##### 









UNITED STATES

SECURITIES AND EXCHANGE COMMISSION




FORM 10-K



|  |                                                                                         
|- | ----------------------------------------------------------------------------------------
|x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
    SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2003

OR

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

Commission File No. 0-30900

XO COMMUNICATIONS, INC.

(Exact name of registrant as specified in its
charter)


|                                                                   |  |                                         
|------------------------------------------------------------------ |  | ----------------------------------------
|Delaware                                                           |  | 54-1983517                              
|(State or other jurisdiction of
    incorporation or organization) |  | (I.R.S. employer
    identification no.)

11111 Sunset Hills Road

Reston, Virginia 20190


(Address of principal executive offices,
including zip code)


(703) 547-2000

(Registrants telephone number, including
area code)


Securities registered pursuant to
Section 12(b) of the Act:

NONE


Securities registered pursuant to
Section 12(g) of the Act:

Common Stock, par value $0.01 per share


(Title of class)


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

Indicate by check mark if disclosure of
delinquent filers pursuant to Item 405 of Registration S-K
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. þ

Indicate by check mark whether the Registrant is
an accelerated filer (as defined by Rule 12b-2 of the
Act.).    YES þ         NO o

The aggregate market value of the common stock
held by non-affiliates of the Registrant, based upon the closing
sale price of the common stock on June 30, 2003 (which is
the last business day of the Registrants second fiscal
quarter), as reported on the Nasdaq Over-the-Counter Bulletin
Board, was approximately $139 million. Shares of common
stock held by each executive officer and director and by certain
persons who own 5% or more of the outstanding common stock have
been excluded in that such persons may be deemed to be
affiliates. This determination of affiliate status is not
necessarily a conclusive determination for other purposes.

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

Number of shares of common stock outstanding as
of February 20, 2004: 136,510,535

DOCUMENTS INCORPORATED BY REFERENCE

Part III  Portions of the
registrants definitive proxy statement to be issued in
conjunction with registrants annual stockholders
meeting to be held on May 27, 2004.



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TABLE OF CONTENTS

|         |  |                                                                                           |  |  |    | 
|-------- |  | ----------------------------------------------------------------------------------------- |  |  | -- | 
|PART I  
|        
|1.       |  | Business                                                                                  |  |  | 1  | 
|2.       |  | Properties                                                                                |  |  | 33 | 
|3.       |  | Legal Proceedings                                                                         |  |  | 34 | 
|4.       |  | Submission of Matters to a Vote of
    Security Holders                                   |  |  | 34 | 
|PART II 
|        
|5.       |  | Market for Registrants Common Stock and
    Related Stockholder Matters                  |  |  | 34 | 
|6.       |  | Selected Financial Data                                                                   |  |  | 35 | 
|7.       |  | Managements Discussion and Analysis of
    Financial Condition and Results of Operations |  |  | 37 | 
|7A.      |  | Quantitative and Qualitative Disclosures about
    Market Risk                            |  |  | 51 | 
|8.       |  | Financial Statements and Supplementary Data                                               |  |  | 51 | 
|9.       |  | Changes in and Disagreements with Accountants on
    Accounting and Financial Disclosure  |  |  | 51 | 
|9A.      |  | Controls and Procedures                                                                   |  |  | 52 | 
|PART III
|        
|10.      |  | Directors and Executive Officers of
    the Registrant                                    |  |  | 52 | 
|11.      |  | Executive Compensation                                                                    |  |  | 53 | 
|12.      |  | Security Ownership of Certain Beneficial Owners
    and Management                        |  |  | 53 | 
|13.      |  | Certain Relationships and
    Related Transactions                                        |  |  | 53 | 
|14.      |  | Principal Accounting Fees and Services                                                    |  |  | 54 | 
|PART IV 
|        
|15.      |  | Exhibits, Financial Statement Schedules, and
    Reports on Form 8-K                      |  |  | 55 | 
|         |  | Signatures                                                                                |  |  | 56 | 



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PART I



|        |         
|------- | --------
|Item 1. | Business

This Annual Report on Form 10-K, including
Managements Discussion and Analysis of Financial
Condition and Results of Operations in Item 7,
contains forward-looking statements that involve risks and
uncertainties, as well as assumptions that, if they never
materialize or prove incorrect, could cause the results of XO
Communications, Inc. or XO Parent and its consolidated
subsidiaries or XO to differ materially from those expressed or
implied by such forward-looking statements. All statements other
than statements of historical fact are statements that could be
deemed forward-looking statements, including any projections of
earnings, revenue, synergies, accretion, margins, costs or other
financial items; any statements of the plans, strategies and
objectives of management for future operations, including the
execution of integration and restructuring plans; any statement
concerning proposed new products, services, developments or
industry comparisons; any statements regarding future economic
conditions or performance; any statements of belief; and any
statements of assumptions underlying any of the foregoing. The
risks, uncertainties and assumptions referred to above include
the performance of contracts by vendors and customers; employee
management issues; the challenge of managing asset levels,
including inventory; the difficulty of aligning expense levels
with revenue changes; and other risks that are described herein
and that are otherwise described from time to time in XOs
Securities and Exchange Commission reports including but not
limited to the items discussed in Business 
Factors that Could Affect Future Results. XO assumes no
obligation and does not intend to update these forward-looking
statements.

Introduction

XO Communications, Inc., a Delaware corporation,
is a leading independent broadband telecommunications services
provider that markets a comprehensive array of
telecommunications services, including local and long distance
voice, Internet access, private data networking and hosting
services.

The initial predecessor entity of XO Parent was
formed as a Washington limited partnership in 1994. In 1995,
that entity merged into a Washington limited liability company
that became known as NEXTLINK Communications, L.L.C.
In January 1997, NEXTLINK Communications, L.L.C. merged
into NEXTLINK Communications, Inc., a Washington corporation,
which in June 1998 reincorporated in Delaware under the
same name. On June 16, 2000, in connection with the
acquisition of Concentric Network Corporation, NEXTLINK
Communications, Inc. merged with and into a new corporation and
that corporation, as the surviving corporation in the merger,
changed its name to NEXTLINK Communications, Inc. On
September 25, 2000, NEXTLINK Communications, Inc. began
doing business as XO Communications and, on
October 25, 2000, changed its name to XO Communications,
Inc. We conduct our business primarily through the more than 70
subsidiaries that XO Parent owns and manages.

On June 17, 2002, XO Parent filed for
protection under Chapter 11 of the Bankruptcy Code in the
United States Bankruptcy Court for the Southern District of New
York. On November 15, 2002, the Bankruptcy Court confirmed
XO Parents plan of reorganization, and, on
January 16, 2003, XO Parent consummated the plan of
reorganization and emerged from its Chapter 11
reorganization proceedings with a significantly restructured
balance sheet.

In December 2001, XO Parent voluntarily
delisted its pre-petition class A common stock from the Nasdaq
National Market, which was traded under the symbol
XOXO, and, on December 17, 2001, began trading
on the Over-the-Counter Bulletin Board, or OTCBB. As of
January 16, 2003, XO Parents pre-petition class A
common stock stopped trading on the OTCBB and all interests in
XO Parents pre-petition class A common stock were
terminated pursuant to the plan of reorganization. The shares of
common stock issued by the reorganized XO Parent pursuant to its
plan of reorganization began trading in January 2003 on the
OTCBB and in the Pink Sheets under the symbol
XOCM.OB shortly after the first distribution of
common stock pursuant to its plan of reorganization.

Our principal executive and administrative
offices are located at 11111 Sunset Hills Road, Reston, Virginia
20190 and our telephone number is (703) 547-2000. Our
Internet address is www.xo.com, where,

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under About XO-Investor Center, you
can find copies of our annual report on Form 10-K as of and
for the year ended December 31, 2003, and our quarterly reports
on Form 10-Q and current reports on Form 8-K, all of
which we make available as soon as reasonably practicable after
the report is filed with the Securities and Exchange Commission,
or the Commission.


Overview of Our Company

The Telecommunications Act of 1996, or the
Telecom Act, which substantially revised the
Communications Act of 1934, established the regulatory framework
for the introduction of competition for local telecommunications
services throughout the United States by new competitive
independent entrants such as us. Prior to the passage of the
Telecom Act, states typically granted an exclusive franchise in
each local service area to a single dominant carrier 
often a former subsidiary of AT&T known as a Regional Bell
Operating Company (RBOC)  which owned the
entire local exchange network and operated a virtual monopoly in
the provision of most local exchange services in most locations
in the United States. The RBOCs, following some recent
consolidation, now consist of the following companies:
BellSouth, Verizon, Qwest Communications and SBC Communications.

We provide business customers with a
comprehensive array of telecommunications services, including
local and long distance voice, Internet access, private data
networking and hosting services. Our services are designed to be
provided through our network assets, which are capable of
carrying high volumes of all types of telecommunications
traffic. We market our services primarily to business customers,
including small and middle-market businesses, Fortune 500
companies, and carrier and wholesale customers. Although our
services benefit businesses of all sizes, we believe them to be
of particular benefit to multi-location businesses that desire
to improve telecommunications among their locations, whether
within a single metropolitan area or across the country. Our
services include the following:

1) Voice services:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Local and long distance services, other
    voice-related services such as conferencing, domestic and
    international toll free services and voicemail, and transaction
    processing services for prepaid calling cards; and                                                                                                                                                                                                                
|
| |  | Hosted interactive voice response, or IVR,
    systems that we develop, host and manage that enable our
    customers end-users to order products and services,
    collect and receive information, seek assistance, facilitate
    bill payment and a host of other capabilities over the telephone
    using natural language speech recognition and systems that
    enable persons to access web-based information over the
    telephone;

2) Data services:



| |   |                 
| | - | ----------------
| |  | Internet access:



| |   |                                                                                                                                                        
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Dedicated Internet access for customers with
    large, high-speed Internet access requirements;                                                       
|
| |  | Digital subscriber line, or DSL, services for
    businesses that require high-speed Internet access over existing
    copper wire telephone lines; and
|
| |  | Dial access, which allows remote users to connect
    to XOs network;                                                                                 



| |   |                         
| | - | ------------------------
| |  | Private data networking:



| |   |                                                                                                                                                                                                                                     
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Dedicated transmission capacity on our network,
    including dedicated circuits and the lease of one or more
    dedicated wavelengths on a fiber optic cable, to customers that
    desire high-bandwidth links between locations;
|
| |  | Virtual private network, or VPN, services, which
    provide customers with a managed, private data service over the
    public Internet, designed for medium and large businesses                                                  

2



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| |   |                                                                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   | that want to create secure, wide-area networks
    for users at various and remote locations; and                                                                                                            
|
| |  | Ethernet services, which are designed to connect
    the local area networks, or LANs, of medium and large customers
    within and between metropolitan areas at speeds of up to one
    gigabit per second;



| |                    
| | -------------------
| |  Hosting services:



| |   |                                                                                                                                                                                                    
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Web site services, which allow a customer to
    establish a Web presence;                                                                                                                         
|
| |  | Web hosting, including hosting and web site
    traffic management tools, for Internet-centric businesses, and
    streamed media services designed for small and middle-market
    businesses; and
|
| |  | Server collocation and management and customer
    support to manage a customers hosting needs; and                                                                                               

3) Integrated voice and data services



| |   |                                                                                                                                                                                                                                                                                                                                         
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Integrated, flat rate service packages that we
    refer to as XOptions. These packages eliminate the separation
    between local and long-distance telecommunications services, and
    combine our all distance telephone services with
    high-speed Internet access and web hosting services, all for one
    flat monthly rate.
|
| |  | Shared tenant services, which are
    telecommunications management services provided to groups of
    small and middle-market business located in the same office
    building.                                                                                                                                                        

We believe that a significant factor considered
by business customers in making the decision to purchase
telecommunications services is the quality of service and
customer support offered by the service provider. We focus on
proactive resolution of customer issues by training our customer
care representatives extensively on the services that we offer
and promoting accountability of the customer care team. We also
have developed a secure, on-line business center, through which
many customers can access information about their accounts and
track requests, review services, analyze trends, make decisions
and pay bills.

To serve our customers broad and expanding
telecommunications needs, we utilize network assets located
across the United States, substantially all of which we own or
control through indefeasible exclusive rights or other leasing
arrangements, making us a facilities-based carrier. Indefeasible
exclusive rights are contracts with the owners of fiber optic
cables that allow us to use a specified amount of capacity on a
specified fiber on those cables for terms ranging from 10 to
25 years. Our network assets incorporate state-of-the-art
fiber optic cable, dedicated wavelengths of transmission
capacity on fiber optic networks and transmission equipment
capable of carrying high volumes of data, voice, video and
Internet traffic. We are able to provide a comprehensive array
of telecommunications services primarily or entirely over our
integrated network, from the initiation of the voice or data
transmission to the point of termination. This capability
enables us to provide end-to-end telecommunications
services between customers connected to our network, and among a
customers multiple locations, primarily or entirely over
our integrated network.

Our network consists of metro fiber networks
located in the U.S. metropolitan areas that we serve, connected
by our intercity network. Our metro fiber networks consist of
rings of fiber optic cables encircling the central business
districts of numerous metropolitan areas. We operate 37 metro
fiber networks in 22 states and the District of Columbia,
including 25 of the 30 largest metropolitan areas in the U.S. We
have constructed, acquired or leased our metro fiber networks,
each of which consists of up to 432 strands of fiber optic cable
and, in some cases, empty conduits through which additional
fiber optic cable can be deployed.

Our metro fiber networks are connected primarily
by dedicated wavelengths of transmission capacity that we have
obtained on intercity fiber optic cables, which we refer to as
our intercity network. To deploy our intercity network, we have
leased dedicated, high-capacity wavelengths of transmission
capacity on

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fiber optic cables, onto which we have deployed
our own switching, routing and optical equipment. We also hold
indefeasible exclusive rights to use 18 fiber optic strands on
the routes served by our intercity networks pursuant to
arrangements with Level 3, substantially all of which are not
currently in use, referred to in our industry as unlit. As a
result, we have the ability to utilize significant additional
network capacity as our business grows.


We hold licenses for 1,150 to 1,300 MHz of local
multipoint distribution services, or LMDS, spectrum in 59
cities. Our licenses also include:



| |   |                                                                                                   
| | - | --------------------------------------------------------------------------------------------------
| |  | 150 MHz of LMDS spectrum in 14 other cities;                                                      
|
| |  | 150 MHz of LMDS spectrum in the five boroughs
    that comprise New York City (300 MHz total); and
|
| |  | 400 MHz of LMDS spectrum in Denver.                                                               

We also hold ten broadband wireless licenses in
the 39 GHz (gigahertz) frequency band, of which five
provide from 100 to 300 additional MHz in two cities where we
hold a 150 MHz LMDS license, plus 100 MHz in Denver and 200 MHz
of spectrum in Las Vegas, where we do not hold a LMDS license.

Our Reorganization

From 1996 through 2001, XO Parent accumulated
outstanding indebtedness in excess of $5 billion in
connection with the financing and acquisition of our network.
Following the decline in the market valuations of emerging
telecommunications companies in 2001, we were unable to obtain
additional funding for our operations and to support our
outstanding indebtedness. As a result, despite reductions in our
operating expenses, including a reduction in our workforce in
2001 from 7,400 to 6,712 employees, and the implementation of
other cost control measures, we concluded that our cash on hand
would not be sufficient to fund operations, capital expenditures
and debt service until such time as we expected our operations
to become profitable and we determined that a restructuring of
our business was necessary.

On June 17, 2002, XO Parent filed for
protection under the Bankruptcy Code. On November 15, 2002,
the Bankruptcy Court confirmed XO Parents plan of
reorganization, and, on January 16, 2003, XO Parent
consummated the plan of reorganization and emerged from its
Chapter 11 reorganization proceedings with a significantly
restructured balance sheet.



| |                                                 
| | ------------------------------------------------
| | Implementation of the Plan of
    Reorganization

On January 16, 2003, our Effective Date, XO
Parent consummated its Plan of Reorganization and emerged from
its Chapter 11 reorganization proceedings with a
significantly restructured balance sheet. The consummation of
the Plan of Reorganization resulted in the following changes in
XO Parents capital structure:



| |   |                                                                                                                                                                                                               
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The conversion of $1.0 billion of loans
    under our pre-petition secured credit facility into
    $500.0 million of outstanding principal amount under an
    amended and restated secured credit agreement;
|
| |  | The extinguishment of all amounts due under our
    pre-petition unsecured senior and subordinated notes and certain
    general unsecured obligations;                                                       
|
| |  | The cancellation of all outstanding shares and
    interests in our pre-petition preferred stock and pre-petition
    common stock; and                                                                       
|
| |  | The issuance of approximately 95.0 million
    shares of new common stock in reorganized XO and warrants to
    purchase up to an additional 23.75 million shares of New
    Common Stock of reorganized XO.  

4



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The following table shows the distribution each
party of interest impacted by XO Parents bankruptcy was
entitled to. As certain claims are still being reviewed by the
Bankruptcy Court, certain proportional distributions have not
yet been made and can not occur until the court rules (dollars
in thousands, except share data).

|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|----------------------------------------- |  | ------------- | ---------- | -------- |  | -------- | --------- | -------- |  | --------------- | --------- | ---- |  |  | --------- |  |  | - | ------- |  |  | - | ----- | 
|                                          |  | Shares of New |            |          |  |          |           |          |  |                 |           |     
|                                          |  | Common        |            | Series A |  | Series B |           | Series C |  |                 |           |     
|Party of Interest                         |  | Stock         |            | Warrants |  | Warrants |           | Warrants |  | Credit Facility |           | Cash
|                                          |  |               |            |          |  |          |           |          |  |                 |           |     
|$1 Billion senior secured credit facility |  |               | 90,250,001 |          |  |          |          |          |  |                 |          |      |  |  |          |  |  | $ | 500,000 |  |  | $ |      | 
|Senior unsecured notes                    |  |               | 4,715,344  |          |  |          | 9,430,689 |          |  |                 | 7,073,015 |      |  |  | 7,073,015 |  |  |   |        |  |  |   | 1,600 | 
|Subordinated notes                        |  |               |           |          |  |          |          |          |  |                 |          |      |  |  |          |  |  |   |        |  |  |   | 616   | 
|General unsecured creditors               |  |               | 34,656     |          |  |          | 69,309    |          |  |                 | 51,980    |      |  |  | 51,980    |  |  |   |        |  |  |   | 403   | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Total entitlement                         |  |               | 95,000,001 |          |  |          | 9,499,998 |          |  |                 | 7,124,995 |      |  |  | 7,124,995 |  |  | $ | 500,000 |  |  | $ | 2,619 | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Not yet distributed                       |  |               | 1,230,638  |          |  |          | 2,461,743 |          |  |                 | 1,846,151 |      |  |  | 1,846,151 |  |  |   |        |  |  |   | 1,612 | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Total issued or paid                      |  |               | 93,769,363 |          |  |          | 7,038,255 |          |  |                 | 5,278,844 |      |  |  | 5,278,844 |  |  | $ | 500,000 |  |  | $ | 1,007 | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 

As part of our Plan of Reorganization, we agreed
to initiate a Rights Offering that allowed certain holders of
claims and interests in XO Parent as of the November 15,
2002 record date to subscribe for up to 40.0 million shares
of New Common Stock at $5.00 per share. The Rights Offering
closed on January 5, 2004. An aggregate of
39.7 million shares were issued, yielding net proceeds of
$197.6 million. Subsequent to closing, these proceeds were
used to pay down our Credit Facility from $536.8 million at
December 31, 2003 to approximately $339.2 million.



| |                                                               
| | --------------------------------------------------------------
| | Interests Held by Entities Controlled by
    Mr. Carl C. Icahn

Various entities controlled by Mr. Carl C.
Icahn, Chairman of XO Parent, hold the following interests in
reorganized XO:

|                     |  |                  |  |                  |  |                 
|-------------------- |  | ---------------- |  | ---------------- |  | ----------------
|                     |  |                  |  | Series A, B and  |  |                 
|                     |  | Common Stock     |  | C Warrants       |  | Credit Facility 
|                     |  |                  |  |                  |  |                 
|At December 31, 2003 |  | Greater than 80% |  | Greater than 40% |  | Greater than 90%
|At January 31, 2004  |  | Greater than 60% |  | Greater than 40% |  | Greater than 90%

In addition entities controlled by Mr. Icahn
have acquired an option to purchase 6.25 million additional
shares of common stock from Franklin Mutual Advisors, LLC at a
strike price of $4.25 per share which expires June 21, 2004.
After closing our rights offering in January 2004,
Mr. Icahns ownership interest in our outstanding
common stock was reduced to over 60%. On January 27, 2004,
Icahn and Associates filed a Form 13D with the Securities
and Exchange Commission stating they held beneficial ownership
as defined therein of 69% of XO Parent.



| |                  
| | -----------------
| | Accounting Impact

As a result of the consummation of the Plan of
Reorganization, XO Parent was required to implement the fresh
start accounting provisions of SOP 90-7 Financial
Reporting by Entities in Reorganization Under the Bankruptcy
Code to its financial statements. The fresh start
accounting provisions required that we establish a fair
value basis for the carrying value of the assets and
liabilities for Reorganized XO.

For further discussion of the effects of our
implementation of the Plan of Reorganization on our financial
condition and results of operations, see Our
Chapter 11 Reorganization and Liquidity and
Capital Resources in Managements Discussion
and Analysis of Financial Condition and Results of
Operations.

5



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| |                                                      
| | -----------------------------------------------------
| | Acquisition of Assets of Allegiance Telecom,
    Inc.

On February 19, 2004, the United States
Bankruptcy Court for the Southern District of New York approved
the Asset Purchase Agreement by and between XO Parent and
Allegiance Telecom, Inc., or Allegiance, pursuant to which we
have agreed to acquire substantially all of the assets of
Allegiance for approximately $311.0 million in cash and
approximately 45.4 million shares of our New Common Stock.
We anticipate we will receive the required governmental approval
prior to or shortly after the beginning of the second quarter of
2004. At that point in time, we will operate under a management
agreement whereby the combined management team will exercise day
to day operating control over the assets and operations to be
acquired from Allegiance. We anticipate that our acquisition of
the Allegiance assets will be consummated during the third
quarter of 2004 after all other federal and state regulatory
approvals are obtained.

The Allegiance assets consist primarily of:



| |   |                                                                                                                                                                        
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | switching and routing equipment, located both in
    current Allegiance facilities and in facilities operating by one
    or more incumbent local exchange carriers;   
|
| |  | physical points of presence in the form of
    network operations centers, data centers, central offices, and
    sales offices located in 36 major metropolitan areas;
|
| |  | customer and sales agreements that constitute a
    majority of Allegiances voice and data revenues;                                                                  
|
| |  | leased intercity and metro fiber network capacity
    that is both redundant to and expansive of our current network;
    and                                          
|
| |  | billing, provisioning, and other back-office
    information technology platforms.                                                                                     

With the acquisition of substantially all of
Allegiances network assets and customer base, XO will
become one of the nations largest competitive independent
providers of national local telecommunications and broadband
services with approximately 250,000 customers and approximately
$1.6 billion in annual revenues. We will own one of the
largest network of nationwide connections to the RBOCs
networks, and will double our Points of Presence (PoPs) within
the 36 metropolitan areas where both XO and Allegiance operate.
XO believes that this extensive network will allow XO to
(i) improve delivery of service to customers
(ii) reduce network costs (iii) improve operating
results and (iv) improve our ability to compete with other
companies in the nationwide local telecommunications services
market. In addition, the combination of XO and Allegiance will
enhance the strength and depth of the combined human resource
team by combining the sales, technical and management expertise
of both companies.

Based on information made available to us by
Allegiance, we estimate the annual revenue associated with the
operations that we will acquire will exceed $500.0 million.
Allegiances filings with the Securities and Exchange
Commission can be found on their web site
www.allegiancetelecom.com. We believe that we will be able to
realize network operations and selling, operating, and
administrative synergies over time of approximately
$160.0 million annually. By reducing expenses, and
achieving the operational benefits noted above, we believe that
the combined entity will move to profitability more quickly than
XO would have had we not entered into the Allegiance asset
acquisition.

Our acquisition of substantially all of the
assets of Allegiance, although approved by the U.S. Bankruptcy
Court, remains contingent upon the fulfillment of a variety of
covenants contained in the definitive documentation pursuant to
which we anticipate acquiring the Allegiance assets. Such
contingencies include, without limitation, our obtaining
regulatory clearances, such as Hart-Scott-Rodino and approval of
the Federal Communication Commission, or FCC, and state public
utility commissions. While we believe the approvals will be
forthcoming, there can be no assurance that we will obtain the
governmental approvals and clearances required to consummate our
acquisition of the Allegiance assets.

6



---



##### 



Services

We provide business customers with a
comprehensive array of data and voice telecommunications
services, which include voice, Internet access, private data
networking and hosting services. We have designed these
telecommunications services to meet the needs of all sizes of
commercial business customers, from small and medium businesses
to multi-location businesses, large enterprises, as well as
carrier and wholesale customers.



| |               
| | --------------
| | Voice Services



| |                                           
| | ------------------------------------------
| | Local and Long Distance Voice
    Services

We offer a variety of voice applications and
services as an alternative to comparable local services from the
Incumbent Local Exchange Carriers, or ILECs. These voice
services include:



| |   |                                                                                                          
| | - | ---------------------------------------------------------------------------------------------------------
| |  | local standard dial tone, including touch-tone
    dialing, 911 access and operator assisted calling;    
|
| |  | local multi-trunk dial tone services, including
    direct inward dialing, and direct outward dialing;   
|
| |  | long distance services, including 1+, toll free,
    calling card and operator services;                 
|
| |  | voice messaging with personalized greetings,
    send, transfer, reply and remote retrieval capabilities;
|
| |  | conferencing services, including voice and web
    conferencing services; and                            
|
| |  | directory listings and assistance.                                                                       

In each of our markets, we have negotiated and
entered into interconnection agreements with the ILEC and
certain independent carriers, and implemented permanent local
number portability, which allows customers to retain their
telephone numbers when changing telephone service providers.



| |                                      
| | -------------------------------------
| | Hosted Interactive Voice
    Response

We develop and manage hosted interactive voice
response, or IVR, systems for customers that enable end users to
order products and services, collect and receive information,
seek assistance, facilitate bill payments, and a host of other
capabilities over the telephone. Our hosted IVR capabilities
utilize a wide range of technologies, from standard
touch-tone/push-button dialing to natural language speech
recognition and extensible markup language, or XML, and VoiceXML
technologies, which are sophisticated systems that enable
persons to access Web-based information over the telephone. We
customize for our clients particular needs telephony-based
software applications and technologies developed by third
parties to create IVR systems. We integrate these IVR systems
with our clients other business systems, such as
information databases and customer relationship management
systems. We host and maintain the IVR systems in data centers
and deploy them to clients across a network, thereby alleviating
the need for our clients to purchase, own, install, or maintain
these applications. Clients pay for the use of these customized
solutions through a combination of upfront payments
for development and recurring fees based on transaction volume.
We also host and manage personal identification number, or PIN,
management systems for customers, which consist of primarily
pre-paid calling card systems, including providing transaction
processing services relating to prepaid calling card services
provided by other telecommunications carriers.



| |              
| | -------------
| | Data Services



| |                
| | ---------------
| | Internet Access

Our Internet access offerings include dedicated
access services targeted at businesses that desire single or
multipoint high-speed, dedicated connections to the Internet.
Our Dedicated Internet Access service provides service
guarantees for internet speeds ranging from 56 kilobits per
second, or kbps, to 1 Gigabit per second, or Gbps. Our digital
subscriber line, or DSL, service also includes a wide range of
dedicated access speeds for Small and Medium Business, or SMBs.
We are a tier-1 Internet backbone provider in the U.S., with
over 200 public and private peering arrangements with other
Internet backbones.

7



---



##### 





| |                        
| | -----------------------
| | Private Data Networking

We provide dedicated transmission capacity on our
networks to customers that desire high-bandwidth links between
locations. We offer special access and point-to-point circuits
to long distance carriers and other high volume customers, which
are used as both primary and back-up circuits. In addition,
fiber optic technology that enables signals to be transmitted at
different wavelengths on a single fiber allows us to lease one
or more dedicated wavelengths to customers that desire
high-bandwidth links between locations. We currently offer these
services with connections of up to 9.6 gigabits per second, a
transmission rate that is described in our industry as OC-192.
This service supports a variety of transmission protocols,
including Asynchronous Transfer Mode or ATM, Frame Relay and
Synchronous Optical Network, or SONET.

Our virtual private network, or VPN, services
enable customers to deploy tailored, Internet Protocol-based
mission-critical business applications for secure internal
enterprise, business-to-business and business-to-customer data
communications among geographically dispersed locations, while
also affording high-speed access to the Internet. VPN services
also provide secure access for remote users, such as traveling
employees and employees working from home or a remote location,
which is not possible using private line and frame relay
services. We also offer managed firewall services.

Finally, we offer a suite of Ethernet services,
including Gigabit Ethernet, or GigE, in most of our U.S.
markets, as well as intercity Ethernet services between our
markets. Our Ethernet services are designed to provide
high-speed, high-capacity connections between customers
local area networks, or LANs, within and between metropolitan
areas, while eliminating the need for ongoing configuration,
management and acquisition of equipment by the customer. These
services are designed to provide private networking data speeds
ranging from 10 or 100 megabits per second to one gigabit per
second connections, to simplify customers network
connections, and to significantly reduce their costs.



| |                 
| | ----------------
| | Hosting Services

We offer a range of applications hosting services
that can manage a customers web-based infrastructure and
operational needs, allowing customers to focus on their
web-based content. In addition, we provide server management
tools and services to manage customers larger computers
(which are known as servers) for them.

To provide this service, we have equipped our
data centers and have configured the central offices of our
network backbone with electrical and environmental controls and
24-hour maintenance and technical support, to provide an
attractive location for our customers to locate their servers or
from which they can run important applications on servers that
we maintain.

Our hosting services include:



| |   |                                                                                                                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Web Hosting:support
    for customers websites, including design, maintenance and
    telecommunications services;                                                                                                                                                   
|
| |  | Server Collocation:collocation of customers servers
    in our data centers; and                                                                                                                                                                                     
|
| |  | Application Hosting:running our customers
    enterprise-wide applications at our data centers and
    distributing them as needed over our network or servers to
    ensure uniformity, reduce costs and implement upgrades on a
    continuous and immediate basis.

As part of some of our XOptions integrated
packages of telecommunications services, we offer web hosting
with Microsofts bCentral web-based tools and applications,
which enables customers to conduct targeted email marketing,
register their web site with hundreds of Internet search engines
and directories, build catalogues and sell products over the
web, and coordinate meetings and appointments online. We also
offer a suite of hosting outsourcing services that provides
customers web-based access to email, group distribution lists,
calendaring, contacts databases management and file sharing.
Hosting can be shared, in which we own the equipment
and provide the underlying services, or dedicated,
in which we provide some or all of the hosting and services from
our data centers using the customers own equipment.

8



---



##### 





| |                                   
| | ----------------------------------
| | Integrated Voice and Data Services

We offer bundled packages of voice and data
products, known as XOptions, to small and middle-market
businesses that include integrated, flat-rate packages for
specified amounts of certain services, including local and long
distance voice services, Internet access and web hosting
services. These services include a variety of service packages
designed to accommodate different sized customers with anywhere
from 10 to 100 employees per location. XOptions eliminates the
complexity of working with multiple service providers for
installation, maintenance and billing, and also can result in
significant savings over the average cost of buying these
services from separate competitive voice and data providers. We
also offer Integrated Access Services, which can reduce
telecommunications costs by combining local voice, long
distance, and dedicated Internet access on a single facility.

In 2002, we introduced a number of new XOptions
packages designed to meet the needs of larger customers,
specifically, those with small offices at multiple locations,
those desiring to pool hosting and email accounts across
multiple locations under a single account, and those that rely
heavily on voice communications services. We also introduced
XOptions packages that combine the benefits of XOptions
local and long distance voice, Internet access and web hosting
with Microsofts bCentral web-based tools and applications.

Our integrated services also include shared
tenant services, which are telecommunications management
services provided to groups of small and middle-market
businesses located in the same office building. This service
enables businesses too small to justify hiring their own
telecommunications managers to benefit from the efficiencies,
including volume discounts, normally available only to larger
enterprises. We install an advanced telecommunications system
throughout each building we serve, leasing space for on-site
sales and service, and offer tenants products and services such
as telephones, voice mail, local calling lines, discounted long
distance and high-speed Internet connections, all on a single,
detailed invoice.

9



---



##### 



XOs Networks

The following diagrams depict the physical
components of our nationwide networks and technology. There are
additional maps located on our web site at www.xo.com.



LOGO

10



---



##### 





| |                     
| | --------------------
| | Metro Fiber Networks

The core of each of our metro fiber networks is a
ring of fiber optic cable in a citys central business
district that connects to our central offices. These central
offices contain the switches and routers that direct data and
voice traffic to their destinations, and also have the space to
house the additional equipment necessary for future
telecommunications services. Whenever we can, we build and own
these metro fiber networks ourselves or obtain indefeasible
rights to use fiber so that we can control the design and
technology used to best meet our customers needs. We
operate 37 metro fiber networks serving the markets noted below:

|      |  |                          |  |                                                                                                                                                                          
|----- |  | ------------------------ |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|      |  | Metro Fiber              |  |                                                                                                                                                                          
|State |  | Network Location         |  | Service Market                                                                                                                                                           
|      |  |                          |  |                                                                                                                                                                          
|AZ    |  | Phoenix                  |  | Phoenix*                                                                                                                                                                 
|CA    |  | Los Angeles              |  | Los Angeles*                                                                                                                                                             
|CA    |  | Orange County            |  | Anaheim*
    Costa Mesa*
    Fullerton*
    Garden Grove*
    Huntington Beach*
    Inglewood*
    Irving*
    Long Beach*
    Orange*
    Santa Ana*                    
|CA    |  | Sacramento               |  | Sacramento*                                                                                                                                                              
|CA    |  | San Diego                |  | San Diego*                                                                                                                                                               
|CA    |  | San Francisco            |  | San Francisco*
    Oakland*
    Fremont*
    Milpitas*
    Mountain View*
    Palo Alto*
    Santa Clara*
    Sunnyvale*                                                 
|CA    |  | San Jose                 |  | San Jose*                                                                                                                                                                
|CO    |  | Denver                   |  | Denver*
    Boulder-Longmont                                                                                                                                             
|DC/VA |  | Washington DC/
    No VA |  | Washington, DC-MD-VA-WV*                                                                                                                                                 
|FL    |  | Ft Lauderdale            |  | Ft Lauderdale*                                                                                                                                                           
|FL    |  | Miami                    |  | Miami*
    West Palm Beach-Boca Raton*                                                                                                                                   
|FL    |  | Orlando                  |  | Orlando                                                                                                                                                                  
|FL    |  | Tampa                    |  | Tampa-St. Petersburg-
    Clearwater*                                                                                                                                    
|GA    |  | Atlanta                  |  | Atlanta*
    Marietta*                                                                                                                                                   
|IL    |  | Chicago                  |  | Chicago*                                                                                                                                                                 
|MA    |  | Boston                   |  | Boston, MA-NH*
    Brockton
    Lawrence, MA-NH*
    Lowell, MA-NH*
    Worcester, MA-CT                                                                                 
|MD    |  | Baltimore                |  | Baltimore*                                                                                                                                                               
|MI    |  | Detroit                  |  | Detroit*                                                                                                                                                                 
|MN    |  | Minneapolis              |  | Greater Minneapolis/St. Paul*                                                                                                                                            
|MO    |  | St Louis                 |  | St Louis*                                                                                                                                                                
|NJ    |  | New Jersey               |  | Bergen/Passaic*
    Middlesex-Somerset-Hunterdon
    Newark*
    Jersey City*
    Monmouth-Ocean
    Trenton                                                             
|NV    |  | Las Vegas                |  | Las Vegas                                                                                                                                                                
|NY    |  | New York                 |  | Manhattan*
    Nassau-Suffolk*                                                                                                                                           
|OH    |  | Cleveland/Akron          |  | Cleveland-Lorain-Elyria*
    Akron
    Canton-Massillon                                                                                                                  
|OH    |  | Columbus                 |  | Columbus                                                                                                                                                                 
|OR    |  | Portland                 |  | Portland-Vancouver, OR-WA                                                                                                                                                
|PA/DE |  | Central PA               |  | Allentown-Bethlehem-Easton*
    Harrisburg-Lebanon-Carlisle
    Lancaster
    Reading
    Scranton-Wilkes-Barre-Hazleton
    York
    Wilmington-Newark, DE-MD
    Dover*
|PA    |  | Philadelphia             |  | Philadelphia, PA-NJ*                                                                                                                                                     
|TN    |  | Memphis                  |  | Memphis, TN-AR-MS                                                                                                                                                        
|TN    |  | Nashville                |  | Nashville                                                                                                                                                                
|TX    |  | Austin                   |  | Austin-San Marco*                                                                                                                                                        
|TX    |  | Dallas/Ft Worth          |  | Dallas*                                                                                                                                                                  
|TX    |  | Houston                  |  | Fort Worth-Arlington*
    Houston*                                                                                                                                       
|TX    |  | San Antonio              |  | San Antonio*                                                                                                                                                             
|UT    |  | Salt Lake City           |  | Salt Lake City-Ogden
    Orem/Provo                                                                                                                                      
|WA    |  | Seattle                  |  | Seattle-Bellevue-Everett*                                                                                                                                                
|WA    |  | Spokane                  |  | Spokane
    Lewiston
    Clarkston
    Coeur dAlene                                                                                                                     



---



|  |                                                                                                                                                   
|- | --------------------------------------------------------------------------------------------------------------------------------------------------
|* | Indicates markets with Allegiance service
    presence. In addition, Allegiance has a service presence in
    Pittsburgh, PA and White Plains, NY.

11



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We built our high capacity metro fiber networks
using a backbone density typically ranging between 72 and 432
strands of fiber optic cable. Fiber optic cables have the
capacity, or bandwidth, to carry tens of thousands of times the
amount of traffic as traditionally-configured copper wire. We
believe that installing high-count fiber strands will allow us
to offer a higher volume of broadband and voice services without
incurring significant additional construction costs. To enhance
our ability to economically connect customers to our networks
and services, we design our networks to serve both core downtown
areas and other metropolitan and suburban areas where business
development supports the capital required for the network
construction.



| |                  
| | -----------------
| | Intercity Network

We provide intercity transport primarily through
five year leases of wavelength capacity from Level 3 on routes
linking our metro fiber networks to one another and onto which
we have deployed transmission and routing equipment to create a
single, end-to-end network. The first of these leases will
expire in 2006. We expect to either renew the leases for
wavelengths or to light our intercity fiber network discussed
below based on the most cost effective approach. We have
designed and installed much of the equipment we use to route
traffic and control our intercity wavelengths so that we can
easily transfer voice and data traffic from leased wavelength
capacity onto our intercity fiber network as portions of that
network are lit. By using our own transmission and routing
equipment, we maximize the capacity and enhance the performance
of the network as needed to meet our customers current and
future broadband data and other telecommunications needs.

Using Level 3 leased wavelength capacity and
our own routers and transport equipment, we also operate an
OC-192 capacity Internet backbone, onto which a substantial
amount of our Internet-related services and customer traffic
runs. This backbone provides our customers with improved network
redundancy, security and performance, and enables us to offer
customers services that take advantage of future Internet
Protocol technologies.

In addition to our Level 3 leased wavelength
capacity, we have intercity fiber network assets primarily
consisting of an exclusive interest in 18 fibers in a shared,
filled conduit in the Level 3 North American network,
substantially all of which are unlit. These fibers are part of a
fiber network that traverses over 16,000 miles and connects more
than 60 cities in the United States and Canada, including most
of the major metropolitan markets served by our metro networks.

To conserve capital, we delayed
lighting much of our intercity fiber network. In
order to light a segment of our intercity fiber network, we
would install optical network equipment at our facilities that
would allow for the transmission and routing of network traffic
over that fiber segment. In the aggregate, the capital
expenditures that would be required to light our entire
intercity network would be approximately $45 million. Given
the level of traffic in relationship to capacity and the current
availability of intercity wavelength capacity that is available
to us at cost-efficient lease rates, to date it has generally
been more cost-effective to lease the required intercity
wavelength capacity rather than light our own intercity network.

However, along specific segments of our intercity
network where the demand for telecommunications capacity
justifies the required capital expenditures, we have proceeded
with lighting those specific segments. Due to the need for
additional, cost efficient capacity along the segment that runs
from Los Angeles to San Diego, we lit this segment in
June 2003, and we lit the Denver to Salt Lake City segment
in November 2003. Additionally, we previously lit fiber
acquired from Metromedia Fiber Network, Inc. that runs from New
York to Washington, D.C. to provide an additional route to the
lit intercity fiber network along that segment and we have also
lit fiber in Texas. As discussed above, as leases for segments
of wavelength capacity expire, we will either renew the leases
for wavelengths or light our intercity fiber segment based on
the most cost effective approach.

In August 2002, we entered into a Master
Agreement with Level 3 Communications, Inc., which amends
various agreements related to our acquisition of fiber networks
in the United States from Level 3 and the recurring maintenance
charges relating to those networks. Beginning on January 1,
2003 and

12



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##### 



continuing through the remaining term of the
initial agreement ending 2018, Level 3 has reduced the operating
and maintenance fees as well as fiber relocation charges from
approximately $17.0 million annually to a fixed rate of
$5.0 million annually. In exchange for this reduction and
certain other concessions, we surrendered our indefeasible right
to use an empty conduit and our indefeasible right to use six of
the 24 fibers previously acquired from Level 3 and recorded a
one-time charge of approximately $477.3 million in
connection therewith. We believe that the 18 fibers that we
retained from Level 3 in connection with the execution of the
Master Agreement will be sufficient capacity to expand our
business.




| |                                     
| | ------------------------------------
| | Connecting Customers to Our Networks

We connect our customers directly to our networks
when it is economical and technologically feasible to do so. We
connect customers to our networks by using fiber optic cable
and, in limited circumstances, broadband wireless spectrum. We
believe that by deploying direct connections to our customers,
rather than connecting through the ILECs facilities, we
will reduce our costs and be better positioned to meet our
customers telecommunications requirements and to more
rapidly deploy our service.

In most cases, we are required to lease
facilities from an ILEC to connect a customer to our network. By
building our metro fiber networks in central business districts,
in many cases we have minimized the distance from our network to
a potential customer. By reducing the distance between our
customers and our network, we have minimized the costs
associated with the facilities we lease from the ILECs because
the cost of those facilities is generally based, on the distance
of the leased connection.

Fiber Optics.In cases where the anticipated revenues justify the construction
cost, we will install a new fiber optic extension from our
network to the customers premises. Whether it is
economical to construct a fiber optic extension depends, among
other things, on:



| |   |                                                                                                                                   
| | - | ----------------------------------------------------------------------------------------------------------------------------------
| |  | the existing and potential revenue base located
    in the building in question;                                                  
|
| |  | the building location relative to our network and
    our ability to access the communications equipment in that
    building, and
|
| |  | local permit requirements and construction costs.                                                                                 

Even if we initially determine that it is not
economical to construct a fiber connection to a building, we
will continually reexamine the costs and benefits of a fiber
connection and may, at a later date, determine that construction
of one is justified.

Broadband Wireless
Spectrum.In cases where
construction of a fiber optic connection is not practical or
economical, in limited cases we have deployed a high-bandwidth
wireless connection between an antenna on the roof of the
customers premises and an antenna attached to our metro
fiber network. In those limited cases, we and/or our customers
must secure roof and other building access rights, including
access to conduits and wiring from the owners of each building
or other structure on which we propose to install our equipment,
and may need to obtain construction, zoning, franchise or other
governmental permits.

DSL
Technology.We have also deployed
DSL technology to meet the high-bandwidth needs of many
customers located less than three miles from the ILECs
central office and whose customer connection remains over copper
wire. DSL technology reduces the bottleneck in the transport of
information, particularly for data services, by increasing the
data carrying capacity of copper telephone lines. We believe
that, for many small and middle-market businesses within the
geographic areas that can be served by DSL technology, existing
copper connections using DSL technology from customer buildings
to our metro fiber networks offers a lower cost alternative for
high-quality broadband services than fiber or broadband wireless
connections.

We offer DSL services in numerous markets in the
U.S., mainly through wholesale arrangements with the ILECs and
other DSL service providers. We have introduced our own DSL
equipment and services at many collocation sites, including
central offices of the ILECs that serve a significant number of
business customers.

