**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

**FORM 10-K**

**ANNUAL REPORT PURSUANT TO SECTION13 OR 15(d)**

**OF THE SECURITIES EXCHANGE ACT OF 1934**

**For the fiscal year ended December 31, 2006**

**Commission File Number:  0-13721**

**HICKORY TECH CORPORATION**

| **Minnesota**                    |   | **41-1524393**       |
|----------------------------------|--------|----------------------|
| (State or other  jurisdiction of |   | (I.R.S. Employer     |
| incorporation or  organization)  |   | Identification  No.) |

 

**221 East Hickory Street**

**P.O. Box 3248**

**Mankato, Minnesota  56002**

(Address of principal executive offices and zip code)

Registrant’stelephone number, including area code:  **800-326-5789**

Securitiesregistered pursuant to Section 12(b) of the Act:

| Title of each class             | ** ** | **Name of each exchange on which registered** |
|---------------------------------|------------|-----------------------------------------------|
| **Common  Stock, no par value** |       | **The  NASDAQ Stock Market, LLC**             |

 

Securitiesregistered pursuant to Section 12(g) of the Act:**  None**

Indicate by check mark if the registrant is awell-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o  No x

Indicate by check mark if the registrant is notrequired to file reports pursuant to Section 13 or Section 15(d) of theAct.  Yes o  No x

Indicate by check mark whether the Registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months, and (2) has been subjectto such filing requirements for the past 90 days.  Yes x  No o

Indicate by a check mark if disclosure of delinquentfilers pursuant to Item 405 of Regulation S-K is not contained herein, and willnot be contained, to the best of Registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-Kor any amendment to this Form 10-K.  o

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer. Seethe definition of “accelerated filer and large accelerated filer” in Rule 12b-2of the Exchange Act.

(Checkone): Large accelerated filer oaccelerated filer x non-acceleratedfiler o

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the Act).  Yes oNo x

As of June 30, 2006, the aggregate market value of thecommon stock held by non-affiliates of the registrant was $87,106,103 based onthe last sale price of $7.00 on The NASDAQ Stock Market, LLC.

The total number of shares of the registrant’s commonstock outstanding as of February 28, 2007: 13,237,645.

DocumentsIncorporated by Reference: Portions of the registrant’s definitive ProxyStatement for the Annual Meeting of Shareholders to be held on May 7, 2007 (“ProxyStatement”) are incorporated by reference in Part III of this Form 10-K.

 

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**INDEX**
| PART I   |                                                                                                                |   |
|----------|---------------------------------------------------------------------------------------------------------------------|--------|
| Item 1:  | Business                                                                                                            |   |
| Item 1A: | Risk  Factors                                                                                                       |   |
| Item 1B: | Unresolved Staff  Comments                                                                                          |   |
| Item 2:  | Properties                                                                                                          |   |
| Item 3:  | Legal Proceedings                                                                                                   |   |
| Item 4:  | Submission of  Matters to a Vote Of Security Holders                                                                |   |
| PART II  |                                                                                                                |   |
| Item 5:  | Market for  Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases  of Equity Securities |   |
| Item 6:  | Selected Financial  Data                                                                                            |   |
| Item 7:  | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                         |   |
| Item 7A: | Quantitative  and Qualitative Disclosures about Market Risk                                                         |   |
| Item 8:  | Financial  Statements and Supplementary Data                                                                        |   |
| Item 9:  | Changes in  and Disagreements With Accountants on Accounting and Financial Disclosure                               |   |
| Item 9A: | Controls and  Procedures                                                                                            |   |
| Item 9B: | Other Information                                                                                                   |   |
| PART III |                                                                                                                |   |
| Item 10: | Directors,  Executive Officers of the Registrant And Corporate Governance                                           |   |
| Item 11: | Executive  Compensation                                                                                             |   |
| Item 12: | Security  Ownership of Certain Beneficial Owners and Management and Related Stockholder  Matters                    |   |
| Item 13: | Certain  Relationships and Related Transactions, and Director Independence                                          |   |
| Item 14: | Principal  Accountant Fees and Services                                                                             |   |
| PART IV  |                                                                                                                |   |
| Item 15: | Exhibits and  Financial Statement Schedule                                                                          |   |

 

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**PART I**

**CAUTIONARY STATEMENT**

The Private Securities Litigation Reform Act of 1995contains certain safe harbor provisions regarding forward-looking statements.This 2006 Annual Report on Form 10-K and other documents filed by HickoryTechCorporation (“HickoryTech,” the “Company,” we, us or our) under the federalsecurities laws, including Form 10-Q and Form 8-K, and future verbal or writtenstatements by HickoryTech and its management, may include forward-lookingstatements. These statements may include, without limitation, statements withrespect to anticipated future operating and financial performance, growthopportunities and growth rates, acquisition and divestiture opportunities,business strategies, business and competitive outlook and other similar forecastsand statements of expectation. Words such as expects, anticipates, intends,plans, believes, seeks, estimates, projects, will, continues, and should, andvariations of these words and similar expressions, are intended to identifythese forward-looking statements. Such forward-looking statements are subjectto risks and uncertainties that could cause HickoryTech’s actual results todiffer materially from such statements. Risks and uncertainties include:

·                  Those identified under “Business”

·                  Those identified under “Risk Factors”

·                  Those identified under “ManagementsDiscussion and Analysis of Financial Condition and Results of Operations”

·                  Technological development and changesin the telecommunications industry

·                  Changes in price and service competition

·                  Changes in federal and stateregulation and the rules and regulations enacted pursuant to legislation

·                  Regulatory limits on our ability tochange pricing

·                  Possible changes in demand for ourproducts and services

·                  Changes in general industry, marketconditions, and growth rates

·                  Changes in interest rates or othergeneral national, regional or local economic conditions

·                  Governmental and public policychanges

·                  Changes in accounting policies orpractices adopted voluntarily or as required by generally accepted accountingprinciples, and

·                  Continuedavailability of financing in the amounts and or the terms and conditionsnecessary to support our future business

Due to the uncertaintieslisted and the fact that any forward-looking statements made by HickoryTech andits management are based on estimates, projections, beliefs and assumptions ofmanagement, they are not guarantees of future performance. Except whererequired by law, HickoryTech disclaims any obligation to update or revise anyforward-looking statements based on the occurrence of future events, thereceipt of new information or otherwise.

**GENERALINFORMATION**

We maintain awebsite at (http://www.HickoryTech.com) to provide information to the generalpublic, customers, shareholders and potential investors about our products,services, general information about our company, its management, and financialreports and news. Copies of our most recent Annual Report or Form 10-K, ourQuarterly Reports on Form 10-Q and other reports filed with the Securities andExchange Commission (SEC), can be obtained, free of charge, as soon asreasonably practical after such material is electronically filed, or furnishedto the SEC. To obtain this information call our investor relations departmentat 507-387-3355, or provide an email request through our website, or write arequest addressed to:

Investor Relations

HickoryTech Corporation

PO Box 3248

221 East Hickory Street

Mankato, MN  56002-3248

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Our Board ofDirectors has adopted a Code of Ethics that is applicable to all of ourdirectors, the chief executive and chief financial officer, and to employeesinvolved in financial reporting. All employees of the Company have adopted aCode of Conduct and undergone extensive training on this code and on ethics.Our Board of Directors has also adopted written charters for all its committeesthat comply with the NASDAQ Stock Market, LLC. Copies of the committee chartersare available on our website or upon request by contacting our InvestorRelations department at 507-387-3355 or by writing the Investor Relationsdepartment at the address noted above.

All informationcontained in this 2006 Annual Report on Form 10-K is electronically filed withthe SEC. The SEC maintains an Internet site (http://www.sec.gov) that containsreports, proxy and information statements, and other information regardingissuers that file electronically with the SEC. The public may also read andcopy any materials that HickoryTech files with the SEC at the SEC PublicReference Room, located at 100 F Street, NE, Washington, DC 20549. The publicmay obtain information on the operation of the Public Reference Room by callingthe SEC at 1-800-SEC-0330.

**Item 1.     Business.**

##### **GENERAL**

HickoryTech is a diversified communications companyheadquartered in Mankato, Minnesota. HickoryTech has over a 100-year history inthe local telephone exchange business. It is operated in two business segments:the Telecom Sector and the Enventis Sector. HickoryTech’s core business is itsTelecom Sector, which consists of two product lines. The first product line ofthe Telecom Sector is the operation of three incumbent local exchange carriers(ILEC) and the operation of a competitive local exchange carrier (CLEC), whichHickoryTech initiated in 1998, and its associated competitive services of longdistance and Internet access. The second product line of the Telecom Sector isNational Independent Billing, Inc. (NIBI), which provides data processingservices to the telecommunications industry. In December 2003, HickoryTech soldwhat had been a third product line of the Telecom Sector, which providedwireless telecommunications services to customers in southern Minnesota and itssurrounding area, along with an area surrounding Minneapolis/St. Paul. Allfinancial statements and schedules have been restated to reflect wirelessoperations as discontinued operations.

On December 30, 2005, HickoryTech purchased EnventisTelecom (Enventis). Enventis is a Minnesota-based regional provider ofintegrated fiber network, Internet Protocol (IP) Telephony, and data services,with 1,500 route miles of fiber network serving more than 300 businesscustomers in over 40 communities in the Upper Midwest. Enventis had formerlybeen a wholly owned subsidiary of another public corporation.

In December 2006, HickoryTech sold what had been athird business segment (Enterprise Solutions), which provided telephone, dataand IP equipment sales and service. All financial statements and schedules havebeen restated to reflect Enterprise Solutions operations as discontinuedoperations.

Operating results for NIBI, which had previously beenreported in the Information Solutions Sector, have been recasted to be includedin the Telecom Sector to consolidate our reporting for similar operations forall years presented. With the addition of Enventis, NIBI became a smallproportion of the overall HickoryTech operations, measured on relativerevenues, operating income, manpower, strategic growth potential and on severalother levels. The primary internal user of NIBI services is the Telecom Sector.NIBI activities are of strategic value to HickoryTech, primarily because of thesupport services it provides to the Telecom Sector. The goals and objectives,and the way the NIBI product line is run, are closely aligned with that of theTelecom Sector. Due to the previously mentioned reasons, the NIBI product linewas combined with the Telecom Sector in 2006 and all comparative results wererecasted to conform to the current presentation.

The HickoryTech parent company was incorporated inMinnesota in 1985 and replaced Mankato Citizens Telephone Company (formed in1898) as the parent company.

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The seven current subsidiaries of HickoryTech and thebusiness segments in which they operate are:

**TELECOMSECTOR**

·                  Mankato Citizens Telephone Company (MCTC)

·                  Mid-Communications, Inc. (Mid-Comm)

·                  Heartland Telecommunications Company of Iowa,Inc. (Heartland)

·                  Cable Network, Inc. (CNI)

·                  Crystal Communications, Inc. (Crystal)

·                  National Independent Billing, Inc. (NIBI)

**ENVENTISSECTOR**

·                  Enventis Telecom, Inc. (Enventis)

HickoryTech andits subsidiaries are engaged in businesses that provide services to theircustomers for a fee. Many of these services are recurring, and, as a result,backlog orders and seasonality are not significant factors. Working capitalrequirements for the Telecom Sector include the financing of construction ofnetworks, which consists of switches and cable, data, IP and digital TV.Capital requirements are also needed for maintaining a high amount of fixedassets, capital for software development, paying payroll costs of highlyskilled labor, maintaining inventory to service capital projects and networkand telephone equipment customers, and providing for the carrying value oftrade accounts receivable, which may take several months to collect in thenormal course of business. Working capital requirements for the Enventis Sectorinclude the construction of fiber/optical equipment, IP equipment, capital forpayroll costs, the carrying value of accounts receivable, work-in-process andinventory.

The materials andsupplies that are necessary for the operation of the businesses of HickoryTechand its subsidiaries are available from a variety of sources. All ofHickoryTech’s central office switches are supplied by Nortel. A majority ofHickoryTech’s equipment sold in its Enventis Sector are supplied by Cisco.Nortel and Cisco are leading suppliers of communications and data equipment,and HickoryTech’s dependence on these brands is not viewed as a significantrisk.

**ACQUISITION**

On December 30,2005, HickoryTech purchased Enventis from ALLETE, Inc. The purchase price wascomprised of $35,500,000 in cash, subject to normal working capitaladjustments. Enventis is a transport and enterprise IP telephony sales businesswhich specializes in providing telecommunications and network solutions. Inaddition to its statewide SONET-based network, Enventis provides innovative IPservices that combine voice and data onto a single platform. Since 1997,Enventis has provided network solutions for a broad spectrum of largecorporate, non-profit, government and small business clients. Enventis hasoffices located in Duluth, Plymouth, and Rochester, Minnesota and Sioux Falls,South Dakota.

On December 30, 2005,HickoryTech entered into a $160,000,000 credit agreement with a syndicate ofbanks, which amended its previous credit facility. The proceeds were used tocarryover the outstanding obligations under the previous credit facility, payfees and expenses associated with the new credit facility, and pay costsassociated with the acquisition of Enventis (see Note 3 to the Notes to theConsolidated Financial Statements).

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**DISPOSITIONS**

Effective December31, 2006, HickoryTech sold Collins Communications Systems Co. “Collins” toSkyview Capital, LLC “Skyview”. The selling price was comprised of a $100,000note and up to $1,650,000 of earn-out payments in exchange for all of theCollins outstanding capital stock. Skyview paid HickoryTech $100,000 inFebruary 2007. The remaining selling price is due in contingent paymentspayable over the next four years based on financial targets reached by Skyview.The $100,000 mentioned above has been included in the calculation of the netloss mentioned below, while the contingent payments have not been included inthe net loss. The agreement also contains a service agreement, whereby Skyviewagrees to provide customer support as a subcontractor for HickoryTech’s Nortelequipment business. This agreement contains covenants against competition bythe new owner in south-central Minnesota. HickoryTech recorded a pre-tax losson the sale of $3,385,000 ($2,040,000 net of income taxes). The Collins resultsof operations were formerly reported in the Enterprise Solutions Sector. Theconsolidated statements of operations for all periods presented have beenrestated to reflect the Collins operations as discontinued operations (see Note3 to the Notes to the Consolidated Financial Statements).

On December 15,2003, HickoryTech sold its wireless business, MSWC, to Western WirelessCorporation (WWC). The consolidated statements of operations for all periodspresented have been restated to reflect wireless operations as discontinuedoperations (see Note 3 to the Notes to the Consolidated Financial Statements).

**INDUSTRYSEGMENTS FINANCIAL DATA**

Financial information about HickoryTech’s industrysegments is included on pages 24 to 28 and pages 53 to 55 of this 2006 AnnualReport on Form 10-K.

**INDUSTRY SEGMENTS**

HickoryTech reports the business operations of the ILECand CLEC and their associated services, and data processing (NIBI) services asa single segment referred to as the Telecom Sector. The results ofoperations of the Enterprise Solutions Sector are reported as discontinuedoperations (see Note 3 to the Notes to the Consolidated Financial Statements). The other business segment is the EnventisSector.

TELECOM SECTOR

HickoryTech’s Telecom Sector provides local exchangewireline telephone service, long distance, dial-up and broadband Internetaccess, and owns and operates fiber optic cable facilities. This Sectorincludes three ILEC’s: MCTC, Mid-Comm and Heartland. MCTC and Mid-Comm providetelephone service in south central Minnesota, specifically Mankato (a regionalhub) and eleven rural communities surrounding Mankato. The third ILEC,Heartland, provides telephone service for eleven rural communities in northwestIowa. In total, there are twenty-three ILEC exchanges within the TelecomSector.

The Telecom Sector also includes Crystal, a CLEC.Crystal provides local telephone service, long distance, dial-up and broadbandInternet access, and digital TV on a competitive basis. Crystal also connectscommunication networks of interexchange and wireless carriers with theequipment and facilities of end users. Crystal has customers in ten ruralcommunities, encompassing eight exchanges in Minnesota and three communities,encompassing two exchanges in Iowa that are not in HickoryTech’s ILEC serviceareas. Crystal also provides digital TV service in eight Minnesota communitiesin addition to its telephone services described above. They include St. Peter,initiated in 2001; Waseca in 2004; New Richland, Ellendale and St. Clair in2005; and Faribault, Lake Crystal and Eagle Lake in 2006, all of which arecommunities where HickoryTech provides telephone service either as an ILEC orCLEC. In September 2006, the Janesville City Council approved a cabletelevision franchise, which will make digital TV services available to theentire community by the spring of 2007. In October 2006, the City Councils ofboth Mankato and North Mankato unanimously approved cable television franchiseagreements, which will allow HickoryTech to offer digital TV services in thosecommunities and is targeted to begin in the second quarter of 2007.

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TheTelecom Sector also includes NIBI, which provides data processing and relatedservices, principally for HickoryTech companies, other local exchange telephonecompanies, CLEC’s, interexchange network carriers, wireless companies and cableTV providers. NIBI’s principal activity is the provision of monthly batchprocessing of computerized data for HickoryTech companies as well asnon-affiliated companies. Services for telephone company customers include theprocessing of long distance telephone calls from data sources and telephoneswitches, the preparation of subscriber telephone bills, customer recordkeeping and carrier access bills. There are a number of companies engaged insupplying data processing services comparable to those furnished by NIBI.Competition is based primarily on price and service. NIBI has developed anintegrated billing and management system called SuiteSolution. SuiteSolutioncan provide wireline and wireless carriers the individual benefits of a billingplatform or a total system solution. SuiteSolution is comparable in themajority of functional elements to similar products/companies providing enduser billing services for small to medium-size independent wireline andwireless service providers in North America. Certain features and functionalityof SuiteSolution, which are based on “Request for Proposal” responses, are morehighly rated than competing products, while other features and functionalitymay not be as highly rated as competing products. NIBI counts 18 to 20companies as its primary competitors in marketing to small to medium-sizeindependent wireline and wireless service providers in North America.SuiteSolution does not utilize uniquely patentable inventions or technologicalinnovations in the construction of the product. Commercially availableprogramming languages are utilized in the development of code that may, basedon needs of a prospective user, deliver solutions that are preferred over thoseof competing products.

HickoryTech also owns and operates fiber optic cablefacilities in Minnesota in its Telecom Sector, in addition to its EnventisSector. These facilities are used to transport interexchange communications asa service to telephone industry customers. HickoryTech’s Minnesota ILEC’s andCLEC are the primary users of the fiber optic cable facilities in the TelecomSector. None of the remaining companies in the Telecom Sector experienced majorchanges in operations during 2006 or 2005, other than the cumulative effect ofrepeated periodic declines in network access revenues and the gradual erosionof access lines in service, which has reduced the profitability of this Sector.

MCTC derives its principal revenues and income fromlocal services charged to subscribers in its service area, access servicescharged to interexchange carriers and the operation of a toll tandem-switchingcenter in Mankato, Minnesota. Revenues and income for Mid-Comm are also derivedfrom local service charges in its area of operation and by providing access tolong distance services for its subscribers through the toll center in Mankato.Local and interexchange telephone access for the two companies is provided onan integrated basis. The local and interexchange telephone access for bothtelephone companies utilize the same facilities and equipment and are managedand maintained by a common workforce. Heartland derives its principal revenuesand income from local services charged to subscribers in its service area inIowa, as well as from providing interexchange access for its subscribers.Interexchange telephone access is provided by all three of HickoryTech’s ILECsubsidiaries by connecting the communications networks of interexchange andwireless carriers with the equipment and facilities of end users through itsswitched networks or private lines. Network access revenue accounted for 22.5%,42.8% and 44.9% of total revenue for HickoryTech in 2006, 2005 and 2004respectively. The lower percentage in 2006 is primarily due to the Enventisacquisition. Without the Enventis Sector, access revenues would have accountedfor 39.8% of the total revenue for HickoryTech in 2006.

MCTC and Mid-Comm are Minnesota public utilitiesoperating pursuant to indeterminate permits issued by the Minnesota PublicUtilities Commission (MPUC). Heartland is also a public utility, which operatespursuant to a certificate of public convenience and necessity issued by theIowa Utilities Board (IUB). These state agencies regulate the services providedby MCTC, Mid-Comm and Heartland. CNI operations are not subject to regulationby the state regulatory authority. Neither the MPUC nor the IUB regulate therate of return or profits of each of HickoryTech’s ILEC operations due to thesize of these companies relative to state regulation. In Minnesota, regulatorsmonitor MCTC and Mid-Comm price and service levels. MCTC and Mid-Comm localservice rates are below those of most Minnesota ILEC’s. HickoryTech and itssubsidiaries can change its local rates by evaluating various factors,including economic and competitive circumstances.

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As local exchange telephone companies, MCTC, Mid-Command Heartland provide end office switching and dedicated circuits to longdistance interexchange carriers. These relationships allow HickoryTech’stelephone subscribers to place long distance telephone calls to the telephonenetwork. HickoryTech provides interexchange access to its network forinterexchange carriers to conduct long distance business with individualcustomers who select a long distance carrier and for termination of calls toall customers. This interexchange access business is separate and distinct fromHickoryTech’s own long distance retail business, which is operated in itsCrystal subsidiary. The long distance interexchange carriers are significantcustomers of HickoryTech, but no carrier represents more than ten percent ofHickoryTech’s consolidated revenues.

Alternatives to HickoryTech service include customersleasing private lines in lieu of switched voice services and data services inor adjacent to the territories served by HickoryTech, which permits thebypassing of local telephone switching facilities. Additionally, servicesprovided by other companies utilizing various Internet, wireline or wirelesstechnologies permit bypass of the local exchange network. Cable TV companiesalso provide Internet, Digital Subscriber Line (DSL) and voice services in ourmarkets. These alternatives to the local exchange service represent a potentialthreat to HickoryTech’s long-term ability to provide local exchange service ateconomical rates.

Competition exists in several of HickoryTech’s ILECservice areas. A municipality has overbuilt Heartland’s network in onecommunity in Iowa and now serves over half of that market. Additionally, cableTV providers are offering voice services in several Heartland communities, twoMid-Comm communities and are also poised to do so in additional exchanges,including Mankato. MCTC, Mid-Comm, Heartland and Crystal are also periodicallyengaged in negotiations or renegotiations of arrangements for networkinterconnections and potential unit price declines with other wireline carriersand various wireless service providers. Although competition from these varioussources may result in reduced revenue, HickoryTech cannot, at this time,estimate the potential impact related to these events or negotiations.

Competition also exists for someof the HickoryTech services provided to interexchange carriers, such asdedicated private lines, network switching and network routing. Thiscompetition comes primarily from the interexchange carriers themselves, in thatcarriers may decide that the services provided by HickoryTech may be redirectedor handled on their own network or on other networks. The provision of theseservices is primarily month-to-month service ordered from a generaltariff, which is a schedule of terms, rates and conditions that is approved bythe appropriate state or federal agency. The interexchange carriers primarilycontrol the procurement of these services.As interexchange carriers make these service decisions, they have the potentialto reduce the Company’s revenue in the Telecom Sector. Other services, such asthe provision of broadband, long distance service, directory advertising, enduser equipment and customer billing services are open to competition.

Crystal began operations in January 1998 as a new CLEC.Crystal offers local service, long distance, dial-up and broadband Internetaccess services, and digital TV on a competitive basis to customers in southernMinnesota and Iowa, which were not previously served by HickoryTech’s TelecomSector service area. These service offerings provide customers alternatives tothe incumbent communication providers in various communities and are offeredunder the brand name HickoryTech. These services are currently being offered tocustomers in ten rural communities, encompassing eight exchanges in Minnesota,as well as three communities, encompassing two exchanges in Iowa. Crystal hasalso been granted the necessary authority to provide service in another ILECcommunity in Northwest Iowa. Crystal also provides the long distance service,dial-up and broadband Internet access services to HickoryTech’s ILECsubscribers and is providing digital TV in one community served by Mid-Comm, aswell as seven CLEC communities.

CLEC activities require Crystal to file for authority tooperate with the appropriate public utilities commission (PUC) in each state itserves. Crystal competes directly against existing ILEC’s in the areas in whichit operates. Crystal competes directly with incumbent cable TV providers andsatellite for its high speed internet and digital TV services. Crystal ispresently providing these services under franchise agreements with localcommunities. Crystal is not dependent upon any single customer or small groupof customers. No single customer in Crystal accounts for ten percent or more ofHickoryTech’s consolidated revenues.

HickoryTech is investigating a potential civil disputebeing discussed with a municipality regarding contract payments fromHickoryTech to the municipality in support of the Company’s CLEC product line.While no formal dispute or claim has been filed, HickoryTech and themunicipality have exchanged letters outlining their disagreement. No estimateof the impact, if any, related to this item can be made by the Company at thistime.

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ENVENTIS SECTOR

OnDecember 30, 2005, HickoryTech acquired Enventis. Through Enventis, HickoryTechprovides integrated data services, offering fiber optic-based communication andadvanced data services to business communities in the Upper Midwest. Enventisowns or has long-term leases to approximately 1,500 route miles of fiber opticcable. Enventis also has extensive local fiber optic rings that directlyconnect the Enventis network with its larger clients (e.g. health care, governmentand education). Other local fiber rings connect the Enventis network to thelocal telephone company’s central offices. This allows Enventis to utilize thetelephone company’s connections to access its smaller clients. Enventis servescustomers through facilities that are primarily leased from third parties.Enventis has business relationships with Cisco Systems, Inc. and is recognizedby Cisco as a Gold Partner. The relationship with Cisco Systems, Inc. is astrategic partnership of Cisco (as the supplier) and HickoryTech (as thedistributor). Enventis is a regional leader in deploying leading edgetechnologies such as IP call centers. Enventis has offices located in Plymouth,Duluth and Rochester, Minnesota and Sioux Falls, South Dakota. Enventis providesconverged IP services that allow all communications (e.g. voice, video anddata) to use the same fiber optic-based delivery technology.

Enventis’product portfolio includes Encompass Unified Communications (Encompass), whichserves small-to-medium-sized businesses. Encompass is a hosted or managed IPcommunications service includinglocal and long distance voice; business IP telephony via hosted IP privatebranch exchange; unified messaging (a single inbox for voicemail, e-mail, andfax), and dedicated Internet access. Encompass leverages Voice over InternetProtocol (VoIP) or IP telephony over a private connection, minimizing upfrontcapital investment and information technology management overhead. VoIP enablesadvanced functionality, voice interoperability with PCs, and scalability.Enventis has been granted authority to operate from the PUCs in Minnesota andWisconsin for private line services that are subject to minimal regulation.Enventis has been granted Minnesota authority to provide regulated localtelephone (voice) services. Those services are provided primarily in a fashionthat augments its VoIP service. Services provided by Enventis compete directlywith those from ILEC’s and other providers in the area in which it operates.Enventis is not dependent upon any single customer or small group of customers.

ENTERPRISE SOLUTIONS SECTOR

Effective December31, 2006, HickoryTech sold Collins to Skyview. The selling price was comprisedof a $100,000 note and up to $1,650,000 of earn-out payments in exchange forall of the Collins outstanding capital stock. Skyview paid HickoryTech $100,000in February 2007. The remaining selling price is due in contingent paymentspayable over the next four years based on financial targets reached by Skyview.The $100,000 mentioned above has been included in the calculation of the netloss mentioned below, while the contingent payments have not been included inthe net loss. The agreement also contains a service agreement, whereby Skyviewagrees to provide customer support as a subcontractor for HickoryTech’s Nortelequipment business. This agreement contains covenants against competition bythe new owner in south-central Minnesota. HickoryTech recorded a pre-tax losson the sale of $3,385,000 ($2,040,000 net of income taxes). The Collins resultsof operations were formerly reported in the Enterprise Solutions Sector. Theconsolidated statements of operations for all periods presented have beenrestated to reflect the Collins operations as discontinued operations (see Note3 to the Notes to the Consolidated Financial Statements).

**EMPLOYEES**

Weemploy approximately 400 employees most of whom are based in Minnesota. A totalof approximately 283 employees are located at our headquarters in Mankato, MN.We have a collective bargaining agreement with the International Brotherhood ofElectrical Workers, or IBEW, which covers approximately 93 of our employees andexpires in March 2007. Negotiations for this agreement are currently inprogress. There have been no work stoppages or strikes by our IBEW employees inthe past 30 years and we consider our labor relations to be good.

**INTELLECTUAL PROPERTY**

Webelieve we have trademarks, trade names and licenses that are necessary for theoperation of our business as we currently conduct it. The HickoryTech logo is aregistered trademark of the United States. We do not consider our trademarks,trade names or licenses to be material to the operation of our business.

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**OTHER REGULATION**

The effects of telecommunications regulation on theCompany’s business is discussed in the business sector discussion above.HickoryTech does not anticipate any material effects on its earnings, capitalexpenditures or competitive position because of laws pertaining to theprotection of the environment.

