1)............... 78,844 -- -- -- 78,844
Operating leases(2)......................... 17,921 4,044 6,247 4,989 2,641
Deferred transaction fee(3)................. 8,445 -- -- -- 8,445
Common stock subject to put options......... 3,136 1,000 2,000 136 --
Non-compete agreements...................... 781 536 245 -- --
Minimum purchase contract(4)................ 3,300 1,300 2,000 -- --
-------- ------- ------- -------- --------
Total contractual cash obligations.......... $929,408 $10,774 $68,124 $146,334 $704,176
======== ======= ======= ======== ========
</Table>

- ------------------------

(1) The Company has the option to redeem any portion of the outstanding
Series A Preferred Stock at any time. Under certain circumstances, the
Company would be required to pay a premium of up to 6% in connection with
the redemption. The Company is required to redeem the Series A Preferred
Stock upon the occurrence of one of the following events: (i) a merger,
consolidation, sale, transfer or disposition of at least 50% of the assets
or business of the Company and its subsidiaries, (ii) a public offering of
the Company's common stock which yields in the aggregate at least
$175.0 million, or (iii) the first anniversary of the maturity of the
Company's senior subordinated notes (which first anniversary will occur in
May 2011), unless prohibited by its credit facility or the indentures
governing its senior subordinated notes.

(2) Operating lease obligations represent $15.6 million associated with the
discontinued operations discussed in note (2) to our consolidated financial
statements and are stated in this table at total contractual amounts.
However, the Company intends to negotiate lease terminations or subleases on
these properties to reduce the total obligation. Operating leases from
continuing operations of $2.3 million are also included.

(3) Payable to affiliates of Kelso upon the occurrence of certain events. See
"Item 13. Certain Relationships and Related Party Transactions."

(4) Carrier Services has obligations to purchase a minimum amount of wholesale
toll minutes from an interexchange carrier. To date, purchases have exceeded
the minimum requirements.

27
<Page>
The following table discloses aggregate information about our commercial
commitments as of December 31, 2002. Commercial commitments are items that we
could be obligated to pay in the future. They are not included in our condensed
consolidated balance sheets.

<Table>
<Caption>
TOTAL AMOUNTS LESS THAN 1 AFTER 5
COMMITTED YEAR 2-3 YEARS 4-5 YEARS YEARS
-------------- ------------- ---------- ---------- --------
AMOUNT OF COMMITMENT EXPIRATION PER PERIOD
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Other commercial commitments:
Financial guarantee...................... $2,091 $580 $1,275 $236 $ --
====== ==== ====== ==== =======
</Table>

The following table discloses aggregate information about our derivative
financial instruments as of December 31, 2002, the source of fair value of these
instruments and their maturities.

<Table>
<Caption>
LESS THAN 1 AFTER 5
TOTAL FAIR VALUE YEAR 1-3 YEARS 4-5 YEARS YEARS
---------------- ----------- --------- --------- --------
FAIR VALUE OF CONTRACTS AT PERIOD-END
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Source of fair value:
Derivative financial instruments(1).... $8,568 $7,431 $1,137 $ -- $ --
====== ====== ====== ======= =======
</Table>

- ------------------------

(1) Fair value of interest rate swaps at December 31, 2002 was provided by the
counterparties to the underlying contracts using consistent methodologies.

DESCRIPTION OF CERTAIN INDEBTEDNESS

We have utilized a variety of debt instruments to fund our business and we
have a significant amount of debt outstanding. Our high level of debt could
significantly affect our business by: making it more difficult for us to satisfy
our obligations, including making scheduled interest payments under our debt
obligations; limiting our ability to obtain additional financing; increasing our
vulnerability to generally adverse economic and communications industry
conditions, including changes in interest rates; requiring us to dedicate a
substantial portion of our cash