13



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Network Technology



| |         
| | --------
| | Overview

The wires, cables and spectrum that comprise the
physical layer of our networks can support a variety of
communications technologies. We seek to offer customers a set of
technology options that can support services that meet their
changing needs and introduce new technologies as necessary.
Specifically, we believe that a service platform based on
Internet Protocol, or IP, will provide us with significant
future opportunities, because it will enable data, voice and
video to be carried inexpensively over our end-to-end,
facilities-based network. Consequently, we have supplemented our
current data and voice switching technology with IP equipment.

Over the past few years, both optical and
IP-based networking technologies have undergone rapid
innovation. These technological developments enable us to offer
our customers numerous high-speed data services. Many of these
innovations have the effect of increasing the efficiency of the
physical components of our network by increasing the effective
capacity of networks for these types of applications. In the
future, we expect that IP-based technology will become the
preferred technology for voice calls and facsimile transmission
as well. We plan to remain flexible in our use of technology, so
that, as underlying telecommunications technology changes, we
will have the ability to take advantage of and implement new
technologies that best meet our network requirements and
customers needs.



| |                       
| | ----------------------
| | Fiber Optic Technology

To enhance the capacity of our metro fiber
networks, we are incorporating dense wavelength division
multiplexing technology, which makes it possible to
simultaneously transmit data at more than one wavelength. This
capability allows the transmission of multiple signals through
the same fiber at different wavelengths. When utilized with the
optical fiber deployed in many of our metro fiber networks and
in our intercity network, this technology can significantly
increase the capacity of those metro fiber networks.



| |                     
| | --------------------
| | Switching Technology

There are two commonly used switching
technologies currently deployed in most telecommunications
networks: circuit switched-based systems and packet
switched-based systems. Circuit switch-based systems are
currently used on a majority of telecommunications networks.
Circuit switch-based systems establish a dedicated channel for
each telecommunication signal (such as a telephone call for
voice or fax), maintain the channel for the duration of the
call, and disconnect the channel at the conclusion of the call.

Packet switch-based telecommunications systems,
which format the information to be transmitted into a series of
shorter digital messages called packets, are the
preferred means of data transmission. Each packet consists of a
portion of the complete message plus the addressing information
to identify the destination and return address. A key feature
that distinguishes Internet architecture from the public
telephone network is that on the packet-switched Internet, a
single dedicated channel between telecommunication points is not
required.

Packet switch-based systems offer several
advantages over circuit switch-based systems, particularly the
ability to commingle packets from several telecommunications
sources together simultaneously onto a single channel. For most
telecommunications, particularly those with bursts of
information followed by periods of silence, the
ability to commingle packets provides for superior network
utilization and efficiency, resulting in more information being
transmitted through a given telecommunication channel.

IP technology, an open protocol that allows
unrelated computer networks to exchange data, is the
technological basis of the Internet. The Internets
explosive growth in recent years has focused intensive efforts
worldwide on developing IP-based networks and applications. In
contrast to protocols like ATM, which was the product of
elaborate negotiations between the worlds monopoly
telephone companies, IP is an open standard, subject to
continuous improvement.

14



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##### 



We believe that a form of IP-based switching will
eventually replace both ATM and circuit switched technologies,
and will be the foundation of integrated networks that treat all
transmissions  including voice, fax and
video  simply as forms of data transmission. Although
not always the case, voice over IP, or VoIP, technology now
incorporates the quality of service necessary for commercial
deployments, but the pricing of equipment that must be installed
at customer locations in order to implement VoIP applications is
not yet cost-effective for widespread application. We expect
that, over time, improved technology and the manufacture of
sufficient volumes of equipment will make customer adoption of
VoIP applications more cost-effective.

We have constructed IP points of presence in all
of our major markets using high-capacity IP routers, through
which we offer Internet-related services. We currently connect
these points of presence with our intercity fiber network, which
serves as our OC-192 IP backbone.

We have deployed a number of newly-developed
packet-based switching technologies, including soft-switch,
optical and Ethernet switching technologies. The soft-switch is
a distributed computer system that performs the same functions
as a circuit switch. It can route and switch information at an
extremely fast rate. Initially, we will use soft-switch
technology to complement and relieve traffic from our circuit
switches. We have deployed optical switching, routing and
transmission equipment on our intercity network to create an
all-optical network. This technology is designed to make
significant amounts of bandwidth available to our customers. It
also is designed to enable us to more effectively and
efficiently manage our customers transmissions and to
enhance our deployment of dense wavelength division multiplexing
technology. Optical switching will support all transmission
protocols, including IP, ATM, and frame relay. We also are
deploying Ethernet switching technology to support and expand
our Ethernet services.



| |                              
| | -----------------------------
| | Broadband Wireless Technology

We hold 91 local multipoint distribution service
or LMDS licenses and ten 39 GHz licenses. There are additional
holders in some of the cities where we hold licenses. The
following tables shows (i) the license number,
(ii) the metropolitan areas and frequency band for each
area covered by the license, (iii) the estimated population
for each area, (iv) the amount of spectrum for each area,
and (v) the expiration date for each license. This makes us
the licensee of the largest US footprint of fixed wireless
spectrum.

|        |  |                                            |  |       |  |            |  |          |  |      |  |        |  |          
|------- |  | ------------------------------------------ |  | ----- |  | ---------- |  | -------- |  | ---- |  | ------ |  | ---------
|License |  |                                            |  |       |  |            |  |          |  | B    |  | 39 GHz |  | License  
|Number  |  | City                                       |  | State |  | Population |  | A Band   |  | Band |  | Chanls |  | Renewal  
|        |  |                                            |  |       |  |            |  |          |  |      |  |        |  |          
|WPOL286 |  | New York (PMSA of 5 boroughs & 3 counties) |  | NY    |  | 8,546,846  |  | A3       |  |      |  |        |  | 2/1/2006 
|       
|WPLM417 |  | Atlanta                                    |  | GA    |  | 3,197,171  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM412 |  | Austin                                     |  | TX    |  | 899,361    |  |          |  | B    |  |        |  | 6/17/2008
|WPLM416 |  | Baltimore                                  |  | MD    |  | 2,430,563  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM430 |  | Birmingham                                 |  | AL    |  | 1,200,336  |  | A        |  |      |  |        |  | 6/17/2008
|WPLM413 |  | Boston                                     |  | MA    |  | 4,133,895  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM418 |  | Chattanooga                                |  | TN    |  | 510,860    |  | A        |  |      |  |        |  | 6/17/2008
|WPLM405 |  | Chicago                                    |  | IL    |  | 8,182,076  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM424 |  | Cincinnati                                 |  | OH    |  | 1,990,451  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM422 |  | Cleveland-Akron                            |  | OH    |  | 2,894,133  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM410 |  | Columbia                                   |  | SC    |  | 568,754    |  | A        |  |      |  |        |  | 6/17/2008
|WPLM438 |  | Columbus                                   |  | OH    |  | 1,477,891  |  |          |  | B    |  |        |  | 6/17/2008
|WPON926 |  | Denver                                     |  | CO    |  | 2,073,952  |  | A1(part) |  |      |  |        |  | 6/17/2008
|WPLM408 |  | Detroit                                    |  | MI    |  | 4,705,164  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM398 |  | Hartford                                   |  | CT    |  | 1,123,678  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM411 |  | Hickory-Lenoir-Morganton                   |  | NC    |  | 292,409    |  | A        |  |      |  |        |  | 6/17/2008
|WPLM431 |  | Huntsville                                 |  | AL    |  | 439,832    |  | A        |  |      |  |        |  | 6/17/2008
|WPLM435 |  | Indianapolis                               |  | IN    |  | 1,321,911  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM436 |  | Kansas City                                |  | MO    |  | 1,839,569  |  |          |  | B    |  |        |  | 6/17/2008
|WPLM434 |  | Klamath Falls                              |  | OR    |  | 74,566     |  |          |  | B    |  |        |  | 6/17/2008
|WPLM420 |  | Lakeland-Winterhaven                       |  | FL    |  | 405,382    |  |          |  | B    |  |        |  | 6/17/2008

15



---



##### 



|         |  |                                              |  |       |  |            |  |        |  |      |  |        |  |          
|-------- |  | -------------------------------------------- |  | ----- |  | ---------- |  | ------ |  | ---- |  | ------ |  | ---------
|License  |  |                                              |  |       |  |            |  |        |  | B    |  | 39 GHz |  | License  
|Number   |  | City                                         |  | State |  | Population |  | A Band |  | Band |  | Chanls |  | Renewal  
|         |  |                                              |  |       |  |            |  |        |  |      |  |        |  |          
|WPLM429  |  | Lexington                                    |  | KY    |  | 816,101    |  | A      |  |      |  |        |  | 6/17/2008
|WPLM401  |  | Los Angeles*                                 |  | CA    |  | 14,549,810 |  | A      |  |      |  |        |  | 6/17/2008
|WPLM428  |  | Louisville                                   |  | KY    |  | 1,352,955  |  | A      |  |      |  |        |  | 6/17/2008
|WPLM423  |  | Mansfield                                    |  | OH    |  | 221,514    |  |        |  | B    |  |        |  | 6/17/2008
|WPLM433  |  | Medford-Grants Pass                          |  | OR    |  | 209,038    |  |        |  | B    |  |        |  | 6/17/2008
|WPOH970  |  | Milwaukee                                    |  | WI    |  | 1,751,525  |  | A      |  |      |  |        |  | 6/17/2008
|WPLM419  |  | Minneapolis-St. Paul                         |  | MN    |  | 2,840,561  |  | A      |  |      |  |        |  | 6/17/2008
|WPOH945  |  | New Haven-Waterbury-Meriden                  |  | CT    |  | 978,311    |  |        |  | B    |  |        |  | 6/17/2008
|WPLM400  |  | New London-Norwich                           |  | CT    |  | 357,482    |  |        |  | B    |  |        |  | 6/17/2008
|WPLM397  |  | New York (whole BTA)                         |  | NY    |  | 18,050,615 |  |        |  | B    |  |        |  | 6/17/2008
|WPLM421  |  | Ocala                                        |  | FL    |  | 194,833    |  |        |  | B    |  |        |  | 6/17/2008
|WPLM432  |  | Portland                                     |  | OR    |  | 1,690,930  |  | A      |  |      |  |        |  | 6/17/2008
|WPOH956  |  | Providence-Pawtucket, New Bedford-Fall River |  | RI,MA |  | 1,509,789  |  | A      |  |      |  |        |  | 6/17/2008
|WPLM437  |  | Rochester                                    |  | NY    |  | 1,118,963  |  |        |  | B    |  |        |  | 6/17/2008
|WPLM407  |  | Sacramento                                   |  | CA    |  | 1,656,581  |  | A      |  |      |  |        |  | 6/17/2008
|WPLM402  |  | San Diego                                    |  | CA    |  | 2,498,016  |  |        |  | B    |  |        |  | 6/17/2008
|WPLM406  |  | San Francisco-Oakland-San Jose               |  | CA    |  | 6,420,984  |  |        |  | B    |  |        |  | 6/17/2008
|WPLM404  |  | San Luis Obispo                              |  | CA    |  | 217,162    |  | A      |  |      |  |        |  | 6/17/2008
|WPLM403  |  | Santa Barbara-Santa Maria                    |  | CA    |  | 369,608    |  | A      |  |      |  |        |  | 6/17/2008
|WPLM427  |  | Seattle-Tacoma                               |  | WA    |  | 2,708,949  |  | A      |  |      |  |        |  | 6/17/2008
|WPLM425  |  | St. Louis                                    |  | MO    |  | 2,742,114  |  |        |  | B    |  |        |  | 6/17/2008
|WPLM409  |  | Toledo                                       |  | OH    |  | 782,184    |  |        |  | B    |  |        |  | 6/17/2008
|WPLM415  |  | Washington                                   |  | DC    |  | 4,118,628  |  |        |  | B    |  |        |  | 6/17/2008
|        
|WPOH677  |  | Albuquerque                                  |  | NM    |  | 688,612    |  | A      |  |      |  |        |  | 9/1/2008 
|WPOH679  |  | El Paso                                      |  | TX    |  | 649,860    |  | A      |  |      |  |        |  | 9/1/2008 
|WPOH676  |  | Tucson                                       |  | AZ    |  | 666,880    |  | A      |  |      |  |        |  | 9/1/2008 
|WPOH683  |  | Lawton-Duncan                                |  | OK    |  | 177,830    |  | A      |  |      |  |        |  | 9/1/2008 
|WPOH682  |  | Oklahoma City                                |  | OK    |  | 1,305,472  |  | A      |  |      |  |        |  | 9/1/2008 
|WPOH684  |  | Omaha                                        |  | NE    |  | 905,991    |  | A      |  |      |  |        |  | 9/1/2008 
|WPOH676  |  | Tulsa                                        |  | OK    |  | 836,559    |  | A      |  |      |  |        |  | 9/1/2008 
|        
|WPHOH944 |  | Albany-Schenectady                           |  | NY    |  | 1,028,615  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH963  |  | Atlanta                                      |  | GA    |  | 3,197,171  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH954  |  | Austin                                       |  | TX    |  | 899,361    |  | A      |  |      |  |        |  | 10/6/2008
|WPOH962  |  | Baltimore                                    |  | MD    |  | 2,430,563  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH955  |  | Boston                                       |  | MA    |  | 4,133,895  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH955  |  | Buffalo-Niagara Falls                        |  | NY    |  | 1,231,795  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH950  |  | Charlotte-Gastonia                           |  | NC    |  | 1,671,037  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH948  |  | Chicago                                      |  | IL    |  | 8,182,076  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH953  |  | Dallas                                       |  | TX    |  | 4,329,924  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH975  |  | Des Moines                                   |  | IA    |  | 728,830    |  | A      |  |      |  |        |  | 10/6/2008
|WPOH949  |  | Detroit                                      |  | MI    |  | 4,705,164  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH952  |  | Greenville-Spartanburg                       |  | NC    |  | 788,212    |  | A      |  |      |  |        |  | 10/6/2008
|WPOH943  |  | Hartford                                     |  | CT    |  | 1,123,678  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH966  |  | Houston                                      |  | TX    |  | 4,054,253  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH974  |  | Indianapolis                                 |  | IN    |  | 1,321,911  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH979  |  | Jacksonville                                 |  | FL    |  | 1,114,847  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH981  |  | Knoxville                                    |  | TN    |  | 948,055    |  | A      |  |      |  |        |  | 10/6/2008
|WPOH947  |  | Los Angeles                                  |  | CA    |  | 14,549,810 |  |        |  | B    |  |        |  | 10/6/2008
|WPOH959  |  | Manchester-Nashua-Concord                    |  | NH    |  | 540,704    |  | A      |  |      |  |        |  | 10/6/2008
|WPOH973  |  | Memphis                                      |  | TN    |  | 1,396,390  |  | A      |  |      |  |        |  | 10/6/2008
|WPOH967  |  | Miami-Ft. Lauderdale                         |  | FL    |  | 3,270,606  |  | A      |  |      |  |        |  | 10/6/2008
|WPLM426  |  | Milwaukee                                    |  | WI    |  | 1,751,525  |  |        |  | B    |  |        |  | 10/6/2008
|WPOH964  |  | Minneapolis-St. Paul                         |  | MN    |  | 2,840,561  |  |        |  | B    |  |        |  | 10/6/2008
|WPOH980  |  | Nashville                                    |  | TN    |  | 1,429,309  |  | A      |  |      |  |        |  | 10/6/2008

16



---



##### 



|        |  |                                                                            |  |       |  |            |  |        |  |      |  |        |  |           
|------- |  | -------------------------------------------------------------------------- |  | ----- |  | ---------- |  | ------ |  | ---- |  | ------ |  | ----------
|License |  |                                                                            |  |       |  |            |  |        |  | B    |  | 39 GHz |  | License   
|Number  |  | City                                                                       |  | State |  | Population |  | A Band |  | Band |  | Chanls |  | Renewal   
|        |  |                                                                            |  |       |  |            |  |        |  |      |  |        |  |           
|WPLM399 |  | New Haven-Waterbury-Meriden                                                |  | CT    |  | 978,311    |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH942 |  | New York (unencumbered by PMSA) Philadelphia,
    Wilmington (DE), Trenton |  | NY    |  | 9,503,769  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH960 |  | (NJ)                                                                       |  | PA    |  | 5,899,345  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH971 |  | Pittsburgh Providence-Pawtucket, New Bedford-Fall                          |  | PA    |  | 2,507,839  |  | A      |  |      |  |        |  | 10/6/2008 
|WPLM414 |  | River                                                                      |  | RI,MA |  | 1,509,789  |  |        |  | B    |  |        |  | 10/6/2008 
|WPOH951 |  | Raleigh-Durham                                                             |  | NC    |  | 1,089,423  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH972 |  | Richmond-Petersburg                                                        |  | VA    |  | 1,090,869  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH978 |  | Rochester                                                                  |  | NY    |  | 1,118,963  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH976 |  | San Antonio                                                                |  | TX    |  | 1,530,954  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH958 |  | Springfield-Holyoke                                                        |  | MA    |  | 672,970    |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH969 |  | St. Louis                                                                  |  | MO    |  | 2,742,114  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH946 |  | Syracuse                                                                   |  | NY    |  | 791,140    |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH965 |  | Tampa-St. Petersburg-Clearwater                                            |  | FL    |  | 2,249,405  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH961 |  | Washington                                                                 |  | DC    |  | 4,118,628  |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH968 |  | West Palm Beach-Boca Raton                                                 |  | FL    |  | 893,145    |  | A      |  |      |  |        |  | 10/6/2008 
|WPOH957 |  | Worcester-Fitchburg-Leominster                                             |  | MA    |  | 709,705    |  | A      |  |      |  |        |  | 10/6/2008 
|       
|WPQT938 |  | Denver-Boulder-Greeley                                                     |  | CO    |  | 2,073,952  |  |        |  |      |  | B      |  | 10/18/2010
|WPQT942 |  | Las Vegas                                                                  |  | NV    |  | 857,856    |  |        |  |      |  | E      |  | 10/18/2010
|WPQT946 |  | Las Vegas                                                                  |  | NV    |  | 857,856    |  |        |  |      |  | G      |  | 10/18/2010
|WPQT939 |  | San Diego                                                                  |  | CA    |  | 2,498,016  |  |        |  |      |  | B      |  | 10/18/2010
|WPQT944 |  | San Diego                                                                  |  | CA    |  | 2,498,016  |  |        |  |      |  | F      |  | 10/18/2010
|WPQT947 |  | San Diego                                                                  |  | CA    |  | 2,498,016  |  |        |  |      |  | N      |  | 10/18/2010
|WPQT940 |  | San Francisco                                                              |  | CA    |  | 6,420,984  |  |        |  |      |  | D      |  | 10/18/2010
|WPQT945 |  | San Francisco                                                              |  | CA    |  | 6,420,984  |  |        |  |      |  | F      |  | 10/18/2010
|WPQT941 |  | Toledo                                                                     |  | OH    |  | 782,184    |  |        |  |      |  | E      |  | 10/18/2010
|WPQT943 |  | Toledo                                                                     |  | OH    |  | 782,184    |  |        |  |      |  | F      |  | 10/18/2010
|       
|Legend  |  |                                                                            |  |       |  |            |  |        |  |      |  |        |  |           



---

|         |  |                                                                                                                                                                                                                          
|-------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A        |  | 27,500 to 28,350 MHz, 29,100 to 29,250 GHz,
    31,075 to 31,225 GHz = 1,150 MHz                                                                                                                                         
|A1       |  | 27,500 to 28,350 MHz = 850 MHz                                                                                                                                                                                           
|A3       |  | 31,075 to 31,225 GHz = 150 MHz                                                                                                                                                                                           
|B        |  | 31,000 to 31,075 MHz, 31.225 to 31,300 MHz = 150
    MHz                                                                                                                                                                 
|39 GHz B |  | 38,650 to 38,700 MHz, 39,350 to 39,400 = 100 MHz                                                                                                                                                                         
|39 GHz E |  | 38,800 to 38,850 MHz, 39,500 to 39,550 = 100 MHz                                                                                                                                                                         
|39 GHz G |  | 38,900 to 38,950 MHz, 39,600 to 39,650 = 100 MHz                                                                                                                                                                         
|39 GHz F |  | 38,850 to 38,900 MHz, 39,550 to 39,600 = 100 MHz                                                                                                                                                                         
|39 GHz N |  | 39,250 to 39,300 MHz, 39,950 to 40,000 = 100 MHz                                                                                                                                                                         
|39 GHz D |  | 38,750 to 38,800 MHz, 39,450 to 39,500 = 100
    MHz
    The higher the frequency, the higher the attenuation (loss). For
    the same amount of transmission power, a lower frequency signal
    will propagate farther.

The spectrum under the licenses we hold is not
suitable for mobile telephones, but can transmit voice, data or
video signals from one fixed antenna to one or many others. As
the word local in the local multipoint distribution
service name implies, the radio links provided using LMDS
frequencies are of limited distance, typically five miles or
less, due to the degradation of these high-frequency signals
over greater distances. This also is true of the 39 GHz spectrum.

A wireless connection typically consists of
paired antennas placed at a distance of up to 5 miles from one
another with a direct, unobstructed line of sight. The antennas
are typically installed on rooftops, towers or windows. This
technology works by connecting the end user through fixed
wireless access to points of presence on our metro fiber
network, thus eliminating the need for the RBOCs last mile
of infrastructure. This third generation fixed wireless
broadband access, in conjunction with our intercity and metro
fiber network, allows us to offer a wide range of metro,
national and global connectivity solutions.

17



---



##### 



There are additional holders in some of the
cities where we hold licenses. There are also competitors who
are licensed broadband fixed wireless operators in the 39 GHz
spectrum bands. Examples include First Avenue Networks and
AT&T Business Services. There are existing users of the 39
GHz spectrum that may require XO as a new user of the spectrum
to coordinate its use to avoid interference with an existing
user. We do not believe that the coordination process will
significantly limit our ability to make use of the spectrum.

The term of the licenses for our broadband
wireless spectrum generally is ten years. Although the licenses
are renewable for an additional ten year term, renewal is
conditioned on our ability to satisfy utilization requirements
established by the FCC. During 2003 we had successful trials in
our San Diego and Irvine, California markets and deployed
services at approximately 20 customers. We continue to evaluate
recent improvements in the price and performance of fixed
wireless equipment, and have plans to meet the FCCs
substantial service test before the licenses are due
for renewal proceedings. In the event that we do not meet the
FCCs substantial service test at the end of the license
expiration date, we may request an extension of time or waiver
of license forfeiture from the FCC.

Sales, Network Services and Customer
Care



| |               
| | --------------
| | Sales Overview

Our sales organization includes a direct field
sales force and indirect sales channels. Our direct sales force
includes two sales organizations, one that addresses the needs
of commercial customers and one that services carrier accounts.
Our commercial sales organization focuses on all retail
customers, growing businesses within a market, developing
multi-market accounts and targeting national accounts. Our
carrier sales organization focuses solely on servicing
telecommunications providers who, in combination with other
capabilities, provide telecommunications services under their
own brand.

Our market research indicates that commercial
customers prefer a single source for all of their
telecommunications requirements, including products, billing,
installation, maintenance, and customer service. By offering
these customers our local, long distance or data services
individually or through our XOptions packages, which combine
local and long distance voice services, Internet access and web
hosting services, we believe we provide our customers a level of
convenience that generally is unavailable in the
telecommunications marketplace.

We market and sell our products to other
telecommunications providers through our carrier services
organization. These customers benefit from our national network,
our data service capabilities, our broad range of services and
our cost effective solution design.



| |                   
| | ------------------
| | Direct Sales Force

We have established a highly motivated and
experienced direct sales forces. Our strategy is to design the
structure of our sales efforts so that our sales personnel are
able to develop a direct and personal relationship with our
customers. We seek to recruit salespeople with strong sales and
telecommunications backgrounds, including salespeople from long
distance companies, telecommunications equipment manufacturers,
network systems integrators and the ILECs. Our salespeople are
offered incentives through a commission structure that generally
targets 40% to 50% of a salespersons total compensation to
be based on performance. Our direct sales and sales support
organization consisted of approximately 1,700 employees at
December 31, 2003, up from approximately 1,100 employees at
December 31, 2002. As part of the performance review
process and to reduce expenses, the sales organization declined
to approximately 1,200 in March 2004. We will continue to
evaluate sales performance and revenue growth in the most cost
effective manner.



| |                        
| | -----------------------
| | Indirect Sales Channels

We have complemented our direct sales force by
developing an indirect sales channels to distribute the
increasing number of products and services available to our
customer base. These channels include

18



---



##### 



numerous third party sales agents. We currently
have distribution arrangements with a number of national,
regional and local agents and agency firms, whose
representatives market a broad range of XO services. As of
December 31, 2003, we had staff of approximately 60
employees who manage our agent relationships and more than 700
indirect sales agents in markets throughout the United States.
During the fourth quarter of 2003, approximately 20% of new
sales were generated by indirect agents.




| |                 
| | ----------------
| | Network Services

Our network services organization consists of
2,100 employees whose main objective is to deliver superior
service and to enhance the customers experience. Network
service employees are located in all of our markets. Their main
objectives include the design, deployment, maintenance and when
necessary, repair of our network assets. In addition, they are
responsible for installing customer premise equipment and
activating new customers as well as maintaining and when
necessary, repairing any service outages our customers might
experience. We maintain a very competitive median repair time.



| |              
| | -------------
| | Customer Care

Once a customers services have been
installed, our customer care operations support customer
retention and satisfaction. Our goal is to provide customers
with a customer care group that has the ability and resources to
respond to and resolve customer questions and issues as they
arise. In 2003, although we conducted much of our customer care
operations from three call centers, we also provided
locally-based care for many large customers. Because we believe
that a more centralized care structure not only takes advantage
of economies of scale, but also enables us to provide better
customer service, we closed one of our care facilities in 2003.
The size of our customer care organization has remained constant
from December 31, 2002 to December 31, 2003, with
approximately 700 employees.

Regulatory Overview

Overview

The Telecommunications Act of 1996, or the
Telecom Act, which substantially revised the
Communications Act of 1934, established the regulatory framework
for the introduction of competition for local telecommunications
services throughout the United States by new competitive
independent entrants such as us. Prior to the passage of the
Telecom Act, states typically granted an exclusive franchise in
each local service area to a single dominant carrier 
often a former subsidiary of AT&T known as an
RBOC  which owned the entire local exchange network
and operated a virtual monopoly in the provision of most local
exchange services in most locations in the United States. The
RBOCs, following some recent consolidation, now consist of the
following companies: BellSouth, Verizon, Qwest Communications
and SBC Communications.

Among other things, the Telecom Act preempts
state and local governments from prohibiting any entity from
providing telecommunications service, which has the effect of
eliminating prohibitions on entry that existed in almost half of
the states at the time the Telecom Act was enacted. At the same
time, the Telecom Act preserved state and local jurisdiction
over many aspects of local telephone service and, as a result,
we are subject to varying degrees of federal, state and local
regulation. Consequently, federal, state, and local regulation,
and other legislative and judicial actions relating to the
telecommunications industry could significantly affect our
business.

We believe that the Telecom Act provided the
opportunity to accelerate the development of competition at the
local level by, among other things, requiring the incumbent
carriers to cooperate with competitors entry into the
local exchange market. We have developed our business and
designed and constructed our networks to take advantage of the
features of the Telecom Act that require cooperation from the
incumbent carriers, and believe that the continued viability of
the pro-competitive statutory provisions is critical to the
success of the competitive framework contemplated by the Telecom
Act.

19



---



##### 



Although the Telecom Act and the related rules
governing competition issued by the FCC, as well as
pro-competitive policies already developed by state regulatory
commissions, have enabled new entrants like us to capture a
portion of the incumbent carriers market share of local
services, there have been numerous attempts to limit or
eliminate the basic framework for competition in the local
exchange services market through a combination of federal
legislation, adoption of new rules by the FCC, and RBOC
challenges to existing and proposed regulations. We expect these
efforts to limit the benefits of the Telecom Act to continue.
Successful implementation of our business plan is predicated on
the assumption that the basic competitive framework will remain
in place.

Federal
Regulation

The FCC exercises jurisdiction over our
telecommunications facilities and services. We have authority
from the FCC for the installation, acquisition and operation of
our wireline network facilities to provide facilities-based
domestic interstate and international services. In addition, we
have obtained FCC authorizations for the operation of our LMDS
and 39 GHz broadband wireless facilities. Unlike incumbent
carriers, we are not currently subject to price cap or rate of
return regulation, which leaves us free to set our own pricing
policies for end user services subject only to the general
federal guidelines that our charges for interstate and
international services be just, reasonable, and
non-discriminatory. The FCC allows us to file interstate tariffs
for interstate access services (rates charged by carriers for
access to their networks). The FCC, however, required that, with
only minor exception, we withdraw our tariffs for interstate
domestic long distance services and international long distance
services. We, however, are still required to make the terms,
conditions and rates of the detariffed services available to the
public on our Company web page, and such terms, conditions, and
rates are located at http://www.xo.com/legal/.

The following is a summary of the interconnection
and other rights granted by the Telecom Act that are important
for effective local service competition and our belief as to the
effect of the requirements, if properly implemented:



| |   |                                                                                                                                                                                                                                                                                                          
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Interconnection with the networks of incumbents
    and other carriers, which permits our customers to exchange
    traffic with customers connected to other networks;                                                                                                                                  
|
| |  | Local loop and transport unbundling, which allows
    us to selectively gain access to incumbent carriers
    facilities and wires that connect the incumbent carriers
    central offices and/or customer premises, thereby enabling us to
    serve customers not directly connected to our networks;
|
| |  | Reciprocal compensation, which mandates
    arrangements for local traffic exchange between us and both
    incumbent and competitive carriers and compensation for
    terminating local traffic originating on other carriers
    networks, thereby improving our margins for local service;          
|
| |  | Number portability, which allows customers to
    change local carriers without changing telephone numbers,
    thereby removing a significant barrier for a potential customer
    to switch to our local voice services;                                                                               
|
| |  | Access to phone numbers, which mandates
    assignment of new telephone numbers to our customers, thereby
    enabling us to provide telephone numbers to new customers on the
    same basis as incumbent carriers; and                                                                                 
|
| |  | Collocation of telecommunications equipment in
    incumbent carrier central offices, which enables us to have
    direct access to unbundled loops and other network elements and
    facilitates for efficient integration with our switching and
    other network facilities.                        

In January 1999, the U.S. Supreme Court, in
a decision that was generally favorable to competitive telephone
companies such as us, upheld key provisions of the FCC rules
implementing the Telecom Act. In finding that the FCC has
general jurisdiction to implement the Telecom Acts local
competition provisions, the Court confirmed the FCCs role
in establishing national telecommunications policy, and thereby
created greater certainty regarding the rules governing local
service competition on a going forward basis.

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Although the rights established in the Telecom
Act are a necessary prerequisite to the introduction of full
local competition, they must be properly implemented and
enforced to permit competitive telephone companies like us to
compete effectively with the incumbent carriers. Discussed below
are several FCC and court proceedings relating to the
application of certain FCC rules and policies that are
significant to and directly impact our operations as well as the
nature and scope of industry competition.

Unbundling
of Incumbent Network Elements

In the January 1999 Supreme Court decision
discussed above, the Court affirmed the FCCs
interpretation of matters related to unbundling of incumbent
carriers network elements. It held that the FCC correctly
interpreted the meaning of the term network element,
which defines the parts of an incumbent carriers
operations that may be subject to the unbundling
requirement of the Telecom Act. The Court, however, also held
that the FCC did not correctly determine which network elements
must be unbundled and made available to competitive telephone
companies such as us. In November 1999, the FCC released
its UNE (unbundled network element) Remand Order,
which addressed the deficiencies in the FCCs original
ruling cited by the Court. The order generally was viewed as
favorable to us and other competitive carriers because it
ensured that incumbent carriers would be required to continue to
make available those network elements, including unbundled
loops, that are crucial to our ability to provide local and
other services. The UNE Remand Order subsequently was appealed
by the incumbent carriers.

On May 24, 2002, the United States Court of
Appeals for the D.C. Circuit released an opinion remanding the
UNE Remand Order to the FCC for further consideration.

In response to the Court of Appeals
decision, and as part of its statutorily required periodic
review of its list of unbundled elements, the FCC initiated its
Triennial Review proceeding.

On August 21, 2003, the FCC released its
Triennial Review Order (TRO). Under the TRO, our
ability to obtain access to certain unbundled network elements
and incumbent network upgrades may be curtailed or more costly
in the future. Interconnection agreements that we have in place
with the ILECs need to be amended to incorporate many of the TRO
changes. We have started the negotiation process to complete
these interconnection agreement amendments and anticipate that
the agreements will be finalized during the second quarter of
2004. At this time, we cannot predict the full effect of the
implementation of the TRO. Also, the TRO has delegated to the
states the overall responsibility for deciding whether certain
unbundled elements should remain available to competitors like
us in local markets of each of the respective states. Delegation
of these determinations creates the risk that some states may
decide to limit or eliminate certain unbundled elements to which
we have access today and that we will be faced with different
sets of rules and costs if states issue inconsistent decisions.

The following Triennial Review Order matters
directly impact us and many of our competitors:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Curtailed Access to Broadband: The TRO adopted
    new rules that, for certain very small customers, restrict
    competitive carriers from leasing as unbundled elements certain
    upgrades that the incumbent carriers make to their networks,
    such as the deployment of new optical fiber or upgrades from
    copper to optical fiber. For example, a new fiber loop to a very
    small customer that replaces an existing copper loop could be
    exempt from unbundling, except that incumbents must continue to
    unbundle the pre-existing copper loop or provide a voice channel
    for us on the new fiber loops that is equivalent to the old
    copper loop. Although the imposition of any restrictions on our
    access to the incumbents broadband networks is not a
    favorable development for us, we believe that the adverse impact
    is partially mitigated by the fact that incumbents are required
    to continue to provide us with basic access to those facilities
    that we currently lease from them to serve many of our customers.
|
| |  | Unbundled Local Loops: The Order made a general,
    national finding that, with the exception of optical carrier
    (OC) level loops, competitive carriers should have
    access to unbundled loops of the incumbent carriers. The states,
    however, may remove competitive carriers access to certain                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     

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| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   | non-OC level high capacity and unlit capacity
    loops based on the results of specified competitive analyses.
    Incumbent carriers will no longer be required to provide
    competitive carriers with access to OC level loops. We believe
    that the net result of these changes will not have a significant
    impact on us because the access to the vast majority of
    unbundled loops that we use today will be preserved.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|
| |  | Unbundled Dedicated Transport: The TRO has
    changed the definition of dedicated transport in
    such a way that competitive carriers have to purchase certain
    transport facilities at higher rates. The TRO maintained
    unbundled access to many types of transport between incumbent
    facilities, such as transport between incumbent central offices,
    but it redefines dedicated transport to eliminate the unbundling
    of other transport. The TRO also sets forth a test that the
    states must follow in considering whether certain non-OC level
    high capacity transport should be available in local markets
    within the states. The FCC also ruled that OC level transport
    would no longer be available as an unbundled element and that
    shared transport would be unavailable as an unbundled element in
    most business markets. We believe that it is likely that this
    determination will raise our costs for transport services in the
    future.
|
| |  | Enhanced Extended Links and Co-Mingling: The TRO
    enhance the ability of competitive carriers like us to obtain a
    combination of unbundled loop and transport elements known as
    enhanced extended links, provided that the
    underlying loop and transport elements are individually
    available on an unbundled basis. The FCC created new rules that
    permit competitive carriers to mix services that they lease from
    the incumbent carriers. We will now be able to mix incumbent
    carrier unbundled network elements with services purchased from
    the wholesale tariff (e.g., switched and special access
    services) instead of being required to artificially segregate
    unbundled network elements from such wholesale services. Because
    we currently lease both wholesale services and unbundled network
    elements from the incumbent carriers, we believe that these
    developments will result in cost savings for us.                              
|
| |  | Calculation of Unbundled Element Rates: The TRO
    will allow incumbent carriers to utilize a higher cost of
    capital and shorter depreciation lives to establish rates for
    unbundled elements. We believe that these modifications could
    raise our costs for leasing unbundled network elements in the
    future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             

Although the rules adopted by the FCC in the
Triennial Review Order became effective on October 2, 2003,
many of the requirements imposed by the FCC in the TRO were not
self-executing. Accordingly, the FCC made clear that carriers
must follow the change of law procedures in their applicable
interconnection agreements to implement any TRO requirements
that are not self-executing and that carriers must follow the
procedures et forth in section 252(b) of the Telecom Act to
modify interconnection agreements that are silent as to
implementation of changes in law.

Several carriers and other entities appealed the
FCCs TRO decision. On March 2, 2004, the U.S. Court
of Appeals for the D.C. Circuit in Washington, D.C. issued its
opinion in United States Telecom Associations v. FCC,
No. 00-1012 (USTA Decision). In the USTA
Decision, the court reversed and vacated many of the conclusions
of the TRO. Specifically, the court found that the FCC
improperly delegated to the states the overall responsibility
for deciding whether certain unbundled elements should remain
available to competitive carriers in each of the respective
states. The FCCs determination in the TRO that competitive
carriers should have access to switching platform services as a
UNE (UNE-P) was vacated by the court. The court also
vacated the portions of the TRO which held that competitive
carriers should have access to all forms of non-OC level
unbundled dedicated transport.

XO does not rely on ILEC facilities to switch the
majority of its customers traffic and, therefore, will not
be affected by the courts decision pertaining to UNE-P
service, nor its likely impact on UNE-P providers if this
decision is not reversed or stayed. Additionally, with the
pending acquisition of Allegiance and its hundreds of
collocation sites, we believe XO will lease less unbundled
dedicated transport facilities from the ILECs. We expect these
factors to mitigate the effects of any potential increases in
the costs of leasing transport capacity.

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The USTA Decision is stayed until May 1,
2004. Parties will seek review of the USTA Decision at the
Supreme Court and will also seek a further stay of the decision.
If the USTA Decision does go into effect and reverses and
vacates large portions of the TRO, our ability to obtain access
to certain unbundled network elements and incumbent network
upgrades may be curtailed or more costly in the future. In
addition, many incumbent carriers will continue to seek to
institute follow-on administrative proceedings with the FCC and
state regulatory agencies, and lobby the United States Congress,
all in an effort to affect laws and regulations in a manner even
more favorable to them and against the interests of competitive
carriers. At the same time, we anticipate that competitive
carriers will endeavor to improve their positions and access to
the incumbents networks through similar means. The final
outcome of the appellate review and implementation process
remains unknown at this time but it is possible that further
changes to the rules could adversely affect our cost of doing
business by increasing the cost of purchasing or leasing network
facilities from the incumbent carriers.

Collocation
in Incumbent Central Offices

Collocation regulations promulgated by the FCC
specify in greater detail obligations that the Telecom Act
imposes upon the incumbent carriers to open their local networks
to competition by providing competitors space to locate their
equipment in incumbent central offices and remote terminals for
the purpose of interconnection. This allows the competitive
carriers to provide local telephone services and to use portions
of the incumbent carriers existing networks to offer new
and innovative services. Over the past four years, the
FCCs collocation regulations have been the subject of very
contentious proceedings at the FCC and litigation before several
courts. On remand from a March 2000 decision by the U.S.
Court of Appeals for the D.C. Circuit, the FCC issued a decision
that revised its rules in a manner that permits incumbent
companies to exercise more discretion in determining the
placement of competitors equipment in their central
offices, and does not require the incumbents to allow
competitors to install and maintain cross-connections between
other collocated competitors, but requires the incumbent
carriers to provide this as part of their collocation services.
In June, 2002, the U.S. Court of Appeals for the D.C. Circuit
affirmed the FCCs Remand Order, and the FCC has since
clarified that incumbent carriers should make their
cross-connection service available in the physical collocation
tariffs they file with the FCC.

In October 2002, Verizon filed an
application with the FCC requesting authority to discontinue
providing new orders for federally-tariffed physical collocation
services. Verizon asked the FCC to require its competitors
instead to order collocation services going forward solely
pursuant to terms and conditions approved by state public
service commissions. Verizons application was granted on
October 22, 2003. This discontinuance will potentially make
it more costly and difficult for competitors such as us to
obtain new collocation services because the rates set by state
public service commissions are typically significantly higher
than those approved by the FCC, and may require competitors such
as us to engage in costly and lengthy negotiations in different
states.

Regulation
of the RBOCs Ability to Provide Long Distance
Service

The FCC has primary jurisdiction over the
implementation of Section 271 of the Telecom Act, which
provides that the RBOCs cannot offer in-region long distance
services until they have demonstrated that:



| |   |                                                                                                                                                                                                                                                        
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | they have entered into an approved
    interconnection agreement with a facilities-based competitive
    telephone company or that no such competitive telephone company
    has requested interconnection as of a statutorily determined
    deadline;
|
| |  | they have satisfied a 14-element checklist
    designed to ensure that the RBOC is offering access and
    interconnection to all local exchange carriers on competitive
    terms; and                                                                
|
| |  | the FCC has determined that allowing the RBOC to
    offer in-region, long distance services is consistent with the
    public interest, convenience and necessity.                                                                                    

As of December 15, 2003, the FCC has granted
all of the RBOCs the authority to provide long distance service
in every state in which they operate. All of the RBOCs now have
the authority to bundle

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in-region long distance services with in-region
local services. RBOC authorization to provide in-region long
distance services could have an adverse effect on our ability to
compete if effective post-approval safeguards are not enforced
to ensure that the RBOCs continue to comply with the
market-opening requirements.


Provision
of Broadband Telecommunications Services and Information
Services

Current federal and state regulation places
certain restrictions and conditions on the provision of advanced
telecommunications services, or broadband services, such as data
and DSL services, by the RBOCs. Furthermore, the network
elements that RBOCs must make available under the FCCs
unbundling rules to competitors may be used for the provision of
broadband services. However, at the urging of the RBOCs and
other incumbent carriers, the FCC, in the TRO, appears to have
greatly curtailed the extent to which the incumbents must
unbundle the broadband portion of their networks for their
competitors. The RBOCs continue to push for further deregulation
through federal and state legislative efforts. In addition, it
is anticipated that deregulatory legislation will be pursued by
the RBOCs in Congress. In addition to possible legislation, the
FCC has initiated another pending proceeding that could relax
incumbent carriers obligation to make unbundled network
elements that are used for certain broadband or information
services available to us. The FCC has issued a Notice of
Proposed Rulemaking entitled Appropriate Framework for
Broadband Access to the Internet Over Wireline Facilities
that requests comments on the proper classification of broadband
access services as either regulated telecommunications services
or unregulated information services. The TRO decision, in
conjunction with a decision in this proceeding, a legislative
change or a court ruling further broadening the definition of
what constitutes unregulated information services could have the
effect of allowing RBOCs to provide terms, conditions and
pricing to their own affiliates that provide data or information
services that are better than those made available to
competitive carriers such as us. Such developments could also be
expected to adversely affect our cost of doing business by
increasing the cost of purchasing or leasing such facilities
from the RBOCs.

Universal
Service

In 1997, the FCC established a significantly
expanded federal telecommunications subsidy regime known as
universal service. Specifically, the FCC established
new subsidies for services provided to qualifying schools and
libraries and rural health care providers, and expanded existing
subsidies to low income consumers. Most telecommunications
companies, including us, must pay for these programs based on
their share of interstate and international telecommunications
end user revenues. On December 4, 2003, the Wireline
Competition Bureau released a public notice announcing that the
proposed universal service contribution factor for the first
quarter of 2004 is 8.7 percent compared to 9.5 percent
for the third quarter of 2003 and 9.2 percent for the
fourth quarter of 2003. The FCC has taken further steps to
modify the system for assessment and recovery of universal
service funds. In a December 2002 Notice of Proposed
Rulemaking, the FCC asked many broad-ranging questions regarding
universal service, including whether to change its method of
assessing contributions due from carriers by basing it on the
number and capacity of connections they provide, rather than on
interstate and international end user revenues they earn. At
this time, we are unable to predict whether the FCCs
rulemaking or legislative initiatives will increase the size of
our subsidy payments, the scope of the subsidy program, or our
costs of calculating, collecting and remitting the universal
service related payments.

Intercarrier
Compensation Reform

Currently, telecommunications carriers are
required to pay other carriers for interstate access charges and
local reciprocal compensation charges. These two forms of
Intercarrier compensation have been under review by the FCC
since 2001. The FCC continues to consider a broad order
reforming the Intercarrier compensation system and the following
specific proceedings also impact Intercarrier compensation
issues for us.