**OTHERCOMPETITION**

The effects of telecommunications regulation on the Company’s businessis discussed in the business sector discussion above. HickoryTech’sbusiness strategy has been to position itself as a quality communicationsservices provider. Long-term business relationships with its customers havestrengthened HickoryTech’s business position. HickoryTech believes that itscustomers value the fact that it is the “local company” whose goal is to meetthe customers’ communications needs. HickoryTech has several competitiveadvantages: price, service, investment in technology; direct billingrelationship with almost all of the customers in its service territories and ispositioned to offer a wide range of wired communications service from onesource.

As an integrated communicationsand equipment service provider to businesses through its Enventis Sector,HickoryTech differentiates itself from competition with its unique affiliationwith an operating telecom company, strategic network and its ability to respondquickly.

The long-range effect of competition on the provision ofcommunications services and equipment will depend on technological advances,regulatory actions at both state and federal levels, court decisions, andpossible additional future state and federal legislation. The trend resultingfrom past legislation has been to expand competition in the telecommunicationsindustry. It is imperative to HickoryTech that competition in this industry befostered with equal amounts of responsibility, regulation and opportunity forall providers.

**Item 1A.    RiskFactors.**

Our business facesmany risks, all of which may not be described below. Additional risks of whichwe are currently unaware or believe to be immaterial may also result in eventsthat could impair our business operations. If any of the events orcircumstances described in the following risks actually occur our business,financial condition or results of operations may suffer, and the trading priceof our stock could decline.

**Risk related to Our Business**

*A lack of parity between us and our competitors concerning regulatoryfees and assessments and tax laws could adversely impact our ability toprofitably compete*. The telecommunications industry isheavily taxed and assessed. As regulated entities, we serve as thepass-through entity responsible for charging and collecting the fees and taxesfrom our end-user customers and remitting the monies collected to the taxingand regulatory authorities. Unless regulators and taxing authoritieschange or clarify their rules and regulations to include our competitors, orderegulate and exclude us, the lack of parity could adversely impact ourability to effectively compete on price.

*Consolidation among our customerscould result in our losing a customer or experiencing a slowdown as integrationtakes place*. Consolidationmay impact our business as our customers focus on integrating their operations.We believe that in certain instances customers engaged in integratinglarge-scale acquisitions may scale back their purchases of network equipmentand network services while the integration is ongoing. Further, onceconsolidation occurs, our customers may choose to reduce the number of vendorsthey use to source their equipment or consolidate their circuits or networkrouting. After a consolidation occurs, there can be no assurance that we willcontinue to supply equipment or network services to the survivingcommunications service provider. The impact of significant mergers on ourbusiness is likely to be unclear until sometime after such transactions haveclosed.

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*Many of our competitors are major communicationscompanies that have more extensive resources.*We compete inour various markets with regional telephone companies and cable companies, withlarge-scale network providers, and all the wireless, Internet and long distancecompetitors. Many of these companies have substantially greaterfinancial and marketing resources as well as greater name recognition thanours. In addition, given their financial resources and scale, these companiesmay be able to devote more capital to newer technologies and/or use their costadvantages to reduce prices for an extended period of time.

*Shifts in our product mix may result in declines in operatingprofitability*. Possiblechanges in the demand for our products and services includinglower-than-anticipated-demand for telephone services, reductions in accesslines per household or minutes of use volume associated with telephone service,declines in demand for data processing services or billing systems for NIBI, incommunication and data equipment for the Telecom and the Enventis Sectors,migration in technology from circuit switched to IP based technology forservices for all Sectors, and for network solutions for our Telecom andEnventis Sectors, may result in lower operating profitability. In addition, ouroperating profitability could decrease based on the amount of new products wesell that have lower startup operating profitability than our existing productsand services. All of these factors could reduce our operating profitability.Changes in product mix may also cause some of our inventory to become obsolete.We currently manage potential obsolescence through reserves, but futuretechnology changes may exceed current reserves.

*Technologicaladvances in the telecommunications industry create increased operating costs*. The telecommunications industry has seen everincreasing technological advances over the past several years. Thesetechnological advances increase costs to maintain and improve networks andprovided top-end communication products and services that are demanded by ourcustomer base in order to stay competitive with other companies that offersimilar services. Innovation in the IP network migration of switchedcommunication services as well as in our communication system products maycreate challenges to our ability to provide high-quality service and may createreduced demand as customers wait to study their choices. Wirelesscommunications, mobile/non-fixed point service and various Internet andsatellite communication innovations also create technological competition forus.

*The telecommunications industryis highly competitive.*TheTelecommunications Act of 1996 permitted competition among communicationcompanies for the rights to interconnect with established networks and toestablish new networks in order to offer telephone service to customers in afranchised area. We serve as an ILEC in a number of franchised areas, as wellas competing in a number of markets against other established incumbents. Thedifferentiating competitive factors include products and service, technologyadvancement, reputation and price. Competition has increased in many of themarkets that we serve and encompasses a majority of the lines serviced in thosemarkets. This enhances the risk that we may not be able to respond on a timelyor profitable basis. In addition, other telecommunication carriers look to staycompetitive by altering their choice of networking routes, points ofinterconnection, technology or signaling protocol, and other telecommunicationissues, all which could have a material adverse affect on our profitability.

*We depend on third parties, over whom we have nocontrol, to deliver our services*. Because of the interconnected nature of the communicationsindustry, we depend heavily on other telecommunications companies, networkproviders, program service providers, and equipment vendors, to deliver ourservices. In addition, we are dependent on easements, franchises, andlicenses from various private and public entities in order to construct and tooperate our networks. The failure to maintain in effect the necessarythird party arrangements on acceptable terms would have an adverse effect onour ability to conduct our business.

*We expect to continue to face significant competition in all parts ofour business and the level of competition is expected to intensify.* The Telecommunicationsindustry is highly competitive, as explained in the previous section. Wemay not be able to successfully anticipate and respond to various competitivefactors affecting our industry, including regulatory and technology changesthat may affect our competitors and us differently, changes in consumer andcommercial preferences, demographic trends and discount pricing strategies byour competitors. We also now face competition from cable TV companies, who are providing Internet, DSL and voice servicesin our markets.

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*We may be nearing the end of the growth phase of our CLEC edge-outstrategy initiated in 1998, as the additions for market share penetration inCLEC communities is surpassed by competition and customer churn.* We have experienced aslight decline in our CLEC customer base. We have reached a level ofpenetration in the majority of our CLEC communities where competition and othercommunication alternatives have increased our customer churn. This enhances therisk that we may experience a future erosion of our customer base in our CLECmarkets.

*We may not be able tosuccessfully introduce new products and services*.**Our successdepends upon our ability to successfully introduce new products and services,our ability to offer bundled service packages on terms attractive to ourcustomers, our ability to successfully expand our long distance, Internet, anddigital TV offerings to new markets, our ability to introduce and distributethe equipment and systems of manufacturers of switching equipment and thesuppliers of communications technology compared to the competitive alternativesof other suppliers, the ability of Enventis to provide transport solutions andcompetitive IP services, including telecommunications and network solutions,and the ability of our CLEC business to provide competitive local service innew markets

*We may not accurately predict technological trends or the success ofnew products in these markets*. New product development oftenrequires long-term forecasting of market trends, development and implementationof new technologies and processes and substantial capital investment. Inaddition, we do not know whether our products and services will meet withmarket acceptance or be profitable. Many of our competitors have greaterresources than we do. If we fail to anticipate or respond in a cost-effectiveand timely manner to technological developments, changes in industry standardsor customer requirements, if we have any significant delays in productdevelopment or introduction, or if any of our relationships with our vendorsare negatively impacted, our business, operating results and financial conditioncould be materially adversely affected.

*We operate our network and our business undercontracts and franchises that are subject to non-renewal or termination*. Our network operates pursuantto franchises, permits or rights from public and private entities, which areterminable if we fail to comply with material terms of the authority wereceive. These permits, and many contracts we utilize in our network, havefixed terms and must be renewed periodically. Our success is dependent oncontinuing these relationships without material increase in our expenses orrestrictions on our use.

**Risk related to the Management of Our Operations**

*A failure in our operational systems or infrastructure could impair ourliquidity, disrupt our business, damage our reputation and cause los*s. Shortcomings or failures in ourinternal processes, people or systems could impair our liquidity, disrupt ourbusiness, result in liability to customers or regulatory intervention, damageour reputation or result in financial loss. For example, our telephoneoperations rely on a central switch to complete local and long distance phonecalls to various customers. An interruption in the switch operations could leadto interrupted service for customers. To be successful, we will need to continueproviding our customers within a high capacity, reliable and secure network.Disruptions or system failures may cause interruptions in service or reducedcapacity for customers. In addition, our financial, accounting, data processingor other operating systems and facilities may fail to operate properly orbecome disabled as a result of events that are wholly or partially beyond ourcontrol, thereby adversely affecting our ability to process transactions. Ourinability to accommodate an increasing volume of transactions also couldconstrain our ability to increase revenues and expand our businesses. Despitethe existence of contingency plans and facilities, our ability to conductbusiness may be adversely impacted by a disruption in the infrastructure thatsupports our businesses and the communities in which these businesses arelocated.

*Employee misconduct is difficult to detect and prevent, and may have anadverse effect on the Company’s business*. Although we have not experienced anysignificant employee misconduct to date, there have been a number of highlypublicized cases with other companies involving fraud or other misconduct byemployees in recent years, and we may run the risk that employee misconductcould occur. It is not always possible to deter or prevent employee misconductand the precautions that we take to prevent and detect this activity may not beeffective in all cases.

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*Our businesses may be adversely affected if we are unable to hire andretain qualified employees*.Our performance is largely dependant on the talents and efforts ofhighly skilled individuals in the operations of our telecommunicationbusinesses, including telephone operations, billing software development andtelecommunications equipment sales and service. Technological advances forceour employees to upgrade their knowledge base continually in order to keep pacewith these advances. Our ability to compete effectively depends upon ourability to attract new qualified employees and retain and motivate our existingemployees. In addition, we may acquire additional businesses in the future andour success will depend, in part, upon our ability to retain and integratepersonnel from acquired businesses who are necessary to the continued successor the successful integration of these acquired businesses.

*Our operations have undergone material changes, and our actualoperating results can be expected to differ from the results indicated in ourhistorical financial statements*. As a result of our 2005acquisition of Enventis, our mix of operating results differs from theoperations upon which our historical financial statements are based. Ourmix of operating assets is different. Consequently, our historicalfinancial statements may not be reliable as an indicator of future results.

*Unanticipated increases in capital spending, operating oradministrative costs, or the impact of new business opportunities requiringsignificant up-front investments***.**We operate in cash-flow-dependent businesses. Our existingnetworks require large capitalized up-front investments for growth andmaintenance. Our operating expenses in the form of payroll for a highly trainedworkforce and the maintenance cost of telecommunications networks are alsolarge uses of cash. Our debt service obligation and our dividends toshareholders also require significant cash each year. New business developmentmay require additional up-front investment in assets and funding of early stageoperating losses. We have business plans which provide adequate sources of cashfrom operations to fund these endeavors, and we select the balance of old andnew business to appropriately fund the Company. The risk is from any suddenunanticipated increases in cash outflow after we have already initiated ourbusiness plans. If this were to happen, we would have to alter our futurebusiness plans, which possibly could affect our growth.

*We may not be able to manage our growth effectively*. Ourability to manage our growth effectively, including our ability to integratethe operations of new businesses internally developed or external businessesacquired into our operations, may adversely affect our business results ofoperations and financial condition. In addition, our ability to achieveprojected economies of scale and cost savings, meet cash flow projections invaluing newly acquired businesses, successfully absorb the impact of changes inaccounting policies as required by generally accepted accounting principles,manage the working capital needs of our business and generate cash flow to serviceour debt, conform with existing debt covenants and negotiate new debtfacilities, and identify future acquisition opportunities for growth may alsoadversely affect our business results of operations and financial condition.

**Risk related to Regulations**

*As an ILEC in our service area, we are subject to regulation that isnot applicable to our competitors*. Federal regulationsrequire us to, among other things, share facilities, allow unbundled access toour network and resale of our services purchased at wholesale rates, filetariffs for network access charges, maintain certain accounting records, andfile certain regulatory reports. As our business becomes increasinglycompetitive, these regulatory disparities could impede our ILEC business’sability to compete in the marketplace, which, in turn, could have a materialadverse effect on our business.

*Future regulation may result in lower revenues*. The outcome of future regulatory and judicialproceedings pertaining to interconnection agreements and access charge reformmay result in greater-than-anticipated reductions in revenues received fromfederal and state access charges for switching long distance traffic.Regulatory rules and policies also may adversely affect our ability to changeour prices for telephone services in response to competitive pressures.

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*Changes to laws and regulations to which we are subject, and theintroduction of new technologies, may result in reduction of revenues fromnetwork access charges*. Access charges, which areintended to compensate us for originating, terminating or transporting othercarriers’ calls on our network, accounted for approximately 23% of our totalrevenue in 2006. The large national carriers who pay these charges haveadvocated in the past, that access charges they are required to pay should bereduced. And some network providers have argued that access charges do notapply to specific types of their traffic. Emerging technologies, such asVoIP, has caused a debate about whether access charges apply. As our businessbecomes increasingly competitive, the regulatory disparities regarding networkaccess revenue, the marketplace forces on its pricing levels, and ourability to enforce the historical rules for collecting these revenues,could have a material adverse effect on our business. We cannot predict whetheror when action may be taken on any of these issues, or what effect any actionmay have on revenues and costs of our ILEC and CLEC operations.

**Risk related to Financial Aspects of Our Company**

*A failure to maintaineffective internal controls could adversely affect our business*. Although we have completed thedocumentation and testing of the effectiveness of our internal control overfinancial reporting for fiscal 2006, as required by Section 404 of the Sarbanes-OxleyAct of 2002, we expect we will have to incur continuing costs, includingincreased accounting fees and increased staffing levels, in order to maintaincompliance with that section of the Sarbanes-Oxley Act. In addition, ourability to integrate the operations of other companies that we acquire in thefuture could impact our compliance with Section 404. In the future, if we failto complete the Sarbanes-Oxley 404 evaluation in a timely manner, or if ourindependent registered public accounting firm cannot attest in a timely mannerto our evaluation or to the efficacy of our internal controls, we could besubject to regulatory scrutiny and a loss of public confidence in our internalcontrols. In addition, any failure to implement required new or improvedcontrols, or difficulties encountered in their implementation, could harm ouroperating results or cause us to fail to meet our reporting obligations.

*Anti-takeover provisions in ourcharter documents, our shareholder rights plan and Minnesota law could preventor delay a change in control of our Company*. Provisions of our articles ofincorporation and bylaws, our shareholder rights plan (also known as a “poisonpill”) and Minnesota law may discourage, delay or prevent a merger oracquisition that a shareholder may consider favorable and may limit the marketprice for our common stock. These provisions include the following:

·                  advance notice requirements forshareholder proposals;

·                  authorization for our Board ofDirectors to issue preferred stock without shareholder approval; and

·                  limitations onbusiness combinations with interested shareholders.

Some of theseprovisions may discourage a future acquisition of HickoryTech even though ourshareholders would receive an attractive value for their shares or asignificant number of our shareholders believe such a proposed transactionwould be in their best interest.

*Customerpayment defaults could have an adverse effect on our financial condition andresults of operations*. As a result of adverse market conditions,some of our customers may experience serious financial difficulties. Some ofthe interexchange carriers and long distance companies which utilize ournetwork are our largest customers when it comes to recurring revenue. In somecases these difficulties have resulted or may result in bankruptcy filings orcessation of operations. If customers experiencing financial problems defaulton paying amounts owed to us, we may not be able to collect these amounts orrecognize expected revenue. It is possible those customers from whom we expectto derive substantial revenue will default or that the level of defaults willincrease. Any material payment defaults by our customers would have an adverseeffect on our results of operations and financial condition. We currentlymanage this exposure through an allowance for doubtful accounts. An unexpectedbankruptcy or default from a customer may not be fully reserved in ourallowance. In addition, some of our competitors engage in financingtransactions with some of their customers for the purchase of equipment. Toremain competitive, it may become necessary for us to offer similar financingarrangements. If such financings occur, it would be our intent to sell all or aportion of these commitments and outstanding receivables to third parties. Inthe past, we have sold some receivables with recourse and have had tocompensate the purchaser for the related losses.

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*If weseek to secure additional financing, we may not be able to obtain it. Also, ifwe are able to secure additional financing, our shareholders may experiencedilution of their ownership interest or we may be subject to limitations on ouroperations*. Wecurrently anticipate that our available cash resources, which include ourcredit facility, existing cash, cash equivalents and available-for salesecurities, will be sufficient to meet our anticipated needs for workingcapital and capital expenditures to execute our near-term business plan, basedon current business operations and economic conditions. If our estimates areincorrect and we are unable to generate sufficient cash flows from operationsand we expend our credit facility, we may need to raise additional funds. Inaddition, if one or more of our strategic acquisition opportunities exceeds ourexisting resources, we may be required to seek additional capital. If we raiseadditional funds through the issuance of equity or equity-related securities,our shareholders may experience dilution of their ownership interests and thenewly issued securities may have rights superior to those of common stock. Ourexisting debt covenants require a portion of the proceeds of an equity offeringbe applied to the outstanding debt balance. If we raise additional funds byissuing additional debt, we may be subject to restrictive covenants that couldlimit our operating flexibility and interest payments could dilute earnings pershare.

*Our indebtedness could restrict our operations*. As of December 31, 2006, wehad $143,089,000 of total indebtedness, including current maturities. Werefinanced our indebtedness in December 2005. Our indebtedness couldrestrict our operations because we will use a substantial portion of our cashflow from operations to pay principal and interest on our indebtedness, whichwill reduce funds available for working capital, capital expenditures,acquisitions and other general corporate purposes.

*Ourstock price is volatile*. Based on the trading history of our commonstock and the nature of the market for publicly traded securities of companiesin our industry, we believe that some factors have caused and are likely tocontinue to cause the market price of our common stock to fluctuatesubstantially. These fluctuations could occur day-to-day or over a longerperiod of time and mat be accentuated by the lack of liquidity in ourstock.  The factors that may cause suchfluctuations include, without limitation:

·                  announcements of new products andservices by us or our competitors;

·                  quarterly fluctuations in ourfinancial results or the financial results of our competitors or customers;

·                  increased competition with ourcompetitors or among our customers;

·                  consolidation among our competitorsor customers;

·                  disputes concerning intellectualproperty rights;

·                  the financial health of HickoryTech,our competitors or our customers;

·                  developments in telecommunicationsregulations;

·                  general economic conditions in theUnited States or internationally; and

·                  rumors or speculation regardingHickoryTech’s future business results and actions.

In addition,stocks of companies in our industry in the past have experienced significantprice and volume fluctuations that are often unrelated to the operatingperformance of such companies. This market volatility may adversely affect themarket price of our common stock.

*We are subject to risksassociated with changes in interest rates*. We face market risks from changes ininterest rates. Market fluctuations could affect our results of operations andfinancial condition adversely. At times, we reduce this risk through the use ofderivative financial instruments. However, we do not enter into derivativeinstruments for the purpose of speculation. We have entered into these interestrate protection agreements, which have remaining maturities of eighteen months,in order to manage our exposure to interest rate movements. If interest ratesfail to rise as anticipated when the instruments were acquired, the affect onthe Company will be that it will experience higher-than-market-rate interestexpense, and have paid for protection which wasn’t needed. We also riskentering a higher interest rate environment when the interest rate protectionagreements expire in 2008. This could affect our future interest expense level.

*We mayencounter litigation that has a material impact on our business*. We are aparty to various lawsuits, proceedings and claims arising in the ordinarycourse of business or otherwise. Many of these disputes may be resolvedamicably without resort to formal litigation. The amount of monetary liabilityresulting from the ultimate resolution of these matters cannot be determined atthis time. None of the matters we are aware of have required us to record lossreserves, and at this time we believe the ultimate resolution of theselawsuits, proceedings and claims will not have a material adverse impact on ourbusiness, results of operations or financial condition. Because of theuncertainty inherent in litigation, it is possible that unfavorable resolutionsof these or other lawsuits, proceedings and claims against us have a materialadverse affect on our business, results of operations or financial condition.

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**Item 1B.****Unresolved Staff Comments.**

Thereare no written comments that were received from the SEC staff 180 days or morebefore the end of our fiscal year relating to our periodic or current reportsunder the Securities Exchange Act of 1934.

**Item 2.****    Properties.**

HickoryTech’s business is primarily focused on theprovision of service and its properties are used for administrative support andto store and safeguard equipment. At December 31, 2006, HickoryTech’s grossproperty, plant and equipment of $309,264,000 (net balance of $152,835,000)consisted primarily of telephone switches, cable, fiber optic networks andnetwork equipment. HickoryTech owns or leases the telephone property, plant andequipment that it utilizes to operate its telephone systems. The three ILECsubsidiaries of HickoryTech in Minnesota and Iowa own central telephone officeswith related real estate in all of the communities they serve. HickoryTech’sTelecom Sector owns the telephone network, including telephone outside plant,fiber optic cable and central office equipment, over which they provideservices to its customers. HickoryTech’s Enventis Sector owns, or hasindefeasible rights to use, or has long-term leasing commitments to itsextensive fiber optic network and switching system. It is the opinion ofHickoryTech’s management that the properties of HickoryTech are suitable andadequate to provide modern and effective telecommunications services within itsservice areas, including local dial-tone, long distance service, dedicated andswitched long-haul transport.

HickoryTech’s principal property locations are thefollowing:

(1)                            MCTC’sgeneral offices and principal central office exchange building are located indowntown Mankato, Minnesota. This facility, built in 1963, is owned by MCTC andis a three-level brick and stone building containing approximately 60,000square feet of floor space.

(2)                            MCTC’smain warehouse is located in Mankato, Minnesota. The warehouse, built in 1996,is owned by MCTC and is a two-story concrete building containing approximately48,000 square feet. The warehouse is used to store vehicles and supplies and isalso used as office space for engineers and technicians.

(3)                            Heartland’smain central office equipment is located in a one-story brick structure ownedby Heartland in Rock Rapids, Iowa containing approximately 1,500 square feet.Heartland also leases approximately 2,000 square feet of general office spacein Rock Valley, Iowa.

(4)                            Crystalleases office space of approximately 6,800 square feet in Mankato, Minnesotaand approximately 6,000 square feet in Urbandale, Iowa.

(5)                            NIBIowns a four-level building in Mankato, Minnesota containing approximately17,000 square feet.

(6)                            Enventisleases approximately 13,000 square feet of office space in Plymouth, Minnesotafor general offices, technology services, and system support.

(7)                            Enventisleases approximately 7,500 square feet in Duluth, Minnesota for general officesand the network operations center.

(8)                            Enventisleases approximately 1,700 square feet in Rochester, Minnesota for generaloffices and a network equipment facility.

(9)                            Enventisleases approximately 800 square feet in Sioux Falls, South Dakota for generaloffices.

**Item 3.****    Legal Proceedings.**

There are no materialpending legal or governmental proceedings directly involving HickoryTech or itssubsidiaries, other than ordinary routine litigation or ordinary routineutility matters, incidental to the business of HickoryTech and itssubsidiaries.

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**Item 4.****    Submission of Matters to a Vote of SecurityHolders.**

No matters were submitted to a vote of security holders during thefourth quarter of the fiscal year covered by this 2006 Annual Report on Form10-K.

**PART II**

**Item 5.****           Market for Registrant’s Common Equity, RelatedStockholder Matters and Issuer Purchases of Equity Securities.**

The common stock of HickoryTech is traded on The NASDAQStock Market under the symbol “HTCO”.

The following table sets forth for the period indicatedthe high and low closing sales price of the common stock.          
|          | ** ** | ** **       | ** ** | **High** | ** ** | **Low** | ** ** | **End of Qtr.** | ** ** |
|----------|------------|------------------|------------|----------|------------|---------|------------|---------------------------|------------|
| **2006** |       | 4th Quarter |       | $        | 7.50       |    | $          | 6.85                      |       | $ | 7.15 |   |
|     |       | 3rd Quarter |       | $        | 7.22       |    | $          | 6.93                      |       | $ | 7.00 |   |
|     |       | 2nd Quarter |       | $        | 8.20       |    | $          | 6.61                      |       | $ | 7.00 |   |
|     |       | 1st Quarter |       | $        | 8.95       |    | $          | 7.95                      |       | $ | 8.43 |   |
|     |       |             |       |     |       |    |       |                      |       |
| **2005** |       | 4th Quarter |       | $        | 8.70       |    | $          | 7.75                      |       | $ | 7.89 |   |
|     |       | 3rd Quarter |       | $        | 9.47       |    | $          | 8.11                      |       | $ | 8.80 |   |
|     |       | 2nd Quarter |       | $        | 10.47      |    | $          | 8.00                      |       | $ | 8.07 |   |
|     |       | 1st Quarter |       | $        | 11.25      |    | $          | 10.16                     |       | $ | 10.16 |   |

 

As of February 15,2007, there were 1,470 registered shareholders and 2,168 beneficial owners ofHickoryTech stock.

HickoryTech hasdeclared quarterly dividends on its common stock of $0.12 per share for the twoyears ended December 31, 2006 and 2005. A quarterly cash dividend of $0.12 pershare will be paid on March 5, 2007 to stockholders of record at the close ofbusiness on February 15, 2007.

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**Five Year Shareholder Return Performance Presentation**

The followingtable compares the cumulative total shareholder return on the common stock ofHickoryTech for the last five fiscal years with the cumulative total return onthe Russell 2000 Index and the NASDAQ Telecommunications Index. “Totalshareholder return” assumes the investment of $100 in HickoryTech’s commonstock, the Russell 2000 index and the NASDAQ Telecommunication Index onDecember 31, 2001 and reinvestment of all dividends.

Total Return to Shareholders(Includes reinvestment of dividends)

**COMPARISON OF 5 YEAR CUMULATIVETOTAL RETURN***

Among Hickory TechCorporation, The Russell 2000 Index

And The NASDAQTelecommunications Index

* $100 invested on12/31/01 in stock or index-including reinvestment of dividends.Fiscal year ending December 31.