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Access Charges.Long
distance carriers pay local facilities-based carriers, including
us, interstate access charges for both originating and
terminating the interstate calls of long distance customers on
the local carriers networks. Historically, the incumbent
carriers set access charges higher than cost and justified this
pricing to regulators as a subsidy to the cost of providing
local telephone service to higher cost customers. With the
establishment of an explicit and competitively neutral universal
service subsidy mechanism, however, the FCC is under increasing
pressure to revise the current access charge regime to bring the
charges closer to the actual cost of providing access. In
response, the FCC issued a decision in 2001 setting interstate
rates that competitive local carriers charge to long distance
carriers at a level that will gradually decrease over three
years from a maximum of $0.025 per minute to the rates charged
by incumbent carriers. As long as we are in compliance with the
FCCs rate schedule, the FCCs order forbids long
distance carriers from challenging our interstate access rates.
Although this FCC decision lowering access charges will reduce
our access charge revenues over time, we do not expect that such
a reduction will have a material impact on our total revenues or
financial position. In 2001, the FCC also issued a declaratory
ruling that commercial mobile radio service (CMRS)
providers are not permitted to collect switched access charges
from long distance carriers absent a contract between the
parties that imposes a payment obligation on the long distance
carrier. In November 2003, the United States Court of
Appeals for the District of Columbia denied petitions for review
of the FCCs declaratory ruling on CMRS access charges.
Sprint PCS and AT&T are currently litigating in federal
district court in Missouri the issue of whether, in the absence
of a written contract, Sprint PCS can charge AT&T for
switched access services. We are unable to determine how the
court will ultimately rule; however, if Sprint PCS prevails in
this lawsuit against AT&T, it may encourage CMRS providers
to attempt to collect switched access charges from us even in
the absence of a written contract.

AT&T Declaratory Ruling Re:
VoIP.AT&T has petitioned the FCC
to find that voice over Internet protocol (VoIP)
services, including phone to phone services, are exempt from
switched access charges. This proceeding has broad implications
for the future of IP-based services because a ruling in favor of
the AT&T petition will create incentives to deploy VoIP
technology for the origination and termination of long distance
and other calls. A ruling against the AT&T petition could
place VoIP services in the same regulatory category as
traditional telecommunications services and, therefore, subject
VoIP services to access charges and other regulatory obligations
including Universal Service fees. Like a growing number of
carriers, we utilize Internet protocol technology for the
transmission of a portion of our network traffic. The FCC has
indicated on several occasions that such services are exempt
from interstate access charges but, until the FCC issues its
ruling in the current proceeding, it is unclear how such traffic
will be treated for intercarrier compensation purposes.
Additionally, several state commissions are in the process of
addressing whether to regulate VoIP services, and this
development could result in the emergence of inconsistent rules
for intrastate VoIP services.

Vonage Petition.On
September 22, 2003, Vonage Holdings, Inc.
(Vonage) filed a petition requesting that the FCC
preempt an order of the Minnesota Public Utilities Commission
(PUC) requiring Vonage to comply with state laws
governing providers of telephone service. The Minnesota PUC
decision has been overturned by a Minnesota state court and now
Vonage is seeking Federal preemption so that no future rulings
of the Minnesota PUC can subject Vonage to state regulation.
Vonage provides VoIP origination services to its customers and
Vonage claims that it is therefore a provider of information
services and not subject to traditional common carrier
regulations. Specifically, Vonage asks that the FCC find that
certain specific E911 requirements imposed by the Minnesota PUC
are in conflict with federal policies. Further, Vonage states
that preemption is necessary because of the impossibility of
separating the Internet, or any service offered over it, into
intrastate and interstate components. Until the FCC issues its
ruling, it is unclear how VoIP offerings by XO and other
companies will be regulated.

Level(3) Forbearance
Petition.On December 23, 2003,
Level(3) filed a petition for forbearance requesting the FCC to
forbear from application of interstate or intrastate access
charges on Internet protocol (IP) traffic that originates
or terminates on the public switched telephone network (PSTN).
IF the FCC were to rule in Level(3)s favor, we would
expect that there would be reductions in network and regulatory
costs associated with the termination of certain IP-to-PSTN and
PSTN-to-IP traffic.

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Pulver.Com Ruling.On February 12, 2004, the FCC ruled that Pulver.Coms
Free World Dialup (FWD) offering will remain a minimally
regulated VoIP service. The Pulver.com Order made clear that
IP-to-IP calls that do not transit over any portion of the PSTN
will be largely free of regulation. Almost all of the calls
carried by XO do transit some portion of the PSTN.

FCC VoIP NPRM.On
February 12, 2004, the FCC initiated a major proceeding
seeking public comment on a variety of issues based on the
premise that Internet services and VoIP should remain largely
free of regulatory burdens. In connection with this proceeding,
the FCC will address VoIP-related Communications Assistance for
Law Enforcement (CALEA) issues to address the technical
aspects of enabling law-enforcement access to IP-enabled
services. At this time it is unclear how, if at all, the FCC
will regulate IP-enabled service including VoIP.

Local Reciprocal Compensation
Charges.Local telephone companies
such as us that originate traffic that is terminated on the
network of other carriers typically compensate the other local
carriers for terminating that traffic. These payments flow in
both directions between any two carriers. First, when we
terminate traffic for another local carrier to a customer on our
network, we collect compensation. Second, when we send our
customers traffic to another carrier for termination, we
pay compensation. Some competitors, however, have a customer
base that generates many more minutes of terminating traffic
from other carriers than originating traffic destined for other
carriers. For example, a competitor that has a customer base
that has many information service providers typically will have
a large amount of compensation being paid to it by other
carriers, while it will owe very little reciprocal compensation
to other carriers. The FCC revamped the local reciprocal
compensation structure in 2001 on an interim basis for three
years to eliminate or reduce the opportunity for carriers to
take advantage of an imbalance of originating and terminating
traffic flows due to traffic terminated to information service
providers. The FCC also initiated a rulemaking to examine
inter-carrier compensation more comprehensively. Under the
decision, at the election of the incumbent carrier, terminating
traffic that is out-of-balance by a ratio of more than 3 to 1
can be compensated at a lower rate, or in some cases, at no
charge. This ruling allows us to continue to collect reciprocal
compensation payments from other carriers since we have an
imbalance in the amount of traffic we terminate versus the
amount we originate. Going forward, an adverse ruling in the
general intercarrier compensation reform proceeding could end
reciprocal compensation payments and eliminate this line of
revenue for us.

TELRIC Proceeding.On September 10, 2003, the FCC initiated a new proceeding
to consider significantly revamping the current Total Element
Long Run Incremental Cost (TELRIC) methodology used
for the pricing of unbundled network elements. An adverse ruling
in the new proceeding will allow the incumbent carriers to
increase unbundled network element rates and this would raise
our costs for leasing unbundled network elements in the future.
A decision is expected sometime in 2004. Several State
Commissions have also initiated proceedings to review the rate
levels that the incumbent carriers charge for unbundled network
elements. An adverse ruling in these proceedings would allow the
incumbent carriers to increase unbundled network element rates
in the applicable state and this would raise our costs for
leasing unbundled network elements in the future.

LMDS Auction.On
July 28, 2004, the FCC plans to initiate an auction of
spectrum in the 24 GHz band. The 24 GHz band consists of the
bands 24.25-24.45 GHz and 25.05-25.25 GHz. Five licenses, each
with two paired 40 MHz blocks, will be offered in each of 176
geographic areas. Stations in the 24 GHz Service may render any
kind of digital fixed communications service. Auction winners
will be required to protect incumbent licensees. Virtually all
of the incumbent licenses are held by Teligent, Inc. in a
variety of areas throughout the country. The winning bidder for
the 24 GHz service may use these stations to provide services in
competition with those offered by XO, although the 24 GHz bands
consist of less spectrum than that for which XO is licensed to
provide LMDS service.

Nasdaq
Listing

On February 4, 2004, we announced our
intention to begin the process of applying for the listing of
shares of our New Common Stock on The Nasdaq National Market.
Shares of our New Common Stock

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will continue to be quoted on the OTCBB until the
Nasdaq application is approved. See Item 5 Market for
Registrants Common Equity and Related Stockholder
Matters.


If our shares become listed on the Nasdaq
National Market, we will be required to comply with the Nasdaq
Marketplace Rules, which, as required by the Sarbanes-Oxley Act
of 2002, contain corporate governance requirements in addition
to those contemplated by the Delaware General Corporation Law
and the Federal Securities Laws, including requirements related
to:



| |   |                                
| | - | -------------------------------
| |  | Distribution of interim reports
|
| |  | Solicitation of proxies        
|
| |  | Independent directors          
|
| |  | Audit committees               
|
| |  | Shareholder approval           
|
| |  | Stockholder voting rights      
|
| |  | Auditor peer review            

Employees

As of December 31, 2003 we employed
approximately 5,100 people, including full-time and part-time
employees. In March 2004, our headcount was approximately
4,500 as we managed costs out of the business. Overall, we
consider our employee relations to be good. None of our
employees are covered by a collective bargaining agreement.

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Risk Factors

Risks
Related to Our Operations

The failure of our operations support systems,
including the systems for sales tracking, order entry and
provisioning, and billing that we are currently in the process
of updating and replacing, to perform as we expect could impair
our ability to retain customers and obtain new customers, or
provision their services, or result in increased capital
expenditures, which would adversely affect our revenues or
capital resources.

Our operations support systems are an important
factor in our operations. Critical information systems used in
daily operations perform sales and order entry, provisioning,
billing and accounts receivable functions, and cost of service
verification and payment functions, particularly with respect to
facilities leased from ILECs. If any of these systems fail or do
not perform as expected, such failures would impact our ability
to process orders and provision sales, and to bill for services
efficiently and accurately, which could, in turn, cause us to
suffer customer dissatisfaction, loss of business or the
inability to add new customers or additional services to
existing customers in a timely basis, any of which would
adversely affect our revenues. In additional, system failure or
performance issues could impact our ability to effectively audit
and dispute invoicing and provisioning data provided by service
providers from whom we lease facilities.

We believe that our Disaster Recovery framework
to control and address systems risks is not fully redundant, and
we may incur the costs, delays and customer complaints
associated with system failures. In addition, our ability to
efficiently and accurately provision new orders for services on
a timely basis is necessary for us to begin to generate revenue
related to those services. We have experienced, and may continue
to experience, delays and related problems in processing service
orders, provisioning sales and billing in connection with the
transition to these new systems. If the delays or related
problems continue, or if any unforeseen problems emerge in
connection with our migration to the new provisioning software
and systems, delays and errors may occur in the provisioning
process, which could significantly increase the time until an
order for new service can begin to generate revenue, which could
have a material adverse effect on our operations.

Our rights to the use of the unlit capacity
that make up our network may be affected by the financial health
of our fiber providers.

We possess the right to use the unlit capacity
that is included in our network, particularly in our intercity
network, through long-term leases or indefeasible right of use
agreements. A bankruptcy or financial collapse of one of these
fiber providers could result in a loss of our rights under such
leases and agreements with the provider, which in turn could
have a negative impact on the integrity of our network, our
ability to expand the capacity of our network as our business
grows, and ultimately on our results of operations. For example,
we lease or have indefeasible rights of use on networks owned
and maintained by Level 3 Communications. If Level 3 were to
encounter financial difficulties, we may not be able to
maintain, or protect our rights in important components of our
intercity network. In such an event, there can be no assurance
that we will be able to lease comparable strands of unlit
capacity if we are not able to retain our rights to use the
existing unlit capacity we have obtained from Level 3, nor that
we will be able to lease such strands from another provider at
competitive or economical rates.

We may not be able to continue to connect our
network to the incumbent carriers network or maintain
Internet peering arrangements on favorable terms, which would
impair our growth and performance.

We are required to be a party to interconnection
agreements with the incumbent carrier and certain independent
carriers or ILECs in order to connect our customers to the
public telephone network. If we are unable to renegotiate or
maintain interconnection agreements in all of our markets on
favorable terms, it could adversely affect our ability to
provide services in the affected markets.

Peering agreements with Internet service
providers allow us to access the Internet and exchange transit
with these providers. Depending on the relative size of the
carriers involved, these exchanges may be made without
settlement charge. Recently, many Internet service providers
that previously offered

28



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peering have reduced or eliminated peering
relationships or are establishing new, more restrictive criteria
for peering and an increasing number of these service providers
are seeking to impose charges for transit. Increases in costs
associated with Internet and exchange transit could have a
material adverse effect on our margins for our products that
require Internet access. We may not be able to renegotiate or
maintain peering arrangements on favorable terms, which would
impair our growth and performance.


If our selection of IP technology is
incorrect, ineffective or unacceptably costly, implementation of
our business strategy could be delayed, which would adversely
affect our growth and operating results.

We rely on IP technology as the basis for our
metro and intercity networks. Integrating this technology into
our network may prove difficult and may be subject to delays. In
addition, affordable IP customer premise equipment may not
become available in a timely fashion, if at all. If the
technology choices we make prove to be incorrect, ineffective or
unacceptably costly, our strategy of meeting our customers
demand for existing and future telecommunications services using
IP technology could fail, which would adversely affect our
growth and operating results.

We may be unable to adequately protect our
intellectual property or rights to licenses for use of
third-party intellectual property, and may be subject to claims
that we infringe the intellectual property of others, which
could substantially harm our business.

We rely on a combination of patents, copyrights,
and other proprietary technology that we license from third
parties. We have been issued several United States and foreign
trademarks and may consider abandoning some trademarks and/or
filing for additional trademarks in the future. We have also
been issued one United States patent and may consider filing for
additional patents in the future, however, we cannot assure you
that any additional patents or trademarks will issue or that our
issued patent or trademarks will be upheld in all cases. We
cannot guarantee that these and other intellectual property
protection measures will be sufficient to prevent misappropriate
of our trademark or technology or that our competitors or
licensors will not independently develop technologies that are
substantially equivalent to or superior to ours. In addition,
the legal systems in many other countries do not protect
intellectual property rights to the same extent as the legal
system of the United States. If we are unable to adequately
protect our proprietary interests and business information or
our present license arrangements, our business, financial
condition and results of operations could be materially
adversely affected. Further, the dependence of the
communications industry on proprietary technology has resulted
in frequent litigation based on allegations of the infringement
of patents and other intellectual property. In the future, we
may be subject to litigation to defend against claimed
infringement of the rights of others or to determine the scope
and validity of the proprietary rights of others. Future
litigation also may be necessary to enforce and protect our
trade secrets and other intellectual property rights. Any
intellectual property litigation could be costly and cause
diversion of our managements attention from the operation
of our business. Adverse determinations in any litigation could
result in the loss of proprietary rights, subject us to
significant liabilities or require us to seek licenses from
third parties that may be available on commercially reasonable
terms, if at all. We could also be subject to court orders
preventing us from providing certain services in connection with
the delivery of our services to our customers.

Risks
Related to Liquidity, Financial Resources, and
Capitalization

We incurred a substantial net loss in 2003
and, in the near term, will not generate funds from operations
sufficient to meet all of our cash requirements.

For each period since inception, we have incurred
substantial net losses. For 2003, we posted a net loss
attributable to common stockholders of approximately
$102.6 million. In the near term, we expect to use cash to
fund our expected operating losses, and our ongoing capital
expenditure requirements.

29



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As a result of our commitment to purchase
substantially all of the assets of Allegiance, we have committed
to expend a majority of the cash reflected on our balance sheet
as of December 31, 2003, and, as a result, we may be
required to seek additional capital to fund our
operations.

As discussed above, we have committed to purchase
substantially all of the assets of Allegiance for an aggregate
purchase price that includes approximately $311.0 million
in cash. If the Allegiance asset acquisition had been
consummated immediately prior to the end of our most recently
ended fiscal year, we would have had approximately
$209.6 million in cash, cash equivalents and marketable
securities on our balance sheet as of December 31, 2003. We
believe that, upon the consummation of the Allegiance asset
acquisition, our remaining cash and cash equivalents as of that
date will be significantly less than that figure based upon our
need to fund our ongoing losses from operations. If we are
required to use a significant amount of our remaining cash to
repay some or all of our outstanding debt or to fund any
unforeseen, necessary capital expenditures, we may lack
sufficient cash to continue to fund our losses from operations.
We cannot assure you that we will be able to obtain additional
financing. Even if we could obtain additional financing, we
cannot assure you that it would be on terms that are favorable
to us. If we cannot obtain additional financing when needed,
this would have a material adverse effect on us.

The covenants in our Credit Agreement restrict
our financial and operational flexibility, which could have an
adverse affect on our results of operations.

Our Credit Agreement contains covenants that
restrict, among other things, the amount of our capital
expenditures, our ability to borrow money, grant additional
liens on our assets, make particular types of investments or
other restricted payments, sell assets or merge or consolidate.
A company controlled by Mr. Carl Icahn holds more than 90%
of the principal amount of the loans outstanding under the
Credit Agreement. Because amendments to or waivers of covenants
under the Credit Agreement generally require the approval or
consent of holders of only a majority of the outstanding
principal amount under the Credit Agreement, decisions whether
to amend or waive compliance with such covenants by the holders
of loans under the Credit Agreement can be made by
Mr. Icahn, whether or not the other holders agree.

The security for the Credit Agreement consists of
substantially all of the assets of XO Parent and our
subsidiaries. A default under the Credit Agreement could
adversely affect our rights under other commercial agreements.

The Credit Agreement and the existence of the
loans under the Credit Agreement also could affect our financial
and operational flexibility, as follows:



| |   |                                                                                                    
| | - | ---------------------------------------------------------------------------------------------------
| |  | they may impair our ability to obtain additional
    financing in the future;                      
|
| |  | they may limit our flexibility in planning for or
    reacting to changes in market conditions; and
|
| |  | they may cause us to be more vulnerable in the
    event of a downturn in our business.            

Risks
Related to the Acquisition of the Allegiance
Assets

We may not successfully consummate the
acquisition of the Allegiance assets.

Our acquisition of substantially all of the
assets of Allegiance, although approved by the U.S. Bankruptcy
Court, remains contingent upon fulfillment of a variety of
covenants contained in the definitive documentation pursuant to
which we anticipate acquiring the Allegiance assets. Such
contingencies include, without limitation, our obtaining
regulatory clearances, such as Hart-Scott-Rodino clearance and
approval of the FCC and state public utility commissions. There
can be no assurance that we will obtain the governmental
approvals and clearances required to consummate our acquisition
of the Allegiance assets. If we are not able to consummate the
acquisition of the Allegiance assets, then we will not be able
to realize the improvements in our network infrastructure and
resulting competitive advantages associated with our ownership
of the Allegiance assets.

30



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We may not realize the network and selling,
operating, and administrative synergies that we estimate in
connection with the acquisition of the Allegiance
assets.

While we are confident that we have correctly
estimated the potential network and selling, operating, and
administrative synergies that we can realize in connection with
the acquisition of the Allegiance assets, it is possible that
our estimates could prove to be incorrect. For example, we may
discover during the process of integrating the Allegiance assets
into our network and business infrastructures that some of the
acquired assets require greater maintenance or earlier
replacement than originally anticipated. In addition,
unanticipated growth in our business as a result of the
acquisition of the Allegiance assets may require that some
facilities or support functions that we currently anticipate
will be combined or reduced may be necessary to retain for us to
maintain our operations. The synergies that we anticipate to
realize are also dependent on our ability to combine the
Allegiance assets with our own network infrastructure in a
manner that permits us to realize those synergies. If we have
not estimated the potential synergies correctly, or if we are
not able to integrate the Allegiance assets into our network
infrastructure effectively, we may not realize any synergies in
connection with the acquisition of the Allegiance assets, or
such synergies may take longer to realize.

Risks
Related to Competition and Our Industry

Technological advances and regulatory changes
are eroding traditional barriers between formerly distinct
telecommunications markets, which could increase the competition
we face and put downward pressure on prices, which could impair
our results.

New technologies, such as voice-over-IP, and
regulatory changes  particularly those permitting
incumbent local telephone companies to provide long distance
services  are blurring the distinctions between
traditional and emerging telecommunications markets. In
addition, the increasing importance of data services has focused
the attention of most telecommunications companies on this
growing sector. As a result, a competitor in any of our business
areas is potentially a competitor in our other business areas,
which could impair our prospects, put downward pressure on
prices and adversely affect our operating results.

We face competition in each of our markets
principally from the incumbent carrier in that market, but also
from recent and potential market entrants, including long
distance carriers seeking to enter, reenter or expand entry into
the local exchange marketplace and incumbent carriers seeking to
enter into the long distance market as they are granted the
regulatory authority to do so. This competition places downward
pressure on prices for local and long distance telephone service
and data services, which can adversely affect our operating
results. In addition, we could face competition from other
companies, such as other competitive carriers, cable television
companies, microwave carriers, wireless telephone system
operators and private networks built by large end-users. We are
much smaller in size and resources than many of our competitors.
If we are not able to compete effectively with these industry
participants, our operating results could be adversely affected.

Our company and industry are highly regulated,
which restricts our ability to compete in our target markets and
imposes substantial compliance costs on us that adversely impact
our results.

We are subject to varying degrees of regulation
from federal, state and local authorities. This regulation
imposes substantial compliance costs on us. It also restricts
our ability to compete. For example, in each state in which we
desire to offer our services, we are required to obtain
authorization from the appropriate state commission. If any
required authorization for any of our markets or services is
revoked or otherwise terminated, our ability to operate in the
affected markets would be adversely affected.

Attempts to limit the basic competitive
framework of the Telecom Act could interfere with the successful
implementation of our business plan.

Successful implementation of our business plan is
predicated on the assumption that the basic framework for
competition in the local exchange services market established by
the Telecom Act will remain in place. We expect that there will
be attempts to limit or eliminate this basic framework through

31



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a combination of federal legislation, new
rulemaking by the FCC and challenges to existing and proposed
regulations by the RBOCs. It is not possible to predict the
nature of any such action or its impact on our business and
operations.


Risks
Related to Our New Common Stock

An entity owned and controlled by
Mr. Carl C. Icahn is our majority stockholder.

An entity owned and controlled by Mr. Carl
C. Icahn, Chairman of our board of directors, has filed a
Form 13D with the Securities and Exchange Commission
indicating that it owns over 60% of our outstanding New Common
Stock as of January 31, 2004. As a result, Mr. Icahn
has the power to elect all of our directors. Under applicable
law and our certificate of incorporation and by-laws, certain
actions cannot be taken without the approval of holders of a
majority of our voting stock including, without limitation,
mergers and the sale of substantially all of our assets and
amendments to our certificate of incorporation and by-laws. We
anticipate that Mr. Icahn will continue to control a
majority of our outstanding capital stock following the issuance
of XO Parent shares in connection with our acquisition of
Allegiance assets and consequently will continue to have these
governance rights.

Future sales of our New Common Stock could
adversely affect its price and/or our ability to raise
capital.

Future sales of substantial amounts of New Common
Stock, or the perception that such sales could occur, could
adversely affect the prevailing market price of the New Common
Stock and our ability to raise capital.

As of February 20, 2004, there were
136,510,535 shares of New Common Stock outstanding. The shares
of New Common Stock owned by an entity owned and controlled by
Mr. Icahn, are restricted shares that may be sold only
under a registration statement or an exemption from federal
securities registration requirements. Mr. Icahn, through
various entities that he owns or controls, has the right to
require XO to register, under the Securities Act of 1933, shares
of New Common Stock held by such entities and to include shares
of New Common Stock held by them in certain registration
statements filed by XO, pursuant to a Registration Rights
Agreement approved by the Bankruptcy Court in connection with
the Companys Chapter 11 proceedings.

Pursuant to our Plan of Reorganization, we have
issued three series of warrants to purchase up to an aggregate
of approximately 9.5 million, 7.1 million and
7.1 million additional shares of New Common Stock, at
exercise prices of $6.25, $7.50 and $10.00 per share,
respectively. The warrants will expire on January 16, 2010.

We have options outstanding to purchase
approximately 9.5 million shares of New Common Stock
outstanding under our 2002 Stock Incentive Plan as of
February 20, 2004. Unless surrendered or cancelled earlier
under the terms of the stock incentive plan, those options will
expire beginning in 2013. In addition, our stock incentive plan
authorizes future grants of options to purchase New Common
Stock, or awards of restricted New Common Stock, with respect to
an additional 6.3 million shares of New Common Stock in the
aggregate.

Other
Risks

There may be risks related to our use of
Arthur Andersen as our independent auditors for the year ended
December 31, 2001 and prior periods.

Arthur Andersen, LLP, our former independent
public accountants, which audited our financial statements for
the year ended December 31, 2001, was found guilty on
June 15, 2002 of federal obstruction of justice charges in
connection with the federal governments investigation of
Enron Corp. Arthur Andersen ceased practicing before the SEC
effective August 31, 2002. Based on our understanding of
Arthur Andersens financial condition, it may be unable to
satisfy any claims that arise out of its provision of auditing
and other services to us, including claims that may arise out of
Arthur Andersens

32



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audits of our consolidated financial statements
in years prior to 2002. The SEC has said that it will continue
to accept financial statements audited or reviewed by Arthur
Andersen in compliance with applicable rules and orders issued
by the SEC in March 2002 in connection therewith.


Forward-Looking
Statements

Our forward-looking statements are subject to
a variety of factors that could cause actual results to differ
significantly from current beliefs.

Some statements and information contained in this
Annual Report on Form 10-K are not historical facts, but
are forward-looking statements, as such term is
defined in the Private Securities Litigation Reform Act of 1995.
These forward-looking statements can be identified by the use of
forward-looking terminology such as believes,
expects, plans, may,
will, would, could,
should, or anticipates or the negative
of these words or other variations of these words or other
comparable words, or by discussions of strategy that involve
risks and uncertainties. Such forward-looking statements
include, but are not limited to, statements regarding:



| |   |                                                                                                                                                                                                                                                                          
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | our services, including the development and
    deployment of data products and services based on IP, Ethernet
    and other technologies and strategies to expand our targeted
    customer base and broaden our sales channels;                                        
|
| |  | the operation of our network, including with
    respect to the development of IP protocols;                                                                                                                                                                             
|
| |  | liquidity and financial resources, including
    anticipated capital expenditures, funding of capital
    expenditures and anticipated levels of indebtedness; and                                                                                                       
|
| |  | trends related to and expectations regarding the
    results of operations in future periods, including but not
    limited to those statements set forth in Item 7,
    Managements Discussion and Analysis of Financial Condition
    and Results of Operations below.

All such forward-looking statements are qualified
by the inherent risks and uncertainties surrounding expectations
generally, and also may materially differ from our actual
experience involving any one or more of these matters and
subject areas. The operation and results of our business also
may be subject to the effect of other risks and uncertainties,
in addition to the relevant qualifying factors identified in the
above Risk Factors section and elsewhere in this
annual report and in the documents incorporated by reference in
this annual report, including, but not limited to:



| |   |                                                                                                                                                                  
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | general economic conditions in the geographic
    areas that we are targeting for communications services;                                                       
|
| |  | the ability to achieve and maintain market
    penetration and average per customer revenue levels sufficient
    to provide financial viability to our business;
|
| |  | the quality and price of similar or comparable
    communications services offered or to be offered by our current
    or future competitors; and                
|
| |  | future telecommunications-related legislation or
    regulatory actions.                                                                                         



|        |           
|------- | ----------
|Item 2. | Properties

We own or lease, in our operating territories,
telephone property which includes: fiber optic backbone and
distribution network facilities; point-to-point distribution
capacity; central office switching equipment; connecting lines
between customers premises and the central offices; and
customer premise equipment. Our central office switching
equipment includes electronic switches and peripheral equipment.

The fiber optic backbone and distribution network
and connecting lines include aerial and underground cable,
conduit, poles and wires. These facilities are located on public
streets and highways or on privately-owned land. We have
permission to use these lands pursuant to consent or lease,
permit, easement, or other agreements.

33



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We, and our subsidiaries, lease facilities for
our and their administrative and sales offices, central
switching offices, network nodes and warehouse space. The
various leases expire in years ranging from 2004 to 2029. Most
have renewal options.

Our headquarters are located in Reston, Virginia,
where we are currently leasing approximately 170,000 square feet
of space. In February 2003, Dixon Properties, LLC, which is
owned by Mr. Carl Icahn, acquired ownership of the building
in which our headquarters is located in a transaction that was
approved by the Bankruptcy Court in our Chapter 11
proceedings.



|        |                  
|------- | -----------------
|Item 3. | Legal Proceedings

XO is involved in lawsuits, claims,
investigations and proceedings consisting of commercial,
securities, tort, and employment matters, which arise in the
ordinary course of business. In addition, disputes with respect
to general unsecured claims and two administrative claims
against XO Parent in the aggregate amount of approximately
$23.0 million remain pending from the XO Parent
Chapter 11 proceedings. In accordance with SFAS No. 5,
Accounting for Contingencies, XO makes a provision
for a liability when it is both probable that a liability has
been incurred and the amount of the loss can be reasonably
estimated. XO believes it has adequate provisions for any such
matters. XO reviews these provisions at least quarterly and
adjusts these provisions to reflect the impacts of negotiations,
settlements, rulings, advice of legal counsel, and other
information and events pertaining to a particular case.
Litigation is inherently unpredictable. However, XO believes
that it has valid defenses with respect to legal matters pending
against it. Nevertheless, it is possible that cash flows or
results of operations could be materially affected in any
particular period by the unfavorable resolution of one or more
of these contingencies.



|        |                                                        
|------- | -------------------------------------------------------
|Item 4. | Submission of Matters to a Vote of Security
    Holders

No matter was submitted to a vote of security
holders during the fourth quarter.

PART II



|        |                                                                          
|------- | -------------------------------------------------------------------------
|Item 5. | Market for Registrants Common Equity and
    Related Stockholder Matters

Our New Common Stock began trading shortly after
our Effective Date and is quoted on the OTCBB under the symbol
XOCM.OB. According to the records of our transfer
agent, we had 68 stockholders of record as of February 20, 2004.
The majority of our shares that are held by non-affiliates are
held in approximately 9,000 customer accounts held by brokers
and other institutions on behalf of stockholders. However, we
believe that the total number of non-affiliated stockholders is
less than 9,000 due to stockholders with accounts at more than
one brokerage. During 2002, our pre-petition stock traded on
Nasdaq under the symbol XOXO. The following table
sets forth the low and high sale price of our common stock,
based on the last daily sale, in each of our last eight fiscal
quarters.

|               |  |      |      |      |  |      |      |     |  |   |      |  |  |   |      | 
|-------------- |  | ---- | ---- | ---- |  | ---- | ---- | --- |  | - | ---- |  |  | - | ---- | 
|               |  |      |      |     
|               |  | 2003 |      | 2002
|               |  |      |      |     
|               |  | High |      | Low  |  | High |      | Low
|               |  |      |      |      |  |      |      |    
|First Quarter  |  | $    | 4.00 |      |  | $    | 0.35 |     |  | $ | 0.19 |  |  | $ | 0.04 | 
|Second Quarter |  | $    | 7.80 |      |  | $    | 3.90 |     |  | $ | 0.07 |  |  | $ | 0.02 | 
|Third Quarter  |  | $    | 8.33 |      |  | $    | 5.60 |     |  | $ | 0.08 |  |  | $ | 0.02 | 
|Fourth Quarter |  | $    | 5.80 |      |  | $    | 4.97 |     |  | $ | 0.15 |  |  | $ | 0.02 | 

All of the 2003 over-the-counter market
quotations set forth in this table reflect inter-dealer
quotations, without retail mark-up, mark-down, or commission and
may not necessarily reflect actual transactions. Our secured
Credit Facility prohibits the payment of cash dividends.

Information pertaining to XOs equity
compensation plans is set forth in XOs Proxy Statement, to
be filed within 120 days after XOs year end of
December 31, 2003, which information is incorporated herein
by reference.

34



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|        |                        
|------- | -----------------------
|Item 6. | Selected Financial Data

Because the Plan of Reorganization was not
consummated and effective until January 16, 2003, the
predecessor selected consolidated financial data below as of and
for the years ended December 31, 2002, 2001, 2000, and 1999
does not include the effects of the fresh start accounting
provisions of SOP 90-7. The reorganized selected consolidated
financial data as of and for the year ended December 31,
2003 reflects the impact of adopting fresh start and is not
comparable to that of predecessor XO. Fresh start required that
XO adjust the historical cost of its assets and liabilities to
their fair values as determined by the reorganization value of
the Company. We engaged an independent appraiser to assist in
the allocation of the reorganization value to the reorganized
Companys assets and liabilities by determining the fair
market value of its property and equipment, intangible assets
and certain obligations related to its facility leases. Although
the effective date of the Plan of Reorganization was
January 16, 2003, due to the immateriality of the results
of operations for the period between January 1, 2003 and
the effective date, XO has accounted for the consummation of the
Plan of Reorganization as if it had occurred on January 1,
2003 and implemented fresh start as of that date. The accounting
impact from adopting fresh start follows immediately after the
selected financial data table (dollars in thousands, except
share data).

|                                                               |  |              |           |                         |  |      |            |         |  |      |            |   |  |   |            |   |  |   |            |  
|-------------------------------------------------------------- |  | ------------ | --------- | ----------------------- |  | ---- | ---------- | ------- |  | ---- | ---------- | - |  | - | ---------- | - |  | - | ---------- | -
|                                                               |  | Reorganized  |           |                        
|                                                               |  | XO           |           | Predecessor XO         
|                                                               |  |              |           |                        
|                                                               |  | Year Ended   |           |                        
|                                                               |  | December 31, |           | Year Ended December 31,
|                                                               |  |              |           |                        
|                                                               |  | 2003         |           | 2002                    |  | 2001 |            | 2000(a) |  | 1999
|                                                               |  |              |           |                         |  |      |            |         |  |     
|Statement of Operations Data:                                  |  |              |           |                         |  |      |            |         |  |      |            |   |  |   |            |   |  |   |            |  
|Revenue                                                        |  | $            | 1,110,483 |                         |  | $    | 1,259,853  |         |  | $    | 1,258,567  |   |  | $ | 723,826    |   |  | $ | 274,324    |  
|Loss from operations (b)                                       |  |              | (111,858  | )                       |  |      | (1,208,898 | )       |  |      | (1,949,891 | ) |  |   | (1,011,652 | ) |  |   | (366,530   | )
|Net loss (c)                                                   |  |              | (102,554  | )                       |  |      | (3,386,818 | )       |  |      | (2,086,125 | ) |  |   | (1,101,299 | ) |  |   | (558,692   | )
|Net loss applicable to common
    shares (c) (d)               |  |              | (102,554  | )                       |  |      | (3,350,362 | )       |  |      | (1,838,917 | ) |  |   | (1,247,655 | ) |  |   | (627,881   | )
|Net loss per common share, basic and
    diluted (e)           |  |              | (1.07     | )                       |  |      | (7.58      | )       |  |      | (4.55      | ) |  |   | (3.87      | ) |  |   | (2.51      | )
|Statement of Cash Flow Data:                                   |  |              |           |                         |  |      |            |         |  |      |            |   |  |   |            |   |  |   |            |  
|Net cash provided by (used in) operating
    activities        |  | $            | 6,301     |                         |  | $    | 17,602     |         |  | $    | (560,877   | ) |  | $ | (559,414   | ) |  | $ | (349,192   | )
|Net cash provided by (used in) investing
    activities        |  |              | 153,036   |                         |  |      | 57,582     |         |  |      | (708,598   | ) |  |   | (1,464,495 | ) |  |   | (1,050,344 | )
|Net cash (used in) provided by financing
    activities        |  |              | 5,185     |                         |  |      | (6,079     | )       |  |      | 1,019,647  |   |  |   | 1,648,663  |   |  |   | 1,948,503  |  
|Balance Sheet Data:                                            |  |              |           |                         |  |      |            |         |  |      |            |   |  |   |            |   |  |   |            |  
|Cash, cash equivalents and
    marketable securities           |  | $            | 520,612   |                         |  | $    | 560,983    |         |  | $    | 755,167    |   |  | $ | 1,860,963  |   |  | $ | 1,881,764  |  
|Property and equipment, net                                    |  |              | 485,984   |                         |  |      | 2,780,589  |         |  |      | 3,742,577  |   |  |   | 2,794,105  |   |  |   | 1,180,021  |  
|Broadband wireless licenses and other
    intangibles, net (c) |  |              | 109,515   |                         |  |      | 984,614    |         |  |      | 2,977,575  |   |  |   | 3,912,209  |   |  |   | 1,017,817  |  
|Total assets (c)                                               |  |              | 1,265,165 |                         |  |      | 4,585,496  |         |  |      | 7,930,465  |   |  |   | 9,085,375  |   |  |   | 4,597,108  |  
|Total long-term debt and accrued interest
    payable (f)      |  |              | 536,791   |                         |  |      | 5,165,718  |         |  |      | 5,109,503  |   |  |   | 4,396,596  |   |  |   | 3,733,342  |  
|Redeemable preferred stock, net of issuance
    costs (d)      |  |              |          |                         |  |      | 1,708,316  |         |  |      | 1,781,990  |   |  |   | 2,097,016  |   |  |   | 612,352    |  
|Total stockholders equity (deficit) (f)                       |  |              | 380,425   |                         |  |      | (3,032,282 | )       |  |      | 297,416    |   |  |   | 1,838,401  |   |  |   | (13,122    | )



---

|    |                                                                                                                                                                                          
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | The selected consolidated financial data includes
    the accounts and activities of Concentric Network Corporation
    since June 16, 2000, the date that we merged with
    Concentric.



|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(b) | In 2002, loss from operations included non-cash
    charges totaling $477.3 million in connection with the
    amendment to the terms of fiber acquisition and maintenance
    arrangements with Level 3 Communications, and the return of
    previously acquired intercity fiber in connection therewith. In
    2001, loss from operations included restructuring charges
    totaling $509.2 million associated with the restructuring
    of certain aspects of our business operations. Loss from
    operations in 1999 included restructuring charges totaling
    $30.9 million associated with relocating our Bellevue,
    Washington headquarters to Reston, Virginia.



|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(c) | In 2003, net loss included a $33.5 million
    gain on investment sales. In 2002, net loss and total assets
    reflects a $1,876.6 million impairment charge to write-off
    all of our goodwill as a cumulative effect of accounting change,
    pursuant to SFAS No. 142. In 2001, net loss included a gain
    of $345.0 million resulting from the repurchase of certain
    of our senior notes. In 2000, net loss included a
    $225.1 million net gain from the sale of an equity
    investment.



|    |                                                                                                                                                                                                                                                                                  
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(d) | The comparability of net loss applicable to
    common shares is impacted by the transactions discussed in c.
    above. In 2001, net loss applicable to common shares includes a
    gain of $376.9 million resulting from the repurchase of
    certain of our preferred stock.



|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(e) | The net loss per share data for the years ended
    December 31, 2002, 2001, 2000, and 1999 has been calculated
    based on the shares outstanding of our class A and class B
    common stock prior to the consummation of our Plan of
    Reorganization. Effective January 16, 2003, the effective
    date of the Plan of Reorganization, all interests in our class A
    and class B common stock were terminated and all outstanding
    shares were cancelled. For further discussion of our Plan of
    Reorganization, see Business  Our
    Reorganization. The net loss per share data for the years
    ended December 31, 2000 and 1999 has been adjusted for the
    splits of our class A and class B common stock effected in 2000.



|    |                                                                                                                                                                                                                                                                                                       
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(f) | In January 2004, we completed a rights
    offering as part of our Plan of Reorganization. An aggregate of
    39.7 million shares were issued in the offering, yielding
    net proceeds of $197.6 million. These proceeds were used to
    pay down our long-term debt and accrued interest payable.

35



---



##### 



Fresh start accounting adjustments

A reconciliation of the adjustments recorded in
connection with our reorganization and the adoption of fresh
start is presented below (dollars in thousands):

|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |         |         |           | 
|-------------------------------------------------- | --------------------------------------------------------------------- | ----------------------------------------- | -------------------------------------------------------- | -------------- | ---------- | --------------- | - | --------------- | ---------- | ---------- | - | ---------- | ---------- | ---------- | ---- | ------- | ------- | --------- | 
|                                                   |                                                                       | Predecessor XO                            |                                                          |                |            | Fresh Start     |   | Reorganized XO 
|                                                   |                                                                       | December 31, 2002                         |                                                          | Reorganization |            | Adjustments (d) |   | January 1, 2003
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                
|ASSETS                                             |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   | Current assets:                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |         |        
|                                                   |                                                                       | Cash and cash equivalents                 |                                                          | $              | 314,038    |                 |   | $               |           |            |   | $          |           |            |      | $       | 314,038 |          
|                                                   |                                                                       | Marketable securities                     |                                                          |                | 246,945    |                 |   |                 |           |            |   |            |           |            |      |         | 246,945 |          
|                                                   |                                                                       | Accounts receivable, net                  |                                                          |                | 116,541    |                 |   |                 |           |            |   |            |           |            |      |         | 116,541 |          
|                                                   |                                                                       | Other current assets                      |                                                          |                | 83,480     |                 |   |                 |           |            |   |            | (48,288    | )          |      |         | 35,192  |          
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   |                                                                       |                                           | Total current assets                                     |                |            | 761,004         |   |                 |            |           |   |            |            | (48,288    | )    |         |         | 712,716   | 
|                                                   | Property and equipment, net                                           |                                           |                                                          | 2,780,589      |            |                 |   |                |            |            |   | (2,304,001 | )          |            |      | 476,588 |        
|                                                   | Broadband wireless licenses and other
    intangibles, net            |                                           |                                                          | 984,614        |            |                 |   |                |            |            |   | (848,936   | )          |            |      | 135,678 |        
|                                                   | Other assets, net                                                     |                                           |                                                          | 59,289         |            |                 |   |                |            |            |   | (36,181    | )          |            |      | 23,108  |        
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   |                                                                       |                                           | Total assets                                             |                | $          | 4,585,496       |   |                 | $          |           |   |            | $          | (3,237,406 | )    |         | $       | 1,348,090 | 
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|LIABILITIES AND STOCKHOLDERS
    (DEFICIT) EQUITY
|                                                   | Current liabilities:                                                  |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |         |        
|                                                   |                                                                       | Accounts payable                          |                                                          | $              | 63,729     |                 |   | $               |           |            |   | $          | 3,539      |            |      | $       | 67,268  |          
|                                                   |                                                                       | Accrued liabilities                       |                                                          |                | 266,102    |                 |   |                 |           |            |   |            | (30,910    | )          |      |         | 235,192 |          
|                                                   |                                                                       | Current liabilities subject to compromise |                                                          |                | 5,497,207  |                 |   |                 | (5,466,667 | )(a)       |   |            | (30,540    | )          |      |         |        |          
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   | Total current liabilities                                             |                                           |                                                          | 5,827,038      |            |                 |   | (5,466,667      | )          |            |   | (57,911    | )          |            |      | 302,460 |        
|                                                   | Long-term debt                                                        |                                           |                                                          |               |            |                 |   | 500,000         | (b)        |            |   |           |            |            |      | 500,000 |        
|                                                   | Other long-term liabilities                                           |                                           |                                                          | 75,242         |            |                 |   |                |            |            |   | (4,612     | )          |            |      | 70,630  |        
|                                                   | Long-term liabilities subject to compromise                           |                                           |                                                          | 7,182          |            |                 |   |                |            |            |   | (7,182     | )          |            |      |        |        
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   |                                                                       |                                           | Total liabilities                                        |                |            | 5,909,462       |   |                 |            | (4,966,667 | ) |            |            | (69,705    | )    |         |         | 873,090   | 
|                                                   | Predecessor XO redeemable preferred
    stock  subject to compromise |                                           |                                                          | 1,708,316      |            |                 |   | (1,708,316      | )(a)       |            |   |           |            |            |      |        |        
|                                                   | Stockholders (deficit) equity:                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |         |        
|                                                   |                                                                       | Predecessor XO common stock               |                                                          |                | 4,628,139  |                 |   |                 |           |            |   |            | (4,628,139 | )          |      |         |        |          
|                                                   |                                                                       | Reorganized XO common stock and warrants  |                                                          |                |           |                 |   |                 | 475,000    | (c)        |   |            |           |            |      |         | 475,000 |          
|                                                   |                                                                       | Deferred compensation                     |                                                          |                | (8,500     | )               |   |                 |           |            |   |            | 8,500      |            |      |         |        |          
|                                                   |                                                                       | Accumulated other comprehensive income    |                                                          |                | 2,512      |                 |   |                 |           |            |   |            | (2,512     | )          |      |         |        |          
|                                                   |                                                                       | Accumulated deficit                       |                                                          |                | (7,654,433 | )               |   |                 | 6,199,983  | (e)        |   |            | 1,454,450  |            |      |         |        |          
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   |                                                                       |                                           | Total stockholders (deficit) equity                     |                |            | (3,032,282      | ) |                 |            | 6,674,983  |   |            |            | (3,167,701 | )(e) |         |         | 475,000   | 
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        
|                                                   |                                                                       |                                           | Total liabilities and stockholders
    (deficit) equity |                | $          | 4,585,496       |   |                 | $          |           |   |            | $          | (3,237,406 | )    |         | $       | 1,348,090 | 
|                                                   |                                                                       |                                           |                                                          |                |            |                 |   |                 |            |            |   |            |            |            |      |        



---



|    |                                                                                                                                                                                                                                                                                                                                                                                
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | To record the discharge of pre-petition
    indebtedness, including a $1.0 billion credit facility,
    $4.2 billion of senior and convertible subordinated notes,
    $245.2 million of accrued interest, and the elimination of
    $1.7 billion of pre-petition redeemable preferred stock and
    accrued dividends, all in accordance with the Plan of
    Reorganization.



|    |                                                                                                                   
|--- | ------------------------------------------------------------------------------------------------------------------
|(b) | To record the outstanding principal under the
    Credit Agreement, in accordance with the Plan of Reorganization.



|    |                                                                                                                                                                                                                          
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(c) | To record the issuance of 95.0 million
    shares of New Common Stock and warrants in accordance with the
    Plan of Reorganization. Participation in the Rights Offering was
    recorded in the first quarter of 2004.



|    |                                                                                                
|--- | -----------------------------------------------------------------------------------------------
|(d) | To adjust the carrying value of assets,
    liabilities and stockholders equity to fair value.



|    |                                                                                                  
|--- | -------------------------------------------------------------------------------------------------
|(e) | Net reorganization gain on January 1, 2003
    consisted of the following (dollars in thousands):

36



---



##### 



|                                                                                         |  |   |            |  
|---------------------------------------------------------------------------------------- |  | - | ---------- | -
|Net gain resulting from reorganization of debt,
    preferred stock and equity           |  | $ | 6,199,983  |  
|Net loss resulting from fresh start fair value
    adjustments to assets and liabilities |  |   | (3,167,701 | )
|                                                                                         |  |   |            |  
|Total reorganization gain, net                                                           |  | $ | 3,032,282  |  
|                                                                                         |  |   |            |  



|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|Item 7. | Managements Discussion and Analysis of
    Financial Condition and Results of Operations

Executive Overview of Our Business

State
of the Telecommunications Industry

In general, growth in the telecommunications
industry has been sluggish for the past three years. Demand for
some services, such as wireless and integrated product offerings
have increased, but for many other products and services price
compression and lower demand have resulted in year over year
revenue declines for many telecommunication companies. The
weakened US economy caused our industry to experience:



| |   |                                                                                               
| | - | ----------------------------------------------------------------------------------------------
| |  | Reduced new customer demand and/or reductions in
    existing customer services,              
|
| |  | High number of bankruptcies in the
    telecommunications industry and the economy in general,
|
| |  | Continued competitive pressures, including price
    cutting in some product lines,           
|
| |  | Reduced FCC mandated rates.                                                                   

The telecommunications industry annual revenues
peaked for wireline services in 2000 at $228 billion, and
are estimated to be approximately $196 billion in 2003.
Associated lines have declined from 193 million in 2000 to
an estimated 187 million in 2003.



|                   |                     
|------------------ | --------------------
|(Wireless revenue) | (Local Access Lines)

As a result of over-investment, increased
debt-loads, and financial downturn, the telecommunications
industry saw record numbers of bankruptcies in 2001 and 2002.
Some companies survived and emerged with much smaller debt
loads, while others were liquidated.