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**Item 6**.           **SelectedFinancial Data.**

*(Dollarsin Thousands, Except Per Share Amounts)*
| ** **                                  | ** ** | **2006**       | ** **  | **2005**   | ** ** | **2004**   | ** ** | **2003**   | ** ** | **2002**   | ** ** |
|---------------------------------------------|------------|----------------|-------------|------------|------------|------------|------------|------------|------------|------------|------------|
| **FOR THE YEAR:**                 |       |           |        |       |       |       |       |       |       |       |       |
| Operating  Revenues (A)                     |       |           |        |       |       |       |       |       |       |       |       |
| Telecom Sector (L)                          | ** ** | **$**          | **74,896**  |       | $          | 77,922     |       | $          | 78,807     |       | $          | 78,545 |   | $ | 75,357 |   |
| Enventis Sector                             | ** ** | **58,005**     |        | —     |       | —     |       | —     |       | —     |       |
| Total Revenues                              | ** ** | **$**          | **132,901** |       | $          | 77,922     |       | $          | 78,807     |       | $          | 78,545 |   | $ | 75,357 |   |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| Income from  Continuing Operations          | ** ** | **$**          | **5,235**   |       | $          | 8,566      |       | $          | 8,681      |       | $          | 9,096 |   | $ | 6,087 |   |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| **PER  SHARE:**                             | ** ** | ** **     | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Basic EPS - Continuing Operations           | ** ** | **$**          | **0.40**    |       | $          | 0.65       |       | $          | 0.66       |       | $          | 0.65 |   | $ | 0.43 |   |
| Basic EPS - Discontinued Operations         | ** ** | **(0.23**      | **)**       | —     |       | (0.08      | )          | (1.57      | )          | (1.62      | )          |
|                                        | ** ** | **$**          | **0.17**    |       | $          | 0.65       |       | $          | 0.58       |       | $          | (0.92 | ) | $ | (1.19 | ) |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| Fully Diluted EPS - Continuing Operations   | ** ** | **$**          | **0.40**    |       | $          | 0.65       |       | $          | 0.66       |       | $          | 0.65 |   | $ | 0.43 |   |
| Fully Diluted EPS - Discontinued Operations | ** ** | **(0.23**      | **)**       | —     |       | (0.08      | )          | (1.57      | )          | (1.61      | )          |
|                                        | ** ** | **$**          | **0.17**    |       | $          | 0.65       |       | $          | 0.58       |       | $          | (0.92 | ) | $ | (1.18 | ) |
| Cash Dividends Per Share                    | ** ** | **$**          | **0.48**    |       | $          | 0.48       |       | $          | 0.44       |       | $          | 0.44 |   | $ | 0.44 |   |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| **AT YEAR  END:**                           | ** ** | ** **     | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total Assets (A)(J)                         | ** ** | **$**          | **226,900** |       | $          | 216,834    |       | $          | 160,658    |       | $          | 167,773 |   | $ | 176,229 |   |
| Shareholders’ Equity (M)               | ** ** | **$**          | **30,086**  |       | $          | 35,009     |       | $          | 31,545     |       | $          | 28,717 |   | $ | 58,595 |   |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| Current Maturites of Long-Term Obligations  | ** ** | **$**          | **1,560**   |       | $          | 1,778      |       | $          | 5,323      |       | $          | 1,572 |   | $ | 1,441 |   |
| Long Term Debt                              | ** ** | **141,529**    |        | 140,980    |       | 97,661     |       | 118,040    |       | 157,599    |       |
| Total Debt, Long-Term and Current           | ** ** | **$**          | **143,089** |       | $          | 142,758    |       | $          | 102,984    |       | $          | 119,612 |   | $ | 159,040 |   |
| Debt Ratio (B)(J)                           | ** ** | **82.6**       | **%**       | 80.3       | %          | 76.6       | %          | 80.6       | %          | 73.1       | %          |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| **CUSTOMER  DATA (year end):**              | ** ** | ** **     | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Access Lines (C)                            | ** ** | **68,043**     |        | 70,090     |       | 74,558     |       | 77,246     |       | 79,339     |       |
| Long Distance Subscribers (D)               | ** ** | **41,196**     |        | 40,321     |       | 43,702     |       | 40,366     |       | 35,566     |       |
| Internet Customers (E)                      | ** ** | **20,052**     |        | 18,396     |       | 17,191     |       | 16,132     |       | 14,420     |       |
| DSL Customers (F)                           | ** ** | **15,724**     |        | 13,022     |       | 10,430     |       | 7,407      |       | 3,971      |       |
| Digital TV Customers                        | ** ** | **4,632**      |        | 2,766      |       | 1,941      |       | 1,179      |       | 803        |       |
|                                        |       |           |        |       |       |       |       |       |       |       |       |
| **OTHER  DATA:**                            | ** ** | ** **     | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Employees (year end) (G)(J)                 | ** ** | **399**        |        | 460        |       | 394        |       | 414        |       | 481        |       |
| Capital Expenditures (K)                    | ** ** | **$**          | **21,058**  |       | $          | 19,434     |       | $          | 16,588     |       | $          | 11,036 |   | $ | 12,286 |   |
| Shares Outstanding (year end)               | ** ** | **13,207,970** |        | 13,124,928 |       | 13,057,106 |       | 12,967,811 |       | 13,983,929 |       |
| Share Price (H) (year end)                  | ** ** | **$**          | **7.15**    |       | $          | 7.89       |       | $          | 10.69      |       | $          | 11.47 |   | $ | 9.53 |   |
| Shareholders                                |       |           |        |       |       |       |       |       |       |       |       |
| Registered                                  | ** ** | **1,470**      |        | 1,511      |       | 1,559      |       | 1,646      |       | 1,720      |       |
| Beneficial Owners (I)                       | ** ** | **2,168**      |        | 1,701      |       | 1,677      |       | 1,603      |       | 1,473      |       |
| Total  Shareholders                         | ** ** | **3,638**      |        | 3,212      |       | 3,236      |       | 3,249      |       | 3,193      |       |

 

(A)      During December 2003,HickoryTech sold its wireless operations. In December 2006, HickoryTech soldits Enterprise Solutions Sector. Revenues and total assets for all periods havebeen restated to exclude revenue and assets of wireless and EnterpriseSolutions operations, as they are included in discontinued operations for allperiods presented.

(B)        Debt Ratio = Total Debt /(Total Debt + Shareholders’ Equity as of December 31).

(C)        Access Lines refer to theILEC access lines and the CLEC access lines in the Telecom sector.

(D)       Long Distance serviceaccounts are provided in the Telecom Sector.

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(E)  Internet customers includedial-up and high-speed Internet accounts within the Telecom Sector servingILEC, CLEC or stand alone dial-up accounts in HickoryTech’s service area.

(F)  Digital Subscriber Line service accounts areprovided in the Telecom Sector to ILEC and CLEC customers.

(G)  All employee counts reflect actual employeecounts at year-end. No numbers have been restated for the discontinued wirelessor Enterprise Solutions operations. The Enventis acquisition in 2005 added 75employees. The Enterprise Solutions sale in 2006 reduced employee counts by 64employees.

(H)  Price is the last day closingprice.

(I)  The number of beneficialshareholders is the approximate number of company registrations in street nameaccounts.

(J)  Includes Enventis at December31, 2005.

(K)  Capital Expenditures have beenrestated to exclude wireless and Enterprise Solutions operations for all yearspresented.

(L)  Operating revenues for NIBI,which had previously been reported in the Information Solutions Sector, havebeen recasted for all years presented to consolidate our reporting for similaroperations for all years presented. Revenue is now being reported as part ofthe Telecom Sector results.

(M)  Shareholder’s Equity atDecember 31, 2006 includes the impact of adopting SFAS No. 158, “Employers’Accounting for Defined Benefit Pension and Other Postretirement Plans,” asdescribed in Note 10 to the Notes to the Consolidated Financial Statements.

**Item 7.    Management’sDiscussion and Analysis of Financial Condition and Results of Operations.**

**BUSINESSES**

HickoryTech operatesin two business segments: the Telecom and Enventis Sectors. Its largest andoldest product line (since 1898) has been the operation of ILEC’s ortraditional wireline telephone service. The ILEC product line is in HickoryTech’sTelecom Sector. In 1998, HickoryTech began its CLEC product line. This productline competes for the telephone dial tone, dial-up and broadband Internetaccess, data, digital TV and long distance calling business in ILEC territoriesowned by others. The CLEC product line is in HickoryTech’s Telecom Sector.Since 1964, NIBI has provided computer data processing and software,predominantly for HickoryTech’s Telecom Sector operations and also to othertelecommunications companies. Both ILEC and CLEC are managed as one coordinatedunit. From 1990 to 2006, HickoryTech also owned Collins, a wholly ownedsubsidiary, whose results of operations were reported in the EnterpriseSolutions Sector. HickoryTech acquired Collins in 1990, and it operated as atelecommunications, data and IP equipment distributor from a base inMinneapolis/St. Paul, Minnesota. HickoryTech sold its Collins operations onDecember 29, 2006. All financial statements and schedules have been restated toreflect Collins operations as discontinued operations for all periodspresented. In December 2005, HickoryTech purchased Enventis. Enventis is aMinnesota-based regional provider of integrated fiber network, IP telephony anddata services, with 1,500 route miles of fiber network serving more than 300business customers in over 40 communities in the Upper Midwest.

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**OVERVIEW**

HickoryTech is aholding company with a diverse business of traditional wireline local exchangetelecommunications, state-of-the-art broadband services in the retailcommunications field – including high-speed data and digital TV service –serving dominant market shares of residential and business customers inspecific cities of Minnesota and Iowa, and of the regional provision of fibernetwork capacity, integrated IP telephony and data services to an exclusivelycommercial business market. From the base incumbent telephone company whichdates back to 1898, we began to expand our business beyond our ILEC territoryin 1998 via a CLEC edge-out strategy. We chose to serve entire communities,residential and business, in communities in proximity to our ILEC service area,on a total overbuild basis, meaning we use our own network and switchingassets. We began an aggressive broadband service campaign with high speedInternet (DSL) in 1999, deployed residential digital TV service in 2001 andadded business high speed applications (Ethernet) in 2004. In December, 2005,our acquisition of Enventis enhanced a business-to-business service strength,which was already in HickoryTech. Enventis revenues were approximately$50,000,000 prior to the acquisition. Through Enventis, which is centered inMinnesota, we serve wholesale communications carriers with fiber networkconnectivity in several states, and provide integrated dedicated voice and datacircuits, IP telephony and data services to retail business customers of thelarge/Enterprise and the small/medium size.

**Highlightsof 2006**

Beginning January1, 2006, we began operations of Enventis as a new wholly owned subsidiary ofHickoryTech, and report it separately in the Enventis Sector. Its operationsare consistent with its pre-acquisition status, in that no products or costswere shifted between Enventis and our legacy business. 2006 was dedicated tointegrating the financial systems and the cultures of Enventis with the legacybusinesses of HickoryTech. By the end of 2006, systems had been integrated, andcertain executive management changes had been made. Enventis ended 2006 withdouble digit growth in revenues.

In June 2006,there was a change in the Executive leadership of HickoryTech as John Finkereplaced John Duffy as President, CEO.

The operations ofthe legacy Telecom business reached new milestones of DSL and digital TVpenetration, while struggling with the same competition and price erosion inits core voice business which had been present for several years prior to 2006.

In December 2006,the wholly owned operations of the Enterprise Solutions Sector were sold. Itsresults are reported as discontinued operations in this report for 2006 and allprevious periods.

**CONSOLIDATEDRESULTS OF OPERATIONS**

**2006 Compared to 2005**

·            Consolidatedrevenues were $132,901,000, a $54,979,000 or 70.6% increase in 2006 compared to2005. This increase was due to revenues recognized from the addition ofEnventis. Without Enventis, consolidated revenues would have decreased 3.9%.

·            Cost ofsales was $31,152,000 in 2006 compared to $0 in 2005. The cost of sales wasdirectly associated with the new Enventis revenues recognized in 2006.

·            Cost ofServices (excluding Depreciation and Amortization) was $44,506,000, a$13,098,000 or 41.7% increase in 2006 compared to 2005. This increase wasprimarily due to costs associated with the new Enventis operations. WithoutEnventis, cost of services would have increased 1.5%.

·            Selling,General and Administrative Expenses (excluding Depreciation and Amortization)were $23,291,000, a $10,691,000 or 84.8% increase in 2006 compared to 2005. This increase was primarily due to costsassociated with the new Enventis operations. Without Enventis, selling, generaland administrative expenses would have increased 13.6%. In addition to theongoing costs of Enventis selling, general and administrative activities,Enventis incurred approximately $2,400,000 of integration costs in 2006, whichare not expected to reoccur.

·            DepreciationExpense was $16,949,000, a $2,006,000 or 13.4% increase in 2006 compared to2005. This increase was essentially all dueto depreciation associated with the new Enventis assets.

·            AmortizationExpense was $1,172,000, a $679,000 or 137.7% increase in 2006 compared to 2005.This increase was essentially all due to amortization associated with the newEnventis intangibles.

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**2005 Compared to 2004**

·            Consolidatedrevenues were $77,922,000, an $885,000 or 1.1% decrease in 2005 compared to2004. This decrease was primarily due to decreases in network access revenues.

·            Cost ofServices (excluding Depreciation and Amortization) was $31,408,000, a $141,000or 0.4% decrease in 2005 compared to 2004. The decrease was primarily due tolower Internet expense, partially offset by increased wages, transport costsand consulting fees.

·            Selling,General and Administrative Expenses (excluding Depreciation and Amortization)were $12,600,000, an $834,000 or 7.1% increase in 2005 compared to 2004. This increase was primarily due to feesassociated with the termination of leases, increased support fees for theUniversal Service Fund and sales expenses.

·            DepreciationExpense was $14,943,000, a $474,000 or 3.1% decrease in 2005 compared to 2004. This decrease was primarily due to central officeequipment becoming fully depreciated in the third quarter of 2005.

·            AmortizationExpense was $493,000, a $453,000 or 47.9% decrease in 2005 compared to 2004.This decrease was primarily due to billingsoftware becoming fully amortized in the second quarter of 2005.

**OVERALL SUMMARY OF CONTINUINGOPERATIONS**
| Years Ended December 31, | ** ** | **2006**                             | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------------------------|------------|--------------------------------------|------------|----------|------------|----------|------------|
| ** **                              | ** ** | **(Dollars in Thousands)** | ** ** |
| Operating  Income/(Loss)                |       |                                 |       |     |       |     |       |
| Telecom Sector                          |       | **$**                                | **15,100** |     | $          | 18,829   |       | $ | 19,710 |   |
| Enventis Sector                         |       | **2,240**                            |       | —   |       | —   |       |
| Corporate                               |       | **(1,509**                           | **)**      | (351     | )          | (581     | )          |
|                                    | ** ** | **15,831**                           |       | 18,478   |       | 19,129   |       |
| Other Income                            | ** ** | **138**                              |       | 97       |       | 61       |       |
| Interest Expense                        | ** ** | **(7,362**                           | **)**      | (4,363   | )          | (4,613   | )          |
| Income Taxes                            | ** ** | **(3,372**                           | **)**      | (5,646   | )          | (5,896   | )          |
| Income from Continuing  Operations      | ** ** | **$**                                | **5,235**  |     | $          | 8,566    |       | $ | 8,681 |   |

 

**RESULTS OF OPERATIONS**

CONSOLIDATED OPERATING RESULTS – The following is a summary of consolidatedresults of operations. More detailed discussion of operating results by segmentfollows this discussion. All discussion of HickoryTech’s operating resultsexcludes the results of operations of the wireless business and the EnterpriseSolutions operations, which have been reported as discontinued operations inthe Telecom Sector and Enterprise Solutions Sector for all periods presented. Dueto the purchase of Enventis on December 30, 2005, operations for one businessday were immaterial in 2005. Therefore, there is no discussion of the 2005operations for Enventis included in this Annual Report on Form 10-K.

OPERATING REVENUES– Consolidated operating revenues of $132,901,000 were $54,979,000 or 70.6%higher in 2006 compared to 2005, and $885,000 or 1.1% lower in 2005 compared to2004. Without the new Enventis Sector revenues, total consolidated operatingrevenues would have decreased $3,026,000 or 3.9% in 2006 compared to 2005. Thisdecrease was primarily due to decreases in network access, other revenue, andmessage processing and billing, partially offset by growth in data and digitalTV. The decrease in operating revenues in 2005 compared to 2004 was primarilydue to decreases in network access, local service, and message processing andbilling, partially offset by growth in data, digital TV and Internet.

COST OF SALES (ENVENTIS) – Cost ofsales was $31,152,000 in 2006 compared to $0 in 2005. The cost of sales aredirectly associated with the new Enventis revenues recognized in 2006.

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COST OF SERVICES (excludingDepreciation and Amortization) – Cost of services (excluding depreciation and amortization) of$44,506,000 was $13,098,000 or 41.7% higher in 2006 compared to 2005, and$141,000 or 0.4% lower in 2005 compared to 2004. Without the new Enventis costof services, total cost of services would have increased $457,000 or 1.5% in2006 compared to 2005. This increase was primarily due to increases in theinventory allowance, an increase in programming expense associated with anincrease in digital TV revenue, an increase in Customer Premise Equipment (CPE)and an increase in maintenance contracts. The increases were partially offset by lower circuit expenses associatedwith providing Internet services, a decrease in wages and benefits (which wasthe result of a reassignment of support staff for the NIBI product line and arenow being reflected in the selling, general and administrative expenses). Thedecrease in 2005 compared to 2004 was primarily due to lower Internet expenseand bad debt expense, partially offset by increased wages, transports costs andconsulting fees. In 2004, HickoryTech recognized approximately $421,000 of baddebt expense due to a carrier bankruptcy. The Company was able to recover$410,000 of that bad debt in 2005, which resulted in the reversal of the 2004expense.

SELLING, GENERAL ANDADMINISTRATIVE EXPENSES (excluding Depreciation and Amortization) – Selling, general and administrative expenses(excluding depreciation and amortization) of $23,291,000 were $10,691,000 or84.8% higher in 2006 compared to 2005, and $834,000 or 7.1% higher in 2005compared to 2004. Without the new Enventis Sector, total selling, general andadministrative expenses would have increased $1,717,000 or 13.6% in 2006compared to 2005. This increase was primarily due to a $730,000 increase inTelecom Sector wages and benefits ($301,000 of this increase was due to thereassignment of wages from the costs of services of the NIBI product linementioned above), partially offset by a $335,000 decrease in fees associatedwith the termination of leases in 2005, also in the Telecom Sector. Alsocontributing to the increase in selling, general and administrative expenseswere increased Corporate costs of $515,000 for professional fees due toincreased auditing and Sarbanes-Oxley Section 404 compliance work in connectionwith the implementation of a new ERP system and Enventis. Corporate costs alsoincreased $434,000 due to Director’s fees, $315,000 of this is related to anaccrual for retainers to be paid to departing Director’s if the Director meetsa service requirement. In 2006, we recorded an expense of $315,000, whichreflects the total accrued liability as of December 31, 2006, including amountswhich had vested in prior periods. The impact to net earnings in prior periodswas approximately $27,000 per year in 2005 and 2004, an amount immaterial tothe earnings previously reported. An increase in corporate cost was also due toone-time payments of $432,000 to the former Chief Executive Officer and to thePresident of Small and Medium Business Solutions associated with theirseparation from the Company. The increase of selling, general, and administrativeexpenses, excluding depreciation and amortization, in 2005 compared to 2004 wasprimarily due to fees associated with the termination of leases, increasedsupport fees for the Universal Service Fund, increased corporate expenses andincreased Telecom Sector sales expenses.

DEPRECIATION AND AMORTIZATION – Depreciation expense of $16,949,000 was $2,006,000 or 13.4%higher in 2006 compared to 2005, and $474,000 or 3.1% lower in 2005 compared to2004. Without the new Enventis Sector, total depreciation would have increased$9,000 or 0.1% in 2006 compared to 2005. The decrease in depreciation expensein 2005 compared to 2004 was primarily due to central office equipment becomingfully depreciated in the third quarter of 2005. Amortization expense of$1,172,000 was $679,000 or 137.5% higher in 2006 compared to 2005, and $453,000or 47.9% lower in 2005 compared to 2004. Without the new Enventis Sector, totalamortization would have decreased $372,000 or 75.5% in 2006 compared to 2005.The decrease in amortization in 2006 compared to 2005, and 2005 compared to2004 was primarily due to capitalized development costs in connection with theNIBI Suite Solutions billing software becoming fully amortized in the secondquarter of 2005.

OPERATING INCOME– Operating income of $15,831,000 was $2,647,000 or 14.3% lower in 2006compared to 2005, and $651,000 or 3.4% lower in 2005 compared to 2004. Withoutthe new Enventis Sector, operating income would have decreased $4,887,000 or26.5% in 2006 compared to 2005. This decrease was primarily due to decreased Telecom Sector revenues, increasedcorporate expenses, increased Telecom Sector selling, general andadministrative expenses (excluding depreciation and amortization) and increasedTelecom Sector cost of services (excluding depreciation and amortization),offset by decreased Telecom Sector amortization related to the NIBI productline. The decrease in operating income in 2005 compared to 2004 wasprimarily due to decreased operating revenues and increased selling, generaland administrative expenses (excluding depreciation and amortization), offsetby decreased depreciation and amortization expense and decreased costs ofservices (excluding depreciation and amortization), all of which are describedabove.

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INCOME FROM CONTINUING OPERATIONS – Income from continuing operationsof $5,235,000 was $3,331,000 or 38.9% lower in 2006 compared to 2005, and$115,000 or 1.3% lower in 2005 compared to 2004. Without the new EnventisSector, income from continuing operations would have decreased $4,694,000 or54.8% in 2006 compared to 2005. This decrease was primarily due to increasedinterest expense of $2,999,000 as a result of increased borrowings inconnection with the purchase of Enventis Telecom and the decrease in operatingincome described above. The decrease in income from continuing operations in2005 compared to 2004 was primarily due to the decrease in operating incomedescribed above, offset by a decrease in interest expense of $250,000.

**INTERESTEXPENSE**

Interest expenseof $7,362,000 in 2006 increased $2,999,000 or 68.7% compared to 2005 anddecreased $250,000 or 5.4% in 2005 compared to 2004. The outstanding balance ofthe revolving credit facility was $142,700,000 at December 31, 2006 and$142,035,000 at December 31, 2005 and was $102,500,000 at December 31, 2004.The increase in debt in December 2005 was due to the acquisition of Enventis,which took place in December 2005. The effective interest rate was 5.13%,4.20%, and 3.93% in 2006, 2005 and 2004, respectively. The increase seen in theeffective interest rate during 2006 is caused by an increase in the variableinterest rate.

**INCOMETAXES**

The effective taxrate for continuing operations was 39.2%, 39.7% and 40.4% in 2006, 2005 and2004, respectively. These effective tax rates differ from the U.S. statutoryrate primarily due to state income taxes. The effective tax rate ondiscontinued operations is 34.9% for 2006. The disparity in rates betweendiscontinued operations and continued operations is predominantly theresult of a permanent book-tax difference on intangibles acquired in thestock purchase of the discontinued entity. The Company isadopting FASB Interpretation No. 48 (FIN No. 48), “Accounting for Uncertainty in IncomeTaxes — an interpretation of FASB Statement No. 109,”effective January 1, 2007.

**TRENDS**

Telecom Sectorprofitability is trending down. Telecom revenues have steadily decreased due todeclines in network access revenue, competition for basic customer connectionsand choices made by specific customers not to interconnect or utilize theCompany’s network or services. At the same time, costs in the Telecom Sector,while tightly controlled, are not reducing at the same pace as the revenuedeclines. Declines in Telecom Sector access lines have been offset by increasesin DSL customers and digital TV customers. Declines in Telecom Sector localservice revenue and network access revenue are partially offset by increases inTelecom Sector broadband revenues such as data and digital TV. However, theprofitability of adding these new services is not as high as service theTelecom Sector loses. The trend in declining Telecom Sector profitability isviewed to be ongoing.

The EnventisSector is new in 2006, and long-term trends have not yet been established. Thenature of the Enventis business has been a higher level of growth than that ofthe Company’s Telecom Sector. Enventis revenues for 2006 represented a 14.1%increase over the unaudited Enventis revenues for 2005. Enventis providedprofitable operations and recorded positive operating income in each of thefour quarters of 2006. Enventis consists of two major product lines. Thelargest is its Enterprise Network Services, or telecom equipment provisioningservice. This service is subject to cyclical highs and lows depending oncustomer demand. The other product line is Enterprise Transport Services, orfiber optic transmission service for wholesale and retail use by customers.This product line contains more of a recurring revenue stream and is supportedby long-term contracts. The Transport Services product line is providing agrowing proportion of the total Enventis revenue, representing approximately33% of the total Enventis revenue for the fourth quarter of 2006 and 29.7% forthe entire year ended December 31, 2006.

Enventis Sectorrevenues and profitability have partially offset the Telecom Sector’s decliningrevenues and profitability.

Interest expenseincreased in 2006, after four years of decreases, which was primarily theresult of the new company debt financing associated with the acquisition ofEnventis in December 2005. A secondary factor was higher interest rates. Sincea portion of the debt is subject to variable interest rates and interest rateshave risen in 2006, the Company’s interest expense is an area of increasingexpense.

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Income fromcontinuing operations declined in 2006 due to the decline in profitability ofthe Telecom Sector and higher interest expense. This level of decline isprimarily related to the impact of the Enventis acquisition, and is notexpected to continue as a trend.

SECTORRESULTS OF OPERATIONS

TELECOMSECTOR– The following tableprovides a breakdown of the Telecom Sector operating results.

**TELECOMSECTOR**
| **(Dollars in Thousands)**                                                   | ** ** | **2006**   | ** ** | **2005** | ** ** | **2004** | ** ** |
|----------------------------------------------------------------------------------------|------------|------------|------------|----------|------------|----------|------------|
| Revenues Before  Intersegment Eliminations                                             |       |       |       |     |       |     |       |
|                                                                                   |       |       |       |     |       |     |       |
| Revenues                                                                               |       |       |       |     |       |     |       |
| Local Service                                                                          | ** ** | **$**      | **18,224** |     | $          | 18,520   |       | $ | 18,888 |   |
| Network Access                                                                         | ** ** | **29,936** |       | 33,384   |       | 35,398   |       |
| Long Distance                                                                          | ** ** | **4,877**  |       | 4,821    |       | 4,660    |       |
| Data                                                                                   | ** ** | **6,048**  |       | 4,968    |       | 4,068    |       |
| Internet                                                                               | ** ** | **4,467**  |       | 4,361    |       | 4,030    |       |
| Digital TV                                                                             | ** ** | **1,457**  |       | 979      |       | 554      |       |
| Directory                                                                              | ** ** | **3,624**  |       | 3,509    |       | 3,357    |       |
| Message Processing & Billing                                                       | ** ** | **2,127**  |       | 2,522    |       | 2,710    |       |
| Intersegment                                                                           | ** ** | **260**    |       | 128      |       | 128      |       |
| Other                                                                                  | ** ** | **4,136**  |       | 4,858    |       | 5,142    |       |
| Total Telecom  Revenues                                                                | ** ** | **$**      | **75,156** |     | $          | 78,050   |       | $ | 78,935 |   |
|                                                                                   |       |       |       |     |       |     |       |
| Total Telecom  Revenues Before Intersegment Eliminations                               |       |       |       |     |       |     |       |
| Unaffiliated Customers                                                                 | ** ** | **$**      | **74,896** |     | $          | 77,922   |       | $ | 78,807 |   |
| Intersegment                                                                           | ** ** | **260**    |       | 128      |       | 128      |       |
|                                                                                   | ** ** | **75,156** |       | 78,050   |       | 78,935   |       |
|                                                                                   |       |       |       |     |       |     |       |
| Cost of  Services, excluding Depreciation and Amortization                             |       | **32,046** |       | 31,408   |       | 31,549   |       |
| Selling, General  and Administrative Expenses, excluding Depreciation and Amortization |       | **13,001** |       | 12,438   |       | 11,368   |       |
| Depreciation and  Amortization                                                         | ** ** | **15,009** |       | 15,375   |       | 16,308   |       |
| Operating Income                                                                       | ** ** | **$**      | **15,100** |     | $          | 18,829   |       | $ | 19,710 |   |
|                                                                                   |       |       |       |     |       |     |       |
| Income from  Continuing Operations, net of Tax                                         | ** ** | **$**      | **9,237**  |     | $          | 11,324   |       | $ | 11,660 |   |
| Income/(Loss)  from Discontinued Operations, net of Tax                                | ** ** | **—** |       | 186      |       | (74      | )          |
| Net Income                                                                             | ** ** | **$**      | **9,237**  |     | $          | 11,510   |       | $ | 11,586 |   |
|                                                                                   |       |       |       |     |       |     |       |
| Key Metrics                                                                            |       |       |       |     |       |     |       |
| Capital  Expenditures                                                                  | ** ** | **$**      | **15,631** |     | $          | 19,312   |       | $ | 16,586 |   |
| Access Lines                                                                           | ** ** | **68,043** |       | 70,090   |       | 74,558   |       |
| Long Distance  Customers                                                               | ** ** | **41,196** |       | 40,321   |       | 43,702   |       |
| Internet  Customers                                                                    | ** ** | **20,052** |       | 18,396   |       | 17,191   |       |
| Digital  Subscriber Line (DSL) Customers                                               | ** ** | **15,724** |       | 13,022   |       | 10,430   |       |
| Digital TV Customers                                                                   | ** ** | **4,632**  |       | 2,766    |       | 1,941    |       |

 

Revenues:

Telecom Sector operatingrevenues before intersegment eliminations were $2,894,000 or 3.7% lower in 2006compared to 2005, and $885,000 or 1.1% lower in 2005 compared to 2004. Thedecrease in 2006 compared to 2005 was primarily due to decreases in networkaccess, other revenue, and message processing and billing, partially offset bygrowth in data and digital TV. The decrease in 2005 compared to 2004 wasprimarily due to decreases in network access, local service, and messageprocessing and billing, partially offset by growth in data, digital TV andInternet.

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Local service revenue was$296,000 or 1.6% lower in 2006 compared to 2005, and $368,000 or 1.9% lower in2005 compared to 2004. The decrease in 2006 compared to 2005 was primarily dueto 2,047 fewer access lines at December 31, 2006 than at December 31, 2005. Thedecrease in 2005 compared to 2004 was primarily due to 4,468 fewer access linesat December 31, 2005 than at December 31, 2004. The 2005 line loss was mademore profound because the Company signed a large contract with a college campusin Minnesota to provide an IP Telephony System. This system replaced 3,224access lines with trunk-side. A higher degree of competition from ILEC’s andCLEC’s serving in the Company’s markets, and from wireless substitution, couldimpact HickoryTech’s local service revenue in future periods.

Network access revenue was$3,448,000 or 10.3% lower in 2006 compared to 2005, and $2,014,000 or 5.7%lower in 2005 compared to 2004. The decrease in 2006 compared to 2005 wasprimarily due to a mandated ILEC interstate rate decrease implemented on July1, 2005, lower overall minutes of use and the recognition of the impact ofdifferent treatment of traffic delivered via Qwest Communications, all of whichare expected to be lasting in nature. A majority of the 2006 decline was in thefirst two quarters of the year, and the rate of decrease of the last twoquarters of 2006 is more indicative of the pace of change going forward.  The decrease in 2005 compared to 2004was primarily due to a mandated ILEC interstate rate decrease implemented onJuly 1, 2005, a mandated CLEC interstate rate decrease implemented in June 2004and overall lower minutes of use. A combination of changing minutes of use,carriers optimizing their network costs and lower demand for dedicated linesmay negatively impact future access revenues. In addition, future federal orstate access reform may provide further negative influences. The PublicUtilities Commission has been considering intrastate access reform anduniversal service for several years (see Regulated Industry on pages 35-37).