We were one of the companies that successfully
emerged from bankruptcy at the beginning of 2003 with a much
smaller debt load. We believe that our revenue decline from 2002
to 2003 is consistent with that of other competitive local
exchange carriers. In addition to the loss of customers and
related revenues, excess capacity and competitive pricing
pressures caused us to reduce prices when selling certain long
distance voice services. Excess long haul capacity has not,
however, caused similar pricing pressures when selling other
services. There has also been an increasing displacement of
basic wireline services due to growth in wireless phone usage.
This trend is expected to increase in 2004.

Business
Overview

We provide a comprehensive array of voice and
data communications services to business customers. These
services are offered to a variety of customers, including small,
middle-market and large commercial businesses, and carrier or
wholesale customers in over 70 U.S. markets. Our voice services
include local and long distance services, both bundled and
standalone, other voice-related services such as conferencing,
calling card, domestic and international toll free services,
advanced directory services, Hosted IVR and transactions
processing services for prepaid calling cards. Our data services
include Internet access,

37



---



##### 



including Dedicated Internet Access, DSL and dial
access, private data networking, including Ethernet service,
Wavelength service, MultiTransport Networking Service and
managed security solutions including Virtual Private Network and
firewall services, and web hosting services. We also combine
many of these services in flat rate service packages.


Key
Performance Indicators

Management uses various key performance
indicators or KPIs to assess operational effectiveness in
certain areas. These include:



| |   |                                                                                                                                                                                                                                                                                                                               
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Sales activity  This KPI tracks the
    dollar value of sales bookings and quota attainment per sales
    representative. Management reviews this metric to assess the
    effectiveness of our sales force, and to track the sales backlog
    to be installed.                                                             
|
| |  | Customer attrition or churn  This KPI
    tracks the financial impact of customer attrition, or churn, in
    comparison to new sales. Management reviews this KPI to judge
    the effectiveness of operational measures intended to promote
    customer satisfaction with our services, and the net impact on
    revenue.
|
| |  | Number and average dollar of customer orders
    processed  This KPI tracks the quantity and size of
    customer installations, changes or disconnects that we have
    processed in a particular period.                                                                                                                   

System
Conversions

As noted in the liquidity section below, we are
investing significant capital into the continued development and
implementation of our information systems to support and enhance
the provisioning and billing of new and existing customers.
There are four major components to our customer management and
billing systems: (i) sales ordering and customer management
(sometimes referred to as CRM); (ii) provisioning support
system; (iii) billing systems; and (iv) integration of
the above systems. Integration is the ability to automate the
flow of information between systems, resulting in fewer errors,
reduced intervals and lower headcount costs to order, install
and manage the customer base. We installed the provisioning
system in 2003. In early 2004, we installed a new CRM system. We
expect to install a new billing system in 2004 and complete an
integration release to provisioning in the second quarter of
2004, and an integration release to billing in the third quarter
of 2004. If we are successful at implementing these systems we
will experience operating efficiencies starting in the second
half of 2004 and into 2005.

Our Chapter 11 Reorganization

The
Reorganization Proceedings

On January 16, 2003, XO Parent consummated
its Plan of Reorganization and emerged from its Chapter 11
reorganization proceedings with a significantly restructured
balance sheet. The consummation of the Plan of Reorganization
resulted in the following changes in XO Parents capital
structure:



| |   |                                                                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The conversion of $1.0 billion of loans
    under our pre-petition secured credit facility into
    $500.0 million of outstanding principal amount under an
    amended and restated credit agreement;      
|
| |  | The extinguishment of all amounts due under our
    pre-petition unsecured senior and subordinated notes and certain
    general unsecured obligations;                                                     
|
| |  | The cancellation of all outstanding shares and
    interests in our pre-petition preferred stock and pre-petition
    common stock; and                                                                     
|
| |  | The issuance of approximately 95.0 million
    shares of new common stock in reorganized XO and warrants to
    purchase up to an additional 23.75 million shares of new
    common stock of reorganized XO.

38



---



##### 



The following table shows the distribution each
party of interest impacted by XO Parents bankruptcy was
entitled to. As certain claims are still being reviewed by the
Bankruptcy Court, certain proportional distributions have not
yet been made and can not occur until the court rules (dollars
in thousands, except share data).

|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|----------------------------------------- |  | ------------- | ---------- | -------- |  | -------- | --------- | -------- |  | --------------- | --------- | ---- |  |  | --------- |  |  | - | ------- |  |  | - | ----- | 
|                                          |  | Shares of New |            | Series A |  | Series B |           | Series C |  |                 |           |     
|Party of Interest                         |  | Common Stock  |            | Warrants |  | Warrants |           | Warrants |  | Credit Facility |           | Cash
|                                          |  |               |            |          |  |          |           |          |  |                 |           |     
|$1 Billion senior secured credit facility |  |               | 90,250,001 |          |  |          |          |          |  |                 |          |      |  |  |          |  |  | $ | 500,000 |  |  | $ |      | 
|Senior unsecured notes                    |  |               | 4,715,344  |          |  |          | 9,430,689 |          |  |                 | 7,073,015 |      |  |  | 7,073,015 |  |  |   |        |  |  |   | 1,600 | 
|Subordinated notes                        |  |               |           |          |  |          |          |          |  |                 |          |      |  |  |          |  |  |   |        |  |  |   | 616   | 
|General unsecured creditors               |  |               | 34,656     |          |  |          | 69,309    |          |  |                 | 51,980    |      |  |  | 51,980    |  |  |   |        |  |  |   | 403   | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Total entitlement                         |  |               | 95,000,001 |          |  |          | 9,499,998 |          |  |                 | 7,124,995 |      |  |  | 7,124,995 |  |  | $ | 500,000 |  |  | $ | 2,619 | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Not yet distributed                       |  |               | 1,230,638  |          |  |          | 2,461,743 |          |  |                 | 1,846,151 |      |  |  | 1,846,151 |  |  | $ |        |  |  | $ | 1,612 | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Total issued or paid                      |  |               | 93,769,363 |          |  |          | 7,038,255 |          |  |                 | 5,278,844 |      |  |  | 5,278,844 |  |  | $ | 500,000 |  |  | $ | 1,007 | 
|                                          |  |               |            |          |  |          |           |          |  |                 |           |      |  |  |           |  |  |   |         |  |  |   |       | 

See Notes 13 and 14 in Part IV for additional
disclosure on our equity and debt instruments.

As part of our Plan of Reorganization, we agreed
to initiate a Rights Offering that allowed certain holders of
claims and interests in XO Parent as of the November 15,
2002 record date to subscribe for up to 40.0 million shares
of New Common Stack at $5.00 per share. The Rights Offering
closed on January 5, 2004. An aggregate of
39.7 million shares were issued, yielding net proceeds of
$197.6 million. We used the proceeds from the Rights
Offering to pay down our Credit Facility to $339.2 million
in January 2004.

Interests
Held by Entities Controlled by Mr. Carl C. Icahn

Various entities controlled by Mr. Icahn
hold the following interests in reorganized XO:

|                     |  |              |                 |                   |  |                 |                 |   |  |  |                 |  
|-------------------- |  | ------------ | --------------- | ----------------- |  | --------------- | --------------- | - |  |  | --------------- | -
|                     |  |              |                 | Series A, B and C |  |                
|                     |  | Common Stock |                 | Warrants          |  | Credit Facility
|                     |  |              |                 |                   |  |                
|At December 31, 2003 |  |              | Greater than 80 | %                 |  |                 | Greater than 40 | % |  |  | Greater than 90 | %
|At January 31, 2004  |  |              | Greater than 60 | %                 |  |                 | Greater than 40 | % |  |  | Greater than 90 | %

In addition entities controlled by Mr. Icahn
have acquired an option to purchase 6.25 million additional
shares of common stock from Franklin Mutual Advisors, LLC at a
strike price of $4.25 per share which expires June 21, 2004.
After closing our rights offering in January 2004,
Mr. Icahns ownership interest in our outstanding
common stock was reduced to over 60%.

As a result of this majority ownership position,
Mr. Icahn can elect all of our directors, appoint the
members of the committees of our Board of Directors, appoint key
members of our executive management team, and appoint our
auditors. Currently, Mr. Icahn is Chairman of the Board of
Directors and three employees of Icahn Associates sit on our
Board of Directors as well as various Committees of our Board of
Directors. Under applicable law and our Certificate of
Incorporation and by-laws, certain actions cannot be taken
without the approval of holders of a majority of our voting
stock, including, without limitation, mergers, acquisitions, the
sale of substantially all our assets, and amendments to our
Certificate of Incorporation and by-laws. We anticipate that
Mr. Icahn will continue to control a majority of our
outstanding capital stock following the issuance of XO Parent
shares in connection with our acquisition of Allegiance assets
and consequently will continue to have these governance rights.

Liquidity and Capital Resources

Capital
Resources and Liquidity Assessment

Our operating, investing and financing activities
during 2003 provided net cash of $6.3 million,
$153.0 million and $5.2 million, respectively. Cash
and cash equivalents increased to $478.6 million at
December 31, 2003 from $314.0 million at December 31,
2002. However, our balance of cash and

39



---



##### 



marketable securities decreased to
$520.6 million at December 31, 2003 from
$561.0 million at December 31, 2002. As discussed
further in Item I, Business, we expect that, in
the near term, our business will use existing cash of
approximately $311.0 million in cash and that we will issue
approximately 45.4 million shares of our New Common Stock
to acquire Allegiances assets. In addition, we will use
cash for capital expenditures and net working capital
requirements. We expect that the majority of our planned capital
expenditure requirements will be success-based in
that they will be used to purchase and install customer-related
equipment and electronics in connection with growing revenue by
adding new customers or increasing the amount of services
provided to existing customers. Much of the non-success based
planned capital expenditures will be for the continued
development and implementation of our information systems to
support and enhance the provisioning and billing of new and
existing customers in a more cost efficient manner. Part of our
net working capital requirements are commitments under lease and
contractual obligations for software licenses and ongoing
support of software for IT and network applications and are
disclosed in the table below.


There are no additional borrowings available
under our Credit Facility. We raised net proceeds of
$197.6 million in January 2004 upon the consummation
of our Rights Offering, and applied these proceeds to the
outstanding balance on the credit facility, reducing the amount
outstanding from $536.8 million as of December 31, 2003 to
$339.2 million. We have no current debt service
requirements since cash interest payments as well as automatic
and permanent quarterly reductions of the principal amount
outstanding under the Credit Facility do not commence until
2009. However, in the event that consolidated excess cash flow
(as defined in the Credit Facility) for any fiscal quarter
during the term of the agreement is greater than
$25 million, at the request of the lender, XO will pay an
amount equal to 50% of such excess cash flow greater than
$25 million toward the reduction of outstanding
indebtedness. In addition, if the ratio of our consolidated
earnings before interest, taxes depreciation and amortization
for the four consecutive quarters exceeds 4:1, we would be
required to pay cash interest, unless waived by the lenders.

The following table summarizes our payment
obligations under various operating and financing agreements as
of December 31, 2003 (dollars in thousands):

|                          |  |          |         |             |  |             |         |               |  |             |         |  |  |   |       |  |  |   |           | 
|------------------------- |  | -------- | ------- | ----------- |  | ----------- | ------- | ------------- |  | ----------- | ------- |  |  | - | ----- |  |  | - | --------- | 
|                          |  |          |         |             |  | Other       |         |               |  |            
|                          |  |          |         | Operating   |  | long-term   |         |               |  |            
|                          |  | Credit   |         | lease       |  | contractual |         | Capital lease |  | Total      
|Year Ending December 31,  |  | Facility |         | obligations |  | obligations |         | obligations   |  | obligations
|                          |  |          |         |             |  |             |         |               |  |            
|2004                      |  | $        |        |             |  | $           | 60,623  |               |  | $           | 53,974  |  |  | $ | 2,809 |  |  | $ | 117,406   | 
|2005                      |  |          |        |             |  |             | 57,974  |               |  |             | 33,768  |  |  |   | 2,668 |  |  |   | 94,410    | 
|2006                      |  |          |        |             |  |             | 53,269  |               |  |             | 24,484  |  |  |   | 2,416 |  |  |   | 80,169    | 
|2007                      |  |          |        |             |  |             | 49,159  |               |  |             | 23,451  |  |  |   | 1,733 |  |  |   | 74,343    | 
|2008                      |  |          |        |             |  |             | 38,823  |               |  |             | 23,048  |  |  |   | 277   |  |  |   | 62,148    | 
|Thereafter                |  |          | 536,791 |             |  |             | 188,084 |               |  |             | 96,811  |  |  |   |      |  |  |   | 821,686   | 
|                          |  |          |         |             |  |             |         |               |  |             |         |  |  |   |       |  |  |   |           | 
|Total minimum commitments |  | $        | 536,791 |             |  | $           | 447,932 |               |  | $           | 255,536 |  |  | $ | 9,903 |  |  | $ | 1,250,162 | 
|                          |  |          |         |             |  |             |         |               |  |             |         |  |  |   |       |  |  |   |           | 

We used the proceeds from the Rights Offering to
pay down our Credit Facility to $339.2 million in January
2004. As discussed in Part I, Item 1, Business, we lease
wavelength capacity from Level 3 for intercity network capacity.
The first of these leases expires in 2006. At that time, we will
either renew these leased wavelengths or install our own optical
equipment and light our intercity fiber network, either of which
will be a substantial capital expenditure.

We expect that our current cash balance will be
sufficient to fund our acquisition of Allegiance, net working
capital and capital expenditure requirements and allow us to
successfully execute our current business plan. However, if we
are unsuccessful at integrating the assets acquired from
Allegiance in a timely and/or cost effective manner, this
expectation could be incorrect and cause us to issue additional
equity and/or debt securities. Additionally, current economic
conditions of the telecommunications industry may create
opportunities for XO to bid on other companies or portions of
companies at attractive prices. We expect to continue to pursue
the acquisition of additional telecommunication companies or
assets throughout 2004. We do not know what the terms of any
such transactions would be. Any other

40



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##### 



offers involving cash consideration could
significantly and adversely affect our liquidity. To support
further business expansion, including investments in or
acquisitions of other companies or portion of other companies,
we may issue additional equity and/or debt securities.


Other 2003 Transactions and
Developments

Announcement
of Chief Executive Officer Appointment

On April 28, 2003, we announced that we had
hired Carl J. Grivner as our new Chief Executive Officer
effective May 15, 2003. Effective May 1, 2003,
Mr. Grivner joined XO as a member of the newly created
Office of the Chairman. Mr. Grivners career in the
telecommunications and technology industries spans more than
25 years. He most recently served as Chief Operating
Officer of Global Crossing, Ltd. Prior to joining Global
Crossing in June 2000, Mr. Grivner served as Chief
Executive Officer of Worldport Communications and, before that,
he served as Chief Executive Officer, Western Hemisphere, of
Cable & Wireless PLC. Additionally, Mr. Grivner has
held various senior executive positions at Advanced Fiber
Communications and Ameritech.

Comparison of Financial Results

As a consequence of the Chapter 11
reorganization, the financial results for the year ended
December 31, 2003 have been separately presented under the
label Reorganized XO and are not comparable with
prior year results. The reorganized Company has adopted the
policy of expensing customer installation costs and internal
labor directly associated with network construction in the
period in which the costs are incurred. The predecessor Company
capitalized and amortized these costs. In accordance with SOP
90-7, the reorganized Company was required to implement newly
issued accounting pronouncements that would require adoption
within twelve months of applying fresh start.

The operational results for the year ended
December 31, 2003 are discussed below. The projected trends
are for XO operations as we exit 2003, and do not include the
impact of any revenue or cost synergies from the Allegiance
acquisition, or any other acquisitions that might occur in 2004.



| |                                                                                                            
| | -----------------------------------------------------------------------------------------------------------
| | Reorganized XO Year Ended December 31,
    2003 Compared to Predecessor XO Year Ended December 31,
    2002

Revenue.Total revenue for the year ending December 31, 2003
decreased 11.8% to $1,110.5 million from
$1,259.9 million for the year ending December 31,
2002. Customer churn, of approximately 2.4% in 2003, exceeded
acquisition revenue particularly in the carrier, stand alone,
DSL and dial-up customer base. The majority of this decline is
driven by major reductions in the carrier revenue stream due to
bankruptcies, downsizing network requirements, as well as
competitive pricing pressures. Additionally, year-over-year
revenue decreased in ancillary stand alone products such as Dial
Up and DSL Internet access, and Hosting due to XO focusing on
more profitable offerings. The commercial offerings to middle
market businesses, however, remained relatively stable as
revenue acquisition kept pace with attrition.

We anticipate that the negative trends within the
carrier revenue stream will stabilize during the first half of
2004 as customer churn improved during 2003 from 2.6% during the
first three quarters of 2003 to 1.9% during the fourth quarter
of 2003. Therefore, XO estimates that the first half of 2004
revenue will be relatively consistent with the fourth quarter
2003 exit run rate. Additionally, we estimate that sequential
year-over-year, 2003 revenue versus 2004, should remain
relatively constant.

41



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##### 



Revenue was earned from providing the following
services (dollars in thousands):

|                                   |               |                |         |                |  |      |      |           |   |          |         |           |  |  |      |       |   |  |       |       |   
|---------------------------------- | ------------- | -------------- | ------- | -------------- |  | ---- | ---- | --------- | - | -------- | ------- | --------- |  |  | ---- | ----- | - |  | ----- | ----- | --
|                                   |               |                |         |                |  |     
|                                   |               | Reorganized XO |         | Predecessor XO |  |     
|                                   |               |                |         |                |  |     
|                                   |               |                |         |                |  |     
|                                   |               | Year Ended     |         | Year Ended     |  |     
|                                   |               | December 31,   |         | December 31,   |  |     
|                                   |               |                |         |                |  |     
|                                   |               |                |         | % of 2003      |  |      |      | % of 2002 |   |         
|                                   |               | 2003           |         | Revenue        |  | 2002 |      | Revenue   |   | % Change
|                                   |               |                |         |                |  |      |      |           |   |         
|Voice services                     |               | $              | 572,774 |                |  |      | 51.6 | %         |   | $        | 659,558 |           |  |  | 52.3 | %     |   |  | (13.2 | %)   
|Data services                      |               |                | 392,742 |                |  |      | 35.4 | %         |   |          | 472,247 |           |  |  | 37.5 | %     |   |  | (16.8 | %)   
|Integrated voice and data services |               |                | 144,967 |                |  |      | 13.0 | %         |   |          | 128,048 |           |  |  | 10.2 | %     |   |  | 13.2  | %    
|                                   |               |                |         |                |  |      |      |           |   |          |         |           |  |  |      |       |   |  |       |      
|                                   | Total revenue |                | $       | 1,110,483      |  |      |      | 100.0     | % |          | $       | 1,259,853 |  |  |      | 100.0 | % |  |       | (11.8 | %)
|                                   |               |                |         |                |  |      |      |           |   |          |         |           |  |  |      |       |   |  |       |      

Voice services revenue includes revenue from
local and long distance voice services, prepaid calling card
processing, and other voice telecommunications based services,
interactive voice response services and stand-alone long
distance services. Voice services revenue for the year ended
December 31, 2003 decreased to $572.8 million from
$659.6 million for the same period of 2002. The decrease is
attributable to reduced FCC mandated rates, price reductions in
long distance services due to reduced cost of service due to
technological improvements, and customer disconnects and usage
reductions arising from customers downsizing due to the
state of the domestic economy.

Data services revenue includes revenue from
Internet access, network access and web applications hosting
services. Data services revenue for the year ended
December 31, 2003 decreased to $392.7 million from
$472.2 million for the same period of 2002. The decline was
attributable to an increase in customer bankruptcies, and
customer disconnects, and a lower demand from large customers
due to reductions in those customers data capacity needs.

Integrated voice and data services revenue is
generated largely from our XOptions service offerings, a
flat-rate bundled package offering a combination of voice and
data services. Integrated voice and data services revenue for
the year ended December 31, 2003 increased to
$145.0 million from $128.0 million for the same period
in 2002. The increase is due to the continued acceptance in the
marketplace of our XOptions service offering.

Costs and
expenses.The table below provides
costs and expenses by classification and as a percentage of
revenue (dollars in thousands):

|                    |                                     |                |   |                |           |      |  |           |   |          |   |         |           |  |  |      |   |  |  |       |       |   
|------------------- | ----------------------------------- | -------------- | - | -------------- | --------- | ---- |  | --------- | - | -------- | - | ------- | --------- |  |  | ---- | - |  |  | ----- | ----- | --
|                    |                                     |                |   |                |           |     
|                    |                                     | Reorganized XO |   | Predecessor XO |           |     
|                    |                                     |                |   |                |           |     
|                    |                                     |                |   |                |           |     
|                    |                                     | Year Ended     |   | Year Ended     |           |     
|                    |                                     | December 31,   |   | December 31,   |           |     
|                    |                                     |                |   |                |           |     
|                    |                                     |                |   | % of 2003      |           |      |  | % of 2002 |   |         
|                    |                                     | 2003           |   | Revenue        |           | 2002 |  | Revenue   |   | % Change
|                    |                                     |                |   |                |           |      |  |           |   |         
|Costs and expenses: |                                     |                |   |                |           |      |  |           |   |          |   |         |           |  |  |      |   |  |  |      
|                    | Cost of service                     |                | $ | 422,129        |           |      |  | 38.0      | % |          | $ | 522,924 |           |  |  | 41.5 | % |  |  | (19.3 | %)   
|                    | Selling, operating and general      |                |   | 679,286        |           |      |  | 61.2      | % |          |   | 765,853 |           |  |  | 60.8 | % |  |  | (11.3 | %)   
|                    | Depreciation and amortization       |                |   | 109,308        |           |      |  | 9.9       | % |          |   | 699,806 |           |  |  | 55.5 | % |  |  | (84.4 | %)   
|                    | Restructuring and asset write-downs |                |   | 11,618         |           |      |  | 1.1       | % |          |   | 480,168 |           |  |  | 38.1 | % |  |  | (97.6 | %)   
|                    |                                     |                |   |                |           |      |  |           |   |          |   |         |           |  |  |      |   |  |  |      
|                    |                                     | Total          |   | $              | 1,222,341 |      |  |           |   |          |   | $       | 2,468,751 |  |  |      |   |  |  |       | (50.5 | %)
|                    |                                     |                |   |                |           |      |  |           |   |          |   |         |           |  |  |      |   |  |  |      

Cost of
service.Cost of service includes
expenses directly associated with providing telecommunications
services to our customers. Cost of service includes, among other
items, the cost of connecting customers to our networks via
leased facilities, the costs of leasing components of our
network facilities and costs paid to third party service
providers for interconnect access and transport services. Cost
of service for the year ended December 31, 2003 decreased
in absolute dollars and as a percentage of revenue compared to
the same period in 2002. The year over year decline as a
percentage of revenue was due primarily to cost optimization
programs which reduced expenses by transferring traffic from
third party facilities onto our owned or controlled facilities,
and favorable resolutions of disputed third party costs. The
decline was partially offset by our adoption of an accounting
policy during the first quarter of 2003, to

42



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expense rather than defer costs associated with
the installation of customer services and the revenue reductions
in carrier long-distance services due to the excess long haul
capacity in the sector.


We estimate that cost of service as a percentage
of revenue will increase slightly when compared to 2003 results
due to the loss of higher margin private line carrier revenue.
It may also fluctuate quarter-to-quarter based on trends in
revenue, product mix, the impact of customer bankruptcies,
regulatory decisions and our ability to continue favorable
resolution of third party billing disputes.

Selling, operating and
general.Selling, operating and
general expense includes expenses related to sales and
marketing, internal network operations and engineering,
information systems, general corporate office functions and
collection risks. Selling, operating and general expense for the
year ended December 31, 2003 was $679.3 million or
61.2% of revenue versus $765.9 million or 60.8% of revenue
for the year ended December 31, 2002. Selling, operating
and general expense decreased in absolute dollars due to our
reorganization that resulted in reduced headcount, contract
rejections and renegotiations, and fair value adjustments to our
long term contractual commitments and property as required by
fresh start accounting which resulted in expense reductions in
various contracted services, rent and property taxes. These
reductions were partially offset by our adoption of the policy
of expensing internal labor costs directly associated with
customer installation and the construction of our network. The
increase in selling, operating and general expense as a
percentage of revenue for the year ended December 31, 2003
when compared to 2002 results is due to the large reduction of
revenues due to bankruptcies and price declines discussed above,
with no associated offsetting direct expense reduction.

We expect selling, operating and general expense
to decrease in absolute dollars and to remain relatively stable
as a percentage of revenue in the near term. With the headcount
reduction in early 2003 and managements focus on selling
larger dollar, more profitable services, we are projecting that
selling, operating, and general expenses as a percentage of
revenue will decrease as a percentage or revenue in the second
half of 2004. We further believe that the Allegiance acquisition
will contribute to this trend.

Depreciation and
amortization.As discussed above,
we implemented fresh start on January 1, 2003 and adjusted
the carrying value of our property and equipment and other
intangibles to their fair value which resulted in a significant
reduction of the aggregate historical carrying value.
Consequently, depreciation and amortization expense decreased to
$109.3 million for the year ended December 31, 2003,
versus $699.8 million for the year ended December 31,
2002.

We expect depreciation and amortization expense
during 2004 to increase slightly as additional assets are placed
into service. As of December 31, 2003, we had approximately
$80.0 million of construction-in-progress plus
$23.5 million of broadband wireless licenses that have not
yet been placed into service and, accordingly, are not currently
being depreciated or amortized.

Restructuring and asset
write-downs.Restructuring and
asset write-downs decreased to $11.6 million for the year
ended December 31, 2003 from $480.2 million for the
year ended December 31, 2002. Restructuring charges in 2003
include costs for a reduction in our workforce by approximately
550 employees, primarily employed in network operations, sales
and marketing and information technology and estimated losses
associated with restructured leases.

The 2002 restructuring charges primarily include
a $477.3 million non-cash asset write-down during the third
quarter of 2002 as a result of returning intercity assets to
Level 3 in exchange for reduced future maintenance expenses
beginning in 2003.

Investment income (loss),
net.Investment income (loss), net
includes interest income as well as any realized gains or losses
from the sale of investments. Investment income (loss), net was
a gain of $46.2 million for 2003 and a gain of
$16.3 million in 2002. The 2003 balance is primarily for a
gain on the sale of an investment.

Interest expense,
net.Interest expense, net
includes interest expense on debt and capital leases, less any
amounts capitalized for construction efforts. The majority of
interest expense in 2003 is non-cash as the Credit Facility
allows for accrued interest to be converted into principal if
unpaid. Interest expense, net

43



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##### 



for the years ended December 31, 2003 and
2002 was $36.8 million and $226.5 million,
respectively. During 2003 and 2002, XO capitalized interest on
construction costs of $3.0 million and $11.1 million,
respectively. Contractual interest was $501.1 million for
the year ended December 31, 2002. The significant reduction
for 2003 was caused by the cancellation of our pre-petition
senior notes and pre-petition convertible subordinated notes and
the reduction in the amount outstanding under our Credit
Facility upon consummation of our Plan of Reorganization. We
expect interest expense to decline further in 2004 due to the
pay down of the Credit Facility with the proceeds of the Rights
Offering in January 2004.




| |                                                                                                            
| | -----------------------------------------------------------------------------------------------------------
| | Predecessor XO Year Ended December 31,
    2002 Compared to Predecessor XO Year Ended December 31,
    2001

Revenue.Total revenue in 2002 of $1,259.9 million was consistent
with total revenue in 2001 of $1,258.6 million. The
weakened economy and the perceived uncertainties in the market
regarding XO Parents Chapter 11 proceedings had a negative
impact on our ability to generate new sources of revenue.
Consequently, we were not able to maintain the level of growth
that we had historically achieved. We experienced a high level
of customer disconnects in 2002 due to reduced demand from other
telecommunications companies and increased customer bankruptcies
in the telecommunications and dot-com industries.

Revenue was earned from providing the following
services (dollars in thousands):

|                                   |               |                         |         |           |  |      |      |           |   |          |         |           |  |  |      |       |   |  |       |     |  
|---------------------------------- | ------------- | ----------------------- | ------- | --------- |  | ---- | ---- | --------- | - | -------- | ------- | --------- |  |  | ---- | ----- | - |  | ----- | --- | -
|                                   |               |                        
|                                   |               | Predecessor XO         
|                                   |               |                        
|                                   |               |                        
|                                   |               | Year Ended December 31,
|                                   |               |                        
|                                   |               |                         |         | % of 2002 |  |      |      | % of 2001 |   |         
|                                   |               | 2002                    |         | Revenue   |  | 2001 |      | Revenue   |   | % Change
|                                   |               |                         |         |           |  |      |      |           |   |         
|Voice services                     |               | $                       | 659,558 |           |  |      | 52.3 | %         |   | $        | 609,885 |           |  |  | 48.4 | %     |   |  | 8.0   | %  
|Data services                      |               |                         | 472,247 |           |  |      | 37.5 | %         |   |          | 596,664 |           |  |  | 47.5 | %     |   |  | (20.9 | %) 
|Integrated voice and data services |               |                         | 128,048 |           |  |      | 10.2 | %         |   |          | 52,018  |           |  |  | 4.1  | %     |   |  | 146.2 | %  
|                                   |               |                         |         |           |  |      |      |           |   |          |         |           |  |  |      |       |   |  |       |    
|                                   | Total revenue |                         | $       | 1,259,853 |  |      |      | 100.0     | % |          | $       | 1,258,567 |  |  |      | 100.0 | % |  |       | 0.1 | %
|                                   |               |                         |         |           |  |      |      |           |   |          |         |           |  |  |      |       |   |  |       |    

Voice services revenue includes revenue from
bundled local and long distance voice services, prepaid calling
card processing, and other voice communications based services,
interactive voice response services and stand-alone long
distance services. Voice services revenue in 2002 increased to
$659.6 million from $609.9 million in 2001. The
increase was primarily due to more sales to larger business
customers, including the impact of the rollout of our carrier
long distance service.

Data services revenue includes revenue from
Internet access, network access and web applications hosting
services. Data services revenue in 2002 decreased to
$472.2 million from $596.7 million in 2001. This
decline was attributable primarily to customer bankruptcies
affecting some large network access customers, increased levels
of customer disconnects, and a lower demand from large customers
due to reductions in those customers data and fiber
capacity needs. The sale of our European operations in
February 2002 also contributed to this decline.

Integrated voice and data services revenue is
generated largely from our XOptions service offerings, a
flat-rate bundled package offering a combination of voice and
data services. Integrated voice and data services revenue in
2002 increased to $128.0 million from $52.0 million in
2001. The increase is primarily attributed to an increase in the
number of customers to whom we provide X Options service.

44



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##### 



Costs and
expenses.The table below provides
costs and expenses by classification and as a percentage of
revenue (dollars in thousands):

|                    |                                     |                         |   |           |           |      |  |           |   |          |   |           |           |  |  |      |   |  |  |       |       |   
|------------------- | ----------------------------------- | ----------------------- | - | --------- | --------- | ---- |  | --------- | - | -------- | - | --------- | --------- |  |  | ---- | - |  |  | ----- | ----- | --
|                    |                                     |                        
|                    |                                     | Predecessor XO         
|                    |                                     |                        
|                    |                                     |                        
|                    |                                     | Year Ended December 31,
|                    |                                     |                        
|                    |                                     |                         |   | % of 2002 |           |      |  | % of 2001 |   |         
|                    |                                     | 2002                    |   | Revenue   |           | 2001 |  | Revenue   |   | % Change
|                    |                                     |                         |   |           |           |      |  |           |   |         
|Costs and expenses: |                                     |                         |   |           |           |      |  |           |   |          |   |           |           |  |  |      |   |  |  |      
|                    | Cost of service                     |                         | $ | 522,924   |           |      |  | 41.5      | % |          | $ | 527,698   |           |  |  | 41.9 | % |  |  | (0.9  | %)   
|                    | Selling, operating and general      |                         |   | 765,853   |           |      |  | 60.8      | % |          |   | 1,008,887 |           |  |  | 80.2 | % |  |  | (24.2 | %)   
|                    | Depreciation and amortization       |                         |   | 699,806   |           |      |  | 55.5      | % |          |   | 1,162,671 |           |  |  | 92.4 | % |  |  | (39.8 | %)   
|                    | Restructuring and asset write-downs |                         |   | 480,168   |           |      |  | 38.1      | % |          |   | 509,202   |           |  |  | 40.5 | % |  |  | (5.7  | %)   
|                    |                                     |                         |   |           |           |      |  |           |   |          |   |           |           |  |  |      |   |  |  |      
|                    |                                     | Total                   |   | $         | 2,468,751 |      |  |           |   |          |   | $         | 3,208,458 |  |  |      |   |  |  |       | (23.1 | %)
|                    |                                     |                         |   |           |           |      |  |           |   |          |   |           |           |  |  |      |   |  |  |      

Cost of
service.Cost of service includes
expenses directly associated with providing telecommunications
services to our customers. Cost of service includes, among other
items, the cost of connecting customers to our networks via
leased facilities, the costs of leasing components of our
network facilities and costs paid to third party providers for
interconnect access and transport services. Cost of service in
2002 was $522.9 million or 41.5% of revenue compared to
$527.7 million or 41.9% of revenue in 2001. The 2002
decline was due primarily to cost optimization programs to
reduce expenses by transferring traffic from leased facilities
onto facilities owned or controlled by us. These cost reductions
were offset, to some extent, by increased costs of service that
were attributable to the increase in voice and integrated
services revenue as a percentage of our total revenue. These
revenues generally carry lower margins when compared to data
services because voice and integrated services are more likely
to utilize leased versus owned network facilities to terminate
calls.

Selling, operating and
general.Selling, operating and
general expense includes expenses related to sales and
marketing, internal network operations and engineering,
information systems, general corporate office functions and
expenses relating to collection risks. Selling, operating and
general expense in 2002 was $765.9 million compared to
$1,008.9 million in 2001. Selling, operating and general
expense decreased both in absolute dollars and as a percentage
of revenue in 2002 when compared to 2001 due to efficiencies
resulting from the centralization of and process improvements in
many functions and cost reduction and restructuring initiatives
that included significant headcount reductions and savings from
the planned exit of certain leased facilities, as well as the
February 2002 sale of our European operations.

Depreciation and
amortization.We have constructed
an integrated facilities-based network in the United States.
Primarily in late 2001 and early 2002, we expanded our services
in existing markets, placed more assets into service, and
increased our obsolescence expense, all of which caused
depreciation expense to increase to $598.5 million in 2002
from $447.0 million in 2001. In 2003, in conjunction with
our implementation of fresh start accounting, we adjusted the
carrying value of our property and equipment to its estimated
fair value of $502.2 million from a net carrying value of
$2,780.6 million at December 31, 2002. Accordingly,
depreciation expense has decreased significantly during 2003 and
in future periods when compared to depreciation expense for
periods prior to the effective date of the Plan of
Reorganization.

Amortization expense includes the amortization of
broadband wireless licenses and other intangibles assets with
definite lives and, for 2001, also includes the amortization of
goodwill. Amortization expense decreased to $101.3 million
in 2002 from $715.7 million in 2001. The significant
decrease is primarily due to our implementation of SFAS
No. 142 and the resulting write-off of all our goodwill as
of January 1, 2002. In conjunction with our implementation
of fresh start accounting in 2003, we reduced the
$911.8 million December 31, 2002 carrying value of our
broadband wireless licenses to their estimated fair value of
approximately $60.0 million, and increase the
$72.8 million December 31, 2002 net carrying value of
other intangible assets to their estimated fair value of
approximately $76.0 million. Accordingly, amortization
expense decreased in 2003 and in future periods when compared to
amortization expense for periods prior to the effective date of
the Plan of Reorganization.

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As of December 31, 2002, our balance sheet
reflected approximately $731.0 million of long-lived
assets, including construction-in-progress and certain broadband
wireless licenses that had not been placed into service and,
accordingly, were not being depreciated or amortized. As
discussed above, these long-lived assets were written down to
their estimated fair values when we applied fresh start
accounting during the first quarter of 2003.

Restructuring and asset
write-downs.Restructuring and
asset write-downs were $480.2 million in 2002 and
$509.2 million in 2001. During 2001, restructuring charges
primarily related to the implementation of our plan to
restructure certain of our business operations. The
restructuring plan included divesting certain assets and
businesses, and reducing our discretionary spending, capital
expenditures and workforce, based on our assessment of current
and future market conditions. The 2001 restructuring charges
include a $366.8 million write-down for the excess of
carrying value of assets to be sold or abandoned, including our
European business unit, and a $134.4 million restructuring
charge relating to the consolidation and exiting of domestic
facility leases, which was determined based on the future
minimum rent commitments for the buildings that management
intended to exit less estimated sublease rental streams. The
2001 restructuring charges also included an $8.0 million
restructuring charge related to involuntary termination
severance costs with respect to 700 persons whose employment was
terminated in connection with a workforce reduction, the
majority of whom were terminated by December 31, 2001.

During 2002, we continued to restructure our
operations and reduced our workforce by approximately 350
additional employees, the majority of whom were employed in
network operations, sales and marketing and information
technology, and recorded a $2.9 million restructuring
charge related to the involuntary termination severance costs.
In addition, we recorded a $477.3 million non-cash asset
write-down during the third quarter of 2002 as a result of
returning intercity assets to Level 3 in exchange for reduced
future maintenance expenses beginning in 2003.

Investment income (loss),
net.Investment income (loss), net
in 2002 was net income of $16.3 million versus a net loss
of $15.8 million in 2001. Investment income, net is mostly
interest income in 2002 while the 2001 net (loss) includes
an $89.0 million write down for an other than temporary
decline in the value of certain investments.

Interest expense,
net.Interest expense, net in 2002
decreased to $226.5 million from $465.4 million in
2001, as we ceased accruing interest and penalties on our
pre-petition senior unsecured, subordinated notes and
Pre-Petition Facility as of the petition date, in accordance
with SOP 90-7. The contractual interest amounts of
$501.1 million reflected on the consolidated statement of
operations represents the interest expense that would have been
accrued under the relevant financing agreements had we not
ceased accruing interest as described above.

Gain on repurchase of
debt.Gain on repurchase of debt
in 2001 was $345.0 million related to our repurchase of
$557.1 million of senior notes at a substantial discount
from their respective face values.

Reorganization gain (expense),
net.Reorganization gain, net of
$3,032.3 million at January 1, 2003 include gains from
our debt and preferred stock cancellations upon our emergence
from bankruptcy less the loss recorded in adjusting our
long-term assets and liabilities to fair value upon our
application of the fresh start accounting required by SOP 90-7.
Reorganization expense in 2002 was $91.1 million and
included the (i) non-cash charges relating to the write off
of issuance costs, discounts and purchase accounting adjustments
to adjust the historical carrying amounts of our debt to the
allowed claim amount by the Bankruptcy Court,
(ii) professional fees associated with our Plan of
Reorganization, (iii) the penalties from the rejection of
contracts, (iv) adjustments to unpaid pre-petition accounts
payable and accrued expenses to the claim amounts allowed by the
bankruptcy court, and (v) the net gain resulting from
payments received by XO Parent in connection with the settlement
and termination of the proposed investment transaction that was
the basis for the first restructuring alternative contemplated
by the Plan of Reorganization, less amounts paid to settle
certain stockholder claims.

Cumulative effect of accounting
change.We performed the
transitional impairment tests of goodwill as required by SFAS
No. 142 as of January 1, 2002. Based on these tests,
we recorded a $1,876.6 million

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impairment charge to write-off all of our
goodwill as a cumulative effect of accounting change during the
first quarter of 2002.


Recognition of preferred stock modification
fee, net  reorganization
item.In order to adjust the
historical carrying amount of our preferred stock to the amount
allowed by the Bankruptcy Court, we recognized the unamortized
balance of a deferred modification fee with respect to our
preferred stock as of the petition date and wrote off certain
unamortized issuance costs and recognized certain purchase
accounting adjustments related to the preferred stock which
netted a $78.7 million gain during 2002.

Gain on repurchases of preferred stock,
net.In 2001, we recorded a net
gain totaling $376.9 million related to our repurchase of
$472.6 million in liquidation preference of our preferred
stock at a substantial discount from the respective carrying
amounts.

Preferred stock dividends and accretion of
preferred stock redemption obligation,
net.As our preferred stock was
deemed subject to compromise under SOP 90-7, we ceased accruing
dividends and accreting the redemption obligation on all of our
outstanding preferred stock as of our petition date. As a
result, we recorded $42.2 million of preferred stock
dividends during 2002 as compared to $129.7 million in such
dividends in 2001. The contractual dividend amount of
$98.8 million reflected on the accompanying consolidated
statement of operations represents the dividends that would have
been accrued under the terms of our preferred stock had we not
ceased accruing such dividends as described above.

Critical Accounting Policies and
Estimates

As of January 1, 2003, we adopted the policy
of expensing customer installation costs and internal labor
directly associated with network construction in the period in
which the costs are incurred as this labor effort is not
specific to any large segregated project, but rather to ordinary
course business operations. During 2002 we capitalized and
amortized these costs. During 2002, the net decrease to cost of
sales and to selling, operating and general expenses as a result
of capitalization and amortizing these costs was approximately
$14.3 million and $9.5 million, respectively.

The preparation of the consolidated financial
statements in accordance with accounting principles generally
accepted in the United States requires management to make
judgments, estimates and assumptions regarding uncertainties
that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities and the reported
amounts of revenues and expenses. Management uses historical
experience and all available information to make these judgments
and estimates and actual results could differ from those
estimates and assumptions that are used to prepare our financial
statements at any given time. Despite these inherent
limitations, management believes that Managements
Discussion and Analysis and the accompanying consolidated
financial statements and footnotes provide a meaningful and fair
perspective of our financial condition and our operating results
for the current period. Management believes the following
critical accounting policies represent the more significant
judgments and estimates used in the preparation of our audited
consolidated financial statements included in this form 10-K.

Fresh-Start
Adjustments

Fresh start required that XO adjust the
historical cost of its assets and liabilities to their fair
values as determined by the reorganization value of the Company.
Fresh start requires that the reorganization value be allocated
to the entitys net assets in conformity with procedures
specified by SFAS No. 141, Business
Combinations, (SFAS No. 141). We engaged
an independent appraiser to assist in the allocation of the
reorganization value to the reorganized Companys assets
and liabilities by determining the fair market value of its
property and equipment, intangible assets and certain
obligations related to its facility leases. Many estimates,
projections and assumptions are used to assess the fair value of
long term assets and liabilities. We review these estimates
quarterly to determine if actual results are consistent with our
assumptions. Any adjustments are recorded in the quarterly
results. The accounting impact from adopting fresh start is
included in Part II, Item 6, Selected Financial Data.

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Long-Lived
Assets

Our long-lived assets include property and
equipment, broadband wireless licenses, and identifiable
intangible assets to be held and used. The estimated useful
lives of telecommunications networks and acquired bandwidth are
3 to 20 years and 5 to 7 years for furniture fixtures,
equipment and other. These useful lives are determined based on
historical usage with consideration given to technological
changes and trends in the industry that could impact the network
architecture and asset utilization. This latter assessment is
significant because we operate within an industry in which new
technological changes could render some or all of our network
related equipment obsolete requiring application of a shorter
useful life or, in certain circumstances, a write-off of the
entire value of the asset. Accordingly, in making this
assessment, we consider our planned use of the assets, the views
of experts both from internal and outside sources regarding the
impact of technological advances and trends in the industry on
the value and useful lives of our network assets.

Investments in broadband wireless licenses
acquired prior to December 31, 2002 were recorded at their
fair values at January 1, 2003, as required by fresh start.
We are amortizing these over the license period of 10 years as
determined by the Federal Communications Commission. In order to
receive an extension on the original license term from the FCC,
we are required to show substantial service in the license area
within ten years of being licensed. Failure to meet this
requirement could result in forfeiture of the license.
Approximately $23.5 million in book value of these licenses
have not yet been placed into service. Had these licenses been
in service during all of 2003, amortization expense would have
increased by approximately $4.4 million. If we fail to show
substantial service in the licensed geographic area at the end
of the original ten year period and fail to negotiate an
extension from the FCC, we would forfeit the right to offer such
services in that market, and write-off the impaired asset. XO is
evaluating recent improvements in the price and performance of
broadband wireless equipment, and is developing a plan to meet
the FCCs substantial service test in all its licensed
areas before the licenses are due for renewal proceedings.

Revenue
Recognition

Revenues from telecommunications services are
recognized when the services are performed, evidence of an
arrangement exists, the fee is fixed and determinable and
collectibility is probable. In circumstances when these criteria
are not met, revenue recognition is deferred until resolution
occurs. For example, if a customer files for protection under
bankruptcy, we believe the probability of collection is
weakened. Consequently, under such circumstances, although we
continue to bill the customer for all services provided, we do
not recognize revenue until cash is received. In addition,
telecommunications customers often dispute the amounts that we
invoice them due to regulatory issues, late payment fees, and
early termination charges based on differences of opinion
regarding contract terms or service levels. Accordingly, as
these billings are not considered fixed and determinable and
collection of such amounts is not considered probable while
these amounts are disputed, revenue recognition is deferred
until the dispute is resolved and the cash is collected.

Service discounts and incentives related to
telecommunications services are recorded as a reduction of
revenue when granted or ratably over a contract period. Fees
billed in connection with customer installations and other
non-recurring fees are deferred and recognized ratably over the
estimated customer life. The estimated customer life is
calculated by analyzing customer disconnects as a percentage of
revenue. This calculation is reviewed every quarter.

We establish an allowance for collection of
doubtful accounts and other sales credit adjustments. Allowances
for sales credits are established through a charge to revenue,
while allowances for doubtful accounts are established through a
charge to selling, operating and general expenses. We assess the
adequacy of these reserves monthly by considering general
factors, such as the length of time individual receivables are
past due, historical collection experience, the economic and
competitive environment, and changes in the credit worthiness of
our customers. As considered necessary, we also assess the
ability of specific customers to meet their financial
obligations to us and establish specific valuation allowances
based

48



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on the amount we expect to collect from these
customers. We can and have experienced material changes to our
reserve requirements on a month to month basis as significant
customers have in the past unexpectedly filed for bankruptcy or
otherwise became insolvent. We believe that our established
valuation allowances were adequate as of December 31, 2003.
If circumstances relating to specific customers change or
economic conditions worsen such that our past collection
experience and assessment of the economic environment are no
longer valid, our estimate of the recoverability of our trade
receivables could be changed. If this occurs, we would adjust
our valuation allowance in the period the new information is
known.


Cost
of Service

Cost of service includes expenses directly
associated with providing telecommunications services to
customers, including, among other items, the cost of connecting
customers to our networks via leased facilities, the costs of
leasing components of our network facilities and costs paid to
third party providers for local access and transport services.
All such costs are expensed as incurred. We accrue for the
expected costs of services received from third party
telecommunications providers during the period the services are
rendered. Invoices received from the third party
telecommunications providers are often disputed due to billing
discrepancies. We accrue for all invoiced amounts, even amounts
in dispute, as these amounts represent contingent liabilities
that are considered probable and measurable. Disputes resolved
in our favor may reduce cost of service in the period the
dispute is settled and typically reflect costs paid in prior
periods. Because the period of time required to resolve these
types of disputes often lapses over several quarters, the
benefits associated with the favorable resolution of such
disputes normally are realized in periods subsequent to the
accrual of the disputed invoice.

Off-Balance Sheet Arrangements

We are not currently engaged in the use of
off-balance sheet derivative financial instruments, to hedge or
partially hedge interest rate exposure nor do we maintain any
other off-balance sheet arrangements for the purpose of credit
enhancement, hedging transactions, or other financial or
investment purposes.

Recent Accounting Pronouncements Implemented
in 2003

In June 2001, the Financial Accounting
Standards Board, issued SFAS No. 143, Accounting for
Asset Retirement Obligations, (SFAS
No. 143), which requires an entity to recognize the
fair value of a liability for an asset retirement obligation in
the period in which a legal or contractual removal obligation is
incurred if a reasonable estimate of fair value can be made. If
a reasonable estimate of fair value cannot be made in the period
the asset retirement obligation is incurred, SFAS No. 143
requires the liability to be recognized when a reasonable
estimate of the fair value can be made. As required by SOP 90-7,
we implemented SFAS No. 143 on January 1, 2003, in
conjunction with the implementation of fresh start and recorded
an estimated asset retirement obligation of $12.0 million.

Effective January 1, 2003, we adopted SFAS
No. 145, Rescission of the Financial Accounting
Standards Board Statements No. 4, 44, and 64, Amendment of
FASB Statement No. 13, and Technical Corrections as of
April 2002, which eliminates the requirement to
report material gains or losses from debt extinguishments as an
extraordinary item, net of any applicable income tax effect, in
an entitys statement of operations. SFAS No. 145
instead requires that a gain or loss recognized from a debt
extinguishment be classified as an extraordinary item only when
the extinguishment meets the criteria of both unusual in
nature and infrequent in occurrence as
prescribed under APB Opinion No. 30, Reporting the
Results of Operations  Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual
and Infrequently Occurring Events and Transactions. Upon
adopting SFAS No. 145, the Company reclassified a 2001
$345.0 million gain from debt repurchases from
extraordinary to recurring.

Effective January 1, 2003, the Company
adopted SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities, which requires that
costs, including severance costs, associated with exit

49



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or disposal activities be recorded at their fair
value when a liability has been incurred. Under previous
guidance, certain exit costs, including severance costs, were
accrued upon managements commitment to an exit plan, which
is generally before an actual liability has been incurred. The
adoption of SFAS No. 146 did not have a material effect on
the Companys consolidated financial statements.


In December 2002, the FASB issued SFAS
No. 148, which amends SFAS No. 123, to provide
alternative methods of transition to SFAS No. 123s
fair value method of accounting for stock-based employee
compensation. As discussed and disclosed in Note 5, SFAS
No. 148 also amends the disclosure provisions of SFAS
No. 123 and APB No. 28. As allowed by SFAS
No. 148, we have chosen to continue to account for
compensation cost associated with our employee stock plans in
accordance with the intrinsic value method prescribed by APB
No. 25.

In May 2003, the FASB issued SFAS
No. 149, Amendment of Statement 133 on Derivative
Instruments and Hedging Activities,, which amends and
clarifies accounting for derivative instruments, including
certain derivative instruments embedded in other contracts, and
for hedging activities under SFAS No. 133. SFAS
No. 149 is effective for contracts entered into or modified
after June 30, 2003 and for hedging relationships
designated after June 30, 2003. The adoption of SFAS
No. 149 did not have a material impact on the
Companys consolidated financial statements.

In May 2003, the FASB issued SFAS
No. 150, Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity,,
which establishes standards for how companies classify and
measure certain financial instruments with characteristics of
both liabilities and equity. It requires companies to classify a
financial instrument that is within its scope as a liability (or
an asset in some circumstances). SFAS No. 150 is effective
beginning with the second quarter of fiscal 2003. The adoption
of SFAS No. 150 did not have a material impact on the
Companys consolidated financial statements.

In January 2003, the FASB issued
Interpretation No. 46, Consolidation of Variable
Interest Entities, an interpretation of Accounting
Research Bulletin No. 51, Consolidated Financial
Statements (FIN 46). FIN 46 applies
to any business enterprise that has a controlling interest,
contractual relationship or other business relationship with a
variable interest entity (VIE) and establishes
guidance for the consolidation of VIEs that function to support
the activities of the primary beneficiary. In
December 2003, the FASB completed its deliberations
regarding the proposed modification to FIN 46 and issued
Interpretation Number 46R, Consolidation of Variable
Interest Entities-an Interpretation of ARB No. 51.
The decision reached included a deferral of the effective date
and provisions for additional scope exception for certain type
of variable interests. Application of FIN 46R is required
in financial statements of public entities that have interests
in VIEs or potential VIEs commonly referred to as
special-purpose entities for period ending after
December 15, 2003. Application by public entities (other
than small business issuers) for all other types of entities is
required in financial statements for periods ending after
March 15, 2004. The Company does not believe that the
adoption of FIN 46R will have any effect on the
Companys consolidated financial statements.

In November 2002, the FASBs Emerging
Issues Task Force reached a final consensus on Issue
No. 00-21. Accounting for Revenue arrangements with
Multiple Deliverables, which is effective for revenue
arrangements entered into in fiscal periods beginning after
June 15, 2003. Under the EITF 00-21, revenue
arrangements with multiple deliverables are required to be
divided into separate units of accounting under certain
circumstances. The adoption of EITF 00-21 did not have a
material effect on the Companys consolidated financial
statements.

In December 2003, the SEC issued Staff
Accounting Bulletin No. 104, Revenue
Recognition, which updates the guidance in SAB
No. 101, integrates the related set of Frequently Asked
Questions, and recognizes the role of EITF 00-21. The
adoption of SAB No. 104 did not have a material effect on
the Companys consolidated financial statements.

50



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|         |                                                              
|-------- | -------------------------------------------------------------
|Item 7A. | Quantitative and Qualitative Disclosure About
    Market Risk

As of December 31, 2003, our Credit Facility
was comprised of $529.9 million in secured loans and
$6.9 million of accrued interest. We raised net proceeds of
$197.6 million in January 2004, and applied these
proceeds to the outstanding balance of the Credit Facility,
reducing the total amount outstanding from $536.8 million
to $339.2 million. Currently, we do not pay cash interest
on the Credit Facility and accrued interest converts to
principal ratably throughout the loan period. As interest
accrues at variable rates, our Credit Facility subjects us to
interest rate risks. Interest rate risk as of December 31,
2003 is illustrated in the following table (dollars in millions).

|                   |  |                                  |      |             |  |                               |      |            |  |        |      |         |  |         |      |  |  |   |      |  |  |   |      |  |  |   |      | 
|------------------ |  | -------------------------------- | ---- | ----------- |  | ----------------------------- | ---- | ---------- |  | ------ | ---- | ------- |  | ------- | ---- |  |  | - | ---- |  |  | - | ---- |  |  | - | ---- | 
|                   |  |                                  |      |             |  |                              
|                   |  | Annual Interest Expense Given an |      | No Change   |  | Annual Interest Expense Given
|                   |  | Interest Rate decrease of        |      | in Interest |  | an Interest Rate increase of 
|                   |  | X Basis Points                   |      | Rates       |  | X Basis Points               
|                   |  |                                  |      |             |  |                              
|Interest Rate Risk |  | (150 BPS)                        |      | (100 BPS)   |  | (50 BPS)                      |      | Fair Value |  | 50 BPS |      | 100 BPS |  | 150 BPS
|                   |  |                                  |      |             |  |                               |      |            |  |        |      |         |  |        
|Credit Facility    |  | $                                | 20.6 |             |  | $                             | 22.3 |            |  | $      | 24.0 |         |  | $       | 25.7 |  |  | $ | 27.4 |  |  | $ | 29.1 |  |  | $ | 30.8 | 

The sensitivity analysis provides only a limited,
point in time view of the market risk sensitivity of the loans
under our Credit Facility. The actual impact of market interest
rate changes may differ significantly from those shown in the
above sensitivity analysis.

Marketable securities, available for sale, at
December 31, 2003 consist primarily of investments in
equity and debt securities of publicly traded companies. The
fair value of our investment in equity and debt securities
exposes us to market risk. These investments are subject to
changes in the market price of the securities. The table that
follows summarizes the fair values of our marketable securities
and provides a sensitivity analysis of the estimated fair value
of these financial instruments assuming a 5%, 10% and 15%
increase or decrease in market price (dollars in millions).

|             |  |                          |      |            |  |                          |      |    |  |    |      |     |  |     |      |  |  |   |      |  |  |   |      |  |  |   |      | 
|------------ |  | ------------------------ | ---- | ---------- |  | ------------------------ | ---- | -- |  | -- | ---- | --- |  | --- | ---- |  |  | - | ---- |  |  | - | ---- |  |  | - | ---- | 
|             |  |                          |      |            |  |                         
|             |  | Fair value assuming the  |      | No Change  |  | Fair value assuming the 
|             |  | following percentage     |      | in         |  | following percentage    
|             |  | increase in equity price |      | Fair Value |  | decrease in equity price
|             |  |                          |      |            |  |                         
|Market Risk  |  | 15%                      |      | 10%        |  | 5%                       |      | 0% |  | 5% |      | 10% |  | 15%
|             |  |                          |      |            |  |                          |      |    |  |    |      |     |  |    
|Market price |  | $                        | 35.8 |            |  | $                        | 37.9 |    |  | $  | 40.0 |     |  | $   | 42.1 |  |  | $ | 44.2 |  |  | $ | 46.3 |  |  | $ | 48.4 | 



|        |                                                
|------- | -----------------------------------------------
|Item 8. | Financial Statements and Supplementary
    Data

Our consolidated financial statements are filed
under this Item, beginning on page F-1 of this Report.



|        |                                                                                         
|------- | ----------------------------------------------------------------------------------------
|Item 9. | Changes in and Disagreements with Accountants
    on Accounting and Financial Disclosure

On September 24, 2003, we notified our
independent auditors, Ernst & Young LLP that our Audit
Committee of our Board of Directors had decided to change
auditors. On September 30, 2003, the Audit Committee of
XOs Board of Directors appointed KPMG LLP to serve as its
new independent auditors for the year ending December 31,
2003. The change was effective immediately. Ernst & Young
LLPs report on XOs consolidated financial statements
as of and for the year ended December 31, 2002 did not
contain an adverse opinion or disclaimer of opinion, nor was it
qualified or modified as to uncertainty, audit scope or
accounting principles. During the fiscal year ending
December 31, 2002, there were: (i) no disagreements
with Ernst & Young on any matter of accounting principle or
practice, financial statement disclosure or auditing scope or
procedure which, if not resolved to Ernst & Youngs
satisfaction, would have caused them to make reference to the
subject matter in connection with their report on our financial
statements for such years; and (ii) there were no
reportable events as defined in Item 304(a)(1)(v) of
Regulation S-K.

During each of the years ended December 31,
2002 and December 31, 2001 and through the date of their
appointment, we did not consult KPMG LLP with respect to the
application of accounting principles to a specified transaction,
either completed or proposed, or the type of audit opinion that
might be rendered on our consolidated financial statements, or
any other matters or reportable events listed in Items
304(a)(2)(i) and (ii) of Regulation S-K.

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On May 15, 2002, we dismissed our
independent auditors, Arthur Andersen LLP, and appointed Ernst
& Young LLP to serve as our new independent auditors for the
year ending December 31, 2002. Our Board of Directors
approved this decision. We filed a current report on
Form 8-K with the Commission on May 16, 2002, which
included a notification that the change was effective on
May 15, 2002. Arthur Andersens report on the
Companys financial statements for the fiscal year ending
December 31, 2001 included an explanatory paragraph that
discussed the substantial doubt concerning our ability to
continue as a going concern. During the fiscal year ending
December 31, 2001, there were: (i) no disagreements with
Arthur Andersen on any matter of accounting principle or
practice, financial statement disclosure or auditing scope or
procedure which, if not resolved to Arthur Andersens
satisfaction, would have caused them to make reference to the
subject matter in connection with their report on our financial
statements for such years; and (ii) there were no
reportable events as defined in Item 304(a)(1)(v) of
Regulation S-K.

During the year ending December 31, 2001 and
through the date of their appointment, we did not consult Ernst
& Young with respect to the application of accounting
principles to a specified transaction, either completed or
proposed, or the type of audit opinion that might be rendered on
our financial statements, or any other matters or reportable
events as set forth in Items 304(a)(2)(i) and (ii) of
Regulation S-K.



|         |                        
|-------- | -----------------------
|Item 9A. | Controls and Procedures



| |                                                     
| | ----------------------------------------------------
| | Evaluation of Disclosure Controls and
    Procedures

The term disclosure controls and procedures is
defined in Rules 13a-15(e) and 15d-15(e) of the Securities
Exchange Act of 1934. These rules refer to the controls and
other procedures of a company that are designed to ensure that
information required to be disclosed by a company in the reports
that it files under the Exchange Act is recorded, processed,
summarized and reported within required time periods. Our
Principal Executive Officer and our Principal Financial Officer
have evaluated the effectiveness of our disclosure controls and
procedures as of the end of the period covered by this report.
Based on the evaluation they have concluded that, as of the end
of such period the controls and procedures were effective at
ensuring that required information was disclosed on a timely
basis in our report filed under the Exchange Act.



| |                                                          
| | ---------------------------------------------------------
| | Changes in Internal Controls over Financial
    Reporting

We maintain a system of internal accounting
controls that are designed to provide reasonable assurance that
our books and records accurately reflect our transactions and
that our established policies and procedures are followed. For
the year ended December 31, 2003, there were no changes to
our internal controls or in other factors that could
significantly affect our internal controls over financial
reporting.

PART III



|         |                                                       
|-------- | ------------------------------------------------------
|Item 10. | Directors and Executive Officers of the
    Registrant

The information required by this Item is
incorporated by reference from our definitive proxy statement
for the 2004 Annual Meeting of Stockholders to be held on
May 27, 2004 to be filed with the SEC pursuant to
Regulation 14A within 120 days after the end of our
2003 fiscal year.

Code of Ethics

We have adopted a Code of Ethics within the
meaning of Item 406(b) of Regulation S-K. This Code of
Ethics applies to our principal executive officer, our principal
financial officer and principal accounting officer, as well as
all other employees. This Code of Ethics is publicly available
on our website at www.xo.com. If we make substantive amendments
to this Code of Ethics or grant any waiver, including

52



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any implicit waiver, we will disclose the nature
of such amendment or waiver on our website or in a report on
Form 8-K within five days of such amendment or waiver.


Audit Committee Financial Expert

Our Board of Directors has determined
Vincent J. Intrieri is an audit committee financial
expert as defined under Item 401(h) of
Regulation S-K. The Board of Directors has based its
determination on the fact the Mr. Intrieri is a certified
public accountant, and was a partner at the Arthur Andersen
accounting firm.



|         |                       
|-------- | ----------------------
|Item 11. | Executive Compensation

The information required by this Item is
incorporated by reference from the information provided under
the heading Executive Compensation of our Proxy
Statement.



|         |                                                                   
|-------- | ------------------------------------------------------------------
|Item 12. | Security Ownership of Certain Beneficial
    Owners and Management

Information required by this Item with respect to
Securities Authorized for Issuance under Equity Compensation
Plans is incorporated herein by reference from the information
provided in the proposal to approve the amendment of our
Directors Stock Option Plan under the heading Equity
Compensation Plan of our Proxy Statement.

Information required by this Item with respect to
Stock Ownership of Certain Beneficial Owners and Management is
incorporated herein by reference from the information provided
under the heading Stock Ownership of Certain Beneficial
Owners and Management of our Proxy Statement.



|         |                                                   
|-------- | --------------------------------------------------
|Item 13. | Certain Relationships and Related
    Transactions

Various entities controlled by Mr. Icahn
hold the following interests in XO:

|                     |  |              |                  |                   |  |          |                  |  |  |  |                  | 
|-------------------- |  | ------------ | ---------------- | ----------------- |  | -------- | ---------------- |  |  |  | ---------------- | 
|                     |  | Outstanding  |                  | Series A, B and C |  | Credit  
|                     |  | Common Stock |                  | Warrants          |  | Facility
|                     |  |              |                  |                   |  |         
|At December 31, 2003 |  |              | Greater than 80% |                   |  |          | Greater than 40% |  |  |  | Greater than 90% | 
|At January 31, 2004  |  |              | Greater than 60% |                   |  |          | Greater than 40% |  |  |  | Greater than 90% | 

In addition, entities controlled by
Mr. Icahn have acquired an option to purchase
6.25 million additional shares of our common stock from
Franklin Mutual Advisors, LLC at a strike price of $4.25 per
share which expires June 21, 2004. After closing the Rights
Offering in January 2004, Mr. Icahns ownership
interest in our outstanding common stock was reduced to over 60%.

As a result of his majority ownership,
Mr. Icahn can elect all of our directors, appoint the
members of the committees of our Board of Directors, appoint key
members of our executive management team, and appoint our
auditors. Currently, Mr. Icahn is Chairman of our Board of
Directors and three employees of Icahn Associates sit on our
Board of Directors and various Committees of the Board of
Directors. Under applicable law and our Certificate of
Incorporation and by-laws, certain action cannot be taken
without the approval of holders of a majority of our voting
stock, including, without limitation, mergers, acquisitions, the
sale of substantially all our assets, and amendments to our
Certificate of Incorporation and by-laws.

Mr. Icahn, through various entities that he
owns or controls, has the right to require us to register, under
the Securities Act of 1933, shares of New Common Stock held by
such entities and to include shares of our New Common Stock held
by them in certain registration statements filed by us, pursuant
to a Registration Rights Agreement approved by the Bankruptcy
Court in connection with XO Parents Chapter 11
proceedings.

In February 2003, Dixon Properties, LLC
(Dixon), which is controlled by Mr. Icahn,
acquired ownership of the building in which our headquarters is
located in a transaction that was approved by the Bankruptcy
Court. We currently lease approximately 170,000 square feet of
space in that building.

53



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##### 



Pursuant to the assumed lease agreement, we have
paid $3.3 million in lease expense to Dixon for the year
ended December 31, 2003 and we are obligated to pay
approximately $15.6 million to Dixon through the expiration
of the initial term of the lease, which is November 30,
2007.


We have entered into a Tax Allocation Agreement,
dated January 16, 2003, between us and Starfire Holding
Corporation, the parent entity of the affiliated group of
corporations controlled by Mr. Icahn. We and Starfire
intend to file consolidated returns during the period in which
Mr. Icahns ownership of XO is equal to or greater
than 80%, as required by the Internal Revenue Code. The Tax
Allocation Agreement provides that Starfire will pay all
consolidated federal income taxes on behalf of the Icahn
consolidated group that includes us, and we will make payments
to Starfire in an amount equal to the tax liability, if any,
that it would have incurred if it were to file its own
consolidated return separate and apart from Starfire. Upon the
closing of the Rights Offering in January 2004,
Mr. Icahns ownership percentage fell below 80%.
Consequently we will no longer file as part of Icahns
consolidated group after January 2004. Upon
deconsolidation, the Tax Allocation Agreement generally provides
that Starfire will reimburse us each year going forward for the
excess of our actual income tax expense over the income tax that
would have been owed if the net operating losses or other tax
attributes used in prior periods by the Starfire consolidated
group excluding us, if any, were still available to us.

The Company provides certain telecommunications
services to companies affiliated with Mr. Icahn. For the
year ended December 31, 2003, the total revenue recognized
on such services affiliated with Mr. Icahn was
approximately $0.4 million. We have purchased approximately
$0.3 million in services from Icahn affiliates during 2003.
During 2003, we purchased approximately $1.1 million in
hardware and services from Dell Computers, Inc. Mr. Adam Dell,
an XO director, is Mr. Michael Dells, the Chief
Executive Officer of Dell Computers, brother.



|         |                                           
|-------- | ------------------------------------------
|Item 14. | Principal Accounting Fees and
    Services

Information with respect to fees paid to our
principal accountant and our audit committees pre-approval
policies and procedures are incorporated herein by reference to
the Proxy Statement to be filed pursuant to Regulation 14A.

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PART IV



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

(a) (1) and (2) Financial
Statements and Schedule:

|                                                                                                                                                          |  |  |     | 
|--------------------------------------------------------------------------------------------------------------------------------------------------------- |  |  | --- | 
|XO Communications, Inc.                                                                                                                                   |  |  |     | 
|Report of KPMG LLP, Independent Auditors                                                                                                                  |  |  | F-1 | 
|Report of Ernst & Young LLP,
    Independent Auditors                                                                                                     |  |  | F-2 | 
|Report of Arthur Andersen LLP, Independent
    Public Accountants                                                                                         |  |  | F-3 | 
|Consolidated Balance Sheets as of
    December 31, 2003 and 2002                                                                                          |  |  | F-4 | 
|Consolidated Statements of Operations for the
    Years Ended December 31, 2003, 2002, 2001 and for the
    portion of January 1, 2003                    |  |  | F-5 | 
|Consolidated Statement of Stockholders
    Equity (Deficit) for the Years Ended December 31, 2003, 2002,
    2001 and for the portion of January 1, 2003 |  |  | F-6 | 
|Consolidated Statements of Cash Flows for the
    Years Ended December 31, 2003, 2002, 2001 and for the
    portion of January 1, 2003                    |  |  | F-8 | 
|Notes to Consolidated Financial Statements                                                                                                                |  |  | F-9 | 
|Schedule II  Consolidated
    Valuation and Qualifying Accounts                                                                                          |  |  | S-1 | 

(3) List of Exhibits  Refer to
Exhibit Index, which is incorporated herein by reference.

(b) Reports on Form 8-K:



| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 1. | On October 7, 2003. XO filed a Current
    Report on Form 8-K disclosing the announcement by XO of
    preliminary financial results for the third quarter of 2003.                                                                                                                                                                                                                                                                                                                                         
|
| | 2. | On October 16, 2003, XO filed a Current
    Report on Form 8-K disclosing the announcement by XO that
    XO commenced as of such date the first stage of a two stage
    rights offering of between 40,000,000 and 43,333,333 shares of
    XO common stock pursuant to XOs Chapter 11
    reorganization that was confirmed by the Bankruptcy Court on
    November 15, 2002.                                                                                                                            
|
| | 3. | On November 19, 2003, XO filed a Current
    Report on Form 8-K disclosing the announcement by XO that
    XO received approximately $162.5 million in paid
    subscriptions for approximately 32.5 million shares of its
    common stock in the initial stage of its rights offering that
    concluded on November 14, 2003.                                                                                                                                                                            
|
| | 4. | On November 25, 2003, XO filed a Current
    Report on Form 8-K disclosing the correction of certain
    erroneous administrative entries recorded by an external service
    provider in connection with XOs rights offering.                                                                                                                                                                                                                                                                             
|
| | 5. | On December 8, 2003, XO filed a Current
    Report on Form 8-K disclosing the announcement by XO that
    it commenced the second stage of its rights offering as of such
    date in which XO would offer rights to purchase approximately
    7.8 million shares of its new common stock.                                                                                                                                                                                                                 
|
| | 6. | On December 16, 2003, XO filed a Current
    Report on Form 8-K disclosing the announcement by XO that
    it received $192.0 million in value, consisting of
    $164.8 million in cash and $27.2 million of Global
    Crossing common stock (based on the closing price of $33 per
    share of Global Crossing common stock as of December 12,
    2003), in exchange for the $158.5 million XO Communications
    paid to acquire approximately 34% of pre-petition senior debt of
    Global Crossing.

55



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##### 



SIGNATURES

Pursuant to the requirements of Section 13
or 15(d) of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.

|                     |  |                                                                                                                                                  
|-------------------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------
|                     |  | XO Communications, Inc.                                                                                                                          
|                    
|Date: March 15, 2004 |  | By: /s/ CARL J. GRIVNER       Carl
    J.
    Grivner       President
    and Chief Executive
    Officer       (Principal
    Executive Officer)

Pursuant to the requirements of the Securities
Exchange Act of 1934, this report has been signed below on
March 15, 2004 by the following persons on behalf of the
Registrant and in the capacities indicated:

|                                           |  |                                                                                                                             |  | 
|------------------------------------------ |  | --------------------------------------------------------------------------------------------------------------------------- |  | 
|Name                                       |  | Title                                                                                                                      
|                                           |  |                                                                                                                            
|                                          
|/s/ CARL J. GRIVNERCarl J. Grivner         |  | President and Chief Executive Officer (Principal
    Executive Officer)                                                    
|                                          
|/s/ WAYNE M. REHBERGERWayne M. Rehberger   |  | Executive Vice President and Chief Financial
    Officer (Principal Financial Officer and Principal Accounting
    Officer)
|                                          
|/s/ CARL C. ICAHNCarl C. Icahn             |  | Chairman of the Board of Directors                                                                                         
|                                          
|/s/ ANDREW R. COHENAndrew R. Cohen         |  | Director                                                                                                                   
|                                          
|/s/ ADAM DELLAdam Dell                     |  | Director                                                                                                                   
|                                          
|/s/ VINCENT J. INTRIERIVincent J. Intrieri |  | Director                                                                                                                   
|                                          
|/s/ KEITH MEISTERKeith Meister             |  | Director                                                                                                                   

56



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EXHIBIT INDEX

| |    |    |  |                                                                                                                                                                                                                                                                                                                                                                                                  
| | -- | -- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 2  | .1 |  | Third Amended Plan of Reorganization of XO
    Communications, Inc., dated July 22, 2002,
    (Incorporated herein by reference to exhibit 2.1 filed with
    the Current Report on Form 8-K/A of XO
    Communications, Inc., filed on November 26, 2002).                                                                                                                                      
| | 2  | .2 |  | Plan Supplement, dated October 23, 2003, to
    the Third Amended Plan of Reorganization of XO Communications,
    Inc., dated July 22, 2002 (Incorporated herein by reference
    to exhibit 2.2 filed with the Current Report on
    Form 8-K/A of XO Communications, Inc., filed on
    November 26, 2002).                                                                                   
| | 2  | .3 |  | Order Confirming Third Amended Plan of
    Reorganization, dated November 15, 2002 (Incorporated
    herein by reference to exhibit 99.1 filed with the Current
    Report on Form 8-K/A of XO Communications, Inc., filed on
    November 26, 2002).                                                                                                                                            
| | 2  | .4 |  | Asset Purchase Agreement, dated as of
    February 18, 2004, by and among XO Communications, Inc.,
    Allegiance Telecom, Inc., and Allegiance Telecom Company
    Worldwide (Incorporated herein by reference to exhibit 10.1
    filed with the Current Report on Form 8-K of XO
    Communications, Inc. filed on February 24, 2004).                                                        
| | 2  | .5 |  | Amended and Restated Certificate of Incorporation
    of XO Communications, Inc. (Incorporated herein by reference to
    exhibit 3.1 filed with the Registration Statement on
    Form 8-A of XO Communications, Inc., filed on February 7,
    2003, pursuant to the Securities Exchange Act).                                                                                                 
| | 3  | .1 |  | Amended and Restated Bylaws of XO Communications,
    Inc.                                                                                                                                                                                                                                                                                                                                       
| | 4  | .1 |  | Form of Stock Certificate of New Common Stock
    (Incorporated herein by reference to exhibit 4.1 filed with
    the Annual Report on Form 10-K of XO Communications, Inc.
    for the year ended December 31, 2002, filed on
    March 21, 2003).                                                                                                                                              
| | 4  | .2 |  | Series A Warrant Agreement, dated as of
    January 16, 2003, by and between XO Communications, Inc.
    and American Stock Transfer & Trust Company (Incorporated
    herein by reference to exhibit 10.1 filed with the Current
    Report on Form 8-K of XO Communications, Inc., filed on
    January 30, 2003).                                                                             
| | 4  | .3 |  | Series B Warrant Agreement, dated as of
    January 16, 2003, by and between XO Communications, Inc.
    and American Stock Transfer & Trust Company (Incorporated
    herein by reference to exhibit 10.2 filed with the Current
    Report on Form 8-K of XO Communications, Inc., filed on
    January 30, 2003).                                                                             
| | 4  | .4 |  | Series C Warrant Agreement, dated as of
    January 16, 2003, by and between XO Communications, Inc.
    and American Stock Transfer & Trust Company (Incorporated
    herein by reference to exhibit 10.3 filed with the Current
    Report on Form 8-K of XO Communications, Inc., filed on
    January 30, 2003).                                                                             
| | 10 | .1 |  | XO Communications, Inc. 2002 Stock Incentive Plan
    (Incorporated herein by reference to exhibit 10.1.1 to the
    Annual Report on Form 10-K of XO Communications, Inc. for
    the year ended December 31, 2002, filed on March 21,
    2003).                                                                                                                                               
| | 10 | .2 |  | XO Communications, Inc. Retention Bonus and
    Incentive Plan (Incorporated herein by reference to
    exhibit 10.1.2 to the Annual Report on Form 10-K of XO
    Communications, Inc. for the year ended December 31, 2002,
    filed on March 21, 2003).                                                                                                                                      
| | 10 | .3 |  | Registration Rights Agreement, dated as of
    January 16, 2003, between XO Communications, Inc. and High
    River Limited Partnership and Meadow Walk Limited Partnership
    (Incorporated herein by reference to exhibit 10.4 filed
    with the Current Report on Form 8-K of XO Communications,
    Inc., filed on January 30, 2003).                                                      
| | 10 | .4 |  | Tax Allocation Agreement, dated as of
    January 16, 2003, between XO Communications, Inc. and
    Starfire Holding Corporation (Incorporated herein by reference
    to exhibit 10.5 filed with the Current Report on
    Form 8-K of XO Communications, Inc., filed on
    January 30, 2003).                                                                                                 
| | 10 | .5 |  | Employment Term Sheet, dated as of April 30,
    2003, delivered by XO Communications, Inc. to Carl J.
    Grivner, President and Chief Executive Officer of XO
    Communications, Inc. (Incorporated herein by reference to
    exhibit 10.1 filed with the Quarterly Report on
    Form 10-Q of XO Communications, Inc. for the three months
    ended March 31, 2003, filed on May 15, 2003).

57



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##### 



| |    |      |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | -- | ---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 10 | .6   |  | Change in Control Agreement by and between XO
    Communications, Inc. and Carl J. Grivner, President and
    Chief Executive Officer of XO Communications, Inc. (Incorporated
    herein by reference to exhibit 10.2 filed with the
    Quarterly Report on Form 10-Q of XO Communications, Inc.
    for the three months ended March 31, 2003, filed on
    May 15, 2003).                                                                                                       
| | 10 | .7   |  | Employment Agreement, dated as of January 3,
    2000, by and between Nathaniel A. Davis and NEXTLINK
    Communications, Inc. (predecessor to XO Communications, Inc.)
    (Incorporated herein by reference to exhibit 10.11 filed
    with the Annual Report on Form 10-K of NEXTLINK
    Communications, Inc. and NEXTLINK Capital, Inc., for the year
    ended December 31, 1999, filed on March 30, 2000.)                                                                   
| | 10 | .8   |  | Employment Agreement by and between John Jacquay
    and XO Communications, Inc. dated as of November 20,
    2002.                                                                                                                                                                                                                                                                                                                                                                 
| | 10 | .9   |  | Employment Agreement, dated as of
    November 20, 1999, by and between Gary Begeman and XO
    Communications, Inc.                                                                                                                                                                                                                                                                                                                                                                
| | 10 | .10  |  | Employment Agreement, effective as of
    September 25, 2000, by and between Wayne M. Rehberger
    and XO Communications, Inc.                                                                                                                                                                                                                                                                                                                                                     
| | 10 | .11  |  | Cost Sharing and IRU Agreement, dated
    July 18, 1998, between Level 3 Communications, LLC and
    XO Intercity Holdings No. 2, LLC (f/k/a INTERNEXT LLC)
    (Incorporated herein by reference to exhibit 10.8 filed
    with the quarterly report on Form 10-Q for the quarterly
    period ended September 30, 1998 of NEXTLINK Communications,
    Inc. and NEXTLINK Capital, Inc., filed on November 16,
    1998).                                                          
| | 10 | .12  |  | Master Agreement, dated August 8, 2002,
    between Level 3 Communications, Inc. and XO Communications,
    Inc. (Incorporated herein by reference to exhibit 10.4.2
    filed with the Annual Report on Form 10-K of XO
    Communications, Inc. for the year ended December 31, 2002,
    filed on March 21, 2003).                                                                                                                                                               
| | 10 | .13  |  | Amended and Restated Credit and Guaranty
    Agreement, dated as of January 16, 2003, among XO
    Communications, Inc., certain subsidiaries of XO Communications,
    Inc., the Lenders party thereto from time to time, and Mizuho
    Corporate Bank, as Administrative Agent (Incorporated herein by
    reference to exhibit 10.5 filed with the Annual Report on
    Form 10-K of XO Communications, Inc. for the year ended
    December 31, 2002, filed on March 21, 2003).
| | 14 | .1   |  | XO Communications, Inc. Code of Ethics                                                                                                                                                                                                                                                                                                                                                                                                                                              
| | 16 | .1.1 |  | Letter from Arthur Andersen LLP to the Securities
    and Exchange Commission, dated May 15, 2002 (Incorporated
    herein by reference to exhibit 16 filed with the Current
    Report on Form 8-K of XO Communications Inc. filed on
    May 16, 2002).                                                                                                                                                                                                                           
| | 21 | .1   |  | Subsidiaries of XO Communications, Inc.                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | 23 | .1   |  | Consent of KPMG LLP                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | 23 | .2   |  | Consent of Ernst & Young LLP                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | 23 | .3   |  | Notice Regarding Lack of Consent of Arthur
    Andersen                                                                                                                                                                                                                                                                                                                                                                                                                             
| | 31 | .1   |  | Certification of Chief Executive Officer pursuant
    to Rule 13a-14(a) and Rule 15d-14(a) of the Securities
    Exchange Act, as amended.                                                                                                                                                                                                                                                                                                                                          
| | 31 | .2   |  | Certification of Chief Financial Officer pursuant
    to Rule 13a-14(a) and Rule 15d-14(a) of the Securities
    Exchange Act, as amended.                                                                                                                                                                                                                                                                                                                                          
| | 32 | .1   |  | Certification of Chief Executive Officer pursuant
    to 18 U.S.C. 1350, as adopted pursuant to Section 906
    of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                  
| | 32 | .2   |  | Certification of Chief Financial Officer pursuant
    to 18 U.S.C. 1350, as adopted pursuant to Section 906
    of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                  

58



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##### 



REPORT OF KPMG LLP, INDEPENDENT
AUDITORS

The Board of Directors and Stockholders

XO Communications, Inc.:


We have audited the accompanying consolidated
balance sheet of XO Communications, Inc. and subsidiaries as of
December 31, 2003 (Reorganized XO), and the related
consolidated statements of operations, stockholders equity
and cash flows for the periods from January 1, 2003 to
December 31, 2003 (Reorganized XO period) and for the
portion of January 1, 2003, related to the
Predecessors reorganization gain (Predecessor XO period).
In connection with our audit of the Reorganized XO 2003
consolidated financial statements, we also have audited the 2003
financial statement schedule as listed in the accompanying
index. These financial statements and the financial statement
schedule are the responsibility of the Companys
management. Our responsibility is to express an opinion on these
financial statements and the financial statement schedule based
on our audits. The 2001 consolidated financial statements and
financial statement schedule of Predecessor XO, as listed in the
accompanying index, were audited by other auditors who have
ceased operations. Those auditors report, dated
February 6, 2002, on those financial statements and
financial statement schedule was unqualified, before the
restatement described in Note 6 to the consolidated financial
statements, and included an explanatory paragraph that discussed
the substantial doubt about Predecessor XOs ability to
continue as a going concern.

We conducted our audits in accordance with
auditing standards generally accepted in the United States of
America. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.

In our opinion, the Reorganized XO 2003
consolidated financial statements referred to above present
fairly, in all material respects, the financial position of XO
Communications, Inc. and subsidiaries as of December 31,
2003, and the results of their operations and their cash flows
for the Reorganized XO period in conformity with accounting
principles generally accepted in the United States of America.
Further, in our opinion, the Predecessor XO 2003 consolidated
financial statements referred to above present fairly, in all
material respects, the results of their operations and their
cash flows for the portion of January 1, 2003 related to
the Predecessors reorganization gain in conformity with
accounting principles generally accepted in the United States of
America. Also, in our opinion, the related 2003 financial
statement schedule, when considered in relation to the basic
financial statements taken as a whole, presents fairly, in all
material respects, the information set forth therein.

As discussed above, the 2001 consolidated
financial statements of XO Communications, Inc. as listed in the
accompanying index, were audited by other auditors who have
ceased operations. As described in Note 5(d), those consolidated
financial statements have been restated to conform to Statement
of Financial Accounting Standards No. 145, Rescission
of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections, which
was adopted on January 1, 2003. We audited the adjustments
described in Note 5(d) that were applied to restate the 2001
consolidated financial statements. In our opinion, such
adjustments are appropriate and have been properly applied.
However, we were not engaged to audit, review, or apply any
procedures to the 2001 consolidated financial statements of XO
Communications, Inc. other than with respect to such
adjustments, and, accordingly, we do not express an opinion or
any other form of assurance on the 2001 consolidated financial
statements taken as a whole.

As discussed in Notes 1, 2, and 3, to the
consolidated financial statements, on January 16, 2003, XO
Communications, Inc. emerged from bankruptcy. The consolidated
financial statements of Reorganized XO reflect the impact of
adjustments to reflect the fair value of assets and liabilities
under fresh start reporting, which was applied effective
January 1, 2003. As a result, the consolidated financial
statements of Reorganized XO are presented on a different basis
than those of Predecessor XO and, therefore, are not comparable
in all respects.

/s/ KPMG LLP

McLean, VA

March 8, 2004


F-1



---



##### 



REPORT OF ERNST & YOUNG LLP, INDEPENDENT
AUDITORS

To the Board of Directors of XO Communications,
Inc.:

We have audited the accompanying consolidated
balance sheet of XO Communications, Inc. (the
Company) as of December 31, 2002, and the
related consolidated statements of operations,
stockholders equity (deficit) and cash flows for the
year then ended. Our audit also included the financial statement
schedule listed in the Index at item 15(a). These financial
statements and schedule are the responsibility of the
Companys management. Our responsibility is to express an
opinion on these financial statements and schedule based on our
audit. The consolidated financial statements and schedule of the
Company for the year ended December 31, 2001, were audited
by other auditors who have ceased operations, and whose report
dated February 6, 2002, expressed an unqualified opinion on
those consolidated financial statements and schedule before the
restatement adjustments described in Note 5 and included an
explanatory paragraph that discussed the substantial doubt about
the Companys ability to continue as a going concern.