Long distance revenue was$56,000 or 1.2% higher in 2006 compared to 2005, and $161,000 or 3.5% higher in2005 compared to 2004. The increase in 2006 compared to 2005 was primarily dueto an 875 or 2.2% increase in the customer base combined with higher longdistance usage per customer. The long distance customer base decreased 3,381 or7.7% in 2005 compared to 2004. In June, 2005 a large Minnesota college campusended its contract for long distance services, which resulted in a loss ofapproximately 2,800 long distance customers. Despite the loss of customersmentioned above, long distance revenue increased primarily due to increasedlong distance usage per customer.

Data revenue was$1,080,000 or 21.7% higher in 2006 compared to 2005, and $900,000 or 22.1%higher in 2005 compared to 2004. The increase in 2006 compared to 2005 wasprimarily due to increased broadband services to business customers, 2,702 moreresidential DSL customers at December 31, 2006 compared to December 31, 2005and DSL customers migrating from lower speed DSL products to higher speed DSLproducts, which have the effect of increasing revenue per customer. Theincrease in 2005 compared to 2004 was primarily due to an increase in ILEC DSLcustomers and increased residential andbusiness DSL penetration in CLEC communities, as well as the rollout ofEthernet services to large business customers in 2004. Ethernet servicerevenues will continue to provide growth opportunities for HickoryTech.Expanded networking opportunities among medium and large enterprise customersare key drivers for this growth.

Internet revenue was $106,000 or2.4% higher in 2006 compared to 2005, and $331,000 or 8.2% higher in 2005compared to 2004. Internet customers increased by 1,656, or 9.0% in 2006compared to 2005. A reallocation of service package revenue, which is now beingreflected in the data revenue, offset the revenue growth from the increase inthe customer base. The increase in revenue in 2005 compared to 2004 was primarilydue to an increase in Internet customers of 1,205 or 7.0%.

Digital TV revenue was $478,000or 48.8% higher in 2006 compared to 2005, and $425,000 or 76.7% higher in 2005compared to 2004. The increase in 2006 compared to 2005 was primarily due tothe offering of digital TV in three additional communities in the latter halfof 2005 and three additional communities in 2006, which resulted in a 1,866 or67.5% increase in digital TV customers at December 31, 2006 compared toDecember 31, 2005. The increase in 2005 compared to 2004 was primarily due tothe offering of digital TV in three additional communities in 2005, whichresulted in an 825 or 42.5% increase in digital TV customers at December 31,2005 compared to December 31, 2004.

Directory revenue was $115,000or 3.3% higher in 2006 compared to 2005, and $152,000 or 4.5% higher in 2005compared to 2004. The increase in 2006 compared to 2005 and 2005 compared to2004 was the result of increased advertising in the Company directories.

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NIBI message processing revenuewas $395,000 or 15.7% lower in 2006 compared to 2005, and $188,000 or 6.9%lower in 2005 compared to 2004. The decrease in 2006 compared to 2005 wasprimarily due to the Company recognizing $396,000 in non-recurring license feesfrom the sale of SuiteSolutions to a customer in June 2005. The addition ofseveral customers and increased volumes from several existing customers, helpedoffset the loss of the non-recurring license fee revenue. The decrease inoperating revenues in 2005 compared to 2004 was primarily due to the loss ofseveral customers, including $473,000 from a temporary customer relationshipthat ended in 2004. The loss of customers was partially offset by therecognition of $413,000 in license fees from the previously mentioned sale ofSuiteSolution to a customer and increased billings to several other customers.

Other revenue, consistingprimarily of revenues from cable network services, sales of Customer PremiseEquipment, circuit private line, maintenance, and adds, move and changes was$722,000 or 14.9% lower in 2006 compared to 2005, and $284,000 or 5.5% lower2005 compared to 2004. The decrease in 2006 compared to 2005 was primarily dueto the loss of $670,000 associated with the SOCRATES contract. Until June 2006,HickoryTech had been providing Internet access and video conferencing forProject SOCRATES, which is a distance-learning network connecting schools andlibraries in a 12-county region in south central Minnesota. HickoryTech’scontract with Project SOCRATES ended on June 30, 2006.

Cost of Services (excludingDepreciation and Amortization):

Cost of services (excludingdepreciation and amortization) was $638,000 or 2.0% higher in 2006 compared to2005, and $141,000 or 0.4% lower in 2005 compared to 2004. This increase was primarilydue to a $378,000 increase in programming expense associated with the increasein digital TV revenue, a $325,000 increase in the inventory reserve, a $299,000increase in CPE and a $170,000 increase in maintenance contracts. Theseincreases were partially offset by a $340,000 decrease in circuit expenseassociated with providing Internet services and a $301,000 decrease in wagesand benefits due to a reassignment of support staff for the NIBI product lineto activities reported as selling, general and administrative expenses. Thedecrease in 2005 compared to 2004 was primarily due to lower Internet expensedue to lower costs associated with bandwidth and customers who have switchedfrom dial-up Internet to broadband Internet as well as lower bad debt expense,partially offset by increased wages, transport costs and consulting fees. Thedecrease in bad debt expense in 2005 compared to 2004 relates to $410,000 ofbad debt recoveries associated with a carrier bankruptcy. HickoryTechrecognized approximately $421,000 of bad debt expense related to this carrierbankruptcy in 2004, which resulted in the reversal of the 2004 expense.

Selling, General andAdministrative Expenses (excluding Depreciation and Amortization):

Selling, general andadministrative expenses (excluding depreciation and amortization) were $563,000or 4.5% higher in 2006 compared to 2005, and $1,070,000 or 9.4% higher in 2005compared to 2004. The increase in 2006 compared to 2005 was primarily due to a$730,000 increase in wages and benefits ($301,000 of this increase was due tothe reassignment of wages from costs of services as mentioned above), partiallyoffset by a $335,000 decrease in fees associated with the termination of leasesin 2005 in the NIBI product line. The increase in 2005 compared to 2004 wasprimarily due to increased support fees for the Universal Service Fund,corporate expenses and sales expenses associated with CPE phone system sales,partially offset by increased fees associated with the termination ofleases.

Depreciation and Amortization:

Depreciation and amortizationwas $366,000 or 2.4% lower in 2006 compared to 2005, and $933,000 or 5.7% lowerin 2005 compared to 2004. Depreciation was $6,000 or 0.1% higher in 2006compared to 2005, and $480,000 or 3.1% lower in 2005 compared to 2004. Thedecrease in depreciation in 2005 compared to 2004 was primarily due to centraloffice switching equipment becoming fully depreciated in the third quarter of2005. Amortization was $372,000 or 75.5% lower in 2006 compared to 2005, and$453,000 or 47.9% lower in 2005 compared to 2004. The decrease in amortizationin 2006 compared to 2005, and 2005 compared to 2004 was primarily due tocapitalized development costs in connection with the NIBI Suite Solution billingsoftware becoming fully amortized in the second quarter of 2005.

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Operating Income:

Operating income was $3,729,000or 19.8% lower in 2006 compared to 2005, and $881,000 or 4.5% lower in 2005compared to 2004. The decrease in operating income in 2006 compared to 2005 wasprimarily due to decreased revenues, increased selling, general andadministrative expenses (excluding depreciation and amortization) and increasedcost of services (excluding depreciation and amortization), offset by decreasedamortization. The decrease in operating income in 2005 compared to 2004 wasprimarily due to increased selling, general and administrative expenses(excluding depreciation and amortization) and decreased revenues, offset bydecreased depreciation and amortization and decreased cost of services(excluding depreciation and amortization).

Income from ContinuingOperations, net of Tax:

Income from continuingoperations, net of tax, was $2,087,000 or 18.4% lower in 2006 compared to 2005,and $336,000 or 2.9% lower in 2005 compared to 2004. The decrease in incomefrom continuing operations, net of tax, in 2006 compared to 2005 was primarilydue to decreased operating income mentioned above and the change in taxes. Thedecrease in income from continuing operations, net of tax, in 2005 compared to2004 was primarily due to decreased operating income mentioned above and thechange in income taxes. 

ENVENTISSECTOR – The followingtable provides a breakdown of the Enventis Sector operating results. Due to thetiming of the acquisition of Enventis, no 2005 historical results are presentedand therefore, 2006 quarterly results are included to provide somecomparability for the operations of Enventis.

**ENVENTIS SECTOR**
| ** **                                                                               | ** ** | **Three Months Ended** | ** ** | **YTD**                          | ** ** |
|------------------------------------------------------------------------------------------|------------|----------------------------------|------------|----------------------------------|------------|
| **(Dollars in Thousands)**                                                     | ** ** | **December 31, 2006**  | ** ** | **September 30, 2006** | ** ** | **June 30, 2006** | ** ** | **March 31, 2006** | ** ** | **2006** | ** ** |
|                                                                                     | * *   | * *                         | * *   | * *                         | * *   | * * | * * | * * | * * | * * | * * |
| Revenues before  eliminations:                                                           |       |                             |       |                             |       |   |   |   |   |   |   |
| Enterprise Network Services                                                              |       | $                                | 9,857      |                             | $          | 9,741 |   | $ | 11,144 |   | $ | 10,031 |   | $ | 40,773 |   |
| Enterprise Transport Services                                                            |       | 4,914                            |       | 4,231                            |       | 4,034 |   | 4,053 |   | 17,232 |   |
| Intersegment                                                                             |       | 50                               |       | —                           |       | — |   | — |   | 50 |   |
|                                                                                     |       | $                                | 14,821     |                             | $          | 13,972 |   | $ | 15,178 |   | $ | 14,084 |   | $ | 58,055 |   |
|                                                                                     |       |                             |       |                             |       |   |   |   |   |   |   |
| Total Enventis  revenues before Intersegment eliminations                                |       |                             |       |                             |       |   |   |   |   |   |   |
| Unaffiliated Customers                                                                   |       | $                                | 14,771     |                             | $          | 13,972 |   | $ | 15,178 |   | $ | 14,084 |   | $ | 58,005 |   |
| Intersegment                                                                             |       | 50                               |       | —                           |       | — |   | — |   | 50 |   |
|                                                                                     |       | 14,821                           |       | 13,972                           |       | 15,178 |   | 14,084 |   | 58,055 |   |
|                                                                                     |       |                             |       |                             |       |   |   |   |   |   |   |
| Cost of sales *(1)*                                                                      |       | 7,830                            |       | 7,183                            |       | 8,456 |   | 7,683 |   | 31,152 |   |
| Cost of services  *(1)*  (excluding depreciation and amortization)                       |       | 3,702                            |       | 3,320                            |       | 2,932 |   | 2,687 |   | 12,641 |   |
| Selling, general  and administrative expenses, (excluding depreciation and amortization) |       | 2,216                            |       | 2,057                            |       | 2,291 |   | 2,410 |   | 8,974 |   |
| Depreciation and  amortization                                                           |       | 811                              |       | 732                              |       | 768 |   | 737 |   | 3,048 |   |
|                                                                                     |       |                             |       |                             |       |   |   |   |   |   |   |
| Operating income                                                                         |       | $                                | 262        |                             | $          | 680 |   | $ | 731 |   | $ | 567 |   | $ | 2,240 |   |
| Net income                                                                               |       | $                                | 185        |                             | $          | 403 |   | $ | 437 |   | $ | 338 |   | $ | 1,363 |   |
|                                                                                     |       |                             |       |                             |       |   |   |   |   |   |   |
| Capital expenditures                                                                     |       | $                                | 984        |                             | $          | 1,240 |   | $ | 2,593 |   | $ | 507 |   | $ | 5,324 |   |

 

*(1)*Certain reclassifications of prior period data were made to conform tothe current presentation on this Form 10-K. The reclassifications did notaffect cash flows, financial postion, or net income.

Revenues:

Enventis operating revenuesbefore intersegment eliminations increased $849,000 or 6.1% in the fourthquarter of 2006 compared to the third quarter of 2006. This increase wasprimarily due to a $490,000 increase in maintenance contracts, a $311,000increase in fiber transport services, a $223,000 increase in CPE sales,partially offset by a $125,000 decrease in contract services.

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Cost of Sales:

Cost of sales increased $647,000 or 9.0% in the fourthquarter of 2006 compared to the third quarter of 2006. This increase wasprimarily due to a change in the mix of revenues, costs and their associatedmargins in the Enterprise Network Services product line in the fourth quarter.

Cost of Services (excluding Depreciation andAmortization):

Cost of services (excluding depreciation andamortization) increased $382,000 or 11.5% in the fourth quarter of 2006compared to the third quarter of 2006. This increase was primarily due to anincrease of $313,000 in bad debt expense due to an increase in the allowancefor potential uncollectible accounts receivable (See Schedule II - Allowancefor Uncollectible Accounts on page 73).

Selling, General and Administrative Expenses(excluding Depreciation and Amortization):

Selling, general and administrative expenses(excluding depreciation and amortization) increased $159,000 or 7.7% in thefourth quarter of 2006 compared to the third quarter of 2006. This increase wasprimarily due to a $198,000 increase in wages and benefits, which was theresult of non-recurring bonus and overtime payments.

Operating Income:

Operating income decreased $418,000 or 61.5% in thefourth quarter of 2006 compared to the third quarter of 2006. This decrease inoperating income was primarily due to increased cost of sales, increased costof services (excluding depreciation and amortization), increased selling,general and administrative expenses (excluding depreciation and amortization)and increased depreciation and amortization, partially offset by increasedrevenues.

Net Income:

Net income decreased $218,000 or 54.1% in the fourthquarter of 2006 compared to the third quarter of 2006. This decrease in netincome was primarily due to decreasedoperating income mentioned above, offset by a lower amount of income taxesassociated with lower net income in the fourth quarter. 

DISCONTINUEDOPERATIONS - ENTERPRISE SOLUTIONS SECTOR

Discontinued Operations:

Effective December31, 2006, HickoryTech sold Collins to Skyview. The selling price was comprisedof a $100,000 note and up to $1,650,000 of earn-out payments in exchange forall of the Collins outstanding capital stock. Skyview paid HickoryTech $100,000in February 2007. The remaining selling price is due in contingent paymentspayable over the next four years based on financial targets reached by Skyview.The $100,000 mentioned above has been included in the calculation of the netloss mentioned below, while the contingent payments have not been included inthe net loss. The agreement also contains a service agreement, whereby Skyviewagrees to provide customer support as a subcontractor for HickoryTech’s Nortelequipment business. This agreement contains covenants against competition bythe new owner in south-central Minnesota. HickoryTech recorded a pre-tax losson the sale of $3,385,000 ($2,040,000 net of income taxes). The Collins resultsof operations were formerly reported in the Enterprise Solutions Sector. Theconsolidated statements of operations for all periods presented have beenrestated to reflect the Collins operations as discontinued operations (see Note3 to the Notes to the Consolidated Financial Statements).

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**CRITICALACCOUNTING POLICIES**

Management’sdiscussion and analysis of financial condition and results of operations statedin this 2006 Annual Report on Form 10-K are based upon HickoryTech’sconsolidated financial statements, which have been prepared in accordance withaccounting principles generally accepted in the United States and, whereapplicable, conform to the accounting principles as prescribed by federal andstate telephone utility regulatory authorities. HickoryTech presently givesaccounting recognition to the actions of regulators where appropriate, asprescribed by Statement of Financial Accounting Standards (SFAS) No. 71, “Accountingfor the Effects of Certain Types of Regulation.” The preparation of thesefinancial statements requires management to make estimates and judgments thataffect the reported amounts of assets, liabilities, revenues, and expenses andrelated disclosure of contingent assets and liabilities. Management believesthat the application of the accounting policies, which are important toHickoryTech’s financial position and results of operations, requiressignificant judgments and estimates on the part of management. Seniormanagement has discussed the development and selection of accounting estimatesand the related MD&A disclosure with the Audit Committee. For a summary ofall HickoryTech’s accounting policies, see Note 1 to the Notes to theConsolidated Financial Statements. There were no significant changes to theseaccounting policies during the year ended December 31, 2006 except for theadoption of new policies to comply with adopting FAS 123R and FAS 158.

**RevenueRecognition** – HickoryTech recognizes revenue when (i)persuasive evidence of an arrangement between the Company and the customerexists, (ii) delivery of the product to the customer has occurred or servicehas been provided to the customer, (iii) the price to the customer is fixed ordeterminable, and (iv) collectibility is reasonably assured.

Revenues in theTelecom Sector are earned from monthly billings to customers for telephoneservices, DSL and internet usage. ILEC revenues are also derived from chargesfor network access to HickoryTech’s local exchange telephone network, fromsubscriber line charges and from contractual arrangements for services such asbilling and collection and directory advertising. Certain of these revenues arerealized under pooling arrangements with other telephone companies and aredivided among the companies based on respective costs and investments toprovide the services. The companies that take part in these poolingarrangements may adjust their costs and investments for a period of two years,which causes the dollars distributed by the pool to be adjusted retroactively.Management believes that recorded amounts represent reasonable estimates of thefinal distribution from these pools. However, to the extent that companiesparticipating in these pools make adjustments, there will be adjustments torecorded revenues in future periods.

Revenues in theEnventis Sector are generated from the sale of equipment, installationservices, professional engineering services, equipment and system maintenanceservices, and voice and data transport services, including long-distance voiceservices.

Revenue related tothe sale of equipment is recognized when the products are shipped to thecustomer under FOB shipping point terms. Sales of some equipment may requirecustomer acceptance. In these instances, revenue recognition is deferred untilcustomer acceptance is received. When a sale involves multiple elements,revenue is allocated to each respective element in accordance with EmergingIssues Task Force (EITF) 00-21 “Accounting For Revenue Arrangements withMultiple Deliverables.” Allocation of revenue to undelivered elements of thearrangement is based on fair value of the element being sold on a stand-alonebasis.

Revenue isrecognized when services are rendered for installation services, professionalengineering services, and equipment and system maintenance services.

Generally, a flatmonthly fee for voice and data transport services is charged and the relatedrevenues are recognized as the services are provided. Long distance servicesare billed based upon levels of customer usage and are also recognized as theservices are provided. When equipment is sold with voice and data transportservices, initial “hook-up” fees are charged to customers for establishingvoice and data transport services. These fees are deferred and recognized asrevenue on a monthly basis over the expected term of the underlying customerrelationship period of three to ten years. Direct and incremental costs ofestablishing these services are deferred and recognized over the shorter of thecustomer relationship period or the estimated lives for property and equipment.

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**Allowancefor Doubtful Accounts –**HickoryTech maintains allowances fordoubtful accounts for estimated losses resulting from the inability of ourcustomers to make required payments. In making the determination of theappropriate allowance for doubtful accounts, we consider specific accounts,historical write-offs, changes in customer relationships and credit worthinessand concentrations of credit risk.  Specific accounts receivable arewritten-off once a determination is made that the account is uncollectible. If the financial condition of our customers were to deteriorate,resulting in an impairment of their ability to make payments, additionalallowances may be required. The allowance for doubtful accounts was $851,000and $334,000 as of December 31, 2006 and 2005, respectively.

**Inventories–** Inventories are valued using the lower of cost (perpetualweighted average-cost or specific identification) or market method. Similar toits allowance for doubtful accounts, HickoryTech makes estimates related to thevaluation of inventory. HickoryTech adjusts its inventory carrying value forestimated obsolescence or unmarketable inventory to the estimated market valuebased upon assumptions about future demand and market conditions. As market andother conditions change, additional inventory reserves may be established atthe time that the facts that give rise to the lower value become known.

**IntangibleAssets –**HickoryTech amortizes its definite-lived intangibleassets over their estimated useful lives. Customer lists and other intangiblesare amortized from 1-8 years. Intangible assets with finite lives are amortizedover their respective estimated useful lives to their estimated residualvalues.  Identifiable intangible assets thatare subject to amortization are evaluated for impairment.

Goodwill assetsare not amortized, but are subject to an impairment test annually as well asupon certain events that indicate that impairment may be present. The goodwillimpairment test includes two steps, the first of which requires management todetermine the fair value of certain of the Company’s reporting units (asdefined by SFAS No. 142). The Company determines the fair value of itsreporting units by application of a discounted cash flow analysis. Managementmakes estimates that are included in its discounted cash flow analysis basedupon the best available information at the time that the determinations of fairvalue are made. If circumstances change, HickoryTech’s estimates of fair valuewill also change and could result in a determination of additional impairmentcharges to reduce the carrying value of goodwill.

**IncomeTaxes –** As part of the process of preparing its consolidatedfinancial statements the Company is required to estimate income taxes in eachof the jurisdictions in which it operates. This process involves estimatingcurrent tax exposure, together with assessing temporary differences resultingfrom differing treatment of items, such as deferred revenue, for tax andaccounting purposes. These differences result in deferred tax assets andliabilities, which are included within the Company’s consolidated balancesheet. The Company assesses the likelihood that deferred tax assets will berecovered from future taxable income and to the extent recovery is not likely,it establishes a valuation allowance. To the extent the Company establishes avaluation allowance or increases this allowance in a period, it must include anexpense within the tax provision in the statement of operations. The Companyhad a $1,616,000 and $1,531,000 valuation allowance at December 31, 2006 and2005, respectively, due to uncertainty about realization of benefits associatedwith net operating losses generated in the state of Iowa. Additionally, theCompany has reserves for income tax contingencies. These reserves relate tovarious tax years subject to audit by tax authorities. The Company believes itscurrent income tax reserves are adequate. However, the ultimate outcome maydiffer from estimates, and assumptions could impact the provision for incometaxes reflected in the consolidated statements of operations.

**Post-RetirementBenefits –**The netpost-retirement benefit expense was $924,000, $1,051,000 and $1,127,000 in2006, 2005 and 2004, respectively. Post-retirement benefit expense is recordedin cost of services and selling, general and administrative expenses. Thepost-retirement benefit expense and liability are calculated utilizing variousactuarial assumptions and methodologies. These assumptions include, but are notlimited to, the discount rate and the expected health care cost trend rate.

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Post-retirement benefits were calculated inaccordance with the methods specified in SFAS No. 158, “Employers’ Accountingfor Defined Benefit Pension and Other Postretirement Plans” and SFAS No. 106, “Employers’Accounting for Postretirement Benefits Other Than Pensions.” Where SFAS No. 106provides alternative methods for determining net periodic benefit costs,HickoryTech adopted the following policies: Any prior service cost, orcumulative net gains and losses in excess of 10% of the SFAS No. 106 corridor,are amortized on a straight-line basis over the average future service lives ofthe covered group. There are no substantive commitments for benefits other thanas stated in the written plan. According to the guidance of paragraph 186 ofSFAS No. 106, “the objective of selecting assumed discount rates is to measurethe single amount that, if invested at the measurement date in a portfolio ofhigh-quality debt instruments, would provide the necessary future cash flows topay the accumulated benefits when due.” The assumed discount rate representsthe discounted value of necessary future cash flows required to pay theaccumulated benefits when due. The rate was determined based on availablemarket data regarding the spot rate yields in half year increments onhigh-quality fixed income securities with the effects of puts and calls removedthat provide cash flows at the same time and in the same amount as theprojected cash flows of the plan.

In measuring the accumulated post-retirement benefit obligation as ofDecember 31, 2006, the Company assumed a discount rate of 6.0%. The reductionin the discount rate by 25 basis points would increase the accumulatedpost-retirement benefit obligation by approximately $311,000 as of December 31,2006 and would increase the net periodic cost by approximately $32,000 as ofDecember 31, 2006.

The health care cost trend rate is based upon an evaluation of thehistorical trends and experience, taking into account current and expectedmarket conditions. The health care cost trend rate represents the expectedannual rate of change in the cost of health care benefits currently provideddue to factors other than changes in the demographics of plan participants. Ifthe assumptions utilized in determining the post-retirement benefit expense andliability differ from actual events, the results of operations for futureperiods could be impacted.

In measuring the accumulated post-retirement benefit obligation as ofDecember 31, 2006, the initial health care inflation rate for 2007 was assumedto be 8.0%, which decreases 0.5% each year until it reaches 4.5% in 2014 andremains at 4.5% for the years thereafter. These assumptions were provided basedon a study of the ten-year history of the Company’s self-funded medicalbenefits plan, and provide results unique to the Company’s philosophy ofcontrolling rising medical costs. This has resulted in the Company consistentlyhaving lower increases in health care costs than the national averages. A one-percentage point increase in the healthcare inflation rate for each year would increase the accumulatedpost-retirement benefit obligation by $1,369,000. A one-percentage pointdecrease in the health care inflation rate for each year would decrease theaccumulated post-retirement benefit obligation by $1,100,000.

When actual events differ from the assumptions or when the assumptionsused change, an unrecognized actuarial gain or loss results. As of December 31,2006, the recognized net actuarial loss was $1,438,000. During each of the lastthree years, the Company has adjusted the discount rate assumption due tochanges in interest rates. In recent years, the Company has adjusted the healthcare cost trend rate assumption to reflect the current trend of medical costs.The remainder of the net actuarial loss amount primarily related to differencesbetween the assumed medical costs and actual experience and changes in theemployee population. The recognized net actuarial loss outside the allowable corridoris expected to be recognized over the next 12.9 years. This amount will changein future years as economic and market conditions generate gains and losses.

**INFLATION**

It is the opinionof management that the effects of inflation on operating revenues and expensesover the past three years have been immaterial. Management anticipates thatthis trend will continue in the near future.

**DIVIDENDS**

HickoryTech paiddividends of $6,316,000, or $0.48 per share, in 2006 and $6,277,000, or $0.48per share in 2005. HickoryTech has announced a first quarter dividend of $0.12per share in 2007, and if it is continued at that rate would produce an annualdividend of $0.48 per share.

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**LIQUIDITYAND CAPITAL RESOURCES**

**CAPITAL STRUCTURE**

The total capitalstructure (long-term and short-term obligations plus shareholders’ equity) forHickoryTech was $173,175,000 at December 31, 2006, reflecting 17.4% equity and82.6% debt. This compares to a capital structure of $177,767,000 at December31, 2005, reflecting 19.7% equity and 80.3% debt. Management believes adequateoperating cash flows and other internal and external resources are available tofinance ongoing operating requirements, including capital expenditures,business development, debt service and the payment of dividends for at leastthe next twelve months. The Company employs a short-term financing arrangementfor inventory purchases and views this arrangement as more of a structuredaccounts payable that is paid within 60 days with no separate interest charge.As such, the short-term financing amount of $7,719,000 is not considered to bepart of the Company’s capital structure and has been excluded from the aboveamounts (see Note 8 to the Notes to the Consolidated Financial Statements).

**CASH FLOWS**

Cash generatedfrom operations was $17,562,000 in 2006. Cashprovided by operations in 2006 was attributable to net income plus non-cashexpenses, including depreciation and amortization of $18,121,000 and the losson discontinued operations totaling $2,967,000. Cash from operations in 2006declined from 2005 by $14,367,000 due to working capital changes of$14,219,000. The most significant of which was an increase in the inventory onhand, offset by a related decrease in prepaid inventory resulting in a net cashusage of $4,116,000, an increase in the outstanding accounts receivable balanceof $4,032,000 and a decrease in outstanding accounts payables and accruedexpenses of $3,255,000, all contributing to lower cash provided by operations.The increase in inventory on hand was the result of supporting the increasedprojects in process in the Enventis Sector as well as an increase in theaverage days of inventory on hand. Increased outstanding account receivablebalances were primarily the result of the sales growth in the Enventis Sectorand an increase in the average day’s of sales outstanding. The year 2006, whichwas the first year of integrated operations with Enventis, was a less typicalyear for cash flow from operations than 2005 or 2004. Cash flows fromoperations in 2007 are expected to be similar to the results in 2006.

In 2005, we generated $31,929,000 in cash from operations. Cash flowfrom operations in 2005 was primarily attributable to net income plus non-cashexpenses, including depreciation and amortization of $15,436,000 and $6,523,000of working capital sources. Cash flows from operations in 2004 wereattributable to net income plus non-cash expenses, including depreciation andamortization of $16,363,000 and $3,826,000 of working capital sources.

Cash used in investingactivities was $20,870,000 in 2006, $56,547,000 in 2005 and $13,944,000 in2004. Capital expenditures were $21,058,000 in 2006, $19,434,000 in 2005 and$16,588,000 in 2004. Capital expenditures were incurred to upgrade broadbandnetworks in ILEC territories, expand digital TV infrastructure and to constructadditional network facilities to provide CLEC services and expand fiber opticfacilities. The level of total company capital spending over the next severalyears is expected to be below the level of capital spending in 2006. In 2005,the cash used in investing activities was significantly impacted by theacquisition of Enventis for $38,378,000 plus working capital adjustments. In2005 and 2004 redemptions of investments totaling $2,100,000 and $2,600,000,respectively, offset cash used in investing activities.