We conducted our audit in accordance with
auditing standards generally accepted in the United States.
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit
provides a reasonable basis for our opinion.

In our opinion, the 2002 financial statements
referred to above present fairly, in all material respects, the
consolidated financial position of XO Communications, Inc. at
December 31, 2002, and the consolidated results of its
operations and its cash flows for the year then ended, in
conformity with accounting principles generally accepted in the
United States. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic
financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.

As discussed in Note 6 to the consolidated
financial statements, effective January 1, 2002, the
Company adopted Statement of Financial Accounting Standards
No. 142, Goodwill and Other Intangible Assets.

As discussed in Note 1 to the consolidated
financial statements, effective January 16, 2003, the
Company was reorganized under a plan of reorganization confirmed
by the United States Bankruptcy Court for the Southern District
of New York. In connection with its reorganization, the Company
will apply fresh start accounting in the first quarter of 2003.

As discussed above, the financial statements of
XO Communications, Inc. for the year ended December 31,
2001 were audited by other auditors who have ceased operations.
As described in Note 5, these financial statements have been
revised to include the transitional disclosures required by
Statement of Financial Accounting Standards No. 142,
Goodwill and Other Intangible Assets, which was adopted by the
Company as of January 1, 2002. Our audit procedures with
respect to the disclosures in Note 6 with respect to 2001
included (a) agreeing the previously reported net loss to
the previously issued financial statements and the adjustments
to reported net loss representing amortization expense
recognized in those periods related to goodwill and intangible
assets that are no longer being amortized to the Companys
underlying records obtained from management, and
(b) testing the mathematical accuracy of the reconciliation
of adjusted net loss to reported net loss, and the related
loss-per-share amounts. In our opinion, the disclosures for 2001
in Note 6 are appropriate. However, we were not engaged to
audit, review, or apply any procedures to the 2001 financial
statements of the Company other than with respect to such
disclosures and, accordingly, we do not express an opinion or
any form of assurance on the 2001 financial statements taken as
a whole.

/s/ Ernst & Young LLP

Baltimore, Maryland

February 28, 2003


F-2



---



##### 



The following report is a copy of a report
previously issued by Arthur Andersen LLP (Andersen),
whose report has not been reissued by Andersen. Certain
financial information in the period ended December 31,
2001, was not reviewed by Andersen and includes additional
disclosures to conform with new accounting pronouncements and
SEC rules and regulations issued during such fiscal year, see
Item 1, Business, for discussion of risks.

REPORT OF INDEPENDENT PUBLIC
ACCOUNTANTS

To the Stockholders of XO Communications, Inc.:

We have audited the accompanying consolidated
balance sheets of XO Communications, Inc. (XO
Parent, a Delaware corporation) and subsidiaries
(collectively the Company) as of December 31,
2001 and 2000, and the related consolidated statements of
operations, stockholders equity and cash flows for each of
the three years in the period ended December 31, 2001.
These financial statements are the responsibility of the
Companys management. Our responsibility is to express an
opinion on these financial statements based on our audits.

We conducted our audits in accordance with
auditing standards generally accepted in the United States.
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit
also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial
statements referred to above present fairly, in all material
respects, the financial position of XO Communications, Inc. and
subsidiaries as of December 31, 2001 and 2000, and the
results of their operations and their cash flows for each of the
three years in the period ended December 31, 2001, in conformity
with accounting principles generally accepted in the United
States.

The accompanying consolidated financial
statements have been prepared assuming that the Company will
continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company has incurred
recurring operating losses and negative cash flows from
operating activities, has defaulted on its debt obligations and
has begun to implement a proposed recapitalization that
contemplates XO Parent filing a voluntary petition for relief
under chapter 11 of the United States Bankruptcy Code. These
matters, among others, raise substantial doubt about the
Companys ability to continue as a going concern.
Managements plans in regard to these matters are also
described in Note 1. The accompanying consolidated financial
statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or
the amounts and classification of liabilities that might
otherwise be necessary should the Company be unable to continue
as a going concern.

Our audit was made for the purpose of forming an
opinion on the basic financial statements taken as a whole. The
schedule listed in the index of financial statements is
presented for purposes of complying with the Securities and
Exchange Commissions rules and is not part of the basic
financial statements. This schedule has been subjected to the
auditing procedures applied in the audit of the basic financial
statements and, in our opinion, fairly states, in all material
respects, the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.

/s/ ARTHUR ANDERSEN LLP

Vienna, VA

February 6, 2002

F-3



---



##### 



XO Communications, Inc.



Consolidated Balance Sheets


(Dollars in thousands, except for share and
per share data)


|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |            |            |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------- | ------- | -------------- | --------- |  | --------- | ---------- | ---------- | -
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Reorganized XO                                           |         | Predecessor XO
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | December 31,                                             |         | December 31,  
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | 2003                                                     |         | 2002          
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |               
|ASSETS                                                                                                                                                                                                                         |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|Current assets:                                                                                                                                                                                                                |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               | Cash and cash equivalents                                                                                                                                                                                                                      |                                                          | $       | 478,560        |           |  | $         | 314,038    |           
|                                                                                                                                                                                                                               | Marketable securities                                                                                                                                                                                                                          |                                                          |         | 42,052         |           |  |           | 246,945    |           
|                                                                                                                                                                                                                               | Accounts receivable, net of allowance for
    doubtful accounts of $32,986 and $37,030 at December 31,
    2003 and 2002, respectively                                                                                                         |                                                          |         | 93,958         |           |  |           | 116,541    |           
|                                                                                                                                                                                                                               | Other current assets                                                                                                                                                                                                                           |                                                          |         | 12,421         |           |  |           | 83,480     |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Total current assets                                     |         |                | 626,991   |  |           |            | 761,004    |  
|Property and equipment, net                                                                                                                                                                                                    |                                                                                                                                                                                                                                                |                                                          | 485,984 |                |           |  | 2,780,589 |           
|Broadband wireless licenses and other
    intangibles, net                                                                                                                                                                     |                                                                                                                                                                                                                                                |                                                          | 109,515 |                |           |  | 984,614   |           
|Other assets, net                                                                                                                                                                                                              |                                                                                                                                                                                                                                                |                                                          | 42,675  |                |           |  | 59,289    |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Total assets                                             |         | $              | 1,265,165 |  |           | $          | 4,585,496  |  
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|LIABILITIES AND STOCKHOLDERS EQUITY
    (DEFICIT)                                                                                                                                                                             |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|Current liabilities:                                                                                                                                                                                                           |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               | Accounts payable                                                                                                                                                                                                                               |                                                          | $       | 63,064         |           |  | $         | 63,729     |           
|                                                                                                                                                                                                                               | Accrued liabilities                                                                                                                                                                                                                            |                                                          |         | 208,353        |           |  |           | 266,102    |           
|                                                                                                                                                                                                                               | Current liabilities subject to compromise                                                                                                                                                                                                      |                                                          |         |               |           |  |           | 5,497,207  |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Total current liabilities                                |         |                | 271,417   |  |           |            | 5,827,038  |  
|Long-term debt and accrued interest payable                                                                                                                                                                                    |                                                                                                                                                                                                                                                |                                                          | 536,791 |                |           |  |          |           
|Other long-term liabilities                                                                                                                                                                                                    |                                                                                                                                                                                                                                                |                                                          | 76,532  |                |           |  |          |           
|Long-term liabilities not subject
    to compromise                                                                                                                                                                            |                                                                                                                                                                                                                                                |                                                          |        |                |           |  | 75,242    |           
|Long-term liabilities subject to compromise                                                                                                                                                                                    |                                                                                                                                                                                                                                                |                                                          |        |                |           |  | 7,182     |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Total liabilities                                        |         |                | 884,740   |  |           |            | 5,909,462  |  
|Predecessor XO redeemable preferred stock: par
    value $0.01 per share, 25,000,000 shares authorized: 7,856,918
    shares issued and outstanding, aggregate liquidation preference
    of $1,693,293, subject to compromise |                                                                                                                                                                                                                                                |                                                          |        |                |           |  | 1,708,316 |           
|Commitments and contingencies Stockholders
    equity (deficit):                                                                                                                                                              |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               | Reorganized XO preferred stock: par value $0.01
    per share, 200,000,000 shares authorized: none issued                                                                                                                                      |                                                          |         |               |           |  |           |           |           
|                                                                                                                                                                                                                               | Reorganized XO warrants and common stock, par
    value $0.01 per share, 1,000,000,000 shares authorized:
    96,274,140 and 95,000,001 shares issued and outstanding on
    December 31, 2003 and January 1,
    2003, respectively           |                                                          |         | 482,440        |           |  |           |           |           
|                                                                                                                                                                                                                               | Reorganized XO subscription rights exercised,
    32,503,234 shares authorized: none issued and outstanding                                                                                                                                    |                                                          |         | 162,516        |           |  |           |           |           
|                                                                                                                                                                                                                               | Reorganized XO subscription rights receivable,
    32,503,234 shares authorized: none issued and outstanding                                                                                                                                   |                                                          |         | (162,516       | )         |  |           |           |           
|                                                                                                                                                                                                                               | Predecessor XO common stock, par value $0.02 per
    share, Class A, 1,000,000,000 shares authorized,
    331,033,219 shares issued and outstanding; Class B,
    120,000,000 shares authorized, 104,423,158 shares issued
    and outstanding |                                                          |         |               |           |  |           | 4,628,139  |           
|                                                                                                                                                                                                                               | Deferred compensation                                                                                                                                                                                                                          |                                                          |         | (839           | )         |  |           | (8,500     | )         
|                                                                                                                                                                                                                               | Accumulated other comprehensive income                                                                                                                                                                                                         |                                                          |         | 1,378          |           |  |           | 2,512      |           
|                                                                                                                                                                                                                               | Accumulated deficit                                                                                                                                                                                                                            |                                                          |         | (102,554       | )         |  |           | (7,654,433 | )         
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Total stockholders equity (deficit)                     |         |                | 380,425   |  |           |            | (3,032,282 | )
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                | Total liabilities and stockholders equity
    (deficit) |         | $              | 1,265,165 |  |           | $          | 4,585,496  |  
|                                                                                                                                                                                                                               |                                                                                                                                                                                                                                                |                                                          |         |                |           |  |           |           

See accompanying notes to the consolidated
financial statements.

F-4



---



##### 



XO Communications, Inc.



Consolidated Statements of
Operations


(Dollars in thousands, except for share and
per share data)


|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |           |           | 
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------ | ------------------------ | ---------- | -------------- | --------- | -------------- | ----------- | ------------ | - | - | ----------- | ------- | --------- | - | ----------- | --------- | --------- | 
|                                                                                                                                                                      |                                                              |                          |            |                |           |               
|                                                                                                                                                                      |                                                              |                          |            |                |           | Predecessor XO
|                                                                                                                                                                      |                                                              | Reorganized XO           |            |                |           |               
|                                                                                                                                                                      |                                                              | Year Ended               |            | Predecessor XO |           | Year Ended     |             | Year Ended  
|                                                                                                                                                                      |                                                              | December 31,             |            | January 1,     |           | December 31,   |             | December 31,
|                                                                                                                                                                      |                                                              | 2003                     |            | 2003           |           | 2002           |             | 2001        
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |             
|Revenue                                                                                                                                                               |                                                              | $                        | 1,110,483  |                |           | $              |            |              |   | $ | 1,259,853   |         |           | $ | 1,258,567   |          
|Costs and expenses:                                                                                                                                                   |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|                                                                                                                                                                      | Cost of service (excludes depreciation and
    amortization) |                          |            | 422,129        |           |                |             |             |   |   |             | 522,924 |           |   |             | 527,698   |          
|                                                                                                                                                                      | Selling, operating and general                               |                          |            | 679,286        |           |                |             |             |   |   |             | 765,853 |           |   |             | 1,008,887 |          
|                                                                                                                                                                      | Depreciation and amortization                                |                          |            | 109,308        |           |                |             |             |   |   |             | 699,806 |           |   |             | 1,162,671 |          
|                                                                                                                                                                      | Restructuring and asset write-downs                          |                          |            | 11,618         |           |                |             |             |   |   |             | 480,168 |           |   |             | 509,202   |          
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|                                                                                                                                                                      |                                                              | Total costs and expenses |            |                | 1,222,341 |                |             |              |  |   |             |         | 2,468,751 |   |             |           | 3,208,458 | 
|Loss from operations                                                                                                                                                  |                                                              |                          | (111,858   | )              |           |                |            |              |   |   | (1,208,898  | )       |           |   | (1,949,891  | )        
|Investment income (loss), net                                                                                                                                         |                                                              |                          | 46,152     |                |           |                |            |              |   |   | 16,278      |         |           |   | (15,843     | )        
|Interest expense, net (contractual interest was
    $501,118 for the year ended December 31, 2002)                                                                    |                                                              |                          | (36,848    | )              |           |                |            |              |   |   | (226,451    | )       |           |   | (465,401    | )        
|Gain on repurchase of debt                                                                                                                                            |                                                              |                          |           |                |           |                |            |              |   |   |            |         |           |   | 345,010     |          
|Reorganization gain (expense), net                                                                                                                                    |                                                              |                          |           |                |           |                | 3,032,282   |              |   |   | (91,121     | )       |           |   |            |          
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income before cumulative effect
    of accounting change                                                                                                   |                                                              |                          | (102,554   | )              |           |                | 3,032,282   |              |   |   | (1,510,192  | )       |           |   | (2,086,125  | )        
|Cumulative effect of accounting change                                                                                                                                |                                                              |                          |           |                |           |                |            |              |   |   | (1,876,626  | )       |           |   |            |          
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income                                                                                                                                                     |                                                              |                          | (102,554   | )              |           |                | 3,032,282   |              |   |   | (3,386,818  | )       |           |   | (2,086,125  | )        
|Recognition of preferred stock modification fee,
    net  reorganization item                                                                                        |                                                              |                          |           |                |           |                |            |              |   |   | 78,703      |         |           |   |            |          
|Gain on repurchases of preferred stock, net                                                                                                                           |                                                              |                          |           |                |           |                |            |              |   |   |            |         |           |   | 376,879     |          
|Preferred stock dividends and accretion of
    preferred stock redemption obligation, net (contractual dividend
    was $98,768 for the year ended December 31, 2002) |                                                              |                          |           |                |           |                |            |              |   |   | (42,247     | )       |           |   | (129,671    | )        
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income applicable to
    common shares                                                                                                                     |                                                              | $                        | (102,554   | )              |           | $              | 3,032,282   |              |   | $ | (3,350,362  | )       |           | $ | (1,838,917  | )        
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income per common share, basic
    and diluted:                                                                                                            |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income before cumulative effect
    of accounting change                                                                                                   |                                                              | $                        | (1.07      | )              |           | $              | 6.86        |              |   | $ | (3.42       | )       |           | $ | (5.16       | )        
|Cumulative effect of accounting change                                                                                                                                |                                                              |                          |           |                |           |                |            |              |   |   | (4.24       | )       |           |   |            |          
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income                                                                                                                                                     |                                                              |                          | (1.07      | )              |           |                | 6.86        |              |   |   | (7.66       | )       |           |   | (5.16       | )        
|Recognition of preferred stock modification fee,
    net  reorganization item                                                                                        |                                                              |                          |           |                |           |                |            |              |   |   | 0.18        |         |           |   |            |          
|Gain on repurchases of preferred stock, net                                                                                                                           |                                                              |                          |           |                |           |                |            |              |   |   |            |         |           |   | 0.93        |          
|Preferred stock dividends and accretion of
    preferred stock redemption obligation, net                                                                             |                                                              |                          |           |                |           |                |            |              |   |   | (0.10       | )       |           |   | (0.32       | )        
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Net (loss) income per common share, basic
    and diluted                                                                                                             |                                                              | $                        | (1.07      | )              |           | $              | 6.86        |              |   | $ | (7.58       | )       |           | $ | (4.55       | )        
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          
|Weighted average shares, basic and diluted                                                                                                                            |                                                              |                          | 95,632,859 |                |           |                | 441,964,342 |              |   |   | 441,964,342 |         |           |   | 403,882,956 |          
|                                                                                                                                                                      |                                                              |                          |            |                |           |                |             |              |   |   |             |         |           |   |             |          

See accompanying notes to consolidated financial
statements.

F-5



---



##### 



XO Communications, Inc.



Consolidated Statements of Stockholders
Equity (Deficit)


(Dollars in thousands, except share
data)


|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |         |            |  
|---------------------------- | ---------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------- | ---------- | ------------ | ----------- | ----------- | ------------- | ------------ | ----------- | --------- | ------- | ---------- | ----- | ------- | ------ | ----- | - | ------- | - | ------ | - | ---------- | - | ---------- | - | ---------- | ------- | ---------- | -
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |            
|                             |                                                                                          | Common Stock                                                                                                                                                        |             |            |              |             |             |               |              |            
|                             |                                                                                          |                                                                                                                                                                     |             |            |              | Accumulated |             |               |              |            
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             | Other         |              |             |           |        
|                             |                                                                                          | Shares                                                                                                                                                              |             |            |              |             |             | Comprehensive |              |             |           |        
|                             |                                                                                          |                                                                                                                                                                     |             |            |              | Deferred    |             | Income        |              | Accumulated |           |        
|Predecessor Company          |                                                                                          | Class A                                                                                                                                                             |             | Class B    |              | Amount      |             | Compensation  |              | (Loss)      |           | Deficit |            | Total
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |      
|Balance at December 31, 2000 |                                                                                          |                                                                                                                                                                     | 262,010,715 |            |              |             | 105,414,226 |               |              | $           | 4,392,646 |         |            | $     | (72,050 | )      |       | $ | (17,041 | ) |        | $ | (2,465,154 | ) |            | $ | 1,838,401  |        
|                             | Issuance of common and restricted stock
    in acquisitions                              |                                                                                                                                                                     |             | 11,211,416 |              |             |             |              |              |             |           | 29,055  |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            | 29,055  |           
|                             | Issuance of compensatory stock options                                                   |                                                                                                                                                                     |             |           |              |             |             |              |              |             |           | 2,551   |            |       |         | (2,551 | )     |   |         |  |        |   |            |  |            |   |            |         |           
|                             | Compensation attributable to stock options and
    restricted stock vesting              |                                                                                                                                                                     |             |           |              |             |             |              |              |             |           |        |            |       |         | 37,173 |       |   |         |  |        |   |            |  |            |   |            | 37,173  |           
|                             | Issuance of common stock through employee
    benefit plans                              |                                                                                                                                                                     |             | 11,939,685 |              |             |             |              |              |             |           | 30,899  |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            | 30,899  |           
|                             | Conversion of Class B common stock into
    Class A common stock                         |                                                                                                                                                                     |             | 991,068    |              |             |             | (991,068      | )            |             |           |        |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            |        |           
|                             | Conversion of 6 1/2% redeemable cumulative
    preferred stock into Class A common stock |                                                                                                                                                                     |             | 1,621,320  |              |             |             |              |              |             |           | 17,700  |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            | 17,700  |           
|                             | Issuance of common stock related to equity
    investment, net of offering costs         |                                                                                                                                                                     |             | 50,000,000 |              |             |             |              |              |             |           | 155,658 |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            | 155,658 |           
|                             | Comprehensive loss:                                                                      |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |         |           
|                             |                                                                                          | Net loss                                                                                                                                                            |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   | (2,086,125 | ) |            |         | (2,086,125 | )
|                             |                                                                                          | Gain on repurchases of preferred stock, net                                                                                                                         |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   | 376,879    |   |            |         | 376,879    |  
|                             |                                                                                          | Preferred stock dividends and accretion of
    preferred stock redemption obligation, net                                                                           |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   | (129,671   | ) |            |         | (129,671   | )
|                             |                                                                                          | Other comprehensive income  net
    unrealized holding gains and foreign currency
    translation adjustments                                                      |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   | 22,556 |   |            |   |           |   |            |         | 22,556     |  
|                             |                                                                                          | Realized net losses transferred to current period
    earnings                                                                                                      |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   | 4,891  |   |            |   |           |   |            |         | 4,891      |  
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        
|                             |                                                                                          | Total comprehensive loss                                                                                                                                            |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   |           |   |            |         | (1,811,470 | )
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        
|Balance at December 31, 2001 |                                                                                          |                                                                                                                                                                     | 337,774,204 |            |              |             | 104,423,158 |               |              | $           | 4,628,509 |         |            | $     | (37,428 | )      |       | $ | 10,406  |   |        | $ | (4,304,071 | ) |            | $ | 297,416    |        
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        
|                             | Compensation attributable to stock options and
    restricted stock vesting              |                                                                                                                                                                     |             |           |              |             |             |              |              |             |           |        |            |       |         | 28,928 |       |   |         |  |        |   |            |  |            |   |            | 28,928  |           
|                             | Issuance of common stock through employee
    benefit plans                              |                                                                                                                                                                     |             | 85,854     |              |             |             |              |              |             |           | 24      |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            | 24      |           
|                             | Conversion of 6 1/2% redeemable cumulative
    preferred stock into Class A common stock |                                                                                                                                                                     |             | 3,173      |              |             |             |              |              |             |           | 35      |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            | 35      |           
|                             | Conversion of Preferred Stock                                                            |                                                                                                                                                                     |             | 23,570     |              |             |             |              |              |             |           |        |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            |        |           
|                             | Refund of Employee Stock Purchase Plan funds
    withheld after cancellation (a)         |                                                                                                                                                                     |             |            |              |             |             |              |              |             |           | (429    | )          |       |         |       |       |   |         |  |        |   |            |  |            |   |            | (429    | )         
|                             | Cancellation of Craig McCaws Class A
    common stock                                   |                                                                                                                                                                     |             | (6,853,582 | )            |             |             |              |              |             |           |        |            |       |         |       |       |   |         |  |        |   |            |  |            |   |            |        |           
|                             | Comprehensive loss:                                                                      |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |         |           
|                             |                                                                                          | Net loss                                                                                                                                                            |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   | (3,386,818 | ) |            |         | (3,386,818 | )
|                             |                                                                                          | Recognition of preferred stock modification fee,
    net - reorganization item                                                                                      |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   | 78,703     |   |            |         | 78,703     |  
|                             |                                                                                          | Preferred stock dividends and accretion of
    preferred stock redemption obligation, net                                                                           |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   | (42,247    | ) |            |         | (42,247    | )
|                             |                                                                                          | Realized net losses and foreign currency
    translation adjustments transferred to current
    period earnings                                                     |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   | (7,894 | ) |            |   |           |   |            |         | (7,894     | )
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        
|                             |                                                                                          | Total comprehensive loss                                                                                                                                            |             |            |             |             |             |               |             |             |           |         |           |       |         |        |      |   |         |   |       |   |            |   |           |   |            |         | (3,358,256 | )
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        
|Balance at December 31, 2002 |                                                                                          |                                                                                                                                                                     | 331,033,219 |            |              |             | 104,423,158 |               |              |             | 4,628,139 |         |            |       | (8,500  | )      |       |   | 2,512   |   |        |   | (7,654,433 | ) |            |   | (3,032,282 | )      
|                             |                                                                                          | Cancellation of predecessor common sock, deferred
    compensation, accumulated deficit and accumulated other
    comprehensive income under Plan of Reorganization |             |            | (331,033,219 | )           |             |               | (104,423,158 | )           |           |         | (4,628,139 | )     |         |        | 8,500 |   |         |   | (2,512 | ) |            |   | 7,654,433  |   |            |         | 3,032,282  |  
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        
|                             |                                                                                          | Balance at January 1, 2003                                                                                                                                          |             |            |             |             |             |               |             |             |           | $       |           |       |         | $      |      |   |         | $ |       |   |            | $ |           |   |            | $       |           |  
|                             |                                                                                          |                                                                                                                                                                     |             |            |              |             |             |               |              |             |           |         |            |       |         |        |       |   |         |   |        |   |            |   |            |   |            |        



---



|    |                                                                                                                                                                                                              
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | In the latter half of 2001, the Companys
    Employee Stock Purchase Plan was cancelled; however employee
    salary deferrals continued in December 2001, and were
    subsequently refunded in early 2002.

See accompanying notes to consolidated financial
statements.

F-6



---



##### 



XO Communications, Inc.



Consolidated Statements of Stockholders
Equity


(Dollars in thousands, except share
data)


|                             |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |          |         | 
|---------------------------- | --------------------------------------------------------------------------------- | -------------- | ---------- | ------------------- | ---------- | ----------------------- | ------- | -------- | ------- | ----------- | ---------- | ------------- | - | ------------ | ------- | ------- | - | ------ | ----------- | ----------- | - | - | -------- | -------- | - | - | ---- | ---- | - | - | -------- | -------- | - | - | ----- | ----- | - | - | ------- | -------- | ------- | 
|                             |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |       
|                             |                                                                                   |                |            | Subscription Rights |            |                         |         |          |         |             |            | Accumulated   |   |             
|                             |                                                                                   | Common Stock   |            | Exercised           |            | Subscription Receivable |         |          |         |             |            | Other         |   |             
|                             |                                                                                   |                |            |                     |            |                         |         | Deferred |         | Accumulated |            | Comprehensive |   |             
|                             |                                                                                   | Shares         |            | Amount              |            | Shares                  |         | Amount   |         | Shares      |            | Amount        |   | Compensation |         | Deficit |   | Income |             | Total      
|                             |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |            
|Reorganized Company          |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |         
|                             | Balance at January 1, 2003                                                        |                |            |                    |            |                         | $       |         |         |             |            |              |   |              | $       |        |   |        |             |            |   |   | $        |         |   |   | $    |     |   |   | $        |         |   |   | $     |      |   |   | $       |         |        
|                             | Issuance of common stock under Plan of                                            |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |          |        
|                             |                                                                                   | Reorganization |            |                     | 95,000,001 |                         |         |          | 475,000 |             |            |               |  |              |         |         |  |        |             |             |  |   |          |          |  |   |      |      |  |   |          |          |  |   |       |       |  |   |         |          | 475,000 | 
|                             | Rights offering                                                                   |                |            |                    |            |                         |         |         |         |             |            | 32,503,234    |   |              |         | 162,516 |   |        |             | (32,503,234 | ) |   |          | (162,516 | ) |   |      |     |   |   |          |         |   |   |       |      |   |   |         |         |        
|                             | Issuance of common stock through employee benefit
    plans, net                  |                |            | 1,274,139           |            |                         |         | 7,440    |         |             |            |              |   |              |         |        |   |        |             |            |   |   |          |         |   |   |      | (839 | ) |   |          |         |   |   |       |      |   |   |         | 6,601    |        
|                             | Comprehensive loss:                                                               |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |          |        
|                             | Net loss                                                                          |                |            |                    |            |                         |         |         |         |             |            |              |   |              |         |        |   |        |             |            |   |   |          |         |   |   |      |     |   |   |          | (102,554 | ) |   |       |      |   |   |         | (102,554 | )      
|                             | Other comprehensive income - unrealized holding
    gains arising during the year |                |            |                    |            |                         |         |         |         |             |            |              |   |              |         |        |   |        |             |            |   |   |          |         |   |   |      |     |   |   |          |         |   |   |       | 1,378 |   |   |         | 1,378    |        
|                             |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |         
|                             | Total comprehensive loss                                                          |                |            |                    |            |                         |         |         |         |             |            |              |   |              |         |        |   |        |             |            |   |   |          |         |   |   |      |     |   |   |          |         |   |   |       |      |   |   |         | (101,176 | )      
|                             |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |         
|Balance at December 31, 2003 |                                                                                   |                | 96,274,140 |                     |            | $                       | 482,440 |          |         |             | 32,503,234 |               |   | $            | 162,516 |         |   |        | (32,503,234 | )           |   | $ | (162,516 | )        |   | $ | (839 | )    |   | $ | (102,554 | )        |   | $ | 1,378 |       |   | $ | 380,425 |         
|                             |                                                                                   |                |            |                     |            |                         |         |          |         |             |            |               |   |              |         |         |   |        |             |             |   |   |          |          |   |   |      |      |   |   |          |          |   |   |       |       |   |   |         |         

See accompanying notes to consolidated financial
statements.

F-7



---



##### 



XO Communications, Inc.



Consolidated Statements of Cash
Flows


(Dollars in thousands)


|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |           |  
|------------------------------------------------------------------------------------------------------ | -------------------------------------------------------- | -------------- | -------- | -------------- | - | ----------------------- | --------- | ---------- | - | - | ---------- | --------- | - | - | ---------- | --------- | -
|                                                                                                       |                                                          |                |          |                |   |                        
|                                                                                                       |                                                          | Reorganized XO |          |                |   | Predecessor XO         
|                                                                                                       |                                                          | Year Ended     |          | Predecessor XO |   | Year Ended December 31,
|                                                                                                       |                                                          | December 31,   |          | January 1,     |   |                        
|                                                                                                       |                                                          | 2003           |          | 2003           |   | 2002                    |           | 2001      
|                                                                                                       |                                                          |                |          |                |   |                         |           |           
|OPERATING ACTIVITIES:                                                                                  |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Net (loss) income                                                                                      |                                                          | $              | (102,554 | )              |   | $                       | 3,032,282 |            |   | $ | (3,386,818 | )         |   | $ | (2,086,125 | )        
|Adjustments to reconcile net (loss) income to net
    cash provided by (used in) operating activities: |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|                                                                                                       | Depreciation and amortization                            |                |          | 109,308        |   |                         |           |           |   |   |            | 699,806   |   |   |            | 1,162,671 |  
|                                                                                                       | Accrual of interest                                      |                |          | 36,791         |   |                         |           |           |   |   |            |          |   |   |            |          |  
|                                                                                                       | Stock-based compensation                                 |                |          | 708            |   |                         |           |           |   |   |            | 28,928    |   |   |            | 37,173    |  
|                                                                                                       | Non-cash gain on sale of investments                     |                |          | (27,224        | ) |                         |           |           |   |   |            |          |   |   |            |          |  
|                                                                                                       | Non-cash restructuring charges and asset
    write-downs |                |          | 6,765          |   |                         |           |           |   |   |            | 477,250   |   |   |            | 598,541   |  
|                                                                                                       | Non-cash reorganization expense, net                     |                |          |               |   |                         |           | (3,032,282 | ) |   |            | 89,448    |   |   |            |          |  
|                                                                                                       | Other income, gain on repurchases of
    debt, net       |                |          |               |   |                         |           |           |   |   |            |          |   |   |            | (345,010  | )
|                                                                                                       | Cumulative effect of accounting change                   |                |          |               |   |                         |           |           |   |   |            | 1,876,626 |   |   |            |          |  
|Changes in assets and liabilities, net of effects
    from acquisitions:                               |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|                                                                                                       | Accounts receivable                                      |                |          | 22,583         |   |                         |           |           |   |   |            | 85,514    |   |   |            | (43,254   | )
|                                                                                                       | Other assets                                             |                |          | 1,317          |   |                         |           |           |   |   |            | (21,572   | ) |   |            | (66,566   | )
|                                                                                                       | Accounts payable                                         |                |          | (7,568         | ) |                         |           |           |   |   |            |          |   |   |            |          |  
|                                                                                                       | Accrued liabilities                                      |                |          | (33,825        | ) |                         |           |           |   |   |            |          |   |   |            |          |  
|                                                                                                       | Other liabilities subject to compromise                  |                |          |               |   |                         |           |           |   |   |            | 195,904   |   |   |            |          |  
|                                                                                                       | Other liabilities not subject to compromise              |                |          |               |   |                         |           |           |   |   |            | (27,484   | ) |   |            | 181,693   |  
|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Net cash provided by (used in)
    operating activities                                                |                                                          |                | 6,301    |                |   |                         |          |            |   |   | 17,602     |           |   |   | (560,877   | )        
|INVESTING ACTIVITIES:                                                                                  |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Capital expenditures, net                                                                              |                                                          |                | (82,346  | )              |   |                         |          |            |   |   | (208,713   | )         |   |   | (1,554,752 | )        
|Net releases of pledged securities                                                                     |                                                          |                |         |                |   |                         |          |            |   |   | 3,161      |           |   |   | 150        |          
|Sales of marketable securities
    and investments                                                     |                                                          |                | 473,423  |                |   |                         |          |            |   |   | 364,069    |           |   |   | 2,912,454  |          
|Purchases of marketable securities
    and investments                                                 |                                                          |                | (238,041 | )              |   |                         |          |            |   |   | (103,935   | )         |   |   | (2,041,247 | )        
|Cash received from (paid for) divestitures
    (acquisitions)                                          |                                                          |                |         |                |   |                         |          |            |   |   | 3,000      |           |   |   | (25,203    | )        
|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Net cash provided by (used in)
    investing activities                                                |                                                          |                | 153,036  |                |   |                         |          |            |   |   | 57,582     |           |   |   | (708,598   | )        
|FINANCING ACTIVITIES:                                                                                  |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Proceeds from borrowings under senior secured
    credit facility and issuance of notes                |                                                          |                |         |                |   |                         |          |            |   |   |           |           |   |   | 1,142,500  |          
|Net proceeds from sale of common stock and
    modification of preferred stock agreement               |                                                          |                |         |                |   |                         |          |            |   |   |           |           |   |   | 248,657    |          
|Proceeds from issuance of common stock under
    employee benefit plans                                |                                                          |                | 6,452    |                |   |                         |          |            |   |   |           |           |   |   | 30,899     |          
|Repurchases of senior notes and redeemable
    preferred stock                                         |                                                          |                |         |                |   |                         |          |            |   |   |           |           |   |   | (290,307   | )        
|Repayments of capital lease and
    other obligations                                                  |                                                          |                | (1,267   | )              |   |                         |          |            |   |   | (6,079     | )         |   |   | (44,124    | )        
|Dividends paid on convertible preferred stock                                                          |                                                          |                |         |                |   |                         |          |            |   |   |           |           |   |   | (53,778    | )        
|Costs incurred in connection with financing
    activities                                             |                                                          |                |         |                |   |                         |          |            |   |   |           |           |   |   | (14,200    | )        
|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Net cash (used in) provided by
    financing activities                                                |                                                          |                | 5,185    |                |   |                         |          |            |   |   | (6,079     | )         |   |   | 1,019,647  |          
|Effect of exchange rate changes on cash                                                                |                                                          |                |         |                |   |                         |          |            |   |   | (1,256     | )         |   |   | 3,013      |          
|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Net increase (decrease) in cash and
    cash equivalents                                               |                                                          |                | 164,522  |                |   |                         |          |            |   |   | 67,849     |           |   |   | (246,815   | )        
|Cash and cash equivalents, beginning of year                                                           |                                                          |                | 314,038  |                |   |                         | 314,038   |            |   |   | 246,189    |           |   |   | 493,004    |          
|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          
|Cash and cash equivalents, end of year                                                                 |                                                          | $              | 478,560  |                |   | $                       | 314,038   |            |   | $ | 314,038    |           |   | $ | 246,189    |          
|                                                                                                       |                                                          |                |          |                |   |                         |           |            |   |   |            |           |   |   |            |          

See accompanying notes to consolidated financial
statements.

F-8



---



##### 



XO Communications, Inc.

Notes to Consolidated Financial
Statements

December 31, 2003, 2002 and
2001


1.  ORGANIZATION AND DESCRIPTION OF
BUSINESS



| |         
| | --------
| | Overview

XO Communications Inc., a Delaware corporation
(XO Parent), through its subsidiaries, owns and
operates an integrated metropolitan and nationwide fiber optic
network that provides broadband communication services, local
and long distance voice communication services and a wide array
of data and integrated data services to business customers in
many United States markets. Voice services include local and
long distance services, calling card and interactive voice
response systems. Data services include Internet access, private
data networking and hosting services. XO Parent, through its
subsidiaries, also offers integrated combined voice and data
services in flat rate bundled packages.



| |             
| | ------------
| | Organization

The consolidated financial statements include the
accounts and activities of XO Parent, and its subsidiaries
(collectively referred to as the Company or
XO). As further discussed in Note 2, on
June 17, 2002 (the Petition Date), XO Parent
filed a voluntary petition for relief under Chapter 11 of
the United States Bankruptcy Code (the Bankruptcy
Code) with the United States Bankruptcy Court for the
Southern District of New York (the Bankruptcy
Court). On January 16, 2003 (the Effective
Date), XO Parent emerged from the Bankruptcy Court
proceedings pursuant to the terms of its third amended plan of
reorganization (the Plan of Reorganization).
Accordingly, the accompanying consolidated financial statements
have been prepared in accordance with Statement of Position
90-7, Financial Reporting by Entities in Reorganization
under the Bankruptcy Code, (SOP 90-7). As
discussed in Note 3, the Company implemented fresh start
accounting under the provisions of SOP 90-7. Under the fresh
start accounting provisions of SOP 90-7, the fair value of the
reorganized Company was allocated to its assets and liabilities,
and its accumulated deficit was eliminated. Predecessor
financial statements are not comparable to the financial
statements of the Reorganized Company.

On February 19, 2004, the United States
Bankruptcy Court for the Southern District of New York approved
the Asset Purchase Agreement by and between XO Parent and
Allegiance Telecom, Inc., or Allegiance, pursuant to which XO
Parent has agreed to acquire substantially all of the assets of
Allegiance for approximately $311.0 million in cash and
approximately 45.4 million shares of XOs common
stock. XO anticipates that the acquisition of the Allegiance
assets will close during the third quarter of 2004. See Note 22
for additional disclosure.

2.  REORGANIZATION

On the Effective Date, XO Parent consummated its
Plan of Reorganization and emerged from its Chapter 11
reorganization proceedings with a significantly restructured
balance sheet. The consummation of the Plan of Reorganization
resulted in the following changes in XO Parents capital
structure:



| |   |                                                                                                                                                                                                                                   
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The conversion of $1.0 billion of loans
    under its pre-petition secured credit facility into
    $500.0 million of outstanding principal amount under an
    amended and restated credit agreement (the Credit
    Facility);
|
| |  | The extinguishment of all amounts due under its
    pre-petition unsecured senior and subordinated notes and certain
    general unsecured obligations;                                                                           
|
| |  | The cancellation of all outstanding shares and
    interests in its pre-petition preferred stock and pre-petition
    common stock; and                                                                                           

F-9



---



##### 





| |   |                                                                                                                                                                                                                                                    
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The issuance of approximately 95.0 million
    shares of common stock of the reorganized Company (New
    Common Stock) and warrants to purchase up to an additional
    23.75 million shares of New Common Stock of the reorganized
    Company.

The following table shows the distribution each
party of interest impacted by XO Parents bankruptcy was
entitled to. As certain claims are still being reviewed by the
Bankruptcy Court, proportional distributions have not yet been
made and cannot be made until the court rules (dollars in
thousands except share data).

|                                          |  |               |            |          |  |          |           |          |  |          |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|----------------------------------------- |  | ------------- | ---------- | -------- |  | -------- | --------- | -------- |  | -------- | --------- | ---- |  |  | --------- |  |  | - | ------- |  |  | - | ----- | 
|                                          |  | Shares of New |            |          |  |          |           |          |  |          |           |     
|                                          |  | Common        |            | Series A |  | Series B |           | Series C |  | Credit   |           |     
|Party of Interest                         |  | Stock         |            | Warrants |  | Warrants |           | Warrants |  | Facility |           | Cash
|                                          |  |               |            |          |  |          |           |          |  |          |           |     
|$1 Billion senior secured credit facility |  |               | 90,250,001 |          |  |          |          |          |  |          |          |      |  |  |          |  |  | $ | 500,000 |  |  | $ |      | 
|Senior unsecured notes                    |  |               | 4,715,344  |          |  |          | 9,430,689 |          |  |          | 7,073,015 |      |  |  | 7,073,015 |  |  |   |        |  |  |   | 1,600 | 
|Subordinated notes                        |  |               |           |          |  |          |          |          |  |          |          |      |  |  |          |  |  |   |        |  |  |   | 616   | 
|General unsecured creditors               |  |               | 34,656     |          |  |          | 69,309    |          |  |          | 51,980    |      |  |  | 51,980    |  |  |   |        |  |  |   | 403   | 
|                                          |  |               |            |          |  |          |           |          |  |          |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Total entitlement                         |  |               | 95,000,001 |          |  |          | 9,499,998 |          |  |          | 7,124,995 |      |  |  | 7,124,995 |  |  | $ | 500,000 |  |  | $ | 2,619 | 
|Not yet distributed                       |  |               | 1,230,638  |          |  |          | 2,461,743 |          |  |          | 1,846,151 |      |  |  | 1,846,151 |  |  |   |        |  |  |   | 1,612 | 
|                                          |  |               |            |          |  |          |           |          |  |          |           |      |  |  |           |  |  |   |         |  |  |   |       | 
|Total issued or paid                      |  |               | 93,769,363 |          |  |          | 7,038,255 |          |  |          | 5,278,844 |      |  |  | 5,278,844 |  |  | $ | 500,000 |  |  | $ | 1,007 | 
|                                          |  |               |            |          |  |          |           |          |  |          |           |      |  |  |           |  |  |   |         |  |  |   |       | 



---

See notes 13 and 14 for further disclosure on our
equity and debt instruments

In accordance with the Plan of Reorganization, XO
Parent issued to certain holders of claims of interest in XO
Parent, who held such claims and/or interests as of the
November 15, 2002 record date, rights to subscribe for up
to 40.0 million shares of New Common Stock, at $5.00 per
share, through a rights offering, (the Rights
Offering). The first stage of the Rights Offering closed
on November 14, 2003 whereby $162.5 million in cash
for 32.5 million shares was placed into escrow until the
conclusion of the second stage. On January 5, 2004, XO
Parent concluded the second stage of its Rights Offering. An
aggregate of 39.7 million shares were issued in the
offering, yielding net proceeds of $197.6 million. These
proceeds were used to pay down the Credit Facility. The
following unaudited pro forma information shows the impact to
XOs historical balance sheet as of December 31, 2003
as a result of these transactions (dollars in thousands):

|                                                         |  |              |           |             |  |              |          |   |  |   |           | 
|-------------------------------------------------------- |  | ------------ | --------- | ----------- |  | ------------ | -------- | - |  | - | --------- | 
|                                                         |  |              |           | Rights      |  | Pro forma   
|                                                         |  | December 31, |           | Offering    |  | December 31,
|                                                         |  | 2003         |           | Adjustments |  | 2003        
|                                                         |  |              |           |             |  |             
|                                                         |  |              |           | (Unaudited) |  | (Unaudited) 
|Long-term debt                                           |  | $            | 536,791   |             |  | $            | (197,612 | ) |  | $ | 339,179   | 
|Total liabilities                                        |  |              | 884,740   |             |  |              | (197,612 | ) |  |   | 687,128   | 
|Total stockholders equity (deficit)                     |  |              | 380,425   |             |  |              | 197,612  |   |  |   | 578,037   | 
|                                                         |  |              |           |             |  |              |          |   |  |   |           | 
|Total liabilities and stockholders equity
    (deficit) |  | $            | 1,265,165 |             |  | $            |         |   |  | $ | 1,265,165 | 
|                                                         |  |              |           |             |  |              |          |   |  |   |           | 

3.  FRESH START ACCOUNTING

The Company adopted the fresh start accounting
provisions (fresh start) of SOP 90-7 during the
first quarter of 2003. Under SOP 90-7, the implementation of
fresh start reporting is triggered in part by the emergence of
XO Parent from its Chapter 11 proceedings. Although the
Effective Date of the Plan of Reorganization was
January 16, 2003, due to the immateriality of the results
of operations for the period between January 1, 2003 and
the Effective Date, the Company accounted for the consummation
of the Plan of Reorganization as if it had occurred on
January 1, 2003 and implemented fresh start reporting as of
that date. Fresh start requires that the Company adjust the
historical cost of its assets and liabilities to their fair
value. The fair value of the reorganized Company, or the
reorganization value, of approximately $1.3 billion was
determined based on the negotiated sum of the reorganized
Companys liabilities and equity that were issued and
outstanding after final negotiations and Bankruptcy Court
approval. These included $500.0 million of debt outstanding
under the Credit Agreement, $475.0 million of New Common
Stock, and $373.1 million of other liabilities that were
not eliminated or discharged under the Plan of Reorganization.

F-10



---



##### 



Fresh start requires that the reorganization
value be allocated to the entitys net assets in conformity
with procedures specified by SFAS No. 141, Business
Combinations, (SFAS No. 141). The Company
engaged an independent appraiser to assist in the allocation of
the reorganization value to the reorganized Companys
assets and liabilities by determining the fair market value of
its property and equipment, intangible assets and certain
obligations related to its facility leases. A reconciliation of
the adjustments to be recorded in connection with effecting the
Plan of Reorganization and adopting fresh start accounting is
presented below (dollars in thousands):

|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |         |           |           | 
|--------------------------------------------------------------------- | ------------------------- | ----------------------------------------- | -------------------------------------------------------- | -------------- | ---------- | -------------- | ---------- | --------------- | ---------- | ---------- | ---------- | ------- | ---------- | ---------- | ------- | ------- | --------- | --------- | 
|                                                                      |                           | Predecessor XO                            |                                                          |                |            | Fresh Start    |            | Reorganized XO 
|                                                                      |                           | December 31, 2002                         |                                                          | Reorganization |            | Adjustments(d) |            | January 1, 2003
|                                                                      |                           |                                           |                                                          |                |            |                |            |                
|ASSETS                                                                |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|Current assets:                                                       |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      | Cash and cash equivalents |                                           | $                                                        | 314,038        |            |                | $          |                |            |            | $          |        |            |            | $       | 314,038 |          
|                                                                      | Marketable securities     |                                           |                                                          | 246,945        |            |                |            |                |            |            |            |        |            |            |         | 246,945 |          
|                                                                      | Accounts receivable, net  |                                           |                                                          | 116,541        |            |                |            |                |            |            |            |        |            |            |         | 116,541 |          
|                                                                      | Other current assets      |                                           |                                                          | 83,480         |            |                |            |                |            |            |            | (48,288 | )          |            |         | 35,192  |          
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           | Total current assets                      |                                                          |                | 761,004    |                |            |                 |           |            |            |         | (48,288    | )          |         |         | 712,716   |          
|Property and equipment, net                                           |                           |                                           | 2,780,589                                                |                |            |                |           |                 |            |            | (2,304,001 | )       |            |            | 476,588 |        
|Broadband wireless licenses and other
    intangibles, net            |                           |                                           | 984,614                                                  |                |            |                |           |                 |            |            | (848,936   | )       |            |            | 135,678 |        
|Other assets, net                                                     |                           |                                           | 59,289                                                   |                |            |                |           |                 |            |            | (36,181    | )       |            |            | 23,108  |        
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           | Total assets                              |                                                          | $              | 4,585,496  |                |            | $               |           |            |            | $       | (3,237,406 | )          |         | $       | 1,348,090 |          
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|LIABILITIES AND STOCKHOLDERS
    (DEFICIT) EQUITY                    |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|Current liabilities:                                                  |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           | Accounts payable                          |                                                          | $              | 63,729     |                |            | $               |           |            |            | $       | 3,539      |            |         | $       | 67,268    |          
|                                                                      |                           | Accrued liabilities                       |                                                          |                | 266,102    |                |            |                 |           |            |            |         | (30,910    | )          |         |         | 235,192   |          
|                                                                      |                           | Current liabilities subject to compromise |                                                          |                | 5,497,207  |                |            |                 | (5,466,667 | )(a)       |            |         | (30,540    | )          |         |         |          |          
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|Total current liabilities                                             |                           |                                           | 5,827,038                                                |                |            |                | (5,466,667 | )               |            |            | (57,911    | )       |            |            | 302,460 |        
|Long-term debt                                                       |                           |                                           |                                                         |                |            |                | 500,000    | (b)             |            |            |           |         |            |            | 500,000 |        
|Other long-term liabilities                                           |                           |                                           | 75,242                                                   |                |            |                |           |                 |            |            | (4,612     | )       |            |            | 70,630  |        
|Long-term liabilities subject to compromise                           |                           |                                           | 7,182                                                    |                |            |                |           |                 |            |            | (7,182     | )       |            |            |        |        
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           |                                           | Total liabilities                                        |                |            | 5,909,462      |            |                 |            | (4,966,667 | )          |         |            | (69,705    | )       |         |           | 873,090   | 
|Predecessor XO redeemable preferred
    stock  subject to compromise |                           |                                           | 1,708,316                                                |                |            |                | (1,708,316 | )(a)            |            |            |           |         |            |            |        |        
|Stockholders (deficit) equity:                                       |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           | Predecessor XO common stock               |                                                          |                | 4,628,139  |                |            |                 |           |            |            |         | (4,628,139 | )          |         |         |          |          
|                                                                      |                           | Reorganized XO common stock and warrants  |                                                          |                |           |                |            |                 | 475,000    | (c)        |            |         |           |            |         |         | 475,000   |          
|                                                                      |                           | Deferred compensation                     |                                                          |                | (8,500     | )              |            |                 |           |            |            |         | 8,500      |            |         |         |          |          
|                                                                      |                           | Accumulated other comprehensive income    |                                                          |                | 2,512      |                |            |                 |           |            |            |         | (2,512     | )          |         |         |          |          
|                                                                      |                           | Accumulated deficit                       |                                                          |                | (7,654,433 | )              |            |                 | 6,199,983  | (e)        |            |         | 1,454,450  |            |         |         |          |          
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           |                                           | Total stockholders (deficit) equity                     |                |            | (3,032,282     | )          |                 |            | 6,674,983  |            |         |            | (3,167,701 | )(e)    |         |           | 475,000   | 
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        
|                                                                      |                           |                                           | Total liabilities and stockholders
    (deficit) equity |                | $          | 4,585,496      |            |                 | $          |           |            |         | $          | (3,237,406 | )       |         | $         | 1,348,090 | 
|                                                                      |                           |                                           |                                                          |                |            |                |            |                 |            |            |            |         |            |            |         |        



---



|    |                                                                                                                                                                                                                                                                                                                                                                                                 
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | To record the discharge of pre-petition
    indebtedness, including a $1.0 billion credit facility,
    $4.2 billion of senior and convertible subordinated notes,
    $245.2 million of accrued interest, and the elimination of
    $1.7 billion of pre-petition redeemable preferred stock and
    $50.6 million of accrued dividends, all in accordance with
    the Plan of Reorganization.



|    |                                                                                                                   
|--- | ------------------------------------------------------------------------------------------------------------------
|(b) | To record the outstanding principal under the
    Credit Agreement, in accordance with the Plan of Reorganization.



|    |                                                                                                                                                                                                                          
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(c) | To record the issuance of 95.0 million
    shares of New Common Stock and warrants in accordance with the
    Plan of Reorganization. Participation in the Rights Offering was
    recorded in the first quarter of 2004.



|    |                                                                                                                                    
|--- | -----------------------------------------------------------------------------------------------------------------------------------
|(d) | To adjust the carrying value of assets,
    liabilities and stockholders equity to fair value, in
    accordance with fresh start.



|    |                                                                                                  
|--- | -------------------------------------------------------------------------------------------------
|(e) | Net reorganization gain on January 1, 2003
    consisted of the following (dollars in thousands):

|                                                                               |             |   |            |   | 
|------------------------------------------------------------------------------ | ----------- | - | ---------- | - | 
|Net gain resulting from reorganization of debt,
    preferred stock and equity |             | $ | 6,199,983  |  
|Net loss resulting from fresh start fair value
    adjustments to assets and   |             |   | (3,167,701 | )
|                                                                               |             |   |            |  
|                                                                               | liabilities |   |            |   | 
|Total reorganization gain, net                                                 |             | $ | 3,032,282  |  
|                                                                               |             |   |            |  

F-11



---



##### 



4.  ACCOUNTING IMPACT OF CHAPTER 11
FILING

Liabilities subject to compromise reflected in
the accompanying consolidated financial statements for
Predecessor XO and the XO Parent stand-alone financial
statements represent the liabilities of XO Parent incurred prior
to the Petition Date. In accordance with SOP 90-7, liabilities
subject to compromise were recorded at the amount allowed on
pre-petition claims in the Chapter 11 proceedings. Other
obligations that were not subject to compromise retained their
historical balance sheet classifications and amounts.
Liabilities subject to compromise consisted of the following as
of December 31, 2002 (dollars in thousands):

|                                                          |                                           |   |           |           | 
|--------------------------------------------------------- | ----------------------------------------- | - | --------- | --------- | 
|Long-term debt                                            |                                           | $ | 5,165,718 |          
|Accrued interest and preferred
    stock dividends        |                                           |   | 295,820   |          
|Pre-petition accounts payable and
    accrued liabilities |                                           |   | 33,640    |          
|Capital lease obligations                                 |                                           |   | 9,211     |          
|                                                          |                                           |   |           |          
|Total liabilities subject to compromise                   |                                           |   | 5,504,389 |          
|Less: long-term liabilities subject
    to compromise     |                                           |   | 7,182     |          
|                                                          |                                           |   |           |          
|                                                          | Current liabilities subject to compromise |   | $         | 5,497,207 | 
|                                                          |                                           |   |           |          

In order to record its debt instruments at the
amount allowed by the Bankruptcy Court in accordance with SOP
90-7, as of the Petition Date, XO Parent wrote off all of its
debt issuance costs and discounts related to debt (collectively
the Deferred Financing Fees) as a component of
reorganization expense. Reorganization expense also included
professional fees incurred in connection with the
Chapter 11 proceedings, as well as gains or penalties from
the settlement or rejection of liabilities subject to compromise
and the net gains from the investment termination payment
received as a settlement during the bankruptcy process.
Reorganization expenses for the year ended December 31,
2002 consisted of the following (dollars in thousands):

|                                                                                   |                                   |   |         |        | 
|---------------------------------------------------------------------------------- | --------------------------------- | - | ------- | ------ | 
|Net loss from the settlement or rejection of
    liabilities subject to compromise |                                   | $ | 14,916  |       
|Net gain from investment termination payment                                       |                                   |   | (16,667 | )     
|Deferred Financing Fees                                                            |                                   |   | 56,270  |       
|Professional fees                                                                  |                                   |   | 36,602  |       
|                                                                                   |                                   |   |         |       
|                                                                                   | Total reorganization expense, net |   | $       | 91,121 | 
|                                                                                   |                                   |   |         |       

Under SOP 90-7, XO Parent was required to accrue
interest expense during the Chapter 11 proceedings only to
the extent that such interest was expected to be paid pursuant
to the proceedings. Under the Plan of Reorganization, there were
no cash payments of interest on the loans outstanding under the
$1.0 billion pre-petition credit facility or XO
Parents unsecured notes. Therefore, XO Parent ceased
accruing interest on the pre-petition credit facility and on its
unsecured notes from the Petition Date through the Effective
Date.

In accordance with SOP 90-7, XO Parent recorded
its preferred stock at the amount allowed by the Bankruptcy
Court. Accordingly, as of the Petition Date, XO Parent
recognized a gain equal to the remaining $81.5 million
unamortized balance of a deferred modification fee and wrote off
all issuance costs and discounts related to its preferred stock,
which resulted in a charge of $2.8 million. In addition,
the Company stopped accruing preferred stock dividends
subsequent to the Petition Date.

F-12



---



##### 



XO Parent Stand-Alone Financial
Statements

In accordance with SOP 90-7, stand-alone
financial statements of XO Parent are presented below. Such
financial statements have been prepared using standards
consistent with the Companys consolidated financial
statements without eliminating intercompany transactions and
without consolidating controlled subsidiaries (dollars in
thousands).

XO Communications, Inc.

(XO Parent)


Debtor in Possession


Stand-Alone Balance Sheet


As of December 31, 2002


(Unaudited)


|                                                                                         |                       |                                                |           |            |           | 
|---------------------------------------------------------------------------------------- | --------------------- | ---------------------------------------------- | --------- | ---------- | --------- | 
|ASSETS                                                                                   |                       |                                                |           |           
|Current assets:                                                                          |                       |                                                |           |           
|                                                                                         | Pledged securities    |                                                | $         | 1,100      |          
|                                                                                         | Other current assets  |                                                |           | 66,764     |          
|                                                                                         |                       |                                                |           |           
|                                                                                         |                       | Total current assets                           |           |            | 67,864    | 
|Property and equipment, net                                                              |                       |                                                | 65,654    |           
|Broadband wireless licenses, net                                                         |                       |                                                | 67,039    |           
|Other intangibles, net                                                                   |                       |                                                | 79,711    |           
|Investment in and notes receivable from
    subsidiaries, net                            |                       |                                                | 8,542,749 |           
|Other assets, net                                                                        |                       |                                                | 43,638    |           
|                                                                                         |                       |                                                |           |           
|                                                                                         |                       | Total assets                                   |           | $          | 8,866,655 | 
|                                                                                         |                       |                                                |           |           
|LIABILITIES AND
    STOCKHOLDERS EQUITY                                                 |                       |                                                |           |           
|Current liabilities not subject to compromise                                            |                       | $                                              | 50,422    |           
|Debt and accrued interest payable to subsidiary
    subject to compromise                |                       |                                                | 620,389   |           
|Current liabilities subject to compromise                                                |                       |                                                | 5,497,207 |           
|                                                                                         |                       |                                                |           |           
|                                                                                         |                       | Total current liabilities                      |           |            | 6,168,018 | 
|Long-term liabilities not subject
    to compromise                                      |                       |                                                | 62,633    |           
|Long-term liabilities subject to compromise                                              |                       |                                                | 7,182     |           
|                                                                                         |                       |                                                |           |           
|                                                                                         |                       | Total liabilities                              |           |            | 6,237,833 | 
|Redeemable preferred stock held by and payable to
    a subsidiary subject to compromise |                       |                                                | 514,640   |           
|Redeemable preferred stock subject
    to compromise                                     |                       |                                                | 1,708,316 |           
|Stockholders equity:                                                                    |                       |                                                |           |           
|                                                                                         | Common stock          |                                                |           | 4,628,139  |          
|                                                                                         | Deferred compensation |                                                |           | (8,149     | )        
|                                                                                         | Accumulated deficit   |                                                |           | (4,214,124 | )        
|                                                                                         |                       |                                                |           |           
|                                                                                         |                       | Total stockholders equity                     |           |            | 405,866   | 
|                                                                                         |                       |                                                |           |           
|                                                                                         |                       | Total liabilities and
    stockholders equity |           | $          | 8,866,655 | 
|                                                                                         |                       |                                                |           |           

F-13



---



##### 



XO Communications, Inc.

(XO Parent)


Debtor in Possession


Stand-Alone Statement of Operations


(Unaudited)


|                                                                               |                                                                         |                          |          |        |         | 
|------------------------------------------------------------------------------ | ----------------------------------------------------------------------- | ------------------------ | -------- | ------ | ------- | 
|                                                                               |                                                                         | Period from the         
|                                                                               |                                                                         | Petition Date of June   
|                                                                               |                                                                         | 17, 2002 through        
|                                                                               |                                                                         | December 31, 2002       
|                                                                               |                                                                         |                         
|Revenue                                                                        |                                                                         | $                        |         |       
|Costs and expenses:                                                            |                                                                         |                          |          |       
|                                                                               | Selling, operating, and general (excludes stock
    based compensation) |                          |          | 75,000 |        
|                                                                               | Stock-based compensation                                                |                          |          | 12,352 |        
|                                                                               | Depreciation and amortization                                           |                          |          | 47,584 |        
|                                                                               |                                                                         |                          |          |       
|                                                                               |                                                                         | Total costs and expenses |          |        | 134,936 | 
|Loss from operations                                                           |                                                                         |                          | (134,936 | )     
|Reorganization expense, net                                                    |                                                                         |                          | (91,121  | )     
|Interest income on notes receivable
    from subsidiaries                      |                                                                         |                          | 286,202  |       
|Interest expense                                                               |                                                                         |                          | (3,468   | )     
|                                                                               |                                                                         |                          |          |       
|Net income                                                                     |                                                                         |                          | 56,677   |       
|Recognition of preferred stock modification fee,
    net - reorganization item |                                                                         |                          | 78,703   |       
|                                                                               |                                                                         |                          |          |       
|Net income applicable to common shares                                         |                                                                         | $                        | 135,380  |       
|                                                                               |                                                                         |                          |          |       

XO Communications, Inc.

(XO Parent)


Debtor in Possession


Stand-Alone Statement of Cash Flows


(Unaudited)


|                                                         |                                                           |                   |        |          |  
|-------------------------------------------------------- | --------------------------------------------------------- | ----------------- | ------ | -------- | -
|                                                         |                                                           | Period From the  
|                                                         |                                                           | Petition Date of 
|                                                         |                                                           | June 17, 2002    
|                                                         |                                                           | through          
|                                                         |                                                           | December 31, 2002
|                                                         |                                                           |                  
|OPERATING ACTIVITIES:                                    |                                                           |                   |        |         
|Net income                                               |                                                           | $                 | 56,677 |         
|Adjustments for non-cash items:                          |                                                           |                   |        |         
|                                                         | Depreciation and amortization                             |                   |        | 47,584   |  
|                                                         | Reorganization expense                                    |                   |        | 91,121   |  
|                                                         | Stock-based compensation                                  |                   |        | 12,352   |  
|                                                         | Interest income on notes receivable
    from subsidiaries |                   |        | (286,202 | )
|                                                         | Interest expense                                          |                   |        | 3,468    |  
|Changes in assets and liabilities:                       |                                                           |                   |        |         
|                                                         | Notes receivable from subsidiaries, net                   |                   |        | 75,000   |  
|                                                         |                                                           |                   |        |         
|Net cash used in operating activities                    |                                                           |                   |       |         
|Net increase (decrease) in cash and
    cash equivalents |                                                           |                   |       |         
|Cash and cash equivalents, beginning of
    the period   |                                                           |                   |       |         
|                                                         |                                                           |                   |        |         
|Cash and cash equivalents, end of period                 |                                                           | $                 |       |         
|                                                         |                                                           |                   |        |         

F-14



---



##### 





|   |                                               
|-- | ----------------------------------------------
|5. | SUMMARY OF SIGNIFICANT ACCOUNTING
    POLICIES

(a) Review
of Significant Accounting Policies

As discussed in Note 3, the Company adopted fresh
start as of January 1, 2003, creating, in substance, per
SOP 90-7, a new reporting entity. The reorganized Company has
adopted the policy of expensing customer installation costs and
internal labor directly associated with network construction in
the period in which the costs are incurred as this labor effort
is not specific to any large segregated project, but rather to
ordinary course business operations. The predecessor Company
capitalized and amortized these costs. In accordance with SOP
90-7, the reorganized Company was also required to implement
newly issued accounting pronouncements that would require
adoption within twelve months of applying fresh start.

(b) Principles
of Consolidation

The Companys consolidated financial
statements include all of the assets, liabilities and results of
operations of subsidiaries in which the Company has a
controlling interest. All inter-company accounts and
transactions among consolidated entities have been eliminated.

(c) Preparation
of Consolidated Financial Statements

The preparation of consolidated financial
statements in conformity with accounting principles generally
accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the date of the consolidated financial statements
and the reported amounts of revenue and expenses during the
reporting period. Management periodically assesses the accuracy
of these estimates and assumptions. Actual results could differ
from those estimates.

Certain reclassifications have been made to prior
period amounts in order to conform to the current year
presentation. Such reclassifications had no effect on net loss
or total stockholders equity.



| |                                 
| | --------------------------------
| | (d) Adoption of SFAS
    No. 145

Effective January 1, 2003, the Company
adopted SFAS No. 145, Rescission of the Financial
Accounting Standards Board Statements No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical
Corrections as of April 2002 (SFAS
No. 145), which eliminates the requirement to report
material gains or losses from debt extinguishments as an
extraordinary item, net of any applicable income tax effect, in
an entitys statement of operations. SFAS No. 145
instead requires that a gain or loss recognized from a debt
extinguishment be classified as an extraordinary item only when
the extinguishment meets the criteria of both unusual in
nature and infrequent in occurrence as
prescribed under APB Opinion No. 30, Reporting the
Results of Operations  Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual
and Infrequently Occurring Events and Transactions
(APB No. 30). Upon adopting SFAS No. 145,
the Company reclassified a 2001 $345.0 million gain from
debt repurchases from extraordinary to recurring.



| |                              
| | -----------------------------
| | (e) Cash and Cash Equivalents

The Company considers all highly liquid
investments with maturities of three months or less at the time
of purchase to be cash equivalents. Cash equivalents consist
primarily of money market accounts that are available on demand.
The carrying amount of these instruments approximates fair value
due to their short maturities.



| |                          
| | -------------------------
| | (f) Marketable Securities

Substantially all of the Companys
marketable securities currently consist of investments in
publicly traded companies. The Company classifies investments in
equity securities as available-for-sale and records such
investments at fair value. The fair values are based on quoted
market prices. Investments in debt

F-15



---



##### 



securities are recorded at cost, which
approximates fair value, as the debt trades in a thin market.
Unrealized gains and losses on available-for-sale marketable
securities are reported as a separate component of comprehensive
income. Realized gains and losses for available-for-sale
securities are recognized in investment income.




| |                      
| | ---------------------
| | (g) Long-Lived Assets

Long-lived assets include property and equipment,
broadband wireless licenses, and intangible assets to be held
and used. Long-lived assets, excluding intangible assets with
indefinite useful lives, are reviewed for impairment whenever
events or changes in circumstances indicate that the carrying
amount should be addressed pursuant to SFAS No. 144,
Accounting for the Impairment or Disposal of Long-Lived
Assets, (SFAS No. 144). The criteria for
determining impairment for such long-lived assets to be held and
used is determined by comparing the carrying value of these
long-lived assets to managements best estimate of future
undiscounted cash flows expected to result from the use of the
assets. The Company believes that no impairment existed under
SFAS No. 144 as of December 31, 2003. In the event
that there are changes in the planned use of the Companys
long-lived assets or its expected future undiscounted cash flows
are reduced significantly, the Companys assessment of its
ability to recover the carrying value of these assets under SFAS
No. 144 could change.

Intangible assets with indefinite useful lives
are tested for impairment annually during the fourth quarter, or
more frequently if an event indicates that the asset might be
impaired in accordance with SFAS No. 142, Goodwill
and Other Intangible Assets. The Company believes that
there was no impairment of its intangible assets with indefinite
useful lives as of December 31, 2003.



| |                           
| | --------------------------
| | (h) Property and Equipment

Property and equipment acquired prior to
December 31, 2002 is stated at its fair value at
January 1, 2003, as required by fresh start. Additions to
property and equipment during 2003 are stated at cost.
Depreciation is calculated on a straight-line basis over the
estimated useful lives of the assets beginning in the month
telecommunications networks and acquired bandwidth are
substantially complete and available for use and in the month
equipment and furniture are acquired. Telecommunications
networks and bandwidth include the deployment of fiber optic
cable and telecommunications hardware and software for the
expressed purpose of delivering telecommunications services.
Costs of additions and improvements are capitalized, and repairs
and maintenance are charged to expense as incurred. Direct
external costs of constructing property and equipment are
capitalized including interest costs related to construction.
The reorganized Company has adopted the policy of expensing
internal labor directly associated with network construction in
the period in which the costs are incurred as this labor effort
is not specific to any large segregated project.

Equipment held under capital leases is stated at
the lower of the fair value of the asset or the net present
value of the minimum lease payments at the inception of the
lease. For equipment held under capital leases, depreciation is
provided using the straight-line method over the shorter of the
estimated useful lives of the leased assets or the related lease
term.

The estimated useful lives of property and
equipment are as follows:

|                                                       |  |                                                                         
|------------------------------------------------------ |  | ------------------------------------------------------------------------
|Telecommunications networks and
    acquired bandwidth |  | 3-20 years                                                              
|Furniture, fixtures, equipment, and other              |  | 5-7 years                                                               
|Leasehold improvements                                 |  | the shorter of the estimated or the terms of the
    leases useful lives

These useful lives are determined based on
historical usage with consideration given to technological
changes and trends in the industry, which could impact the
network architecture and asset utilization. Accordingly, in
making this assessment, the Company considers its planned use of
the assets, the views of experts within the Company and outside
sources regarding the impact of technological advances and
trends in the industry on the value and useful lives of its
network assets. The Company periodically evaluates the estimated
useful lives used to depreciate its assets. While the Company
believes its estimate of useful lives

F-16



---



##### 



are reasonable, significant differences in actual
experience or significant changes in assumptions may affect
future depreciation expenses.




| |                                                          
| | ---------------------------------------------------------
| | (i) Broadband Wireless Licenses and Other
    Intangibles

Broadband wireless licenses were stated at their
fair values at January 1, 2003, as required by fresh start.
The reorganized Company is amortizing these licenses over an
estimated useful life of 10 years based on the initial
license term granted by the Federal Communications Commission.
Amortization commences when commercial service using broadband
wireless technology is deployed in the licenses geographic
area.

Other intangibles of the Company are valued at
fair value as required by the provisions of fresh start and SFAS
No. 141 and consist of customer relationships, internally
developed technology and XOs trade name. The customer
relationships and internally developed technology are being
amortized using the straight-line method over their estimated
useful lives of three years. The XO trade name was determined to
have an indefinite life. Accordingly, it is not subject to
amortization.



| |             
| | ------------
| | (j) Goodwill

Goodwill consisted primarily of goodwill from the
Concentric merger. Effective January 1, 2002, the Company
adopted SFAS No. 142, Goodwill and Other Intangible
Assets (SFAS No. 142). The Company
performed the required transitional impairment tests of goodwill
as of January 1, 2002, and determined that the goodwill was
totally impaired. Accordingly, in the first quarter of 2002 the
Company recognized a $1,876.6 million charge as a
cumulative effect of accounting change to write off all of its
goodwill.



| |                 
| | ----------------
| | (k) Other Assets

Other assets consist primarily of escrow and
security deposits and pledged securities. The escrow and
security deposits and pledged securities are stated at cost, and
their fair value approximates their carrying value.



| |                 
| | ----------------
| | (l) Income Taxes

The Company accounts for income taxes in
accordance with the provisions of SFAS No. 109,
Accounting for Income Taxes, (SFAS
No. 109) which requires that deferred income taxes
are determined based on the estimated future tax effects of
differences between the financial statement and tax bases of
assets and liabilities given the provisions of the enacted tax
laws. Valuation allowances are used to reduce deferred tax
assets to the amount considered likely to be realized. The
provisions of SFAS No. 109 have been applied as if the
Company were a separate tax payer.



| |                        
| | -----------------------
| | (m) Revenue Recognition

Revenues from telecommunications services are
recognized when the services are performed, evidence of an
arrangement exists, the fee is fixed and determinable and
collectibility is probable. In circumstances when these criteria
are not met, revenue recognition is deferred until resolution
occurs.

Service discounts and incentives related to
telecommunication services are recorded as a reduction of
revenue when granted or ratably over a contract period. Fees
billed in connection with service installations and other
non-recurring charges are deferred and recognized ratably over
the estimated customer life.

The Company establishes allowances for collection
of doubtful accounts and other sales credit adjustments.
Allowances for sales credits are established through a charge to
revenue, while allowances for doubtful accounts are established
through a charge to selling, operating and general expense. The
Company assesses the adequacy of these reserves monthly by
considering general factors, such as the length of time
individual receivables are past due, historical collection
experience, the economic and competitive environment, and
changes in the creditworthiness of its customers. The Company
believes that the established valuation allowances were adequate
as of December 31, 2003. If circumstances relating to

F-17



---



##### 



specific customers change or economic conditions
worsen such that the Companys past collection experience
and assessment of the economic environment are no longer
relevant, XOs estimate of the recoverability of its trade
receivables could be further reduced.


Revenue from the sale or lease of unlit network
capacity is recognized upon consummation of the transaction and
the acquirers acceptance of the capacity in instances when
the Company receives upfront cash payments and is contractually
obligated to transfer title to the specified capacity at the end
of the contract term. If the transaction does not meet these
criteria, revenue is recognized ratably over the contract term.
There were no sales of unlit capacity during the reported
periods whereby revenue was recognized up front upon
consummation of the transaction.



| |                    
| | -------------------
| | (n) Cost of Service

Cost of service includes expenses directly
associated with providing telecommunications services to
customers, including, among other items, the cost of connecting
customers to the Companys networks via leased facilities,
the costs of leasing components of our network facilities and
costs paid to third party providers for interconnect access and
transport services. All such costs are expensed as incurred. The
Company accrues for the expected costs of services received from
third party telecommunications providers during the period the
services are rendered. Invoices received from the third party
telecommunications providers are often disputed due to billing
discrepancies. The Company accrues for all invoiced amounts,
even amounts in dispute, as these amounts represent contingent
liabilities that are considered probable and measurable.
Disputes resolved in the Companys favor may reduce cost of
service in the period the dispute is settled and typically
reflect costs paid in the prior periods. Because the period of
time required to resolve these types of disputes often lapses
over several quarters, the benefits associated with the
favorable resolution of such disputes normally are realized in
periods subsequent to the accrual of the disputed invoice.



| |                                
| | -------------------------------
| | (o) Net Income (Loss) Per Share

Net income (loss) per common share, basic
and diluted, is computed by dividing net income
(loss) applicable to common shares by the weighted average
number of common shares outstanding for the period. In periods
of net loss, the assumed common share equivalents for options
and warrants are anti-dilutive.



| |                             
| | ----------------------------
| | (p) Stock-Based Compensation

Effective January 1, 2003, the Company
adopted the disclosure provisions of SFAS No. 148,
Accounting for Stock-Based Compensation 
Transition and Disclosure, (SFAS
No. 148). This statement amends SFAS No. 123,
Accounting for Stock-Based Compensation, (SFAS
No. 123), to provide for alternative methods of
transition for a voluntary change to the fair value based method
of accounting for stock-based employee compensation. In
addition, this statement amends the disclosure provisions of
SFAS No. 123 and APB No. 28, Interim Financial
Reporting, (APB No. 28) to require
disclosure in the summary of significant accounting policies of
the effects of an entitys accounting policy with respect
to stock-based employee compensation on reported net income and
earnings per share in annual and interim financial statements.

As allowed by SFAS No. 148, the Company has
chosen to continue to account for compensation cost associated
with its employee stock plan in accordance with the intrinsic
value method prescribed by APB No. 25, Accounting for
Stock Issued to Employees, (APB No. 25)
adopting the disclosure-only provisions of SFAS No. 123.
Under this method, no compensation expense is recorded if stock
options are granted at an exercise price equal to or greater
than the fair market value of the Companys stock on the
grant date. If the Company had adopted the fair value method of
accounting for its stock awards, stock-

F-18



---



##### 



based compensation would have been determined
based on the fair value for all stock awards at the grant date
using a Black-Scholes pricing model and the following weighted
average assumptions:


|                                   |  |                |      |                |  |                |       |   |  |   |       |  
|---------------------------------- |  | -------------- | ---- | -------------- |  | -------------- | ----- | - |  | - | ----- | -
|                                   |  | Reorganized XO |      | Predecessor XO |  | Predecessor XO
|                                   |  |                |      |                |  |               
|                                   |  | 2003           |      | 2002           |  | 2001          
|                                   |  |                |      |                |  |               
|Expected volatility                |  |                | 75.0 | %              |  |                | 125.0 | % |  |   | 125.0 | %
|Risk free interest rate            |  |                | 2.6  | %              |  |                | 4.0   | % |  |   | 4.3   | %
|Dividend yield                     |  |                | 0.0  | %              |  |                | 0.0   | % |  |   | 0.0   | %
|Expected life (range in years)     |  |                | 4.0  |                |  |                | 4.0   |   |  |   | 4.0   |  
|Fair value per share at grant date |  | $              | 2.95 |                |  | $              | 0.11  |   |  | $ | 5.10  |  

The Companys pro forma net loss applicable
to common shares, and pro forma net loss per common share, basic
and diluted, if the Company had used the fair value method would
have been as follows (dollars in thousands, except per share
data):

|                                                                                                                                                           |  |                   |          |                   |  |                   |            |   |  |   |            |  
|---------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | -------- | ----------------- |  | ----------------- | ---------- | - |  | - | ---------- | -
|                                                                                                                                                           |  | Reorganized XO    |          | Predecessor XO    |  | Predecessor XO   
|                                                                                                                                                           |  | December 31, 2003 |          | December 31, 2002 |  | December 31, 2001
|                                                                                                                                                           |  |                   |          |                   |  |                  
|Net loss applicable to common shares, as reported                                                                                                          |  | $                 | (102,554 | )                 |  | $                 | (3,350,362 | ) |  | $ | (1,838,917 | )
|Add: Stock-based employee compensation expense
    included in net loss applicable to common shares,
    as reported                                       |  |                   | 708      |                   |  |                   | 28,928     |   |  |   | 37,173     |  
|Deduct: Total stock-based employee compensation
    expense determined under fair value based methods for all stock
    awards, net of related tax effects |  |                   | (16,189  | )                 |  |                   | (1,462     | ) |  |   | (44,138    | )
|                                                                                                                                                           |  |                   |          |                   |  |                   |            |   |  |   |            |  
|Pro forma net loss                                                                                                                                         |  | $                 | (118,035 | )                 |  | $                 | (3,322,896 | ) |  | $ | (1,845,882 | )
|                                                                                                                                                           |  |                   |          |                   |  |                   |            |   |  |   |            |  
|Net loss per common share, basic and diluted:                                                                                                              |  |                   |          |                   |  |                   |            |   |  |   |            |  
|Net loss per common share, basic and diluted -
    as reported                                                                                             |  | $                 | (1.07    | )                 |  | $                 | (7.58      | ) |  | $ | (4.55      | )
|                                                                                                                                                           |  |                   |          |                   |  |                   |            |   |  |   |            |  
|Net loss per common share, basic and diluted -
    pro forma                                                                                               |  | $                 | (1.23    | )                 |  | $                 | (7.52      | ) |  | $ | (4.57      | )
|                                                                                                                                                           |  |                   |          |                   |  |                   |            |   |  |   |            |  



| |                       
| | ----------------------
| | (q) Comprehensive Loss

Comprehensive loss includes the Companys
net loss applicable to common shares, as well as net unrealized
gains and losses on available-for-sale investments and, for any
periods prior to the second quarter of 2002, foreign currency
translation adjustments relating to the Companys European
operations, which were disposed of in February 2002.



| |                                     
| | ------------------------------------
| | (r) Concentration of Credit
    Risk

Other financial instruments that potentially
subject the Company to concentrations of credit risk consist
primarily of trade receivables. Although the Companys
trade receivables are geographically dispersed and include
customers in many different industries, a portion of the
Companys revenue is generated from services provided to
other telecommunications service providers. Several of these
companies have filed for protection under Chapter 11 of the
Bankruptcy Code while others have experienced business
downturns. The Company believes that its established valuation
and credit allowances are adequate to cover these risks.



| |                                            
| | -------------------------------------------
| | (s) Fair Value of Financial
    Instruments

SFAS No. 107, Disclosure about Fair
Value of Financial Instruments (SFAS
No. 107), requires disclosure of fair value
information about financial instruments, for which it is
practicable to estimate the value. The carrying amounts for the
majority of the Companys financial instruments classified
as current assets and liabilities approximate their fair value
due to their short maturities. Marketable securities are
recorded at fair value. Amounts outstanding under long-term debt
agreements approximate their estimated fair values as they
accrue interest at rates that are variable every 3-6 months.

F-19



---



##### 





| |                                         
| | ----------------------------------------
| | (t) Recent Accounting
    Pronouncements

In June 2001, the Financial Accounting
Standards Board, (FASB) issued SFAS No. 143,
Accounting for Asset Retirement Obligations,
(SFAS No. 143), which requires an entity to
recognize the fair value of a liability for an asset retirement
obligation in the period in which a legal or contractual removal
obligation is incurred if a reasonable estimate of fair value
can be made. If a reasonable estimate of fair value cannot be
made in the period the asset retirement obligation is incurred,
SFAS No. 143 requires the liability to be recognized when a
reasonable estimate of the fair value can be made. As required
by SOP 90-7, we implemented SFAS No. 143 on January 1,
2003, in conjunction with the implementation of fresh start and
recorded an estimated asset retirement obligation of
$12.0 million, as disclosed in Note 12.

Effective January 1, 2003, the Company
adopted SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities (SFAS
No. 146), which requires that costs, including
severance costs, associated with exit or disposal activities be
recorded at their fair value when a liability has been incurred.
Under previous guidance, certain exit costs, including severance
costs, were accrued upon managements commitment to an exit
plan, which is generally before an actual liability has been
incurred. The adoption of SFAS No. 146 did not have a
material effect on the Companys consolidated financial
statements.

In May 2003, the FASB issued SFAS
No. 149, Amendment of Statement 133 on Derivative
Instruments and Hedging Activities, (SFAS
No. 149), which amends and clarifies accounting for
derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities under
SFAS No. 133. SFAS No. 149 is effective for contracts
entered into or modified after June 30, 2003 and for
hedging relationships designated after June 30, 2003. The
adoption of SFAS No. 149 did not have a material impact on
the Companys consolidated financial statements.

In May 2003, the FASB issued SFAS
No. 150, Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity,
(SFAS No. 150), which establishes standards for
how companies classify and measure certain financial instruments
with characteristics of both liabilities and equity. It requires
companies to classify a financial instrument that is within its
scope as a liability (or an asset in some circumstances). SFAS
No. 150 is effective beginning with the second quarter of
fiscal 2003. The adoption of SFAS No. 150 did not have a
material impact on the Companys consolidated financial
statements.

In January 2003, the FASB issued
Interpretation No. 46, Consolidation of Variable
Interest Entities, an interpretation of Accounting
Research Bulletin No. 51, Consolidated Financial
Statements (FIN 46). FIN 46 applies
to any business enterprise that has a controlling interest,
contractual relationship or other business relationship with a
variable interest entity (VIE) and establishes
guidance for the consolidation of VIEs that function to support
the activities of the primary beneficiary. In
December 2003, the FASB completed its deliberations
regarding the proposed modification to FIN 46 and issued
Interpretation Number 46R, Consolidation of Variable
Interest Entities-an Interpretation of ARB No. 51
(FIN 46R). The decision reached included a
deferral of the effective date and provisions for additional
scope exception for certain type of variable interests.
Application of FIN 46R is required in financial statements
of public entities that have interests in VIEs or potential VIEs
commonly referred to as special-purpose entities for period
ending after December 15, 2003. Application by public
entities (other than small business issuers) for all other types
of entities is required in financial statements for periods
ending after March 15, 2004. The Company does not believe
that the adoption of FIN 46R will have any effect on the
Companys consolidated financial statements.

In November 2002, the FASBs Emerging
Issues Task Force reached a final consensus on Issue
No. 00-21. Accounting for Revenue arrangements with
Multiple Deliverables (EITF 00-21), which
is effective for revenue arrangements entered into in fiscal
periods beginning after June 15, 2003. Under the
EITF 00-21, revenue arrangements with multiple deliverables
are required to be divided into separate units of accounting
under certain circumstances. The adoption of EITF 00-21 did
not have a material effect on the Companys consolidated
financial statements.

F-20



---



##### 



In December 2003, the SEC issued Staff
Accounting Bulletin No. 104, Revenue
Recognition, which updates the guidance in SAB
No. 101, integrates the related set of Frequently Asked
Questions, and recognizes the role of EITF 00-21. The
adoption of SAB No. 104 did not have a material effect on
the Companys consolidated financial statements.



|   |                                           
|-- | ------------------------------------------
|6. | CUMULATIVE EFFECT OF ACCOUNTING
    CHANGE

Effective January 1, 2002, the Company
adopted SFAS No. 142 and performed the required
transitional impairment tests of goodwill, and determined that
the value of its goodwill was totally impaired. Accordingly, in
the first quarter of 2002, the Company recorded a
$1,876.6 million charge as a cumulative effect of
accounting change to write-off all of its goodwill. The adjusted
net loss and related earnings per share before cumulative effect
of accounting change for the year ended December 31, 2001
compared to the actual results for the years ended
December 31, 2003 and 2002 is as follows (dollars in
thousands, except per share data):

|                                                                                                        |  |                |          |                |  |      |            |   |  |   |            |  
|------------------------------------------------------------------------------------------------------- |  | -------------- | -------- | -------------- |  | ---- | ---------- | - |  | - | ---------- | -
|                                                                                                        |  |                |          |               
|                                                                                                        |  | Reorganized XO |          | Predecessor XO
|                                                                                                        |  |                |          |               
|                                                                                                        |  | 2003           |          | 2002           |  | 2001
|                                                                                                        |  |                |          |                |  |     
|Reported net loss before cumulative effect of
    accounting change                                     |  | $              | (102,554 | )              |  | $    | (1,510,192 | ) |  | $ | (2,086,125 | )
|Goodwill amortization                                                                                   |  |                |         |                |  |      |           |   |  |   | 595,601    |  
|                                                                                                        |  |                |          |                |  |      |            |   |  |   |            |  
|Adjusted net loss before cumulative effect of
    accounting change                                     |  | $              | (102,554 | )              |  |      | (1,510,192 | ) |  |   | (1,490,524 | )
|                                                                                                        |  |                |          |                |  |      |            |   |  |   |            |  
|Net loss per common share before cumulative
    effect of accounting change, basic and diluted:         |  |                |          |                |  |      |            |   |  |   |            |  
|Reported net loss before cumulative effect of
    accounting change                                     |  | $              | (1.07    | )              |  | $    | (3.42      | ) |  | $ | (5.16      | )
|Goodwill amortization                                                                                   |  |                |         |                |  |      |           |   |  |   | 1.47       |  
|                                                                                                        |  |                |          |                |  |      |            |   |  |   |            |  
|Adjusted net loss per common share before
    cumulative effect of accounting change, basic and diluted |  | $              | (1.07    | )              |  | $    | (3.42      | ) |  | $ | (3.69      | )
|                                                                                                        |  |                |          |                |  |      |            |   |  |   |            |  



|   |                                                
|-- | -----------------------------------------------
|7. | RESTRUCTURING CHARGES AND ASSET
    WRITE-DOWNS

During 2003, the Company recorded restructuring
charges of $11.6 million from the reduction of its work
force by approximately 550 employees, primarily employed in
network operations, sales and marketing and information
technology and estimated losses associated with restructured
leases. During the second half of 2001, and the first half of
2002, the Company implemented a plan to restructure certain of
its business operations. The restructuring plan included
divesting its European operations and reducing the
Companys discretionary spending, capital expenditures and
workforce based on its assessment at that time of current and
expected future market conditions.

As of December 31, 2003, the remaining
restructuring accrual was $60.0 million, which relates
primarily to payments due to landlords on exited leased
facilities. The restructuring accrual has decreased from
$79.0 million as of December 31, 2002, due to
$17.2 million in payments associated with exited leased
facilities and $40.3 million of non-cash reductions made in
conjunction with the Companys implementation of fresh
start to reflect the December 31, 2002 accrual at its
estimated net present value offset by a $26.8 million
increase from reorganization adjustments.



| |                                        
| | ---------------------------------------
| | 8.            MARKETABLE
    SECURITIES

Marketable securities consisted of the following
(dollars in thousands):

|                                           |  |                |        |                |  |   |         | 
|------------------------------------------ |  | -------------- | ------ | -------------- |  | - | ------- | 
|                                           |  | Reorganized XO |        | Predecessor XO
|                                           |  | December 31,   |        | December 31,  
|                                           |  | 2003           |        | 2002          
|                                           |  |                |        |               
|Investments in equity and debt securities  |  | $              | 42,052 |                |  | $ |        | 
|U.S. Government and agency notes and bonds |  |                |       |                |  |   | 246,945 | 
|                                           |  |                |        |                |  |   |         | 
|                                           |  | $              | 42,052 |                |  | $ | 246,945 | 
|                                           |  |                |        |                |  |   |         | 

F-21



---



##### 



The amortized cost, gross unrealized gains and
losses and fair value of the investment securities
available-for-sale as of December 31, 2003 and 2002, are as
follows (dollars in thousands):

|                                            |  |            |         |            |  |               |         |            |  |   |       |  |  |   |        |  
|------------------------------------------- |  | ---------- | ------- | ---------- |  | ------------- | ------- | ---------- |  | - | ----- |  |  | - | ------ | -
|                                            |  |            |         |            |  |               |         | Gross     
|                                            |  |            |         |            |  | Gross         |         | Unrealized
|                                            |  |            |         |            |  | Unrealized    |         | Holding   
|                                            |  | Fair Value |         | Cost Basis |  | Holding Gains |         | Losses    
|                                            |  |            |         |            |  |               |         |           
|As of December 31, 2003                     |  |            |         |            |  |               |         |            |  |   |       |  |  |   |        |  
|Equity securities                           |  | $          | 30,041  |            |  | $             | 28,663  |            |  | $ | 3,001 |  |  | $ | (1,623 | )
|Debt securities                             |  |            | 12,011  |            |  |               | 12,011  |            |  |   |      |  |  |   |       |  
|                                            |  |            |         |            |  |               |         |            |  |   |       |  |  |   |        |  
|Total marketable securities                 |  | $          | 42,052  |            |  | $             | 40,674  |            |  | $ | 3,001 |  |  | $ | (1,623 | )
|                                            |  |            |         |            |  |               |         |            |  |   |       |  |  |   |        |  
|As of December 31, 2002                     |  |            |         |            |  |               |         |            |  |   |       |  |  |   |        |  
|U.S. Governments and agency notes and bonds |  | $          | 246,945 |            |  | $             | 244,433 |            |  | $ | 2,512 |  |  | $ |       |  
|                                            |  |            |         |            |  |               |         |            |  |   |       |  |  |   |        |  

Debt securities as of December 31, 2003
mature in 2007.



|   |                       
|-- | ----------------------
|9. | PROPERTY AND EQUIPMENT

Property and equipment consisted of the following
components (dollars in thousands):

|                                                       |  |                |         |                |  |   |           | 
|------------------------------------------------------ |  | -------------- | ------- | -------------- |  | - | --------- | 
|                                                       |  | Reorganized XO |         | Predecessor XO
|                                                       |  | December 31,   |         | December 31,  
|                                                       |  | 2003           |         | 2002          
|                                                       |  |                |         |               
|Telecommunications networks and
    acquired bandwidth |  | $              | 407,747 |                |  | $ | 2,920,819 | 
|Furniture, fixtures, equipment, and other              |  |                | 77,783  |                |  |   | 656,994   | 
|                                                       |  |                |         |                |  |   |           | 
|                                                       |  |                | 485,530 |                |  |   | 3,577,813 | 
|Less accumulated depreciation                          |  |                | 79,501  |                |  |   | 1,165,216 | 
|                                                       |  |                |         |                |  |   |           | 
|                                                       |  |                | 406,029 |                |  |   | 2,412,597 | 
|Network construction-in-progress                       |  |                | 79,955  |                |  |   | 367,992   | 
|                                                       |  |                |         |                |  |   |           | 
|                                                       |  | $              | 485,984 |                |  | $ | 2,780,589 | 
|                                                       |  |                |         |                |  |   |           | 

As discussed in Note 3, the Company applied fresh
start on January 1, 2003. Accordingly its property and
equipment as of January 1, 2003, were recorded at fair
value which resulted in a significant write down of property and
equipment and a reduction in the associated depreciation expense
in 2003. During 2003, 2002 and 2001, depreciation expense was
$83.1 million, $598.5 million and $447.0 million,
respectively. During 2003, 2002 and 2001 the Company capitalized
interest on construction costs of $3.0 million,
$11.1 million, and $51.6 million, respectively. Assets
classified as construction-in-progress are not being depreciated
as they are not currently ready for their intended use.