Cash provided byfinancing activities was $2,909,000 in 2006 which was primarily due to the useof short-term financing in the Enventis Sector of $7,719,000 and the payment ofdividends in the amount of $6,316,000. HickoryTech expects to reduce the levelof investment in capital expenditures and focus on reducing the debt level in2007. In 2005, cash provided by financing activities was $23,364,000. On December 30, 2005, HickoryTech entered into a$160,000,000 credit agreement with a syndicate of banks (subsequently amortizedto a $158.7 million facility as of December 31, 2006), which amended itsprevious credit facility. The proceeds were used to repay the outstandingobligations under the previous credit facility, pay fees and expensesassociated with the new credit facility and pay costs associated with theacquisition of Enventis. In addition, HickoryTech paid $6,277,000 ofdividends in 2005. In 2004, cash was primarily used to repay $16,000,000 in netborrowings and to pay dividends of $5,717,000.

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Cash used by discontinued operations was $118,000 in2006, cash provided by discontinued operations was $1,598,000 in 2005 and cashused by discontinued operations was $586,000 in 2004.  In 2006, cash provided by operatingactivities was primarily due to the net operating loss of $927,000 offset by adecrease in the accounts receivable balances of $658,000. In 2005, cashprovided by operating activities was the result of a reduction in the deferredtax asset of $562,000, a decreased inventory balance of $493,000 and a decreaseof $487,000 in project costs that were not billed to customers. A decrease of$813,000, partially offset by an increase in accounts receivable balances of$686,000 represent the majority of the cash provided by operating activities in2004. Net cash used in investing activities in 2006, 2005 and 2004 representdollars spent on capital expenditures. Net cash provided by/used in financingactivities in 2005 and 2004 represent changes in the cash overdraft status.

**WORKING CAPITAL**

Working capitalwas $7,731,000 as of December 31, 2006 compared to working capital of$8,078,000 as of December 31, 2005. The ratio of current assets to currentliabilities was 1.3 to 1.0 as of December 31, 2006 and 2005, respectively.

**LONG-TERM OBLIGATIONS**

HickoryTech’slong-term obligations as of December 31, 2006, were $141,529,000, excludingcurrent maturities of $1,300,000 on debt and $260,000 on current maturities ofcapital leases. On December 30, 2005,HickoryTech entered into a $160,000,000 credit agreement with a syndicate ofbanks (subsequently amortized to a $158.7 million facility as of December 31,2006), which amended its previous credit facility. The credit facilityis comprised of a $30,000,000 revolving credit component that expires onDecember 30, 2011 and a $130,000,000 term loan component.

The term loancomponent is comprised of two components which are defined as term loan B andterm loan C. The outstanding principal balance of term loan B is$108,900,000 as of December 31, 2006, and is held in varying amounts by threeof the lenders in the syndicate, US Bank, GE Commercial Distribution FinanceCorporation and CoBank. Under the terms of term loan B, HickoryTech is requiredto make quarterly principal payments of $275,000 from March 31, 2006through December 31, 2011 with the remainder of the aggregate principaldue in two payments on March 31, 2012 and June 30, 2012. Theoutstanding principal balance of term loan C is $19,800,000 as of December 31,2006, and is held entirely by Rural Telephone Finance Cooperative. Under theterms of term loan C, HickoryTech is required to make quarterly principalpayments of $50,000 on the aggregate principal amount from March 31, 2006through December 31, 2012 with the remainder of the aggregate principaldue in two payments on March 31, 2013 and June 30, 2013.

Under the terms ofthe revolving credit facility, any outstanding principal is payable in full onDecember 30, 2011. The outstanding balance of the revolving creditfacility is $14,000,000 as of December 31, 2006. Under the credit facility,interest will be payable at an applicable margin in excess of a prevailingpricing level. The prevailing pricing level will be based on a Base Rate,LIBOR Rate Loans or Rural Telephone Finance Corporation (RTFC) rate table. Theprevailing rate for Base Rate Loans is the higher of Prime Rate or the FederalFunds Rate plus 0.5%. The prevailing rate for LIBOR Rate Loans is publiclyavailable. The RTFC rate tables are established based on RTFC policies, are notpublicly available, and change from time to time. The applicable margin for the revolving credit facility, termloan B, and term loan C will be determined quarterly based on the leverageratio of HickoryTech. The credit facility also provides for payment of afee on any un-drawn commitment of the revolving credit facility, payablequarterly. The credit facilityrequires HickoryTech to enter into or maintain in effect interest rateprotection agreements on at least 50% of the facility’s outstanding balance, tomanage the Company’s exposure to interest rate fluctuations. HickoryTechcontinually monitors the interest rates on its bank loans and has implementedinterest rate protection agreements on various portions of the overall debtoutstanding for varying terms. As a result of the new credit agreement,HickoryTech incurred $1,525,000 of new debt placement costs in 2005, which willbe amortized over the expected life of the debt facility.

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HickoryTech isrequired to comply with specified financial ratios and tests applicable to theCompany and its current subsidiaries, including maximum leverage ratio, minimuminterest coverage ratio and maximum capital expenditures. HickoryTech’sobligations under the credit facility are secured by a first-priority lien onall property and assets, tangible and intangible, of HickoryTech and itscurrent subsidiaries, including, but not limited to, accounts receivable,inventory, equipment and intellectual property; general intangibles, cash andproceeds of the foregoing; and a first-priority pledge of the capital stock ofHickoryTech’s current subsidiaries.

HickoryTech’sTelecom Sector leases certain computer equipment under capital leasearrangements. This Sector recorded additions to property, plant and equipmentof $266,000, $782,000, and $81,000 in 2006, 2005 and 2004, respectively,related to these capital lease arrangements.

Thefollowing table sets forth HickoryTech’s contractual obligations, along withthe cash payments due each period. Interest on long-term debt is estimatedusing the interest rate as of December 31, 2006.
| ** **                          | ** ** | **Payments Due by Year** | ** ** |
|-------------------------------------|------------|-----------------------------------------|------------|
| ** **                          | ** ** | **(Dollars in Thousands)**    | ** ** |
| ** **                          | ** ** | ** **                              | ** ** | ** ** | ** ** | **2008 to** | ** ** | **2011 to** | ** ** | **2013 and** | ** ** |
| **Contractual Obligations**    | ** ** | **Total**                               | ** ** | **2007** | ** ** | **2010** | ** ** | **2012** | ** ** | **after** | ** ** |
| Long-term Debt                      |       | $                                       | 142,700    |   | $ | 1,300 |   | $ | 3,900 |   | $ | 118,900 |   | $ | 18,600 |   |
| Interest on Long-term Debt          |       | 47,593                                  |       | 7,569 |   | 26,772 |   | 12,787 |   | 465 |   |
| Capital Lease Obligations           |       | 389                                     |       | 267 |   | 122 |   | — |   | — |   |
| Interest on Capital Leases          |       | 20                                      |       | 17 |   | 3 |   | — |   | — |   |
| Purchase Obligations                |       | 6,304                                   |       | 6,304 |   | — |   | — |   | — |   |
| Operating Leases                    |       | 7,027                                   |       | 1,019 |   | 2,381 |   | 1,054 |   | 2,573 |   |
| Total Contractual Cash  Obligations |       | $                                       | 204,033    |   | $ | 16,476 |   | $ | 33,178 |   | $ | 132,741 |   | $ | 21,638 |   |

 

Interest onlong-term debt is calculated using a variable interest rate. HickoryTech usesinterest rate swap agreements to manage its exposure to interest rate movementson a portion of its variable rate debt obligations (see Note 12 to the Notes tothe Consolidated Financial Statements).

Purchaseobligations consist primarily of commitments incurred for constructionprojects.

In addition,HickoryTech has change of control agreements with key employees (see Note 14 tothe Notes to the Consolidated Financial Statements). These potentialcommitments are not included in the above schedule.

**OFF-BALANCE SHEET ARRANGEMENT/CONTINGENT COMMITMENTS**

HickoryTech is notengaged in any transactions, arrangements or other relationships withunconsolidated entities or other third parties that are reasonably likely tohave a material effect on its liquidity, or on its access to, or requirementsfor capital resources. In addition, HickoryTech has not established any specialpurpose entities.

**CONSTRUCTIONPLANS**

HickoryTech hasnearly completed its network enhancement program in its core telephoneproperty. In both its Telecom and its Enventis Sector, capital spending isbecoming more “success-based,” meaning the capital spending is associated withdefined revenue producing services and strategic initiatives. The level oftotal company capital spending over the next two to three years is expected tobe below the level of capital spending in 2006. Management believes thatthe enhancements of the past several years will support the broadband productdeployment strategies of the next few years, as well as serving as defense againstcompetition in its core businesses. These upgrades will give HickoryTechthe capability to offer more diversified services to its core customer base.

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**REGULATORY ASSET AND LIABILITY**

Effective January1, 2002, the Federal Communications Commission (FCC), in its “MAG (MultiAssociation Group) Order” on Access Charge Reform, directed all rate-of-returncarriers to file revisions to their tariffs to eliminate the transportinterconnection charge (TIC) as a separate rate element. In effect, the costspreviously recovered through the TIC were reallocated over all other accesscategories, including carrier common line, transport, local switching,information surcharge and special access. The FCC made it clear that “thistariff filing should be a revenue neutral tariff filing.” The total revenuesreallocated from the TIC to the remaining access elements were limited to thetotal revenues recovered from the TIC for the twelve-month period ended June30, 2001. These revenues were calculated using the carrier’s traffic volumesand the TIC rate for the twelve-month period ended June 30, 2001. Thesecalculations were prepared by an independent third party and approved by theNational Exchange Carrier Association (NECA). Reallocating the costs to theother access billing categories eliminated TIC. The FCC conducted aninvestigation of all tariff filings, including NECA’s CCL (Carrier Common Line)tariff and Heartland’s Traffic Sensitive (TS) tariff, to determine if thefiling parties had properly reallocated the TIC costs among the other accesscharge categories. The FCC terminated its investigation of several tarifffilings, concluding that “the carriers have substantially complied with theRate-of-Return Access Charge Reform Order and their tariffs no longer warrantinvestigation.” Despite this ruling by the FCC during the fourth quarter of2003, NECA informed HickoryTech’s Heartland subsidiary that it would not allowit to recover a portion of the TIC costs allocated to the CCL, because anincorrect TIC rate was used in the calculation. As a result of this billingerror, the Company recovered $611,000 of excess revenues from the NECA CCLpool. NECA required Heartland to repay the $611,000 in 2004. The FCC approved amid-course correction to Heartland’s TS tariff as a supportable method ofrecouping NECA’s CCL reduction. The revision corrects the TIC rate originallyused, and factors recovery of the $611,000, into the TS rate elements.HickoryTech recouped this revenue over the remaining eighteen months of the TStariff, from January 1, 2004 to June 30, 2005. In accordance with SFAS No. 71,HickoryTech recorded a regulatory asset for the revenue it would recoup with abalance of $0 at December 31, 2005 and 2006 and $204,000 at December 31, 2004.

**OTHER**

HickoryTechoperates with original equity capital, retained earnings and indebtedness inthe form of bank term and revolving lines of credit. HickoryTech believes itscurrent level of debt to total capital is acceptable for ongoing operations.

**CONTINGENCIES**

HickoryTech isinvolved in certain contractual disputes in the ordinary course of business.HickoryTech does not believe the ultimate resolution of any of these existingmatters will have a material adverse effect on its financial position, resultsof operations or cash flows.

**RECENT ACCOUNTING DEVELOPMENTS**

See Note 1, “AccountingPolicies – Recent Accounting Developments,” in the Notes to the ConsolidatedFinancial Statements for a discussion of recent accounting developments.

**REGULATEDINDUSTRY**

ILEC Minnesota –HickoryTech’s two Minnesota ILEC subsidiaries continue to operate under analternative form of regulation as defined in Minnesota Statutes, Chapter 237,whereby companies with less than 50,000 customers are regulated on price andservice level rather than profit. In 2005, the Minnesota legislature enacted astatute deregulating multi-line businesses in certain metropolitan markets.

The MPUC has beenconsidering intrastate access reform and universal service for several years.The MPUC opened two dockets in 2004 regarding state access reform. Thesedockets were suspended in December 2004 subsequent to concerns expressed bystate agencies regarding increases in local rates and the potential thatfederal activity may also address this issue, and they were officially closedin January 2006. The MPUC then opened a similar docket on the issue of stateaccess reform and has recently asked for comments to refresh the record.HickoryTech cannot estimate the impact, if any, of future potential stateaccess revenue changes.

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The U.S. 8th Circuit Court of Appeals, has upheld a rulingby the United States District Court, District of Minnesota, in issuing aninjunction providing relief from regulation of any service provider of VoIPbased services in Minnesota. In July 2006, the FCC ruled that VoIP services aresubject to Universal Service Fund Contribution, however, any further regulationof VoIP under consideration at the FCC is uncertain. Future decisions regardingthe regulation of VoIP may result in a change in the business relationship betweenHickoryTech companies and the interexchange carriers as interconnections withcertain VoIP providers may not be governed by tariffed access charges.HickoryTech cannot, at this time, estimate the revenue impact, if any, relatedto these events.

On June 27, 2005,the United States Supreme Court reversed a prior ruling that required cableoperators to open up their high-speed Internet lines to competition. In October2005, the FCC also released new regulations intended to spur the development ofbroadband services. HickoryTech cannot, at this time, estimate the revenueimpact, if any, related to these events.

ILEC Iowa –HickoryTech’s Iowa ILEC subsidiary is not price regulated.

WirelineInterstate – The HickoryTech ILEC companies do not participate in the NationalExchange Carrier Association (NECA) traffic sensitive pool. Instead, they settheir own access rates according to either a nationwide average cost ofproviding access, or in the case of Heartland, according to its own interstatecosts. This biannual rate process was completed in June 2005, and establishedtraffic sensitive interstate rates for the period from July 1, 2005 throughJune 30, 2007. HickoryTech ILEC companies participate in the NECA common linepool. End User Common Line funds collected, are pooled and some of HickoryTech’srevenues are based on settlements distributed from the pool. Pool settlementsare adjusted periodically.

CLEC – HickoryTech’sCLEC businesses provide services in Minnesota, Iowa and Wisconsin with lessregulatory oversight than the HickoryTech ILEC companies. Crystal provideslocal exchange services in Minnesota and Iowa, and Enventis provides their ownprivate line services in Minnesota and Wisconsin. Both Crystal and Enventisalso offer long distance services. In-state services in Minnesota are regulatedby the MPUC with respect to uniform pricing statewide. In-state long distanceservice in Iowa is unregulated. Long distance services are also deregulated atthe federal level (for interstate services), but are subject to annualcertification of geographical rate averaging and rate integration. Dial-up andbroadband Internet access are unregulated at both the state and federal levels.

In addition to thederegulation granted by Iowa law, the IUB has opened another docketinvestigating effective competition for several additional communities and mayauthorize additional deregulation for those communities. This docket includesone community served by Crystal.

Crystal offersdigital TV service in the eight Minnesota markets under franchises negotiatedwith these local municipalities.

Other –HickoryTech’s CLEC interstate access rates are established in accordance withan April 2001 FCC order. Under the final phase of this order, interstateswitched access rates for HickoryTech’s CLEC were reduced to levels comparableto those of the ILEC’s in June 2004.

The FCC has anopen docket on intercarrier compensation as well as several dockets on VoIP. InFebruary 2005, the FCC issued a Further Noticeof Public Rule Making and has received voluminous comments reflecting diverseopinions for intercarrier compensation reform. This process continues as anindustry group has filed another plan (the Missoula Plan) with the FCC for itsconsideration. HickoryTech cannot predict the outcome of such proceedings norcan it estimate the impact, if any, on HickoryTech.

HickoryTechcompanies have entered into a civil complaint against a large interexchangecarrier related to an access avoidance scheme for prepaid calling card traffic.HickoryTech cannot predict the outcome of such proceedings nor their impact, ifany, on HickoryTech.

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Local Number Portability (LNP) – In 2003, the FCC released a decisionproviding guidance on porting between wireline and wireless networks(inter-modal porting). All of the Company’s wireline operations have operatedwith LNP capabilities since early 2005. The effects of inter-modal porting onthe Company’s wireline operations have been minimal to date. It is possiblethat these requirements could adversely affect the Company’s wireline operatingcosts and customer growth rates. HickoryTech is unable to quantify thelong-term effects or revenue impact of wireline customers that may switch towireless or other wireline alternatives.

**Item 7A.Quantitative and Qualitative Disclosures about Market Risk.**

HickoryTech doesnot have operations subject to risks of foreign currency fluctuations.HickoryTech does, however, use derivative financial instruments to manageexposure to interest rate fluctuations. HickoryTech’s objectives for holdingderivatives are to minimize interest rate risks using the most effectivemethods to eliminate or reduce the impact of these exposures. Variable ratedebt instruments are subject to interest rate risk. HickoryTech has enteredinto interest rate protection agreements with remaining maturities of eighteenmonths to manage its exposure to interest rate movements on a portion of itsvariable rate debt obligations. The effective portion of the cumulative gain orloss on these derivative instruments is reported as a component of accumulatedother comprehensive income/loss in shareholders’ equity and is recognized inearnings over the term of the protection agreement. HickoryTech’s earnings areaffected by changes in interest rates for a portion of its long-term debt whichis not under fixed interest rates or under interest protection agreements. Aportion of its long-term debt has variable interest rates based on LIBOR. Ifinterest rates for the portion of HickoryTech’s long-term debt based on variablerates had averaged 10% more for the year ended December 31, 2006, HickoryTech’sinterest expense would have increased $379,000.

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**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

To theShareholders and Board of Directors of Hickory Tech Corporation:

We have completedintegrated audits of Hickory Tech Corporation’s consolidated financialstatements and of its internal control over financial reporting as of December31, 2006, in accordance with the standards of the Public Company AccountingOversight Board (United States). Our opinions, based on our audits, arepresented below.

Consolidatedfinancial statements and financial statement schedule

In our opinion,the consolidated financial statements listed in the index appearing under Item15(a)(1) respectively present fairly, in all material respects, the financialposition of Hickory Tech Corporation and its subsidiaries at December 31, 2006and 2005, and the results of their operations and their cash flows for each ofthe three years in the period ended December 31, 2006 in conformity withaccounting principles generally accepted in the United States of America. Inaddition, in our opinion, the financial statement schedule listed in the indexappearing under Item 15(a)(2) present fairly, in all material respects, theinformation set forth therein when read in conjunction with the relatedconsolidated financial statements. These financial statements and financialstatement schedule are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements andfinancial statement schedule based on our audits. We conducted our audits ofthese statements in accordance with the standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit of finanicalstatements includes examining, on a test basis, evidence supporting the amountsand disclosures in the financial statements, assessing the accountingprinciples used and significant estimates made by management, and evaluatingthe overall financial statement presentation. We believe that our auditsprovide a reasonable basis for our opinion.

As discussed inNote 7 to the consolidated financial statements, effective January 1, 2006 theCompany changed the manner in which it accounts for share-based compensation.In addition, as discussed in Note 10, effective December 31, 2006, the Companychanged the manner in which it records the funded status of its postretirementplans.

Internal controlover financial reporting

Also, in ouropinion, management’s assessment, included in Management’s Report on InternalControl Over Financial Reporting appearing under Item 9A, that the Companymaintained effective internal control over financial reporting as of December31, 2006 based on criteria established in *Internal Control –Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission (COSO), is fairly stated, in allmaterial respects, based on those criteria. Furthermore, in our opinion, theCompany maintained, in all material respects, effective internal control overfinancial reporting as of December 31, 2006, based on criteria established in *Internal Control – Integrated Framework* issued by the COSO.The Company’s management is responsible for maintaining effective internalcontrol over financial reporting and for its assessment of the effectiveness ofinternal control over financial reporting. Our responsibility is to expressopinions on management’s assessment and on the effectiveness of the Company’sinternal control over financial reporting based on our audit. We conducted ouraudit of internal control over financial reporting in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether effective internal control over financial reporting wasmaintained in all material respects. An audit of internal control overfinancial reporting includes obtaining an understanding of internal controlover financial reporting, evaluating management’s assessment, testing andevaluating the design and operating effectiveness of internal control, andperforming such other procedures as we consider necessary in the circumstances.We believe that our audit provides a reasonable basis for our opinions.

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A company’sinternal control over financial reporting is a process designed to providereasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance withgenerally accepted accounting principles. A company’s internal control overfinancial reporting includes those policies and procedures that (i) pertain tothe maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the Company; (ii)provide reasonable assurance that transactions are recorded as necessary topermit preparation of financial statements in accordance with generallyaccepted accounting principles, and that receipts and expenditures of theCompany are being made only in accordance with authorizations of management anddirectors of the Company; and (iii) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisitions, use or dispositionof the Company’s assets that could have a material effect on the financialstatements.

Because of itsinherent limitations, internal control over financial reporting may not preventor detect misstatements. Also, projections of any evaluation of effectivenessto future periods are subject to the risk that controls may become inadequatebecause of changes in conditions, or that the degree of compliance with thepolicies or procedures may deteriorate.

PricewaterhouseCoopersLLP

 

Minneapolis, Minnesota

March14, 2007

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**Item 8. Financial Statements and Supplementary Data.**

**HICKORY TECH CORPORATIONCONSOLIDATED STATEMENTS OF OPERATIONSYears Ended December 31**

*(Dollars in Thousands, Except Per Share Amounts)*
| ** **                                                | ** ** | **2006**       | ** ** | **2005**       | ** ** | **2004**   | ** ** |
|-----------------------------------------------------------|------------|----------------|------------|----------------|------------|------------|------------|
| OPERATING REVENUES:                                       |       |           |       |           |       |       |       |
| Telecom Sector                                            |       | **$**          | **74,896** | ** **     | $          | 77,922     |       | $ | 78,807 |   |
| Enventis Sector  (Note 3)                                 |       | **58,005**     | ** ** | —         |       | —     |       |
| TOTAL OPERATING  REVENUES                                 |       | **132,901**    | ** ** | 77,922         |       | 78,807     |       |
|                                                      |       | ** **     | ** ** |           |       |       |       |
| COSTS AND EXPENSES:                                       |       | ** **     | ** ** |           |       |       |       |
| Cost of Sales,  Enventis                                  |       | **31,152**     | ** ** | —         |       | —     |       |
| Cost of  Services, excluding                              |       | ** **     | ** ** |           |       |       |       |
| Depreciation and  Amortization                            |       | **44,506**     | ** ** | 31,408         |       | 31,549     |       |
| Selling, General  and Administrative Expenses, excluding  |       | ** **     | ** ** |           |       |       |       |
| Depreciation and  Amortization                            |       | **23,291**     | ** ** | 12,600         |       | 11,766     |       |
| Depreciation                                              |       | **16,949**     | ** ** | 14,943         |       | 15,417     |       |
| Amortization of  Intangibles                              |       | **1,172**      | ** ** | 493            |       | 946        |       |
|                                                      |       | ** **     | ** ** |           |       |       |       |
| TOTAL COSTS AND  EXPENSES                                 |       | **117,070**    | ** ** | 59,444         |       | 59,678     |       |
|                                                      |       | ** **     | ** ** |           |       |       |       |
| OPERATING INCOME                                          |       | **15,831**     | ** ** | 18,478         |       | 19,129     |       |
|                                                      |       | ** **     | ** ** |           |       |       |       |
| OTHER INCOME/(EXPENSE):                                   |       | ** **     | ** ** |           |       |       |       |
| Interest and  Other Income                                |       | **138**        | ** ** | 97             |       | 61         |       |
| Interest Expense                                          |       | **(7,362**     | **)**      | (4,363         | )          | (4,613     | )          |
| TOTAL OTHER  (EXPENSE)                                    |       | **(7,224**     | **)**      | (4,266         | )          | (4,552     | )          |
| INCOME  FROM CONTINUING OPERATIONS BEFORE INCOME TAXES    |       | **8,607**      | ** ** | 14,212         |       | 14,577     |       |
| INCOME TAX PROVISION                                      |       | **3,372**      | ** ** | 5,646          |       | 5,896      |       |
| INCOME FROM CONTINUING  OPERATIONS                        |       | **5,235**      | ** ** | 8,566          |       | 8,681      |       |
| DISCONTINUED OPERATIONS  (Note 3)                         |       | ** **     | ** ** |           |       |       |       |
| Loss from Operations  of Discontinued Component           |       | ** **     | ** ** |           |       |       |       |
| Including Loss  on Disposal of $3,385 in 2006             |       | **(4,556**     | **)**      | (62            | )          | (1,833     | )          |
| Income Tax  Benefit                                       |       | **(1,589**     | **)**      | (25            | )          | (742       | )          |
| LOSS ON DISCONTINUED  OPERATIONS                          |       | **(2,967**     | **)**      | (37            | )          | (1,091     | )          |
| NET INCOME                                                |       | **$**          | **2,268**  | ** **     | $          | 8,529      |       | $ | 7,590 |   |
| Basic Earnings Per  Share - Continuing Operations:        |       | **$**          | **0.40**   | ** **     | $          | 0.65       |       | $ | 0.66 |   |
| Basic Loss Per Share -  Discontinued Operations:          |       | **(0.23**      | **)**      | —         |       | (0.08      | )          |
|                                                      |       | **$**          | **0.17**   | ** **     | $          | 0.65       |       | $ | 0.58 |   |
| Dividends Per Share                                       |       | **$**          | **0.48**   | ** **     | **$**      | **0.48**   | ** ** | $ | 0.44 |   |
| Weighted Average Common  Shares Outstanding               |       | **13,163,480** | ** ** | **13,083,252** | ** ** | 12,993,280 |       |
| Diluted Earnings Per  Share - Continuing Operations:      |       | **$**          | **0.40**   | ** **     | **$**      | **0.65**   | ** ** | $ | 0.66 |   |
| Diluted Loss Per Share  - Discontinued Operations:        |       | **(0.23**      | **)**      | —         |       | (0.08      | )          |
|                                                      |       | **$**          | **0.17**   | ** **     | $          | 0.65       |       | $ | 0.58 |   |
| Weighted Average Common and Equivalent Shares Outstanding |       | **13,163,480** | ** ** | **13,097,417** | ** ** | 13,025,637 |       |

 

The accompanying notes are an integral part of the consolidatedfinancial statements.