F-22



---



##### 





|    |                                                      
|--- | -----------------------------------------------------
|10. | BROADBAND WIRELESS LICENSES AND OTHER
    INTANGIBLES

Broadband wireless licenses and other intangible
assets consisted of the following (dollars in thousands):

|                                          |  |                |         |                |  |   |           |  
|----------------------------------------- |  | -------------- | ------- | -------------- |  | - | --------- | -
|                                          |  | Reorganized XO |         | Predecessor XO
|                                          |  | December 31,   |         | December 31,  
|                                          |  | 2003           |         | 2002          
|                                          |  |                |         |               
|Broadband wireless licenses               |  | $              | 59,508  |                |  | $ | 997,942   |  
|Customer relationships                    |  |                | 49,987  |                |  |   | 123,745   |  
|Internally developed technology           |  |                | 9,521   |                |  |   |          |  
|Acquired technology                       |  |                |        |                |  |   | 130,515   |  
|Other                                     |  |                |        |                |  |   | 35,413    |  
|                                          |  |                |         |                |  |   |           |  
|                                          |  |                | 119,016 |                |  |   | 1,287,615 |  
|Less accumulated amortization             |  |                | (26,163 | )              |  |   | (303,001  | )
|                                          |  |                |         |                |  |   |           |  
|                                          |  |                | 92,853  |                |  |   | 984,614   |  
|XO Trade name  indefinite
    life asset |  |                | 16,662  |                |  |   |          |  
|                                          |  |                |         |                |  |   |           |  
|                                          |  | $              | 109,515 |                |  | $ | 984,614   |  
|                                          |  |                |         |                |  |   |           |  

As discussed in Note 3, the Company applied
fresh start on January 1, 2003. Accordingly its broadband
wireless licenses and other intangibles as of January 1,
2003, were recorded at fair value which resulted in a
significant write down of broadband wireless licenses and other
intangibles and a reduction in the associated amortization
expense in 2003. Amortization expense for the years ended
December 31, 2003, 2002 and 2001 was $26.2 million,
$101.3 million and $715.7 million, respectively.
Broadband wireless licenses are amortized when commercial
service using the wireless technology is deployed in the
licenses geographic area. As of December 31, 2003,
approximately $23.5 million of broadband wireless licenses
are not being amortized as commercial services have not been
deployed in the licenses geographic area. Estimated
amortization expense for the next five years is
$26.1 million, $26.1 million, $6.3 million,
$6.3 million and $4.4 million, respectively.



|    |                    
|--- | -------------------
|11. | ACCRUED LIABILITIES

Accrued liabilities consisted of the following
components (dollars in thousands):

|                                 |  |                |         |                |  |   |         | 
|-------------------------------- |  | -------------- | ------- | -------------- |  | - | ------- | 
|                                 |  | Reorganized XO |         | Predecessor XO
|                                 |  | December 31,   |         | December 31,  
|                                 |  | 2003           |         | 2002          
|                                 |  |                |         |               
|Accrued taxes                    |  | $              | 49,046  |                |  | $ | 57,649  | 
|Accrued compensation             |  |                | 46,124  |                |  |   | 58,551  | 
|Accrued operative expenses       |  |                | 27,837  |                |  |   | 27,807  | 
|Deferred income                  |  |                | 26,011  |                |  |   | 37,109  | 
|Accrued telecommunications costs |  |                | 19,491  |                |  |   | 28,494  | 
|Accrued restructuring            |  |                | 20,046  |                |  |   | 16,364  | 
|Other accrued liabilities        |  |                | 19,798  |                |  |   | 40,128  | 
|                                 |  |                |         |                |  |   |         | 
|                                 |  | $              | 208,353 |                |  | $ | 266,102 | 
|                                 |  |                |         |                |  |   |         | 



|    |                                                
|--- | -----------------------------------------------
|12. | ACCOUNTING FOR ASSET RETIREMENT
    OBLIGATIONS

The Company leases Internet data center
facilities and various technical sites. Terminating and
decommissioning these locations would require the removal of any
XO assets and restoration of the leased space to its original
condition. Accordingly, upon adoption of SFAS No. 143, the
Company recorded an estimated asset retirement obligation of
$12.0 million, which was estimated using managements
best estimate of the expected cash flows. The present value of
the asset retirement obligation was calculated

F-23



---



##### 



using a discount rate of 8.0% over a period of
5-20 years, which is representative of the estimated
remaining period XO will occupy its data centers and technical
facilities. Accretion expense of $0.8 million for 2003 is
included in selling, operating and general expense in the
accompanying consolidated statement of operations.




|    |               
|--- | --------------
|13. | LONG-TERM DEBT

The Company has a secured Credit Facility which
matures on July 15, 2009. There are no additional
borrowings available under the Credit Facility. There are no
current debt service requirements since cash interest payments
as well as automatic and permanent quarterly reductions on the
principal amount outstanding do not commence until 2009.
However, in the event that consolidated excess cash flow (as
defined in the Credit Facility) for any fiscal quarter during
the term of the agreement is greater than $25 million, at
the request of the lender, the Company will pay an amount equal
to 50% of such excess cash flow greater than $25 million
toward the reduction of outstanding indebtedness. In addition,
if the ratio of XOs consolidated earnings before interest,
taxes, depreciation and amortization to interest expense for the
four consecutive quarters exceeds 4:1, XO would be required to
pay cash interest, unless waived by the lenders.

The security for the Credit Facility consists of
all assets of XO Parent, including the stock of its direct and
indirect subsidiaries, and all assets of virtually all of those
subsidiaries. The Credit Facility limits additional
indebtedness, liens, dividend payments and certain investments
and transactions, and contains certain covenants with respect to
EBITDA (earnings before interest, taxes, depreciation and
amortization) requirements and maximum capital expenditures. The
Company was in compliance with these covenants at
December 31, 2003. The Company is also required to maintain
an unrestricted cash balance of $45 million at
December 31, 2003, and $25 million at the end of each
fiscal quarter thereafter during the term.

At December 31, 2003, long-term debt of
$529.9 million was outstanding on the Credit Facility and
$6.9 million of accrued interest that if not paid, converts
to principal. At December 31, 2003, more than 90% of the
underlying loans of the Credit Facility are held by an entity
controlled by Mr. Carl C. Icahn, Chairman of the board of
directors (Mr. Icahn). As discussed above, the
Company is not required to pay cash interest accrued on the
principal amount under the Credit Facility until it meets
certain financial ratios; however the Company can elect to begin
paying interest in cash prior to the required date. Loans under
the Credit Facility bear interest, at the Companys option,
at an alternate base rate, as defined, or a Eurodollar rate,
plus in each case, applicable margins. Once the Company begins
to pay accrued interest in cash, the applicable margins are
reduced. At December 31, 2003, the annualized weighted
average interest rate applicable to outstanding borrowings under
the Credit Facility was 7.57%.



|    |                     
|--- | --------------------
|14. | STOCKHOLDERS EQUITY

Pursuant to the Companys Certificate of
Incorporation that was adopted in connection with the Plan of
Reorganization, the Company has the authority to issue
1,000.0 million shares of New Common Stock and
200.0 million shares of new undesignated preferred stock.
As of December 31, 2003, approximately 96.3 million
shares of New Common Stock had been issued, more than 80% of
which were owned by entities controlled by Mr. Icahn.

As discussed in Note 2, XO Parents
pre-petition senior note holders and pre-petition general
unsecured creditors were entitled to, among other consideration,
warrants to purchase shares up to an additional
23.75 million shares of New Common Stock.

The warrants consist of:



| |   |                                                                                                                                        
| | - | ---------------------------------------------------------------------------------------------------------------------------------------
| |  | Series A Warrants to purchase
    9.5 million shares of New Common Stock at an exercise price
    of $6.25 per share;                  
|
| |  | Series B Warrants to purchase approximately
    7.1 million shares of New Common Stock at an exercise price
    of $7.50 per share; and

F-24



---



##### 





| |   |                                                                                                                                     
| | - | ------------------------------------------------------------------------------------------------------------------------------------
| |  | Series C Warrants to purchase approximately
    7.1 million shares of New Common Stock at an exercise price
    of $10.00 per share.

The warrants were valued at approximately
$44.9 million using a Black Scholes model at the Effective
Date and are included in reorganized XOs common stock in
the accompanying consolidated balance sheet. The warrants will
expire 7 years after the date of issuance. The exercise
price applicable to each respective series of warrants is
subject to adjustment in certain events. Entities controlled by
Mr. Icahn own approximately 40% of these warrants as they
owned pre-petition senior notes.

In addition to the outstanding warrants discussed
above, the Company has a stock option plan that can further
dilute investors if exercised. This stock option plan is
discussed further in Note 16. On December 31, 2003, there
were 2.4 million exercisable stock options.



|    |             
|--- | ------------
|15. | INCOME TAXES

As of December 31, 2003, XO had net
operating loss carryforwards of approximately $1.0 billion.
All of XOs net operating loss and a substantial amount of
XOs capital loss carryforward generated prior to the
Bankruptcy Effective Date have been reduced as a result of the
discharge and cancellation of various pre-petition liabilities.
XOs use of the surviving capital loss carryforward of
$0.2 billion is subject to limitations imposed under the
ownership change rules in the U.S. Internal Revenue Code. Also,
the utilization of the expected tax benefit from property and
equipment depreciation could also be impacted by the ownership
change rules of the U.S. Internal Revenue Code.

XO will join with the affiliated group of
corporations controlled by Mr. Icahn in filing a
consolidated federal income tax return for the year ended
December 31, 2003. In January 2004,
Mr. Icahns ownership percentage fell below the amount
required by the Internal Revenue Code for the filing of
consolidated returns. As such, in January 2004, XO
deconsolidated with Starfire Holding Corporation
(Starfire), the Parent entity of the affiliated
group of corporations controlled by Mr. Icahn. XO entered
into a Tax Allocation Agreement with Starfire which provides
that while XO files on a consolidated basis with Starfire,
Starfire will pay all consolidated federal income taxes on
behalf of the consolidated group that includes XO, and XO will
make payments to Starfire in an amount equal to the tax
liability, if any, that it would have if it were to file as a
consolidated group separate and apart from Starfire. Upon
deconsolidation, the Tax Allocation Agreement generally provides
that Starfire will reimburse XO each year going forward for the
excess of XOs actual income taxes over the income tax that
would have been required if NOLs or other tax attributes used by
the Starfire consolidated group excluding XO, if any, were
available to XO.

F-25



---



##### 



Components of deferred tax assets and liabilities
were as follows (dollars in thousands):

|                               |                                                          |                |            |                |   |   |            |           |  
|------------------------------ | -------------------------------------------------------- | -------------- | ---------- | -------------- | - | - | ---------- | --------- | -
|                               |                                                          | Reorganized XO |            | Predecessor XO
|                               |                                                          | December 31,   |            | December 31,  
|                               |                                                          | 2003           |            | 2002          
|                               |                                                          |                |            |               
|Deferred tax assets:           |                                                          |                |            |                |   |   |            |          
|                               | Provisions not currently deductible                      |                | $          | 172,368        |   |   | $          | 123,280   |  
|                               | Property, equipment and other long-term assets
    (net) |                |            | 893,957        |   |   |            | 367,208   |  
|                               | Net operating loss and capital
    loss carryforwards    |                |            | 483,453        |   |   |            | 1,863,336 |  
|                               |                                                          |                |            |                |   |   |            |          
|Total deferred tax assets      |                                                          |                | 1,549,778  |                |   |   | 2,353,824  |          
|Valuation allowance            |                                                          |                | (1,540,612 | )              |   |   | (2,028,331 | )        
|                               |                                                          |                |            |                |   |   |            |          
|Net deferred tax assets        |                                                          |                | 9,166      |                |   |   | 325,493    |          
|Deferred tax liabilities:      |                                                          |                |            |                |   |   |            |          
|                               | Property, equipment and other long-term assets
    (net) |                |            |               |   |   |            | (101,402  | )
|                               | Other identifiable intangibles                           |                |            | (15,997        | ) |   |            | (222,537  | )
|                               | Other                                                    |                |            |               |   |   |            | (1,554    | )
|                               |                                                          |                |            |                |   |   |            |          
|Total deferred tax liabilities |                                                          |                | (15,997    | )              |   |   | (325,493   | )        
|                               |                                                          |                |            |                |   |   |            |          
|Net deferred tax liability     |                                                          | $              | (6,831     | )              |   | $ |           |          
|                               |                                                          |                |            |                |   |   |            |          

A reconciliation of the U.S. federal and state
tax rate to the Companys effective income tax rate is as
follows:

|                                            |  |             |       |             |  |  |       |   
|------------------------------------------- |  | ----------- | ----- | ----------- |  |  | ----- | --
|                                            |  | Reorganized |       | Predecessor
|                                            |  | XO          |       | XO         
|                                            |  | 2003        |       | 2002       
|                                            |  |             |       |            
|Statutory U.S. federal rate                 |  |             | 35.0  | %           |  |  | 35.0  | % 
|State income taxes, net of federal benefit  |  |             | 6.0   | %           |  |  | 6.0   | % 
|Valuation allowance for deferred tax assets |  |             | (41.0 | %)          |  |  | (18.3 | %)
|Other identifiable intangibles              |  |             |      |             |  |  | (22.7 | %)
|                                            |  |             |       |             |  |  |       |   
|Effective income tax rate                   |  |             |      | %           |  |  |      | % 
|                                            |  |             |       |             |  |  |       |   



|    |                                
|--- | -------------------------------
|16. | STOCK COMPENSATION ARRANGEMENTS

The XO Communications, Inc. 2002 Stock Incentive
Plan (the 2002 Stock Incentive Plan) was adopted
upon the Effective Date. Under the 2002 Stock Incentive Plan,
the Company is authorized to issue awards for up to
17.6 million shares of New Common Stock in the form of
restricted stock or options to purchase stock. The 2002 Stock
Incentive Plan is administered by the Compensation Committee of
the Companys Board of Directors, which has the
discretionary authority to determine all matters relating to
awards of stock options and restricted stock, including the
selection of eligible participants, the number of shares of
common stock to be subject to each option or restricted stock
award, the exercise price of each option, vesting, and all other
terms and conditions of awards. Unless the Compensation
Committee designates otherwise, all options expire on the
earlier of (i) ten years after the date of grant,
(ii) twelve months after termination of employment with XO
due to death or complete and permanent disability,
(iii) immediately upon termination of employment by XO for
cause, or (iv) three months after termination of employment
by the employee or by XO for other than cause. Upon the
Effective Date of the plan of Reorganization, all options under
any predecessor XO stock option plans were cancelled and the
plans were terminated.

On June 20, 2003, XO filed a registration
statement covering the offer and sale of stock options and stock
appreciation rights (SARs) to be granted in
conjunction with the 2003 Employee Retention and Incentive Plan
(the Retention Plan) for an aggregate award of
1.9 million shares of New Common Stock. (the
Retention Plan Awards). Approximately 200,000
options and approximately 10,500 SARs were granted in the third
quarter of 2003, fifty percent of which were vested and
exercisable on the date of

F-26



---



##### 



grant, with the remaining fifty percent vesting
ratably every month for twenty four months following the month
of grant. Additional grants may be made in 2004 if the Company
attains certain financial goals in the second half of 2003. The
financial goals and the terms of the Retention Plan were
established by the Companys Board of Directors. The per
share exercise price for the Retention Plan Awards was set at
$5.84. Any compensation was recorded as deferred compensation
and amortized to on a straight line basis expense based on the
associated vesting period.


The following two tables summarize information
regarding option activity under the 2002 Stock Option Plan for
the year ended December 31, 2003:

|                                  |           |           |            |                  |   |   |      |      | 
|--------------------------------- | --------- | --------- | ---------- | ---------------- | - | - | ---- | ---- | 
|                                  |           | Number of |            | Weighted Average
|                                  |           | Shares    |            | Exercise Price  
|                                  |           |           |            |                 
|Outstanding at the Effective Date |           |           |           |                  |   | $ |     |     
|                                  | Granted   |           |            | 15,394,162       |   |   | $    | 5.09 | 
|                                  | Canceled  |           |            | (3,697,068       | ) |   | $    | 5.02 | 
|                                  | Exercised |           |            | (1,274,139       | ) |   | $    | 5.01 | 
|                                  |           |           |            |                  |   |   |      |     
|Outstanding at December 31, 2003  |           |           | 10,422,955 |                  |   | $ | 5.12 |     
|                                  |           |           |            |                  |   |   |      |     
|Exercisable, at December 31, 2003 |           |           | 2,424,903  |                  |   | $ | 5.10 |     
|                                  |           |           |            |                  |   |   |      |     

|                         |              |                     |  |                     |            |          |  |                |     |          |  |   |      |  |  |  |           |  |  |   |      | 
|------------------------ | ------------ | ------------------- |  | ------------------- | ---------- | -------- |  | -------------- | --- | -------- |  | - | ---- |  |  |  | --------- |  |  | - | ---- | 
|                         |              |                     |  |                    
|                         |              | Options Outstanding |  | Options Exercisable
|                         |              |                     |  |                    
|                         |              |                     |  | Weighted            |            |          |  |               
|                         |              | Options             |  | Average             |            | Weighted |  | Options        |     | Weighted
|                         |              | Outstanding at      |  | Remaining           |            | Average  |  | Exercisable at |     | Average 
|                         |              | December 31,        |  | Contractual         |            | Exercise |  | December 31,   |     | Exercise
|Range of Exercise Prices |              | 2003                |  | Life                |            | Price    |  | 2003           |     | Price   
|                         |              |                     |  |                     |            |          |  |                |     |         
|$                        | 4.80  $7.05 |                     |  |                     | 10,422,955 |          |  |                | 9.1 |          |  | $ | 5.12 |  |  |  | 2,424,903 |  |  | $ | 5.10 | 
|                         |              |                     |  |                     |            |          |  |                |     |          |  |   |      |  |  |  |           |  |  |   |      | 



|    |                        
|--- | -----------------------
|17. | SUPPLEMENTAL DISCLOSURE

Cash
flows

Supplemental disclosure of the Companys
cash flow information is as follows (dollars in thousands):

|                                                                 |                                                                                                    |                |       |                |  |              |        |    |  |   |         |        | 
|---------------------------------------------------------------- | -------------------------------------------------------------------------------------------------- | -------------- | ----- | -------------- |  | ------------ | ------ | -- |  | - | ------- | ------ | 
|                                                                 |                                                                                                    |                |       |               
|                                                                 |                                                                                                    | Reorganized XO |       | Predecessor XO
|                                                                 |                                                                                                    |                |       |               
|                                                                 |                                                                                                    | Year Ended     |       | Year Ended     |  | Year Ended  
|                                                                 |                                                                                                    | December 31,   |       | December 31,   |  | December 31,
|                                                                 |                                                                                                    |                |       |                |  |             
|                                                                 |                                                                                                    | 2003           |       | 2002           |  | 2001        
|                                                                 |                                                                                                    |                |       |                |  |             
|Non-cash financing and investing activities were
    as follows: |                                                                                                    |                |       |                |  |              |        |    |  |   |         |       
|                                                                 | Class A common stock, warrants and options
    issued in acquisitions and under lease arrangements |                | $     |               |  |              | $      |   |  |   | $       | 29,055 | 
|                                                                 | Redeemable preferred stock dividends, paid in
    shares of redeemable preferred stock             |                |       |               |  |              |        |   |  |   |         | 86,237 | 
|                                                                 | Accrued redeemable preferred stock dividends,
    payable in shares of redeemable preferred stock  |                |       |               |  |              |        |   |  |   |         | 6,524  | 
|                                                                 | Assumption of preferred stock and liabilities in
    acquisitions                                  |                |       |               |  |              |        |   |  |   |         | 8,816  | 
|                                                                 | Conversion of 6 1/2% redeemable cumulative
    preferred stock to Class A common stock             |                |       |               |  |              |        | 35 |  |   |         | 17,700 | 
|                                                                 | Conversion of accrued interest to
    long-term debt                                               |                |       | 29,901         |  |              |        |   |  |   |         |       | 
|Cash paid for interest                                           |                                                                                                    | $              | 2,315 |                |  | $            | 11,681 |    |  | $ | 313,178 |       

Employee
Savings and Retirement Plan

At December 31, 2003, the Company had a
defined contribution plan, generally covering all full time
employees in the United States. The Company provides a match to
all eligible employees based on certain plan provisions and the
discretion of the Board of Directors. Effective April 1,
2002, the Company changed its employer matching contribution
from a 100% matching contribution up to 5% of the
participants

F-27



---



##### 



compensation to a 50% matching contribution up to
5% of the participants compensation. Company contributions
were $4.8 million, $7.0 million and $12.5 million
during 2003, 2002 and 2001, respectively.




|    |                   
|--- | ------------------
|18. | OPERATING SEGMENTS

Reportable
Segments

The Company operates its business as one
telecommunications segment. The Companys communications
segment includes all of its products and services including
data, voice, integrated voice and data, and other services.
These services have similar network operations and technology
requirements and are sold through similar sales channels to a
similar targeted customer base. Therefore, the Company manages
these services as a single segment that are sold in geographic
areas, or markets, within the United States, or that are sold to
customers with a presence across geographical markets.

Products
and Services

The Company classifies its products and services
revenues offered by its communications services segment into
voice services, data services, integrated voice and data
services, and other services (dollars in thousands):

|                                   |  |                |           |                     |  |      |           |  |  |   |           | 
|---------------------------------- |  | -------------- | --------- | ------------------- |  | ---- | --------- |  |  | - | --------- | 
|                                   |  |                |           |                    
|                                   |  |                |           | Predecessor XO     
|                                   |  | Reorganized XO |           | Year Ended December
|                                   |  | Year Ended     |           | 31,                
|                                   |  |                |           |                    
|                                   |  | 2003           |           | 2002                |  | 2001
|                                   |  |                |           |                     |  |     
|Voice services                     |  | $              | 572,774   |                     |  | $    | 659,558   |  |  | $ | 609,885   | 
|Data services                      |  |                | 392,742   |                     |  |      | 472,247   |  |  |   | 596,664   | 
|Integrated voice and data services |  |                | 144,967   |                     |  |      | 128,048   |  |  |   | 52,018    | 
|                                   |  |                |           |                     |  |      |           |  |  |   |           | 
|Total revenue                      |  | $              | 1,110,483 |                     |  | $    | 1,259,853 |  |  | $ | 1,258,567 | 
|                                   |  |                |           |                     |  |      |           |  |  |   |           | 



|    |                                    
|--- | -----------------------------------
|19. | SELECTED QUARTERLY DATA (Unaudited)

Quarterly financial information is summarized in
the table below (dollars in thousands, except per share data):

|                                                         |  |                    |         |          |  |               |         |              |  |   |         |   |  |   |         |  
|-------------------------------------------------------- |  | ------------------ | ------- | -------- |  | ------------- | ------- | ------------ |  | - | ------- | - |  | - | ------- | -
|                                                         |  |                   
|                                                         |  | Reorganized XO    
|                                                         |  |                   
|                                                         |  |                   
|                                                         |  | Quarter ended 2002
|                                                         |  |                   
|                                                         |  | March 31,          |         | June 30, |  | September 30, |         | December 31,
|                                                         |  |                    |         |          |  |               |         |             
|Revenue                                                  |  | $                  | 286,093 |          |  | $             | 283,918 |              |  | $ | 279,433 |   |  | $ | 261,039 |  
|Cost of service                                          |  |                    | 107,506 |          |  |               | 104,898 |              |  |   | 106,935 |   |  |   | 102,790 |  
|Loss from operations                                     |  |                    | (14,015 | )        |  |               | (13,260 | )            |  |   | (35,878 | ) |  |   | (48,705 | )
|Net loss (a)                                             |  |                    | (20,488 | )        |  |               | (19,836 | )            |  |   | (40,787 | ) |  |   | (21,443 | )
|Net loss per common share (basic and
    diluted) (a)(d) |  |                    | (0.22   | )        |  |               | (0.21   | )            |  |   | (0.42   | ) |  |   | (0.22   | )

|                                                           |  |                    |            |          |  |               |          |              |  |   |          |   |  |   |          |  
|---------------------------------------------------------- |  | ------------------ | ---------- | -------- |  | ------------- | -------- | ------------ |  | - | -------- | - |  | - | -------- | -
|                                                           |  |                   
|                                                           |  | Predecessor XO    
|                                                           |  |                   
|                                                           |  |                   
|                                                           |  | Quarter ended 2002
|                                                           |  |                   
|                                                           |  | March 31,          |            | June 30, |  | September 30, |          | December 31,
|                                                           |  |                    |            |          |  |               |          |             
|Revenue                                                    |  | $                  | 333,405    |          |  | $             | 325,480  |              |  | $ | 301,526  |   |  | $ | 299,442  |  
|Cost of service                                            |  |                    | 140,367    |          |  |               | 134,346  |              |  |   | 126,215  |   |  |   | 121,996  |  
|Loss from operations (b)                                   |  |                    | (182,663   | )        |  |               | (176,771 | )            |  |   | (673,001 | ) |  |   | (176,463 | )
|Net loss before cumulative effect of
    accounting change |  |                    | (299,028   | )        |  |               | (346,133 | )            |  |   | (695,209 | ) |  |   | (169,822 | )
|Net loss (c)                                               |  |                    | (2,175,654 | )        |  |               | (346,133 | )            |  |   | (695,209 | ) |  |   | (169,822 | )
|Net loss applicable to common shares                       |  |                    | (2,198,480 | )        |  |               | (286,851 | )            |  |   | (695,209 | ) |  |   | (169,822 | )
|Net loss per common share (basic and
    diluted) (c)(d)   |  |                    | (4.97      | )        |  |               | (0.65    | )            |  |   | (1.57    | ) |  |   | (0.39    | )



---

|   |                                                                                                                         
|-- | ------------------------------------------------------------------------------------------------------------------------
|a. | Fourth quarter of 2003 includes a
    $33.5 million realized investment gain.                                           
|  
|b. | In the third quarter of 2002, loss from
    operations includes a non-cash asset write down totaling
    $477.3 million.

F-28



---



##### 





|   |                                                                                                                                                                                                                                                                                                                                                                                                                
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|c. | In the first quarter of 2002, net loss includes a
    $1,876.6 million impairment charge to write-off all of
    XOs goodwill as a cumulative effect of accounting change,
    pursuant to SFAS No. 142.                                                                                                                                                                                                      
|  
|d. | For the year 2003, the net loss per share data
    has been calculated based on the shares outstanding subsequent
    to consummation of the Plan of Reorganization. For the year
    2002, the net loss per share data has been calculated based on
    the shares outstanding of the Companys pre-petition class
    A and class B common stock prior to the consummation of its Plan
    of Reorganization.



|    |                           
|--- | --------------------------
|20. | RELATED PARTY TRANSACTIONS

Various entities controlled by Mr. Icahn
hold the following interests in XO:

|                     |  |                    |                 |                 |  |                 |                 |   |  |  |                 |  
|-------------------- |  | ------------------ | --------------- | --------------- |  | --------------- | --------------- | - |  |  | --------------- | -
|                     |  | Outstanding Common |                 | Series A, B and |  |                
|                     |  | Stock              |                 | C Warrants      |  | Credit Facility
|                     |  |                    |                 |                 |  |                
|                     |  | (unaudited)        |                 | (unaudited)     |  | (unaudited)    
|At December 31, 2003 |  |                    | Greater than 80 | %               |  |                 | Greater than 40 | % |  |  | Greater than 90 | %
|At January 31, 2004  |  |                    | Greater than 60 | %               |  |                 | Greater than 40 | % |  |  | Greater than 90 | %

In addition, entities controlled by
Mr. Icahn have acquired an option to purchase
6.25 million additional shares of XOs New Common
Stock from Franklin Mutual Advisors, LLC at a strike price of
$4.25 per share which expires June 21, 2004. After closing
the Rights Offering in January 2004, Mr. Icahns
ownership interest in our outstanding common stock was reduced
to over 60% (unaudited).

As a result of his majority ownership,
Mr. Icahn can elect all of our directors, appoint the
members of the committees of our Board of Directors, appoint key
members of our executive management team, and appoint our
auditors. Currently, Mr. Icahn is Chairman of the Board of
Directors and three employees of Icahn Associates sit on the
Board of Directors and various Committees of the Board of
Directors. Under applicable law and XOs Certificate of
Incorporation and by-laws, certain action cannot be taken
without the approval of holders of a majority of our voting
stock, including, without limitation, mergers, acquisitions, the
sale of substantially all our assets, and amendments to our
Certificate of Incorporation and by-laws.

Mr. Icahn, through various entities that he
owns or controls, has the right to require XO to register, under
the Securities Act of 1933, shares of New Common Stock held by
such entities and to include shares of New Common Stock held by
them in certain registration statements filed by XO, pursuant to
a Registration Rights Agreement approved by the Bankruptcy Court
in connection with XO Parents Chapter 11 proceedings.

In February 2003, Dixon Properties, LLC
(Dixon), which is controlled by Mr. Icahn,
acquired ownership of the building in which XO headquarters is
located in a transaction that was approved by the Bankruptcy
Court. XO currently leases approximately 170,000 square feet of
space in that building. Pursuant to the assumed lease agreement,
XO has paid $3.3 million in lease expense to Dixon for the
year ended December 31, 2003 and XO is obligated to pay
approximately $15.6 million to Dixon through the expiration
of the initial term of the lease, which is November 30,
2007.

XO has entered into a Tax Allocation Agreement,
dated January 16, 2003, between XO and Starfire Holding
Corporation (Starfire), the parent entity of the
affiliated group of corporations controlled by Mr. Icahn.
XO and Starfire intend to file consolidated returns during the
period in which Mr. Icahns ownership of XO is equal
to or greater than 80%, as required by the Internal Revenue
Code. The Tax Allocation Agreement provides that Starfire will
pay all consolidated federal income taxes on behalf of the Icahn
consolidated group that includes XO, and XO will make payments
to Starfire in an amount equal to the tax liability, if any,
that it would have incurred if it were to file its own
consolidated return separate and apart from Starfire. Upon the
closing of the Rights Offering in January 2004,
Mr. Icahn ownership percentage fell below 80% (unaudited).
Consequently XO will no longer file as part of Icahns
consolidated group after January 2004. Upon
deconsolidation, the Tax Allocation Agreement generally provides
that Starfire will reimburse XO each year going forward for the
excess of XOs actual income tax expense over the income
tax that would have been owed if the net operating losses or
other tax attributes used in prior periods by the Starfire
consolidated group excluding XO, if any, were still available to
XO.

F-29



---



##### 



The Company provides certain telecommunications
services to companies affiliated with Mr. Icahn. For the
year ended December 31, 2003, the total revenue recognized
on such services affiliated with Mr. Icahn was
approximately $0.4 million. The Company has purchased
approximately $0.3 million in services from Icahn
affiliates during 2003. During 2003, XO purchased approximately
$1.1 million in hardware and services from Dell Computers,
Inc. Mr. Adam Dell, an XO director, is Mr. Michael
Dells, the Chief Executive Officer of Dell Computers,
brother.



|    |                              
|--- | -----------------------------
|21. | COMMITMENTS AND CONTINGENCIES



| |                      
| | ---------------------
| | Operating Commitments

The Company is leasing premises under various
noncancelable operating leases for administrative space,
building access, and other leases, which, in addition to rental
payments, require payments for insurance, maintenance, property
taxes and other executory costs related to the leases. The lease
agreements have various expiration dates and renewal options
through 2029. The Company also has various noncancelable
long-term contractual obligations associated with maintenance
and service agreements.

Future minimum lease commitments required under
noncancelable operating leases and contractual obligations are
as follows (dollars in thousands):

|                          |  |             |         |             |  |   |         | 
|------------------------- |  | ----------- | ------- | ----------- |  | - | ------- | 
|                          |  |             |         | Other      
|                          |  | Operating   |         | long-term  
|                          |  | lease       |         | contractual
|Year Ending December 31,  |  | obligations |         | obligations
|                          |  |             |         |            
|2004                      |  | $           | 60,623  |             |  | $ | 53,974  | 
|2005                      |  |             | 57,974  |             |  |   | 33,768  | 
|2006                      |  |             | 53,269  |             |  |   | 24,484  | 
|2007                      |  |             | 49,159  |             |  |   | 23,451  | 
|2008                      |  |             | 38,823  |             |  |   | 23,048  | 
|Thereafter                |  |             | 188,084 |             |  |   | 96,811  | 
|                          |  |             |         |             |  |   |         | 
|Total minimum commitments |  | $           | 447,932 |             |  | $ | 255,536 | 
|                          |  |             |         |             |  |   |         | 

Rent expense for cancelable and noncancelable
leases totaled approximately $54.0 million,
$76.4 million, and $100.0 million for the years ended
December 31, 2003, 2002, and 2001, respectively. The
minimum lease payments noted above have not been reduced for
sublease income totaling approximately $6.1 million at
December 31, 2003.



| |               
| | --------------
| | Capital Leases

Network assets under capital leases totaled
approximately $1.4 million and $16.3 million as of
December 31, 2003 and 2002, respectively, and are included
in telecommunications networks in property and equipment.
Depreciation on leased assets of $0.4 million and
$2.0 million for the years ended

F-30



---



##### 



December 31, 2003 and 2002, respectively, is
included in depreciation expense. Future minimum lease payments
under capital lease obligations as of December 31, 2003 are
as follows (dollars in thousands):


|                                                       |                                               |   |        |       | 
|------------------------------------------------------ | --------------------------------------------- | - | ------ | ----- | 
|Year Ending December 31,                               |                                               |  
|                                                       |                                               |  
|2004                                                   |                                               | $ | 2,809  |      
|2005                                                   |                                               |   | 2,668  |      
|2006                                                   |                                               |   | 2,416  |      
|2007                                                   |                                               |   | 1,733  |      
|2008                                                   |                                               |   | 277    |      
|Thereafter                                             |                                               |   |       |      
|                                                       |                                               |   |        |      
|Total minimum capital lease payments                   |                                               |   | 9,903  |      
|Less: imputed interest                                 |                                               |   | (2,722 | )    
|Less: current portion of capital
    lease obligations |                                               |   | (1,660 | )    
|                                                       |                                               |   |        |      
|                                                       | Long-term portion of capital lease obligation |   | $      | 5,521 | 
|                                                       |                                               |   |        |      

The Company provides intercity transport
primarily through five year leases of wavelength capacity that
are paid for at the beginning of the term. The first of these
leases expires in 2006. At that time, XO will either renew these
leases or light its intercity fiber network, either of which
will be a substantial capital expenditure.



| |                  
| | -----------------
| | Legal Proceedings

XO is involved in lawsuits, claims,
investigations and proceedings consisting of commercial,
securities, tort, and employment matters, which arise in the
ordinary course of business. In addition, disputes with respect
to general unsecured claims and two administrative expense
claims against XO Parent in the aggregate amount of
approximately $23.0 million remain pending from the XO
Parent Chapter 11 proceedings. In accordance with SFAS
No. 5, Accounting for Contingencies, XO makes a
provision for a liability when it is both probable that a
liability has been incurred and the amount of the loss can be
reasonably estimated. XO believes it has adequate provisions for
any such matters. XO reviews these provisions at least quarterly
and adjusts these provisions to reflect the impacts of
negotiations, settlements, rulings, advice of legal counsel, and
other information and events pertaining to a particular case.
Litigation is inherently unpredictable. However, XO believes
that it has valid defenses with respect to legal matters pending
against it. Nevertheless, it is possible that cash flows or
results of operations could be materially affected in any
particular period by the unfavorable resolution of one or more
of these contingencies.



| |                                                      
| | -----------------------------------------------------
| | Unfunded Affiliate Pension Obligation
    (Unaudited)

As affiliates of Mr. Icahn held over 80% of
the outstanding New Common Stock of XO Parent at
December 31, 2003, applicable pension and tax laws made
each member of a plan sponsors controlled
group (generally defined as entities in which there is at
least an 80% common ownership interest) jointly and severally
liable for certain pension plan obligations of the plan sponsor.
These pension obligations include ongoing contributions to fund
the plan, as well as liability for any unfunded liabilities that
may exist at the time the plan is terminated. In addition, the
failure to pay these pension obligations when due may result in
the creation of liens in favor of the pension plan or the
Pension Benefit Guaranty Corporation, (the PBGC)
against the assets of each member of the plan sponsors
controlled group.

As a result of the reduction to less than 80%
ownership interest in XO Parent by Mr. Icahns
affiliates after the Rights Offering, XO Parent and its
subsidiaries will no longer be subject to the pension
liabilities of any entities in which Mr. Icahn has a direct
or indirect ownership interest of at least 80%.

F-31



---



##### 





|    |                              
|--- | -----------------------------
|22. | SUBSEQUENT EVENTS (Unaudited)



| |                                                      
| | -----------------------------------------------------
| | Acquisition of Assets of Allegiance Telecom,
    Inc.

On February 19, 2004, the United States
Bankruptcy Court for the Southern District of New York approved
the Asset Purchase Agreement by and between XO Parent and
Allegiance Telecom, Inc., or (Allegiance), pursuant
to which XO Parent has agreed to acquire substantially all of
the assets of Allegiance for approximately $311.0 million
in cash and approximately 45.4 million shares of New Common
Stock. Governmental approval should occur prior to, or shortly
after the second quarter of 2004. At that point in time, the two
companies will operate under a management agreement whereby the
combined management team will exercise day to day operating
control over the assets and operations to be acquired from
Allegiance. The acquisition of the Allegiance assets should be
consummated during the third quarter of 2004 after all other
federal and state regulatory approvals are obtained. While the
Company believes the approvals will be forthcoming, there can be
no assurance that XO will obtain the governmental approvals and
clearances required to consummate the acquisition of the
Allegiance assets.

The Allegiance assets consist primarily of:



| |   |                                                                                                                                                                        
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | switching and routing equipment, located both in
    current Allegiance facilities and in facilities operating by one
    or more incumbent local exchange carriers;   
|
| |  | physical points of presence in the form of
    network operations centers, data centers, central offices, and
    sales offices located in 36 major metropolitan areas;
|
| |  | customer and sales agreements that constitute a
    majority of Allegiances voice and data revenues;                                                                  
|
| |  | leased intercity and metro fiber network capacity
    that is both redundant to and expansive of XOs current
    network; and                                         
|
| |  | billing, provisioning, and other back-office
    information technology platforms.                                                                                     



| |                
| | ---------------
| | Rights Offering

As part of its Plan of Reorganization, XO Parent
agreed to initiate a Rights Offering that allowed certain
holders of claims and interests in XO Parent as of the
November 15, 2002 record date to subscribe for up to
40.0 million shares of New Common Stack at $5.00 per share.
The Rights Offering closed on January 5, 2004. An aggregate
of 39.7 million shares were issued, yielding net proceeds
of $197.6 million. The proceeds were used to reduce its
outstanding debt and accrued interest under the Credit Facility
from $536.8 million to $339.2. See also Note 2.

F-32



---



##### 



XO Communications, Inc.



Schedule II  Consolidated
Valuation and Qualifying Accounts


For The Years Ended December 31, 2003,
2002 and 2001




| |               
| | --------------
| | Predecessor XO

|                                |          |           |   |            |  |            |   |         |  |  |   |          |   |  |   |         | 
|------------------------------- | -------- | --------- | - | ---------- |  | ---------- | - | ------- |  |  | - | -------- | - |  | - | ------- | 
|                                |          |           |   | Additions  |  |            |   |        
|                                |          | Beginning |   | charged to |  |            |   | Balance
|(dollars in thousands)          |          | Balance   |   | expense    |  | Reductions |   | Ending 
|                                |          |           |   |            |  |            |   |        
|Allowance for doubtful accounts |          |           |   |            |  |            |   |         |  |  |   |          |   |  |   |        
|                                | 2001     |           | $ | 20,999     |  |            | $ | 45,757  |  |  | $ | (34,264  | ) |  | $ | 32,492  | 
|                                | 2002     |           | $ | 32,492     |  |            | $ | 53,631  |  |  | $ | (49,093  | ) |  | $ | 37,030  | 
|Restructuring accrual           |          |           |   |            |  |            |   |         |  |  |   |          |   |  |   |        
|                                | 2001 (a) |           | $ |           |  |            | $ | 509,202 |  |  | $ | (383,429 | ) |  | $ | 125,773 | 
|                                | 2002 (b) |           | $ | 125,773    |  |            | $ | 480,168 |  |  | $ | (526,951 | ) |  | $ | 78,990  | 



---



|    |                                                                                                                                                                                                                                                                                                         
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | Only $16.6 million of the reduction in the
    2001 restructuring accrual was for cash payments. The balance
    was associated with the write down for the excess of carrying
    value of assets to be sold or abandoned and was applied to those
    assets.                                         
|   
|(b) | Only $49.7 million of the reduction in 2002
    restructuring accrual was for cash payments. The balance was
    associated with the non-cash asset write down resulting from an
    agreement with Level 3 to amend various agreements relating to
    XOs Level 3 intercity fiber network facilities.



| |               
| | --------------
| | Reorganized XO

|                                |          |           |   |                |  |            |   |            |  |         |   |        |  |  |   |         |   |  |   |        | 
|------------------------------- | -------- | --------- | - | -------------- |  | ---------- | - | ---------- |  | ------- | - | ------ |  |  | - | ------- | - |  | - | ------ | 
|                                |          |           |   |                |  | Additions  |   |            |  |        
|                                |          | Beginning |   | Reorganization |  | charged to |   |            |  | Ending 
|(dollars in thousands)          |          | Balance   |   | Adjustments    |  | expense    |   | Reductions |  | Balance
|                                |          |           |   |                |  |            |   |            |  |        
|Allowance for doubtful accounts |          |           |   |                |  |            |   |            |  |         |   |        |  |  |   |         |   |  |   |       
|                                | 2003     |           | $ | 37,030         |  |            | $ |           |  |         | $ | 29,998 |  |  | $ | (34,042 | ) |  | $ | 32,986 | 
|Restructuring accrual           |          |           |   |                |  |            |   |            |  |         |   |        |  |  |   |         |   |  |   |       
|                                | 2003 (c) |           | $ | 38,725         |  |            | $ | 26,809     |  |         | $ | 11,618 |  |  | $ | (17,176 | ) |  | $ | 59,976 | 



---



|    |                                                                                                
|--- | -----------------------------------------------------------------------------------------------
|(c) | The beginning balance was reduced to its net
    present value when we implemented fresh start.

S-1