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**HICKORYTECH CORPORATION**

**CONSOLIDATED BALANCE SHEETS**

**As of December 31**

*(InThousands Except Share and Per Share Amounts)*
| ** **                                                                                                                                              | ** ** | **2006**    | ** **  | **2005**   | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------|-------------|------------|------------|
| ASSETS                                                                                                                                                  |       |        |        |       |       |
| Current Assets:                                                                                                                                         |       |        |        |       |       |
| Cash and cash equivalents                                                                                                                               |       | **$**       | **84**      | ** ** | $          | 601 |   |
| Receivables, net of allowance for doubtful accounts  of $851 and $334                                                                                   |       | **20,780**  | ** **  | 19,867     |       |
| Costs in excess of billings on contracts                                                                                                                |       | **—**  | ** **  | 462        |       |
| Inventories                                                                                                                                             |       | **11,294**  | ** **  | 4,577      |       |
| Deferred income taxes, net                                                                                                                              |       | **815**     | ** **  | 300        |       |
| Prepaid expenses                                                                                                                                        |       | **1,903**   | ** **  | 5,066      |       |
| Other                                                                                                                                                   |       | **1,662**   | ** **  | 1,155      |       |
| Total current  assets                                                                                                                                   |       | **36,538**  | ** **  | 32,028     |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Investments                                                                                                                                             |       | **3,554**   | ** **  | 3,407      |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Property, plant  and equipment                                                                                                                          |       | **309,264** | ** **  | 290,499    |       |
| Less accumulated depreciation                                                                                                                           |       | **156,429** | ** **  | 141,157    |       |
| Property, plant and equipment, net                                                                                                                      |       | **152,835** | ** **  | 149,342    |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Other assets:                                                                                                                                           |       | ** **  | ** **  |       |       |
| Goodwill                                                                                                                                                |       | **25,239**  | ** **  | 27,109     |       |
| Intangible assets, net                                                                                                                                  |       | **3,140**   | ** **  | 4,312      |       |
| Financial derivative instruments                                                                                                                        |       | **2,489**   | ** **  | 3,429      |       |
| Deferred costs and other                                                                                                                                |       | **3,105**   | ** **  | 3,640      |       |
| Total other assets                                                                                                                                      |       | **33,973**  | ** **  | 38,490     |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Total assets                                                                                                                                            |       | **$**       | **226,900** | ** ** | $          | 223,267 |   |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| LIABILITIES & SHAREHOLDERS’ EQUITY                                                                                                             |       | ** **  | ** **  |       |       |
| Current  liabilities:                                                                                                                                   |       | ** **  | ** **  |       |       |
| Cash Overdraft                                                                                                                                          |       | **$**       | **1,475**   | ** ** | $          | 514 |   |
| Short-term financing                                                                                                                                    |       | **7,719**   | ** **  | —     |       |
| Accounts payable                                                                                                                                        |       | **4,211**   | ** **  | 5,224      |       |
| Accrued expenses                                                                                                                                        |       | **5,167**   | ** **  | 6,809      |       |
| Accrued interest                                                                                                                                        |       | **447**     | ** **  | —     |       |
| Accrued income taxes                                                                                                                                    |       | **4,528**   | ** **  | 4,765      |       |
| Billings in excess of costs on contracts                                                                                                                |       | **—**  | ** **  | 283        |       |
| Advanced billings and deposits                                                                                                                          |       | **3,488**   | ** **  | 4,577      |       |
| Current Portion - Post Retirement Benefits                                                                                                              |       | **212**     | ** **  | —     |       |
| Current maturities of long-term obligations                                                                                                             |       | **1,560**   | ** **  | 1,778      |       |
| Total current liabilities                                                                                                                               |       | **28,807**  | ** **  | 23,950     |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Long-term  obligations, net of current maturities                                                                                                       |       | **141,529** | ** **  | 140,980    |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Deferred income  taxes                                                                                                                                  |       | **15,332**  | ** **  | 15,346     |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Deferred revenue                                                                                                                                        |       | **2,596**   | ** **  | 1,948      |       |
| Accrued employee  benefits and deferred compensation                                                                                                    |       | **8,550**   | ** **  | 6,034      |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Total liabilities                                                                                                                                       |       | **196,814** | ** **  | 188,258    |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Commitments and  contingencies                                                                                                                          |       | **—**  | ** **  | —     |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Shareholders’  equity:                                                                                                                             |       | ** **  | ** **  |       |       |
| Common stock, no  par value, $.10 stated value shares authorized: 100,000,000 Shares issued and  outstanding: 13,207,970 in 2006 and 13,124,928 in 2005 |       | **1,321**   | ** **  | 1,312      |       |
| Additional paid-in capital                                                                                                                              |       | **9,992**   | ** **  | 9,262      |       |
| Retained earnings                                                                                                                                       |       | **18,323**  | ** **  | 22,371     |       |
| Accumulated other comprehensive income                                                                                                                  |       | **450**     | ** **  | 2,064      |       |
| Total shareholders’  equity                                                                                                                        |       | **30,086**  | ** **  | 35,009     |       |
|                                                                                                                                                    |       | ** **  | ** **  |       |       |
| Total liabilities and  shareholders’ equity                                                                                                        |       | **$**       | **226,900** | ** ** | $          | 223,267 |   |

 

The accompanying notes are an integral part of the consolidatedfinancial statements.

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**HICKORYTECH CORPORATION**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**Years Ended December 31**

*(Dollars in Thousands)*
| ** **                                                                                    | ** ** | **2006**    | ** ** | **2005**   | ** ** | **2004**  | ** ** |
|-----------------------------------------------------------------------------------------------|------------|-------------|------------|------------|------------|-----------|------------|
| CASH FLOWS FROM  OPERATING ACTIVITIES:                                                        |       |        |       |       |       |      |       |
| Net Income                                                                                    |       | **$**       | **2,268**  | ** ** | $          | 8,529     |       | $ | 7,590 |   |
| Adjustments to Reconcile Net Income to Net Cash  Provided by Operating Activities:            |       | ** **  | ** ** |       |       |      |       |
| Loss from  Discontinued Operations                                                            |       | **2,967**   | ** ** | 37         |       | 1,091     |       |
| Depreciation and  Amortization                                                                |       | **18,121**  | ** ** | 15,436     |       | 16,363    |       |
| Loss on Sale of  Assets                                                                       |       | **63**      | ** ** | 12         |       | 95        |       |
| Provision for  Losses on Accounts Receivable                                                  |       | **1,043**   | ** ** | 1,002      |       | 945       |       |
| Deferred Income  Tax Provision (Benefit)                                                      |       | **(155**    | **)**      | 274        |       | 4,817     |       |
| Stock-Based  Compensation                                                                     |       | **320**     | ** ** | 108        |       | 100       |       |
| Employee  Retirement Benefits and Deferred Compensation                                       |       | **1,680**   | ** ** | 375        |       | 905       |       |
| Accrued  Patronage Refunds                                                                    |       | **(1,049**  | **)**      | (367       | )          | (357      | )          |
| Tax Benefit from  Stock Option Transactions                                                   |       | **—**  | ** ** | —     |       | 11        |       |
| Changes in Operating  Assets and Liabilities Net of Effects of Acquisitions and Dispositions: |       | ** **  | ** ** |       |       |      |       |
| Receivables                                                                                   |       | **(4,329**  | **)**      | (297       | )          | (224      | )          |
| Prepaids                                                                                      |       | **3,123**   | ** ** | (164       | )          | (60       | )          |
| Inventories                                                                                   |       | **(7,727**  | **)**      | (82        | )          | 457       |       |
| Accounts Payable  and Accrued Expenses                                                        |       | **(933**    | **)**      | 2,322      |       | 439       |       |
| Advance Billings  and Deposits                                                                |       | **(535**    | **)**      | (1         | )          | (283      | )          |
| Deferred Revenue                                                                              |       | **688**     | ** ** | 282        |       | (231      | )          |
| Income Taxes                                                                                  |       | **1,107**   | ** ** | 4,969      |       | 2,634     |       |
| Other                                                                                         |       | **910**     | ** ** | (506       | )          | 1,094     |       |
| Net Cash Provided By Operating Activities                                                     |       | **17,562**  | ** ** | 31,929     |       | 35,386    |       |
| CASH FLOWS FROM  INVESTING ACTIVITIES:                                                        |       | ** **  | ** ** |       |       |      |       |
| Additions to Property, Plant and Equipment                                                    |       | **(21,058** | **)**      | (19,434    | )          | (16,588   | )          |
| Increase in Investments                                                                       |       | **—**  | ** ** | (900       | )          | —    |       |
| Redemption of Investments                                                                     |       | **21**      | ** ** | 2,100      |       | 2,600     |       |
| Purchase of Intangible Asset                                                                  |       | **—**  | ** ** | —     |       | (9        | )          |
| Acquisitions, Adjustments to Purchase Price                                                   |       | **124**     | ** ** | —     |       | —    |       |
| Acquisitions, Net of Cash Acquired                                                            |       | **—**  | ** ** | (38,378    | )          | —    |       |
| Proceeds from Sale of Assets                                                                  |       | **43**      | ** ** | 65         |       | 53        |       |
| Net Cash (Used In) Investing Activities                                                       |       | **(20,870** | **)**      | (56,547    | )          | (13,944   | )          |
| CASH FLOWS FROM  FINANCING ACTIVITIES:                                                        |       | ** **  | ** ** |       |       |      |       |
| Net Borrowings under Short-term Financing  Arrangement                                        |       | **7,719**   | ** ** | —     |       | —    |       |
| Change in Cash Overdraft                                                                      |       | **961**     | ** ** | (1,364     | )          | 727       |       |
| Repayments of Credit Agreement                                                                |       | **—**  | ** ** | (8,532     | )          | —    |       |
| Payments of Capital Lease Obligations                                                         |       | **(539**    | **)**      | (543       | )          | (710      | )          |
| Borrowings on Credit Facility                                                                 |       | **26,000**  | ** ** | 138,785    |       | 2,000     |       |
| Repayments on Credit Facility                                                                 |       | **(25,335** | **)**      | (99,250    | )          | (18,000   | )          |
| Proceeds from Issuance of Common Stock                                                        |       | **419**     | ** ** | 545        |       | 865       |       |
| Dividends Paid                                                                                |       | **(6,316**  | **)**      | (6,277     | )          | (5,717    | )          |
| Stock Repurchase/Retirement                                                                   |       | **—**  | ** ** | —     |       | (42       | )          |
| Net Cash Provided by/(Used In) Financing Activities                                           |       | **2,909**   | ** ** | 23,364     |       | (20,877   | )          |
| CASH FLOWS FROM  DISCONTINUED OPERATIONS                                                      |       | ** **  | ** ** |       |       |      |       |
| Net Cash Provided by/(Used In) Operating Activities                                           |       | **6**       | ** ** | 1,431      |       | (514      | )          |
| Net Cash (Used in) Investing Activities                                                       |       | **(124**    | **)**      | (32        | )          | (24       | )          |
| Net Cash Provided by/(Used In) Financing Activities                                           |       | **—**  | ** ** | 199        |       | (48       | )          |
| Net Cash Provided by/(Used In) Discontinued  Operations                                       |       | **(118**    | **)**      | **1,598**  | ** ** | **(586**  | **)**      |
| NET  INCREASE/(DECREASE) IN CASH AND CASH EQUIVALENTS                                         |       | **(517**    | **)**      | 344        |       | (21       | )          |
| CASH AND CASH  EQUIVALENTS AT BEGINNING OF PERIOD                                             |       | **601**     | ** ** | 257        |       | 278       |       |
| CASH AND CASH  EQUIVALENTS AT END OF PERIOD                                                   |       | **$**       | **84**     | ** ** | $          | 601       |       | $ | 257 |   |
| SUPPLEMENTAL  DISCLOSURE OF CASH FLOW INFORMATION:                                            |       | ** **  | ** ** |       |       |      |       |
| Cash Paid for Interest                                                                        |       | **$**       | **7,749**  | ** ** | **$**      | **4,521** | ** ** | $ | 4,669 |   |
| Net Cash Paid (Refunded) for Income Taxes                                                     |       | **$**       | **1,485**  | ** ** | **$**      | **(182**  | **)**      | $ | (2,094 | ) |
| NON-CASH  INVESTING ACTIVITIES:                                                               |       | ** **  | ** ** | ** ** | ** ** |      |       |
| Property, Plant  and Equipment Acquired with Capital Leases                                   |       | **$**       | **266**    | ** ** | **$**      | **782**   | ** ** | $ | 81 |   |

 

The accompanying notes are an integral part of the consolidatedfinancial statements.

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**HICKORYTECH CORPORATION**

**CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY AND COMPREHENSIVEINCOME/LOSS**

**Years Ended December 31**

*(Dollars in Thousands)*
| ** **                                        | ** ** | **Common Stock** | ** ** | **Additional  Paid - In** | ** ** | **Retained** | ** ** | **Accumulated  Other  Comprehensive** | ** ** | **Total  Shareholders’** | ** ** | **Total  Comprehensive** | ** ** |
|---------------------------------------------------|------------|-----------------------|------------|-------------------------------------|------------|--------------|------------|---------------------------------------|------------|-------------------------------|------------|--------------------------|------------|
| ** **                                        | ** ** | **Shares**            | ** ** | **Amount**                          | ** ** | **Capital**  | ** ** | **Earnings**                          | ** ** | **Income/(Loss)**             | ** ** | **Equity**               | ** ** | **Income/(Loss)** | ** ** |
| BALANCE, DECEMBER 31,  2003                       |       | 12,967,811            |       | $                                   | 1,297      |         | $          | 7,690                                 |       | $                             | 18,246     |                     | $          | 1,484 |   | $ | 28,717 |   |   |   |
| Stock Award Plan                                  |       | 2,253                 |       |                                |       | 35           |       |                                  |       |                          |       | 35                       |       |   |   |
| Employee Stock  Purchase Plan                     |       | 22,017                |       | 2                                   |       | 190          |       |                                  |       |                          |       | 192                      |       |   |   |
| Directors’ Stock  Retainer Plan              |       | 5,764                 |       | 1                                   |       | 63           |       |                                  |       |                          |       | 64                       |       |   |   |
| Stock Options  Exercised                          |       | 37,985                |       | 4                                   |       | 391          |       |                                  |       |                          |       | 395                      |       |   |   |
| Dividend  Reinvestment Plan                       |       | 24,575                |       | 2                                   |       | 276          |       |                                  |       |                          |       | 278                      |       |   |   |
| Stock Repurchase                                  |       | (3,299                | )          |                                |       | (42          | )          |                                  |       |                          |       | (42                      | )          |   |   |
| Stock Option Tax  Benefit                         |       |                  |       |                                |       | 12           |       |                                  |       |                          |       | 12                       |       |   |   |
| Net Income                                        |       |                  |       |                                |       |         |       | 7,590                                 |       |                          |       | 7,590                    |       | $ | 7,590 |   |
| Dividends Paid                                    |       |                  |       |                                |       |         |       | (5,717                                | )          |                          |       | (5,717                   | )          |   |   |
| Other  Comprehensive Income,  Net of Income Taxes |       |                  |       |                                |       |         |       |                                  |       | 21                            |       | 21                       |       | 21 |   |
| Total  Comprehensive Income                       |       |                  |       |                                |       |         |       |                                  |       |                          |       |                     |       | $ | 7,611 |   |
| BALANCE, DECEMBER  31, 2004                       |       | 13,057,106            |       | 1,306                               |       | 8,615        |       | 20,119                                |       | 1,505                         |       | 31,545                   |       |   |   |
| Stock Award Plan                                  |       | 6,309                 |       |                                |       | 43           |       |                                  |       |                          |       | 43                       |       |   |   |
| Employee Stock  Purchase Plan                     |       | 25,054                |       | 2                                   |       | 282          |       |                                  |       |                          |       | 284                      |       |   |   |
| Directors’ Stock  Retainer Plan              |       | 7,521                 |       | 1                                   |       | 64           |       |                                  |       |                          |       | 65                       |       |   |   |
| Dividend  Reinvestment Plan                       |       | 28,938                |       | 3                                   |       | 258          |       |                                  |       |                          |       | 261                      |       |   |   |
| Net Income                                        |       |                  |       |                                |       |         |       | 8,529                                 |       |                          |       | 8,529                    |       | $ | 8,529 |   |
| Dividends Paid                                    |       |                  |       |                                |       |         |       | (6,277                                | )          |                          |       | (6,277                   | )          |   |   |
| Other  Comprehensive Income,  Net of Income Taxes |       |                  |       |                                |       |         |       |                                  |       | 559                           |       | 559                      |       | 559 |   |
| Total  Comprehensive Income                       |       |                  |       |                                |       |         |       |                                  |       |                          |       |                     |       | $ | 9,088 |   |
| BALANCE, DECEMBER  31, 2005                       |       | 13,124,928            |       | 1,312                               |       | 9,262        |       | 22,371                                |       | 2,064                         |       | 35,009                   |       |   |   |
| Stock Award Plan                                  |       | 17,386                |       | 2                                   |       | 139          |       |                                  |       |                          |       | 141                      |       |   |   |
| Employee Stock  Purchase Plan                     |       | 24,089                |       | 3                                   |       | 171          |       |                                  |       |                          |       | 174                      |       |   |   |
| Directors’ Stock  Retainer Plan              |       | 9,013                 |       | 1                                   |       | 64           |       |                                  |       |                          |       | 65                       |       |   |   |
| Dividend  Reinvestment Plan                       |       | 32,554                |       | 3                                   |       | 242          |       |                                  |       |                          |       | 245                      |       |   |   |
| Stock based  compensation                         |       |                  |       |                                |       | 114          |       |                                  |       |                          |       | 114                      |       |   |   |
| Net Income                                        |       |                  |       |                                |       |         |       | 2,268                                 |       |                          |       | 2,268                    |       | 2,268 |   |
| Dividends Paid                                    |       |                  |       |                                |       |         |       | (6,316                                | )          |                          |       | (6,316                   | )          |   |   |
| Other  Comprehensive Loss,  Net of Income Taxes   |       |                  |       |                                |       |         |       |                                  |       | (567                          | )          | (567                     | )          | (567 | ) |
| Adoption of SFAS  No. 158, net of tax of $690     |       |                  |       |                                |       |         |       |                                  |       | (1,047                        | )          | (1,047                   | )          |   |   |
| Total  Comprehensive Income                       |       |                  |       |                                |       |         |       |                                  |       |                          |       |                     |       | $ | 1,701 |   |
| BALANCE, DECEMBER 31,  2006                       |       | 13,207,970            |       | $                                   | 1,321      |         | $          | 9,992                                 |       | $                             | 18,323     |                     | $          | 450 |   | $ | 30,086 |   |   |   |

 

The accompanying notes are an integral part of the consolidatedfinancial statements.

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**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS**

**NOTE 1 – ACCOUNTING POLICIES**

The accountingpolicies of HickoryTech are in conformity with accounting principles generallyaccepted in the United States of America and, where applicable, conform to theaccounting principles as prescribed by federal and state telephone utilityregulatory authorities. HickoryTech presently gives accounting recognition tothe actions of regulators where appropriate, as prescribed by SFAS No. 71, “Accountingfor the Effects of Certain Types of Regulation.”

**Basis of Consolidation** – The consolidated financial statements ofHickoryTech include HickoryTech Corporation and its subsidiaries in thefollowing two business segments: (i) Telecom Sector and (ii) Enventis Sector.All inter-company transactions have been eliminated from the consolidatedfinancial statements.

Cost of sales for the EnventisSector includes the material and labor costs associated with the installationof products for customers.

Cost of services includes allcosts related to delivery of HickoryTech’s communication services and productsfor both the Telecom and Enventis Sectors. These costs include all costs ofperforming services and providing related products, including engineering,customer service, billing and collections, network monitoring and transportcosts. It does not include costs associated with selling, general andadministrative, depreciation and amortization of property, plant and equipment,intangible asset impairment charges and cost of sales for the Enventis Sector.

Selling, general andadministrative expenses include direct and indirect selling expenses,advertising, and all other general and administrative costs associated with theoperations of the business.

On December 29,2006, HickoryTech sold Collins to Skyview. The Collins operations were formerlyreported in the Enterprise Solutions Sector. The results of operations of theEnterprise Solutions Sector are reported as discontinued operations for allperiods presented (see Note 3 to the Notes to the Consolidated FinancialStatements).

**Estimates –** The preparation of the consolidated financialstatements in conformity with accounting principles generally accepted in theUnited States of America requires management to make estimates and assumptionsthat affect the reported amounts of assets, liabilities, revenues and expensesand disclosure of contingent assets and liabilities. The estimates andassumptions used in the accompanying consolidated financial statements arebased upon management’s evaluation of the relevant facts and circumstances asof the date of the financial statements. Actual results may differ from theseestimates and assumptions.

**RevenueRecognition** – HickoryTech recognizes revenue when (i)persuasive evidence of an arrangement between the Company and the customerexists, (ii) delivery of the product to the customer has occurred or servicehas been provided to the customer, (iii) the price to the customer is fixed ordeterminable, and (iv) collectibility is reasonably assured.

Revenues in theTelecom Sector are earned from monthly billings to customers for telephoneservices, DSL and internet usage. ILEC revenues are also derived from chargesfor network access to HickoryTech’s local exchange telephone network, fromsubscriber line charges and from contractual arrangements for services such asbilling and collection and directory advertising. Certain of these revenues arerealized under pooling arrangements with other telephone companies and aredivided among the companies based on respective costs and investments toprovide the services. The companies that take part in these poolingarrangements may adjust their costs and investments for a period of two years,which causes the dollars distributed by the pool to be adjusted retroactively.Management believes that recorded amounts represent reasonable estimates of thefinal distribution from these pools. However, to the extent that companiesparticipating in these pools make adjustments, there will be adjustments torecorded revenues in future periods.

Revenues in theEnventis Sector are generated from the sale of equipment, installationservices, professional engineering services, equipment and system maintenanceservices, and voice and data transport services, including long-distance voiceservices.

44

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Revenue related tothe sale of equipment is recognized when the products are shipped to thecustomer under FOB shipping point terms. Sales of some equipment may requirecustomer acceptance. In these instances, revenue recognition is deferred untilcustomer acceptance is received. When a sale involves multiple elements,revenue is allocated to each respective element in accordance with EmergingIssues Task Force (EITF) 00-21 “Accounting for Revenue Arrangements withMultiple Deliverables.” Allocation of revenue to undelivered elements of thearrangement is based on fair value of the element being sold on a stand-alonebasis.

Revenue isrecognized when services are rendered for installation services, professionalengineering services, and equipment and system maintenance services.

Generally, a flatmonthly fee for voice and data transport services is charged and the relatedrevenues are recognized as the services are provided. Long distance servicesare billed based upon levels of customer usage and are also recognized as theservices are provided. When equipment is sold with voice and data transportservices, initial “hook-up” fees are charged to customers for establishingvoice and data transport services. These fees are deferred and recognized asrevenue on a monthly basis over the expected term of the underlying customerrelationship period of three to ten years. Direct and incremental costs ofestablishing these services are deferred and recognized over the customerrelationship period or their estimated lives for property and equipment.

**Comprehensive Income –** HickoryTech follows the provisions of SFAS No.130, “Reporting Comprehensive Income.” This statement established rules for thereporting of comprehensive income (loss) and its components. See Note 5 to theNotes to the Consolidated Financial Statements for additional informationregarding Comprehensive Income.

**Advertising Expense** – Advertising is expensed as incurred.Advertising expense charged to operations was $1,377,000, $1,240,000 and$1,087,000 in 2006, 2005 and 2004, respectively.

**Cash Equivalents** –Cash equivalents include short-term investments with original maturities ofthree months or less. The carrying value of cash and cash equivalentsapproximates its fair value due to the short maturity of the instruments.

**Accounts Receivable –** As of December 31, 2006, HickoryTech’s consolidated accountsreceivable totaled $20,780,000, net of the allowance of doubtful accounts. Asof December 31, 2006, HickoryTech believes accounts receivable are recorded attheir fair value. As there may by exposure or risk with accounts receivable,HickoryTech routinely monitors its accounts receivable and adjusts theallowance for doubtful accounts when certain events occur that may potentiallyimpact the collection of accounts receivable. The Company’s receivables can beconcentrated with a small number of carriers or geographically.

**Allowancefor Doubtful Accounts –** HickoryTech maintains allowances fordoubtful accounts for estimated losses resulting from the inability of ourcustomers to make required payments. In making the determination of theappropriate allowance for doubtful accounts, we consider specific accounts,historical write-offs, changes in customer relationships and credit worthinessand concentrations of credit risk.  Specific accounts receivable arewritten-off once a determination is made that the account is uncollectible. Ifthe financial condition of our customers were to deteriorate, resulting in animpairment of their ability to make payments, additional allowances may berequired. The allowance for doubtful accounts was $851,000 and $334,000 as ofDecember 31, 2006 and 2005, respectively.

**Inventories–** Inventories are valued using the lower of cost (perpetualweighted average-cost or specific identification) or market method. Similar toits allowance for doubtful accounts, HickoryTech makes estimates related to thevaluation of inventory. HickoryTech adjusts its inventory carrying value forestimated obsolescence or unmarketable inventory to the estimated market valuebased upon assumptions about future demand and market conditions. As market andother conditions change, additional inventory reserves may be established atthe time that the facts that give rise to the lower value become known.

45

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**Investments** –Investments include $2,490,000 of non-interest bearing Subordinated CapitalCertificates from Rural Telephone Finance Cooperative (RTFC) and $1,064,000from Co-Bank accounted for under the cost method of accounting. This methodrequires HickoryTech to periodically evaluate whether a non-temporary decreasein value of the investment has occurred, and if so, to write this investmentdown to its net realizable value.

**Property, Plant and Equipment** – Property, plant and equipment are recorded atoriginal cost of acquisition or construction. When regulated ILEC telephoneassets are sold or retired, the assets and related accumulated depreciation areremoved from the accounts and any gains or losses on disposition are amortizedwith the remaining net investment in telephone plant. When other plant andequipment is sold or retired, the cost and related accumulated depreciation oramortization are removed from the respective accounts and any resulting gain orloss is included in operating income. Maintenance and repairs are charged toexpense as incurred.

On December 30, 2005 HickoryTechacquired Enventis. The Enventis property, plant and equipment, consistingprimarily of fiber optic communications network was valued under SFAS No. 141as it pertains to accounting for assets under Purchase Accounting and recordedthe assets at fair value at the time of acquisition.

The components of property, plant and equipment are summarized asfollows:
| (Dollars in Thousands)           | ** ** | **2006** | ** ** | **2005** | ** ** |
|--------------------------------------------|------------|----------|------------|----------|------------|
| Telephone Plant                            |       | $        | 261,427    |     | $          | 247,586 |   |
| Enventis  Property and Equipment           |       | 29,048   |       | 24,044   |       |
| Enventis  Indefeasable Rights to Use (IRU) |       | 5,482    |       | 5,496    |       |
| Other Property  and Equipment              |       | 13,307   |       | 11,759   |       |
| Total                                      |       | 309,264  |       | 288,885  |       |
| Less Accumulated  Depreciation             |       | 156,429  |       | 139,772  |       |
| Property, Plant, and  Equipment, Net       |       | $        | 152,835    |     | $          | 149,113 |   |

 

Included in the Enventis property, plant and equipment is fiber opticcable and indefeasible rights of use of fiber installed by others accompaniedby ownership rights. Both of these categories of assets have depreciable livesof 16 to 20 years on the assets acquired on December 30, 2005 and 25 years fornew additions.

Depreciation for financial statement purposes is determined using thestraight-line method based on the lives of the various classes of depreciableassets. The composite depreciation rates on ILEC telephone plant were 4.9%,5.4% and 6.0% for 2006, 2005 and 2004, respectively. All other property, plantand equipment are depreciated over estimated useful lives of three to twentyyears.

HickoryTech’s Telecom Sector leases certain computer equipment undercapital lease arrangements. HickoryTech has recorded the present value or fairvalue of the future minimum lease payments as a capitalized asset and relatedlease obligation. Assets under this capital lease are included in property,plant and equipment and amounted to $351,000 and $714,000 ($1,711,000 and$1,555,000 asset, net of accumulated depreciation of $1,360,000 and $841,000)as of December 31, 2006 and 2005.

**Capitalized Software Costs –**Software costs associated with software that is developed or purchasedfor internal use only are accounted for in accordance with the AmericanInstitute of Certified Public Accountants Statement of Position 98-1, “Accountingfor the Costs of Computer Software Developed or Obtained for Internal Use.”HickoryTech capitalizes costs (including right to use fees) associated withexternally acquired software for internal use. Costs associated with internallydeveloped software are segregated into three project stages: preliminaryproject stage, application development stage and post-implementation stage.Costs associated with both the preliminary project stage andpost-implementation stage, are expensed as incurred. Costs associated with theapplication development stage are capitalized. Software maintenance andtraining costs are expensed as incurred. Amortization of software costscommences when the software is ready for its intended use, and is amortizedover a period of three to ten years.

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During 2006,****2005****and 2004,****HickoryTech capitalized $1,124,000, $2,147,000 and $433,000,****respectively, of costs associated withsoftware purchased or developed for internal use only. The 2006 and 2005 costsrelate primarily to costs associated with integrating the new enterpriseresource planning software that HickoryTech converted to on January 1, 2006.Costs incurred in 2006 related primarily to the Enventis Sector, which waspurchased in December 2005, and their migration to the software platform. Totalcapitalized software of $7,456,000 and $6,332,000 are included in property,plant and equipment****at December31, 2006****and 2005,****respectively.****Amortization expense relating to these costs amounted to$899,000 and $859,000 in 2006 and 2005, respectively, resulting in accumulatedamortization of $3,896,000 and****$2,997,000at December 31, 2006****and 2005,****respectively. Capitalized software costs,net of accumulated amortization, of $3,560,000 and $3,335,000 are included inproperty, plant, and equipment at December 31, 2006 and 2005, respectively.

Software costs associated withsoftware that is developed or purchased for external sale or license areaccounted for in accordance with SFAS No. 86, “Accounting for the Costs ofComputer Software to Be Sold, Leased or Otherwise Marketed.” HickoryTechcapitalizes costs related to such software when technological feasibility hasbeen established and continues capitalization until the product becomesavailable for general release to customers. These software costs were fullyamortized as of December 31, 2005. Amortization expense relating to these costsamounted to****$0 in 2006 and****$389,000 in 2005.

**Intangible Assets and Goodwill** – HickoryTech adopted the provisions of SFAS No.142, “Goodwill and Other Intangible Assets,” effective January 1, 2002. SFASNo. 142 requires that goodwill and intangible assets with indefinite usefullives no longer be amortized, but instead, tested for impairment at leastannually. Accordingly, at January 1, 2002, HickoryTech ceased amortizing itsgoodwill. See Note 2 to the Notes to the Consolidated Financial Statements fora more detailed discussion of the intangible assets and goodwill.  The changes to goodwill in 2006 aresummarized below.
| (Dollars in Thousands)                                  | ** ** | **2006** | ** ** |
|-------------------------------------------------------------------|------------|----------|------------|
| Goodwill as of  December 31, 2005                                 |       | $        | 27,109     |   |
| Goodwill  adjustments associated with the acquisition of Enventis |       | 167      |       |
| Goodwill  associated with the sale of Enterprise Solutions        |       | $        | (2,037     | ) |
| Goodwill as of December  31, 2006                                 |       | $        | 25,239     |   |

 

**Income Taxes** – HickoryTech accounts for income taxes inaccordance with SFAS No. 109, “Accounting for Income Taxes,” which requires anasset and liability approach to financial accounting and reporting for incometaxes. Accordingly, deferred tax assets and liabilities arise from the differencebetween the tax basis of an asset or liability and its reported amount in thefinancial statements. Deferred tax amounts are determined using the tax ratesexpected to be in effect when the taxes will actually be paid or refundsreceived, as provided under currently enacted tax law. Valuation allowances areestablished when necessary to reduce deferred tax assets to the amount expectedto be realized. Income tax expense or benefit is the tax payable or refundable,respectively, for the period plus or minus the change in deferred tax assetsand liabilities during the period.

**Earnings (Loss) Per Share (EPS)** – Basic earnings per share are computed bydividing net income by the weighted average number of shares of common stockoutstanding during the year. Shares used in the earnings per share assumingdilution calculation are based on the weighted average number of shares ofcommon stock outstanding during the year increased by potentially dilutivecommon shares. Potentially dilutive common shares include stock options andstock subscribed under the employee stock purchase plan (ESPP).
|                                                                  | ** ** | **2006**       | ** ** | **2005**   | ** ** | **2004**   | ** ** |
|------------------------------------------------------------------|------------|----------------|------------|------------|------------|------------|------------|
| Weighted Average  Shares Outstanding                             |       | **13,163,480** |       | 13,083,252 |       | 12,993,280 |       |
| Stock Options                                                    | ** ** | **—**     |       | 5,955      |       | 24,852     |       |
| Stock Subscribed  (ESPP)                                         | ** ** | **—**     |       | 8,210      |       | 7,505      |       |
| Total Weighted Average  Common and Equivalent Shares Outstanding | ** ** | **13,163,480** |       | 13,097,417 |       | 13,025,637 |       |

 

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Options to purchase 515,884shares as of December 31, 2006, 503,850 shares as of December 31, 2005 and402,050 shares as of December 31, 2004 were not included in the computation ofearnings per share assuming dilution because their effect on earnings per sharewould have been anti-dilutive.

Dividends per share are based onthe quarterly dividend per share as declared by the HickoryTech Board ofDirectors.

**Post-RetirementBenefits –**Thepost-retirement benefit expense and liability are calculated utilizing variousactuarial assumptions and methodologies. These assumptions include, but are notlimited to, the discount rate and the expected health care cost trend rate.

Post-retirement benefits were calculated inaccordance with the methods specified in SFAS No. 158, “Employers’ Accountingfor Defined Benefit Pension and Other Postretirement Plans” and SFAS No. 106, “Employers’Accounting for Postretirement Benefits Other Than Pensions.” Where SFAS No. 106provides alternative methods for determining net periodic benefit costs,HickoryTech adopted the following policies: Any prior service cost, orcumulative net gains and losses in excess of 10% of the SFAS No. 106 corridor,are amortized on a straight-line basis over the average future service lives ofthe covered group. There are no substantive commitments for benefits other thanas stated in the written plan. According to the guidance of paragraph 186 ofSFAS No. 106, “the objective of selecting assumed discount rates is to measurethe single amount that, if invested at the measurement date in a portfolio ofhigh-quality debt instruments, would provide the necessary future cash flows topay the accumulated benefits when due.” The assumed discount rate representsthe discounted value of necessary future cash flows required to pay theaccumulated benefits when due. The rate was determined based on availablemarket data regarding the spot rate yields in half year increments onhigh-quality fixed income securities with the effects of puts and calls removedthat provide cash flows at the same time and in the same amount as theprojected cash flows of the plan.

The health care cost trend rate is based upon an evaluation of thehistorical trends and experience, taking into account current and expectedmarket conditions. The health care cost trend rate represents the expectedannual rate of change in the cost of health care benefits currently provideddue to factors other than changes in the demographics of plan participants. Ifthe assumptions utilized in determining the post-retirement benefit expense andliability differ from actual events, the results of operations for futureperiods could be impacted. When actual events differ from the assumptions orwhen the assumptions used change, an unrecognized actuarial gain or lossresults.

**StockCompensation –**On January1, 2006, the Company adopted SFAS No. 123(R), “Share-Based Payment,” which replacesSFAS No. 123, “Accounting for Stock-Based Compensation” and supersedes APB No.25, “Accounting for Stock Issued to Employees.” The Company adopted SFAS No.123(R) using the modified prospective method. Under this method, prior periodsare not restated. Prior to January 1, 2006, the Company accounted forstock-based compensation in accordance with APB No. 25, which required the useof the intrinsic value method. Accordingly, no compensation expense wasrecognized in prior periods for stock options granted, since the exercise pricewas equal to the fair market value of the shares at the grant date. The grant-date fair value of stock optionsis estimated using the Black-Scholes valuation model. Compensation expense isreduced based on estimated forfeitures with adjustments to actual recorded attime of vesting. Forfeitures are estimated based on historical experience.Compensation costs are recognized over the vesting period. Company stockoptions vest over a three-year period. See Note 7 to the Notes to theConsolidated Financial Statements for more information regarding stock-basedcompensation.

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The following table illustratesthe effect on net income and earnings per share if the Company had applied thefair value recognition provisions of FAS 123 to stock-based compensation forthe years ended December 31, 2005 and 2004:
|                                                                                                                                               | ** ** | **Years Ended December 31** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|
| **(Dollars in Thousands)**                                                                                                          | ** ** | **2005**                                   | ** ** | **2004** | ** ** |
|                                                                                                                                          |       |                                       |       |   |   |
| Reported Net  Income                                                                                                                          |       | $                                          | 8,529      |   | $ | 7,590 |   |
| Add: Stock-based employee compensation expense included  in reported net income, net of related tax effects                                   |       | 64                                         |       | 59 |   |
| Deduct: Total stock-based employee compensation  expense determined under fair value based method for all awards, net of related  tax effects |       | (224                                       | )          | (278 | ) |
| Pro Forma Net  Income                                                                                                                         |       | $                                          | 8,369      |   | $ | 7,371 |   |
|                                                                                                                                          |       |                                       |       |   |   |
| Earnings per  share:                                                                                                                          |       |                                       |       |   |   |
| Basic - as reported                                                                                                                           |       | $                                          | 0.65       |   | $ | 0.58 |   |
| Basic - pro forma                                                                                                                             |       | $                                          | 0.64       |   | $ | 0.57 |   |
|                                                                                                                                          |       |                                       |       |   |   |
| Diluted - as reported                                                                                                                         |       | $                                          | 0.65       |   | $ | 0.58 |   |
| Diluted - pro  forma                                                                                                                          |       | $                                          | 0.64       |   | $ | 0.57 |   |

 

**RecentAccounting Developments** - In July 2006, the FinancialAccounting Standards Board (FASB) issued FASB Interpretation No. 48(FIN No. 48), “Accounting forUncertainty in Income Taxes — an interpretation of FASB StatementNo. 109,” which clarifies the accounting for uncertainty in taxpositions. FIN No. 48 requires that the Company recognize the impact of atax position in the Company’s financial statements if that position is morelikely than not of being sustained on audit, based on the technical merits ofthe position. The provisions of FIN No. 48 are effective as of the beginning ofthe Company’s 2007 fiscal year, with the cumulative effect of the change inaccounting principle recorded as an adjustment to opening retained earnings.The adoption of FIN No. 48 is not expected to have a material impact on theCompany’s consolidated financial statements.

In September 2006,the FASB issued SFAS No. 157, “Fair Value Measurements.” SFAS No. 157, whichdefines fair value, establishes a framework for measuring fair value inaccordance with accounting principles generally accepted in the United States,and expands disclosures about fair value measurements. SFAS No. 157 will applywhenever another standard requires (or permits) assets or liabilities to bemeasured at fair value. The standard does not expand the use of fair value toany new circumstances. SFAS No. 157 is effective for the calendar year 2008.The Company is currently assessing the impact of SFAS No. 157 on its results ofoperations, cash flows and financial condition.

In accordance with the guidanceissued in EITF Issue No. 06-3, “How Taxes Collected from Customersand Remitted to Governmental Authorities Should Be Presented in the IncomeStatement” (“EITF 06-3”), effective for the fiscal years ending after December15, 2006, we will account for sales tax imposed on our goods and services on anet basis in our Consolidated Financial Statements. We primarily act as anagent for governmental authorities. Amounts charged to the customer arecollected and remitted directly to the appropriate jurisdictional entity.

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**NOTE 2 –****GOODWILL AND OTHER INTANGIBLE ASSETS**

Goodwill assetsare subject to an impairment test annually as well as upon certain events thatindicate that impairment may be present. The goodwill impairment test includestwo steps, the first of which requires management to determine the fair valueof certain of the Company’s reporting units (as defined by SFAS No. 142, “Goodwilland Other Intangible Assets”). The Company determines the fair value of itsreporting units by application of a discounted cash flow analysis. Managementmakes estimates that are included in its discounted cash flow analyses basedupon the best available information at the time that the determinations of fairvalue are made. If circumstances change, HickoryTech’s estimates of fair valuewill also change and could result in a determination of additional impairmentcharges to reduce the carrying value of goodwill.

HickoryTech isrequired to test acquired goodwill for impairment on an annual basis based upona fair value approach. Additionally, goodwill shall be tested for impairmentbetween annual tests if an event occurs or circumstances change that would morelikely than not reduce the fair value of an entity below its carrying value. Nosuch event occurred during 2006 or 2005. As of December 31, 2006 and 2005,HickoryTech completed its annual impairment tests for acquired goodwill. The2006 test included Enventis for the first time and excluded EnterpriseSolutions given it was sold prior to the year-end test. Such testing resultedin no impairment charge to goodwill, as the determined fair value was againsufficient to pass the first step impairment test.

On December 31,2006, HickoryTech divested itself of Collins. The Collins results ofoperations, which were formally recorded in the Enterprise Solutions Sector,had a goodwill balance of $2,037,000, which was written off in connection withthe divestiture.

On December 30,2005, HickoryTech acquired Enventis. The preliminary purchase price allocationresulted in goodwill of $2,023,000, which has been adjusted to $2,190,000 as ofDecember 31, 2006, as noted in the table below. The purchase price allocationis considered to be final. A summary of changes in the Enventis goodwill is asfollows:
|                                      | ** ** | **Enventis** | ** ** |
|--------------------------------------|------------|--------------|------------|
| **(Dollars in Thousands)** | ** ** | **Goodwill** | ** ** |
| Balance at  December 31, 2005        |       | $            | 2,023      |   |
| Purchase price  adjustments          |       | 124          |       |
| Other                                |       | 43           |       |
| Balance as of  December 31, 2006     |       | $            | 2,190      |   |

 

The carrying valueof HickoryTech’s goodwill decreased from $27,109,000 as of December 31, 2005 to$25,239,000 as of December 31, 2006, due to the sale of Collins and workingcapital adjustments and purchase price allocation adjustments associated withthe purchase of Enventis (See Note 1 to the Notes to the Consolidated FinancialStatements).

Intangible assetswith finite lives are amortized over their respective estimated useful lives totheir estimated residual values. Identifiable intangible assets that are subject to amortization areevaluated for impairment.

The components of HickoryTech’s intangible assets are as follows:
|                                      | ** ** | ** **            | ** ** | **As of December 31, 2006** | ** ** | **As of December 31, 2005** | ** ** |
|--------------------------------------|------------|-----------------------|------------|-------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                           | ** ** | ** **            | ** ** | **Gross Carrying**                         | ** ** | **Accumulated**                                 | ** ** | **Gross Carrying** | ** ** | **Accumulated** | ** ** |
| **(Dollars in Thousands)** | ** ** | **Useful Lives** | ** ** | **Amount**                                      | ** ** | **Amortization**                                | ** ** | **Amount** | ** ** | **Amortization** | ** ** |
| Definite-Lived  Intangible Assets    |       |                  |       |                                            |       |                                            |       |   |   |   |   |
| Customer relationships               |       | 1 - 8 years           |       | $                                               | 4,229      |                                            | $          | 1,504 |   | $ | 4,229 |   | $ | 544 |   |
| Other Intangibles                    |       | 1 - 5 years           |       | 730                                             |       | 315                                             |       | 730 |   | 103 |   |
| Total                                |       |                  |       | $                                               | 4,959      |                                            | $          | 1,819 |   | $ | 4,959 |   | $ | 647 |   |

 

During2005, HickoryTech acquired Enventis. Part of the acquisition price included$3,400,000 for customer relationships and contracts and $600,000 for the otherintangibles. In addition, HickoryTech completed another acquisition in 2005that included $8,000 for customer relationships and $21,000 for otherintangibles.

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Amortization expense related to the definite-livedintangible assets for 2006, 2005 and 2004 was $1,172,000, $104,000, and$103,000, respectively. Amortization expense for the five years subsequent to2006 is as follows: 2007 - $1,157,000; 2008 - $1,127,000; 2009 - $853,000; 2010- $3,000 and 2011 - $0.

**NOTE 3 – ACQUISITION, DISPOSITIONand DISCONTINUED OPERATIONS**

Acquisition ofEnventis

On December 30,2005 HickoryTech purchased Enventis from ALLETE, Inc. The purchase price was cashof $35,500,000 in exchange for the common stock of Enventis, with furtherpurchase price adjustments and transaction costs. After purchase priceadjustments, the total purchase consideration was $38,602,000. Enventis had nodebt at the time of acquisition. The purchase agreement outlines certainpurchase price adjustments which resulted in cash payments between Allete andHickoryTech in the first quarter of 2006. These purchase price adjustments werefor working capital, capital expenditures and employee benefits. There are nocontingent payments or earn-out payments.

The financing forthe estimated $38,602,000 total purchase consideration for Enventis, plus anadditional $8,500,000 million for Enventis working capital, was entirely fromHickoryTech’s credit agreement, as established on December 30, 2005. The creditfacility is comprised of a $30,000,000 revolving credit component which expireson December 30, 2011 and a $130,000,000 term loan component, which has partialmaturities during its term, with final maturity on June 30, 2013 (See Note 9 tothe Notes to the Consolidated Financial Statements).

The table belowsets forth the final Enventis purchase price allocation as of December 31, 2006:
| **(Dollars in Thousands):** | ** ** | ** ** | ** ** |
|---------------------------------------|------------|------------|------------|
| Identifiable  intangible assets:      |       |       |       |
| Customer relationship and contracts   |       | $          | 3,400      |   |
| Cisco gold supplier relationship      |       | 600        |       |
| Net working  capital                  |       | 4,226      |       |
| Property and  equipment               |       | 23,649     |       |
| Indefeasible  rights to use           |       | 5,496      |       |
| Other assets and  liabilities         |       | (959       | )          |
| Goodwill                              |       | 2,190      |       |
| Allocation of purchase  consideration |       | $          | 38,602     |   |

 

Of theidentifiable intangible assets identified above, customer relationships andcontracts have useful lives of four years, and the Cisco Gold supplierrelationship has a useful life of three years. Useful lives for identifiableintangible assets were estimated at the time of the acquisition based on theperiods of time from which the Company expects to derive benefits from theidentifiable intangible assets. The identifiable intangible assets areamortized using the straight-line method, which reflects the pattern in whichthe assets are consumed.

Dispositions

Effective December31, 2006, HickoryTech sold Collins to Skyview. The selling price was comprisedof a $100,000 note and up to $1,650,000 of earn-out payments in exchange forall of the Collins outstanding capital stock. Skyview paid HickoryTech $100,000in February 2007. The remaining selling price is due in contingent paymentspayable over the next four years based on financial targets reached by Skyview.The $100,000 mentioned above has been included in the calculation of the netloss mentioned below, while the contingent payments have not been included inthe net loss. The agreement also contains a service agreement, whereby Skyviewagrees to provide customer support as a subcontractor for HickoryTech’s Nortelequipment business. This agreement contains covenants against competition bythe new owner in south-central Minnesota. HickoryTech recorded a pre-tax losson the sale of $3,385,000 ($2,040,000 net of income taxes). The Collins resultsof operations were formerly reported in the Enterprise Solutions Sector. Theconsolidated statements of operations for all periods presented have beenrestated to reflect the Collins operations as discontinued operations (see Note3 to the Notes to the Consolidated Financial Statements).

On December 15,2003, HickoryTech sold its wireless business, MSWC, to WWC. The wirelessoperations were formerly reported as part of the Telecom Sector.

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The followingtable includes certain summary statement of operations information related tothe operations of Enterprise Solutions and the wireless business reflected indiscontinued operations for the years ended December 31:
| (Dollars in Thousands)          | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|-------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                      |       |     |       |     |       |     |       |
| Revenues and  sales                       |       | $        | 11,049     |     | $          | 14,589   |       | $ | 11,708 |   |
| Operating  expenses                       |       | 12,115   |       | 14,740   |       | 13,370   |       |
| Depreciation and  amortization            |       | 104      |       | 117      |       | 171      |       |
| Operating loss                            |       | (1,170   | )          | (268     | )          | (1,833   | )          |
| Loss on sale of  discontinued operations  |       | (3,385   | )          | —   |       | —   |       |
| Other  income/expense                     |       | (1       | )          | 206      |       | —   |       |
| Pretax loss from  discontinued operations |       | (4,556   | )          | (62      | )          | (1,833   | )          |
| Income tax  benefit                       |       | (1,589   | )          | (25      | )          | (742     | )          |
| Net loss of  discontinued operations      |       | $        | (2,967     | )        | $          | (37      | )          | $ | (1,091 | ) |

 

The followingtable summarizes the net assets and liabilities relating to EnterpriseSolutions that were sold to Skyview as of December 31, 2006.
|                                | ** ** | **2006** | ** ** |
|--------------------------------|------------|----------|------------|
|                           |       |     |       |
| Current assets                 |       | $        | 2,869      |   |
| Property, plant  and equipment |       | 253      |       |
| Goodwill                       |       | 2,037    |       |
| Assets                         |       | $        | 5,159      |   |
| Current liabilities            |       | $        | 1,674      |   |
| Other  liabilities             |       | —   |       |
| Liabilities                    |       | $        | 1,674      |   |

 

**NOTE 4 – FAIR VALUE OF FINANCIALINSTRUMENTS**

The fair value of HickoryTech’slong-term obligations, after deducting current maturities, is estimated to be$132,202,000 at December 31, 2006 and $135,855,000 at December 31, 2005,compared to carrying values of $141,529,000 and $140,980,000 respectively. Thefair value estimates are based on the overall weighted average interest ratesand maturity compared to rates and terms currently available in the long-termfinancing markets.

HickoryTech’s financialinstruments also include cash equivalents, trade accounts receivable, andaccounts payable for which current carrying amounts approximate fair marketvalue.

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**NO****TE 5 – ACCUMULATED OTHERCOMPREHENSIVE INCOME**

HickoryTech follows the provisions of SFAS No. 130, “ReportingComprehensive Income.” This statement established rules for the reporting ofcomprehensive income (loss) and its components.

The following summary sets forth the components of accumulated othercomprehensive income (loss), net of tax:
| ** **                | ** ** | **Unrecognized  Net Actuarial  Loss (1)** | ** ** | **Unrecognized  Prior Service  Credit (1)** | ** ** | **Unrecognized  Transition  Asset (1)** | ** ** | **Unrealized  Gain/(Loss)  on Derivatives** | ** ** | **Accumulated  Other  Comprehensive  Income/(Loss)** | ** ** |
|---------------------------|------------|-----------------------------------------------------|------------|-------------------------------------------------------|------------|----------------------------------------------|------------|--------------------------------------------------|------------|------------------------------------------------------|------------|
| January 1, 2004           |       | —                                              |       | —                                                |       | —                                       |       | (326                                             | )          | (326                                                 | )          |
| 2004 Activity             |       | —                                              |       | —                                                |       | —                                       |       | (1,179                                           | )          | (1,179                                               | )          |
| December 31,  2004        |       | —                                              |       | —                                                |       | —                                       |       | (1,505                                           | )          | (1,505                                               | )          |
| 2005 Activity             |       | —                                              |       | —                                                |       | —                                       |       | (559                                             | )          | (559                                                 | )          |
| December 31,  2005        |       | —                                              |       | —                                                |       | —                                       |       | (2,064                                           | )          | (2,064                                               | )          |
| 2006 Activity             |       | —                                              |       | —                                                |       | —                                       |       | 567                                              |       | 567                                                  |       |
| Adoption of SFAS  No. 158 |       | $                                                   | 867        |                                                  | (37        | )                                            | 217        |                                             | —     |                                                 | 1,047      |   |
| December 31, 2006         |       | $                                                   | 867        |                                                  | $          | (37                                          | )          | $                                                | 217        |                                                 | $          | (1,497 | ) | $ | (450 | ) |
|                           |            |                                                     |            |                                                       |            |                                              |            |                                                  |            |                                                      |            |  |  |  |  |  |

 

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*(1)* Amountspertain to our postretirement benefit plans.

The increase (decrease) income tax benefit associated with eachcomponent in 2006 is as follows:
| Related to Adoption of FAS  No. 158:                    |   |   |   |
|---------------------------------------------------------|--------|--------|--------|
| Unrecognized Net  Actuarial Loss                        |   | $      | 571    |   |
| Unrecognized  Prior Service Credit                      |   | (24    | )      |
| Unrecognized  Transition Asset                          |   | 143    |   |
| Related to 2006 Activity                                |   |   |   |
| Unrecognized  Gain on Derivatives                       |   | 374    |   |
| Total                                                   |   | 1,064  |   |
| Income tax (liability) related to years prior to  2006: |   |   |   |
| Unrecognized  Gain on Derivatives                       |   | (1,365 | )      |
| Income tax (liability)  related to OCI, 12/31/06        |   | $      | (301   | ) |

 

**NOTE 6 – BUSINESS SEGMENTS**

HickoryTech’s operations areconducted in two business segments as: (i) Telecom Sector and (ii) EnventisSector. The Telecom Sector provides telephone services to Mankato and adjacentareas of south central Minnesota and to eleven communities in northwest Iowa asan ILEC. The Telecom Sector also operates fiber optic cable transportfacilities in Minnesota. The Telecom Sector also offers an alternative choicefor local telecommunications service, known as CLEC service in thetelecommunications industry, to customers in Minnesota and Iowa not currently inHickoryTech’s ILEC service area. In addition, the Telecom Sector resells longdistance service to Minnesota and Iowa subscribers in its ILEC and CLECmarkets. The Telecom Sector, through NIBI, also provides data processing andrelated services to HickoryTech’s other product lines and to other externaltelephone companies, municipalities, utilities and wireless and cable providers.Prior to the sale of Collins, the Enterprise Solutions Sector designed, sold,installed and serviced business telephone systems and data communicationsequipment primarily in metropolitan Minneapolis/St. Paul, Minnesota. TheEnterprise Solutions Sector operations are reported as discontinued operationsfor all periods presented. The Enventis Sector specializes in providingtelecommunications and network solutions for companies of all sizes. Inaddition to its statewide, fiber optic network, Enventis provides innovative IPservices that combine voice and data onto a single platform.

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Business segment information forthe years ended December 31, 2006, 2005, and 2004 is as follows:

**BUSINESSSEGMENT DATA**

Years Ended December 31

*(Dollars in Thousands)*

 
| ** **                                | ** ** | ** **  | ** ** | ** **   | ** ** | ** **             | ** ** | ** **       | ** ** |
|-------------------------------------------|------------|-------------|------------|--------------|------------|------------------------|------------|------------------|------------|
| ** **                                | ** ** | ** **  | ** ** | **Enventis** | ** ** | **Corporate and** | ** ** | ** **       | ** ** |
| **2006**                                  | ** ** | **Telecom** | ** ** | **Telecom**  | ** ** | **Eliminations**       | ** ** | **Consolidated** | ** ** |
| Revenue from  Unaffiliated Customers      |       | $           | 74,896     |         | $          | 58,005                 |       | $                | —     |   | $ | 132,901 |   |
| Intersegment  Revenues                    |       | 260         |       | 50           |       | (310                   | )          | —           |       |
| Total                                     |       | 75,156      |       | 58,055       |       | (310                   | )          | 132,901          |       |
|                                      |       |        |       |         |       |                   |       |             |       |
| Depreciation and  Amortization            |       | 15,009      |       | 3,048        |       | 64                     |       | 18,121           |       |
| Operating  Income/(Loss)                  |       | 15,100      |       | 2,240        |       | (1,509                 | )          | 15,831           |       |
| Interest Expense                          |       | (79         | )          | —       |       | 7,441                  |       | 7,362            |       |
| Income Taxes                              |       | 5,960       |       | 879          |       | (3,467                 | )          | 3,372            |       |
| Income/(Loss)  from Continuing Operations |       | 9,237       |       | 1,363        |       | (5,365                 | )          | 5,235            |       |
| Identifiable  Assets                      |       | 157,058     |       | 59,856       |       | 9,986                  |       | 226,900          |       |
| Capital  Expenditures                     |       | 15,631      |       | 5,324        |       | 103                    |       | 21,058           |       |
|                                           |            |             |            |              |            |                        |            |                  |            |  |  |  |  |

 
| ** **                                | ** ** | ** **  | ** ** | **Enventis** | ** ** | **Corporate and** | ** ** | ** **       | ** ** |
|-------------------------------------------|------------|-------------|------------|--------------|------------|-------------------|------------|------------------|------------|
| **2005**                                  | ** ** | **Telecom** | ** ** | **Telecom**  | ** ** | **Eliminations**  | ** ** | **Consolidated** | ** ** |
| Revenue from  Unaffiliated Customers      |       | $           | 77,922     |         | $          | —            |       | $                | —     |   | $ | 77,922 |   |
| Intersegment  Revenues                    |       | 128         |       | —       |       | (128              | )          | —           |       |
| Total                                     |       | 78,050      |       | —       |       | (128              | )          | 77,922           |       |
|                                      |       |        |       |         |       |              |       |             |       |
| Depreciation and  Amortization            |       | 15,375      |       | —       |       | 61                |       | 15,436           |       |
| Operating  Income/(Loss)                  |       | 18,829      |       | —       |       | (351              | )          | 18,478           |       |
| Interest Expense                          |       | 61          |       | —       |       | 4,302             |       | 4,363            |       |
| Income Taxes                              |       | 7,464       |       | —       |       | (1,818            | )          | 5,646            |       |
| Income/(Loss)  from Continuing Operations |       | 11,324      |       | —       |       | (2,758            | )          | 8,566            |       |
| Identifiable  Assets                      |       | 152,227     |       | 52,061       |       | 12,546            |       | 216,834          |       |
| Capital Expenditures                      |       | 19,312      |       | —       |       | 122               |       | 19,434           |       |
|                                           |            |             |            |              |            |                   |            |                  |            |  |  |  |  |

 

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** **

**BUSINESSSEGMENT DATA**

Years Ended December 31

*(Dollars in Thousands)*

 
|                                           | ** ** | ** **  | ** ** | **Corporate and** | ** ** | ** **       | ** ** |
|-------------------------------------------|------------|-------------|------------|------------------------|------------|------------------|------------|
| **2004**                                  | ** ** | **Telecom** | ** ** | **Eliminations**       | ** ** | **Consolidated** | ** ** |
| Revenue from  Unaffiliated Customers      |       | $           | 78,807     |                   | $          | —           |       | $ | 78,807 |   |
| Intersegment  Revenues                    |       | 128         |       | (128                   | )          | —           |       |
| Total                                     |       | 78,935      |       | (128                   | )          | 78,807           |       |
|                                      |       |        |       |                   |       |             |       |
| Depreciation and  Amortization            |       | 16,308      |       | 55                     |       | 16,363           |       |
| Operating  Income/(Loss)                  |       | 19,710      |       | (581                   | )          | 19,129           |       |
| Interest Expense                          |       | 156         |       | 4,457                  |       | 4,613            |       |
| Income Taxes                              |       | 7,924       |       | (2,028                 | )          | 5,896            |       |
| Income/(Loss)  from Continuing Operations |       | 11,660      |       | (2,979                 | )          | 8,681            |       |
| Identifiable  Assets                      |       | 152,175     |       | 8,483                  |       | 160,658          |       |
| Capital Expenditures                      |       | 16,586      |       | 2                      |       | 16,588           |       |
|                                           |            |             |            |                        |            |                  |            |  |  |  |

 

**NOTE 7 – STOCK COMPENSATION**

Employee Stock Purchase Plan:

Under the terms of an employeestock purchase plan (ESPP), participating employees may acquire shares ofcommon stock through payroll deductions of not more than 10% of theircompensation. The price at which shares can be purchased is 85% of the fairmarket value for shares on one specified date, the end of the plan year. OnJanuary 29, 2007, this employee stock purchased plan expired. On August 1, 2006the Board of Directors approved, subject to shareholder approval at the May,2007 annual meeting, a new employee stock purchase plan that will replace theexpired plan. The new plan has the same provisions for employee eligibility,employee stock purchase price, and limitation of not more than 10% of employeecompensation.

There were initially 900,000common shares reserved for the employee stock purchase plan that expired inJanuary 2007 and 542,101 and 566,190 shares respectively, on December 31, 2006and 2005, still available for issuance. Subject to shareholder approval, theplan that will replace the expired plan will have 500,000 common sharesreserved for the employee stock purchase plan. As of December 31, 2006,employees had subscribed to purchase approximately 18,273 shares in the newplan year ending August 31, 2007. At December 31, 2005, employees hadsubscribed to purchase approximately 23,970 shares in the expired plan for theplan year that ended August 31, 2006.

Retainer Stock Plans for Directors:

Under the terms of a corporate retainer stock plan for directors,participating directors may acquire shares of common stock in exchange fortheir quarterly retainers. The price at which the shares can be purchased is100% of the fair market value for such shares on the date of purchase. Inaddition to any voluntary acquisitions of shares in exchange for quarterlyretainers, directors receive $5,000 of their annual retainer solely in sharesof HickoryTech stock from this plan. As of December 31, 2006, there were 300,000common shares reserved for this plan and 238,008 shares still available forfuture issuance.

Non-Employee Director Stock Option Plan:

HickoryTech previously offered a directors’ stock option plan toattract and retain outside directors. The plan provided for each outsidedirector to receive fully vested options to purchase 5,000 shares ofHickoryTech common stock at an exercise price equal to the fair market value ofthe common stock on a date as specified in the plan if HickoryTech metpre-established financial objectives. Directors’ options could be exercised nolater than ten years after the date of grant. On May 9, 2005 the Director’sIncentive Plan replaced this plan. The 81,000 remaining shares under theDirectors’ Stock Option Plan are no longer available for use.

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Non-Employee Directors’ Incentive Plan:

Beginning in May 2005, HickoryTech began offering a Directors’Incentive Plan to attract and retain outside Directors. The plan provides foreach Director to receive 1,000 shares of HickoryTech common stock ifHickoryTech meets pre-established financial objectives. In 2006, each directorreceived 1,000 shares of HickoryTech common stock under this plan based on 2005results. As of December 31, 2006, there were 200,000 common shares reserved forthis plan and 190,000 shares available for future grants.

Stock Award Plan:

HickoryTech’s stock award plan provides for the granting ofnon-qualified stock options, stock awards and restricted stock awards toemployees. The plan provides for stock awards based on the attainment ofcertain financial targets and for individual achievements. Stock award activityrelated to this component of the Plan was as follows:
|                                                                      | ** ** | **2006**  | ** ** | **2005** | ** ** | **2004** | ** ** |
|----------------------------------------------------------------------|------------|-----------|------------|----------|------------|----------|------------|
| Stock Awards  Granted                                                | ** ** | **3,846** |       | 3,552    |       | 200      |       |
| Weighted Average Fair  Value of Stock Awards Granted During the Year | ** ** | **$**     | **7.05**   |     | $          | 8.22     |       | $ | 11.87 |   |
|                                                                      |            |           |            |          |            |          |            |  |  |  |

 

In addition, for one component of the plan, HickoryTech utilizes atrust account for the funding of long-term performance awards, which wereissued until 2003. In 2006, 2005 and 2004, HickoryTech paid cash of $26,000,$25,000 and $23,000 for its common stock shares and issued shares of 3,540,2,757 and 2,053 in 2006, 2005 and 2004, respectively, to a trust for thebenefit of certain key employees. The stock options issued under the stockoption component of the stock award plan may be exercised no later than tenyears after the date of grant, with one-third of the options vesting each year.As of December 31, 2006, there were 1,750,000 common shares reserved for this planand 990,355 shares available for future grants.

The Company recognizes stock compensation charges related to stockaward plans when management concludes it is probable that the participant willearn the award. Such compensation charges are recorded based upon the fairvalue of HickoryTech’s stock and is recognized during the service periodspecified by the stock award plan. Changes in estimated compensation arerecorded in the period in which the change occurs.

On January 1,2006, the Company adopted SFAS No. 123(R) (revised 2004), “Share-BasedPayment” (SFAS No. 123(R)), which requires the measurement and recognition ofcompensation expense for all share-based payment awards made to employees anddirectors, including employee stock options and employee stock purchasesrelated to the ESPP, based on estimated fair values. SFAS No. 123(R) supersedesthe Company’s previous accounting under Accounting Principles Board OpinionNo. 25, “Accounting for Stock Issued to Employees” (APB No. 25) forperiods beginning in fiscal 2006. In March 2005, the Securities andExchange Commission issued SAB No. 107 relating to SFAS No. 123(R). TheCompany has applied the provisions of SAB No. 107 in its adoption of SFAS No.123(R).

The Companyadopted SFAS No. 123(R) using the modified prospective transition method, whichrequires the application of the accounting standard as of January 1, 2006.The Company’s Consolidated Financial Statements for 2006 reflect the impact ofSFAS No. 123(R). In accordance with the modified prospective transition method,the Company’s Consolidated Financial Statements for prior periods have not beenrestated to reflect, and do not include, the impact of SFAS No. 123(R) or anymodifications to outstanding stock options prior to the adoption of SFAS No.123(R). Share-based compensation expense recognized under SFAS No. 123(R) forthe 2006 was approximately $139,000 pre-tax and $93,000 after tax. In 2006,approximately $69,000 of this after-tax expense relates to the expensing ofstock options and $24,000 to the ESPP. Stock compensation expense for 2005 and2004, as calculated under APB No. 25, was $107,000 and $99,000 respectively,for all stock compensation plans. The adoption of SFAS No. 123(R) had minimalimpact on earnings per share, diluted earnings per share, and cash flow fromfinancing and operations in 2006.

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Share-basedcompensation expense recognized during a period is based on the value of theportion of share-based payment awards that are ultimately expected to vestduring the period. Share-based compensation expense recognized in the Company’sConsolidated Statements of Operations in 2006 included compensation expense forshare-based payment awards granted prior to, but not yet vested as of December31, 2005, based on the grant date fair value estimated in accordance with thefair value provisions of SFAS No. 123 as well as grants in 2006 under FAS123(R).Because share-based compensation expense recognized in the ConsolidatedStatements of Operations for 2006 is based on awards ultimately expected tovest, it has been reduced for estimated forfeitures. We use historical data toestimate pre-vesting forfeitures. SFAS No. 123(R) requires forfeitures to beestimated at the time of grant and revised, if necessary, in subsequent periodsif actual forfeitures differ from those estimates. The Company accounted forforfeitures as they occurred for the periods prior to 2006. The cumulativeadjustment for the change in accounting principle was immaterial.

The fair value ofeach option award is estimated on the date of grant using a Black-Scholesoption valuation model. The Company uses a seven-year period to calculate thehistorical volatility of its stock price for use in the valuation model. Thedividend yield rate is based on the Company’s current dividend payout patternand current market price. The risk-free rate for options is based on a U.S.Treasury rate commensurate with the expected terms. The expected term ofoptions granted is derived from historical experience and represents the periodof time that options granted are expected to be outstanding.

The following table details the key assumptions used in computing fairvalue using the Black-Scholes Option valuation model during the three-yearperiod ended December 31, 2006:
|                           | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|----------|------------|
| Volatility                |       | 37.0     | %          | 33.9     | %          | 37.1     | %          |
| Dividend Yield            |       | 6.9      | %          | 4.5      | %          | 3.8      | %          |
| Risk-Free  Interest Rates |       | 4.8      | %          | 4.1      | %          | 3.9      | %          |
| Expected Life in Years    |       | 7        |       | 7        |       | 7        |       |

 

On September 1,2006 Mr. John W. Finke received a one-time grant of 15,000 options associatedwith his acceptance of the CEO position. The weighted average grant date fairvalue of these options was $1.43 per share. Other than the one-time stock awardissued to Mr. Finke, options were last granted under the Company’s Stock AwardPlan in February 2005. The Stock Award Plan provides for the issuance of stockoptions, but no current compensation programs have options as a component.

A summary of all stock option activity for the three-year period endedDecember 31, 2006 follows:
|                                                                 | ** ** | **Options** | ** ** | **Weighted Average  Exercise Price** | ** ** |
|-----------------------------------------------------------------|------------|-------------|------------|------------------------------------------------|------------|
| ** **                                                      | ** ** | **2006**    | ** ** | **2005**                                       | ** ** | **2004** | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
| Outstanding at Beginning of Year                                |       | 578,850     |       | 549,065                                        |       | 595,798 |   | $ | 12.63 |   | $ | 12.86 |   | $ | 13.01 |   |
| Granted                                                         |       | 15,000      |       | 60,000                                         |       | 88,950 |   | 6.95 |   | 10.85 |   | 11.46 |   |
| Exercised                                                       |       | —      |       | —                                         |       | (37,985 | ) | — |   | — |   | 10.40 |   |
| Forfeited                                                       |       | (28,448     | )          | —                                         |       | (25,417 | ) | 11.15 |   |   |   | 12.19 |   |
| Expired                                                         |       | (49,518     | )          | (30,215                                        | )          | (72,281 | ) | 10.50 |   | 13.41 |   | 13.85 |   |
| Outstanding at End of Year                                      |       | 515,884     |       | 578,850                                        |       | 549,065 |   | $ | 12.75 |   | $ | 12.63 |   | $ | 12.86 |   |
| Exercisable at End of Year                                      |       | 462,556     |       | 449,895                                        |       | 412,386 |   | $ | 13.07 |   | $ | 13.14 |   | $ | 13.47 |   |
|                                                            |       |        |       |                                           |       |   |   |   |   |   |   |   |   |
| Weighted Average Fair Value of Options Granted During  the Year |       | $           | 1.43       |                                           | $          | 2.68 |   | $ | 3.31 |   |   |   |   |   |   |   |
| Fair Value of Options Vesting During the Year                   |       | $           | 186,000    |                                           | $          | 227,000 |   | $ | 299,000 |   |   |   |   |   |   |   |
| Intrinsic Value  of Options Exercised During the Year           |       | $           | —     |                                           | $          | — |   | $ | 31,998 |   |   |   |   |   |   |   |

 

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Allstock options granted in 2006, 2005 and 2004 had an exercise price equal to thefair market value of HickoryTech’s common stock on the date of grant.

The following table provides certain information with respect to stockoptions outstanding at December 31, 2006:
|                             | ** ** | ** **             | ** ** | ** **              | ** ** | **Weighted Average**      | ** ** |
|-----------------------------|------------|------------------------|------------|-------------------------|------------|---------------------------|------------|
| **Range of**           | ** ** | **Stock Options** | ** ** | **Weighted Average**    | ** ** | **Remaining**             | ** ** |
| **Exercise Prices**    | ** ** | **Outstanding**        | ** ** | **Exercise Price** | ** ** | **Contractual Life** | ** ** |
| $6.00 - $8.00               |       | 15,000                 |       | $                       | 6.95       |                      | 9.7  years |   |
| $8.00 - $12.00              |       | 197,834                |       | 10.23                   |       | 6.3  years                |       |
| $12.00 - $16.00             |       | 244,550                |       | 13.84                   |       | 4.2  years                |       |
| $16.00 - $21.00             |       | 58,500                 |       | 18.21                   |       | 4.4  years                |       |
|                        |       | 515,884                |       | $                       | 12.75      |                      | 5.2 years  |   |
|                        |       |                   |       |                    |       |                      |       |
| Aggregate  intrinsic value: |       |                   |       | $                       | 3,000      |                      |       |   |

 

The following table provides certain information with respect to stockoptions exercisable at December 31, 2006:
|                             | ** ** | ** **             | ** ** | ** **                | ** ** | **Weighted Average** | ** ** |
|-----------------------------|------------|------------------------|------------|---------------------------|------------|---------------------------|------------|
| **Range of**           | ** ** | **Stock Options** | ** ** | **Weighted Average** | ** ** | **Remaining**             | ** ** |
| **Exercise Prices**    | ** ** | **Exercisable**        | ** ** | **Exercise Price**   | ** ** | **Contractual Life** | ** ** |
| $8.00 - $12.00              |       | 159,506                |       | $                         | 10.02      |                      | 5.9  years |   |
| $12.00 - $16.00             |       | 244,550                |       | 13.84                     |       | 4.2  years                |       |
| $16.00 - $21.00             |       | 58,500                 |       | 18.21                     |       | 4.4  years                |       |
|                        |       | 462,556                |       | $                         | 13.07      |                      | 4.8  years |   |
|                        |       |                   |       |                      |       |                      |       |
| Aggregate intrinsic  value: |       |                   |       | $                         | -          |                      |       |   |

 

As of December 31,2006, there was $97,000 of total unrecognized compensation costs related tonon-vested stock options granted under the Company’s Stock Award Plan. Weexpect to recognize this expense over a weighted average period of two years.

**NOTE 8 – SHORT-TERM FINANCINGARRANGEMENT**

Enventis has a $10million credit facility with a financing company to purchase inventories fromcertain approved vendors.  Advances underthe financing arrangement are collateralized by the accounts receivable and inventoryof Enventis and a guaranty of the principal indebtedness by HickoryTech.  The credit facility provides sixty-daypayment terms for working capital and can be terminated at any time by eitherparty.  Borrowings outstanding under thecredit facility at December 31, 2006 totaled $7,719,000.

**NOTE 9 – DEBT AND OTHEROBLIGATIONS**

HickoryTech’slong-term obligations as of December 31, 2006, were $141,529,000, excludingcurrent maturities of $1,300,000 on debt and $260,000 on current maturities ofcapital leases. On December 30, 2005,HickoryTech entered into a $160,000,000 credit agreement with a syndicate ofbanks (subsequently amortized to a $158.7 million facility as of December 31,2006), which amended its previous credit facility.  The credit facility is comprised of a$30,000,000 revolving credit component that expires on December 30, 2011 and a$130,000,000 term loan component.

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The term loancomponent is comprised of two components which are defined as term loan B andterm loan C. The outstanding principal balance of term loan B is $108,900,000as of December 31, 2006, and is held in varying amounts by three of the lendersin the syndicate, US Bank, GE Commercial Distribution Finance Corporation andCoBank. Under the terms of term loan B, HickoryTech is required to makequarterly principal payments of $275,000 from March 31, 2006 throughDecember 31, 2011 with the remainder of the aggregate principal due in twopayments on March 31, 2012 and June 30, 2012. The outstandingprincipal balance of term loan C is $19,800,000 as of December 31, 2006, and isheld entirely by Rural Telephone Finance Cooperative. Under the terms of termloan C, HickoryTech is required to make quarterly principal payments of $50,000on the aggregate principal amount from March 31, 2006 throughDecember 31, 2012 with the remainder of the aggregate principal due in twopayments on March 31, 2013 and June 30, 2013.

Under the terms ofthe revolving credit facility, any outstanding principal is payable in full onDecember 30, 2011. The outstanding balance of the revolving creditfacility is $14,000,000 as of December 31, 2006. Under the credit facility,interest will be payable at an applicable margin in excess of a prevailingpricing level. The prevailing pricing level will be based on a Base Rate,LIBOR Rate Loans or Rural Telephone Finance Corporation (RTFC) rate table. Theprevailing rate for Base Rate Loans is the higher of Prime Rate or the FederalFunds Rate plus 0.5%. The prevailing rate for LIBOR Rate Loans is publiclyavailable. The RTFC rate tables are established based on RTFC policies, are notpublicly available, and change from time to time. The applicable margin for the revolving credit facility, termloan B, and term loan C will be determined quarterly based on the leverageratio of HickoryTech. The credit facility also provides for payment of afee on any un-drawn commitment of the revolving credit facility, payablequarterly. The credit facilityrequires HickoryTech to enter into or maintain in effect interest rateprotection agreements on at least 50% of the facility’s outstanding balance, tomanage the Company’s exposure to interest rate fluctuations. HickoryTechcontinually monitors the interest rates on its bank loans and has implementedinterest rate protection agreements on various portions of the overall debtoutstanding for varying terms. As a result of the new credit agreement,HickoryTech incurred $1,525,000 of new debt placement costs in 2005.

Long-term debt:
| (Dollars in Thousands)                                         | ** ** | **2006**    | ** **  | **2005** | ** ** |
|--------------------------------------------------------------------------|------------|-------------|-------------|----------|------------|
| Credit Facility,  Average 5.9%, maturing in varying amounts through 2013 |       | **$**       | **142,700** |     | $          | 142,035 |   |
| Capitalized Lease Obligations,  Interest at 4.8%, maturing April 2009    |       | **389**     |        | 723      |       |
| Total                                                                    | ** ** | **143,089** |        | 142,758  |       |
| Less Current Maturities                                                  | ** ** | **1,560**   |        | 1,778    |       |
| Long-Term Obligations                                                    | ** ** | **$**       | **141,529** |     | $          | 140,980 |   |

 

Long-termobligations consist of the following:

Credit Facility Obligations:

HickoryTechis required to comply with specified financial ratios and tests applicable tothe Company and its current subsidiaries, including maximum leverage ratio,minimum interest coverage ratio and maximum capital expenditures. HickoryTech’sobligations under the credit facility are secured by a first-priority lien onall property and assets, tangible and intangible, of HickoryTech and itscurrent subsidiaries, including, but not limited to, accounts receivable,inventory, equipment and intellectual property, general intangibles, cash andproceeds of the foregoing and first-priority pledge of the capital stock ofHickoryTech’s current subsidiaries.

The term loan component has a provision whereby HickoryTechperiodically receives patronage capital refunds depending on the amount ofinterest paid. This patronage refund is recorded as an offset to interestexpense and amounted to $1,049,000 in 2006, $367,000 in 2005 and $357,000 in2004.

Annual requirements for principal payments for the years subsequent to2006 are as follows: 2007 - $1,300,000; 2008 - $1,300,000; 2009 - $1,300,000;2010 - $1,300,000; 2011 - $15,300,000; 2012 - $103,600,000 and thereafter -$18,600,000.

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Capital Lease Obligations:

HickoryTech’s Telecom Sector leases certain computer equipment undercapital lease arrangements. HickoryTech has recorded the present value of thefuture minimum lease payments as a capitalized asset and related leaseobligation. Assets under these capital leases are included in property, plantand equipment and amounted to $351,000 and $714,000 ($1,711,000 and $1,555,000asset, net of accumulated depreciation of $1,360,000 and $841,000) as ofDecember 31, 2006 and 2005.

Capital leases are part of property, plant and equipment on the balancesheet. Annual requirements for future lease payments under this capital leaseare as follows:
|                                          | ** ** | **Annual**              | ** ** |
|------------------------------------------|------------|-------------------------|------------|
| **Year**                                 | ** ** | **Lease Payments** | ** ** |
| 2007                                     |       | $                       | 260,000    |   |
| 2008                                     |       | 115,000                 |       |
| 2009                                     |       | 14,000                  |       |
| Total Minimum  Lease Payments            |       | 389,000                 |       |
| Amount  Representing Interest            |       | (20,000                 | )          |
| Present Value of  Minimum Lease Payments |       | 369,000                 |       |
| Less Current  Portion                    |       | (260,000                | )          |
| Long-Term Lease  Obligation              |       | $                       | 109,000    |   |

 

Operating Lease Commitments

HickoryTech owns most of its major facilities, but does lease certainoffice space, land and equipment under principally non-cancelable operatingleases.****Rental expense was$1,831,000 in 2006, $1,240,000 in 2005 and $1,082,000 in 2004. At December 31,2006, future minimum operating lease rental obligations for the next five yearsand thereafter are as follows: 2007 - $1,019,000;  2008- $956,000; 2009 - $784,000;  2010 - $641,000;  2011 - $525,000 and thereafter - $3,102,000.

**NOTE 10 – EMPLOYEE RETIREMENTBENEFITS**

Employees who meetcertain service requirements are covered under a defined contribution retirementsavings plan, which includes IRS Section 401(k) provisions. HickoryTechcontributes up to 6.0% of the employee’s eligible compensation, based on theemployee’s voluntary contribution. HickoryTech contributions and costs for theretirement savings plan were $1,350,000 in 2006, $1,013,000 in 2005 and$1,007,000 in 2004.

In addition toproviding retirement savings benefits, HickoryTech provides post-retirementhealth care and life insurance benefits for certain employees. HickoryTech isnot currently funding these post-retirement benefits, but has accrued theseliabilities. New employees hired on or after January 1, 2007 will not beeligible for post-retirement health care and life insurance benefits.

The Companyadopted SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension andOther Postretirement Plans, as of December 31, 2006.  SFAS No. 158 requires that we recognize thefunded status of our postretirement benefit plans on the consolidated balancesheet and recognize as a component of accumulated other comprehensive income,net of tax, the gains or losses and prior service costs or credits that ariseduring the period but are not recognized as components of net periodic benefitcost.  The impact of SFAS No. 158 on theCompany’s December 31, 2006 consolidated financial statements based on theactuarial measurements of plan assets and obligations dated December 31, 2006is as follows:
| (Dollars in Thousands)                                          | ** ** | ** ** | ** ** |
|-----------------------------------------------------------------|------------|------------|------------|
| Increase in post-retirement  benefit obligations                |       | $          | 1,737      |   |
| (Includes current portion of $212,000)                          |       |       |       |
| Increase in  income tax benefit                                 |       | 690        |       |
| Increase in accumulated  other comprehensive income, net of tax |       | $          | 1,047      |   |

 

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The followingtable summarizes the balance sheet impact, including the benefit obligations,assets, and funded status associated with the companies postretirement benefitplans as of December 31, 2006 and 2005.
| (Dollars in Thousands)          | ** ** | **2006**   | ** ** | **2005** | ** ** |
|-------------------------------------------|------------|------------|------------|----------|------------|
| Change in  Benefit Obligation             |       |       |       |     |       |
| Benefit Obligation at Beginning of Year   | ** ** | **$**      | **7,878**  |     | $          | 8,081 |   |
| Service Cost                              | ** ** | **322**    |       | 367      |       |
| Interest Cost                             | ** ** | **429**    |       | 460      |       |
| Amendments                                | ** ** | **—** |       | —   |       |
| Medicare Part D Subsidy                   | ** ** | **—** |       | —   |       |
| Acquisition                               | ** ** | **—** |       | 365      |       |
| Actuarial Gain                            | ** ** | **(754**   | **)**      | (1,202   | )          |
| Benefits Paid                             | ** ** | **(203**   | **)**      | (193     | )          |
| Benefit Obligation at End of Year         | ** ** | **$**      | **7,672**  |     | $          | 7,878 |   |
|                                      | ** ** | ** ** |       |     |       |
| Change in Plan  Assets                    | ** ** | ** ** |       |     |       |
| Fair Value of Assets at Beginning of Year | ** ** | **$**      | **—** |     | $          | — |   |
| Actual Return on Assets                   | ** ** | **—** |       | —   |       |
| Employer Contribution                     | ** ** | **203**    |       | 193      |       |
| Distributions                             | ** ** | **(203**   | **)**      | (193     | )          |
| Fair Value of Assets at End of Year       | ** ** | **$**      | **—** |     | $          | — |   |
|                                      |       |       |       |     |       |
| Reconciliation  of Funded Status          |       |       |       |     |       |
| Funded Status                             | ** ** | **$**      | **(7,672** | **)**    | $          | (7,878 | ) |
| Unrecognized Net Actuarial Loss           | ** ** | **—** |       | 2,317    |       |
| Unrecognized Transition Obligation        | ** ** | **—** |       | 420      |       |
| Unrecognized Prior Service Cost           | ** ** | **—** |       | (73      | )          |
| Net Amount  Recognized                    | ** ** | **$**      | **(7,672** | **)**    | $          | (5,214 | ) |

 
|                                                  | ** ** | **2006**   | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------------------------------------|------------|------------|------------|----------|------------|----------|------------|
| Components of  Net Periodic Benefit Cost         |       |       |       |     |       |     |       |
| Service Cost                                     | ** ** | **$**      | **322**    |     | $          | 367      |       | $ | 362 |   |
| Interest Cost                                    | ** ** | **429**    |       | 460      |       | 508      |       |
| Expected Return on Plan Assets                   | ** ** | **—** |       | —   |       | —   |       |
| Amortization of Transition Obligation            | ** ** | **60**     |       | 60       |       | 60       |       |
| Amortization of Prior Service Cost               | ** ** | **(11**    | **)**      | (11      | )          | (11      | )          |
| Recognized Net Actuarial Loss                    | ** ** | **124**    |       | 175      |       | 208      |       |
| Net Periodic Benefit Cost                        | ** ** | **$**      | **924**    |     | $          | 1,051    |       | $ | 1,127 |   |
|                                             | ** ** | ** ** |       |     |       |     |       |
| Weighted-Average  Assumptions as of December 31: |       |       |       |     |       |     |       |
| Used to Determine the Post-Retirement Expense    | ** ** | **6.00**   | **%**      | 5.75     | %          | 6.50     | %          |
| Used to  Determine the Benefit Obligation        | ** ** | **6.00**   | **%**      | 5.50     | %          | 5.75     | %          |

 

In 2007,HickoryTech expects to recognize approximately $60,000 of transitionobligation, ($12,000) of the prior service credit and $70,000 of the netactuarial loss as a component of total period postretirement benefit expense. Arefund in the amount of $39,000 is expected to be received in 2007 relating tothe Medicare Part D program.

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| **Health Care Trend Rates for the Year Ending December 31, 2006** | ** ** | **Year**  | ** ** | **Trend** | ** ** |
|---------------------------------------------------------------------------------------------------------------------|------------|-----------|------------|-----------|------------|
|                                                                                                                |       | 2007-2008 |       | 8.00      | %          |
|                                                                                                                |       | 2008-2009 |       | 7.50      | %          |
|                                                                                                                |       | 2009-2010 |       | 7.00      | %          |
|                                                                                                                |       | 2010-2011 |       | 6.50      | %          |
|                                                                                                                |       | 2011-2012 |       | 6.00      | %          |
|                                                                                                                |       | 2012-2013 |       | 5.50      | %          |
|                                                                                                                |       | 2013-2014 |       | 5.00      | %          |
|                                                                                                                |       | 2014+     |       | 4.50      | %          |

 
| **Effect of 1% Increase and 1% Decrease in Trend Rate** | ** ** | **1% Increase** | ** ** | **1% Decrease** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|
|                                                                                                 |       |                 |       |                 |       |
| Accum. Post-Retirement  Benefit Oblig. as of December 31, 2006                                       |       |                 |       |                 |       |
| Dollar                                                                                               |       | $                    | 1,369      |                 | $          | (1,100 | ) |
| Percentage  Change in Retiree Medical                                                                |       | 17.3                 | %          | (13.9                | )%         |
|                                                                                                 |       |                 |       |                 |       |
| Service Cost and  Interest Cost for Fiscal 2006                                                      |       |                 |       |                 |       |
| Dollar                                                                                               |       | $                    | 158        |                 | $          | (123 | ) |
| Percentage Change in  Retiree Medical                                                                |       | 22.0                 | %          | (17.2                | )%         |

 

Post-retirement benefits are calculated inaccordance with the methods specified in SFAS No. 158, “Employers’ Accountingfor Defined Benefit Pension and Other Postretirement Plans” and “SFAS No. 106, “Employers’Accounting for Postretirement Benefits Other Than Pensions.” In the instanceswhere SFAS No. 106 provides alternative methods for determining net periodicbenefit costs, HickoryTech adopted the following policies: any prior servicecost or cumulative net gains and losses in excess of 10% of the FAS 106corridor, are amortized on a straight-line basis over the average futureservice lives of the covered group. There are no substantive commitments forbenefits other than as stated in the written plan. According to the guidance ofparagraph 186 of SFAS No. 106, “the objective of selecting assumed discountrates is to measure the single amount that, if invested at the measurement datein the portfolio of high-quality debt instruments, would provide the necessaryfuture cash flows to pay the accumulated benefits when due.” The assumeddiscount rate represents the discounted value of necessary future cash flowsrequired to pay the accumulated benefits when due. The rate was determinedbased on available market data regarding the spot rate yields in half yearincrements on high-quality fixed income securities with the affects of puts andcalls removed that provide cash flows at the same time and in the same amountas the projected cash flows of the plan.

The health care cost trend rate used indetermining the accumulated post-retirement benefit obligations was 8% in 2006,and decreases 0.5% each year until it reaches 4.5% in 2014 and remains at 4.5%for the years thereafter. These assumptions were provided based on a study ofthe ten-year history of the Company’s self-funded medical benefits plan, andprovide results unique to the Company’s philosophy of controlling risingmedical costs. This has resulted in the Company consistently having lowerincreases in health care costs than the national averages.An increase ofone-percentage point in the assumed health care cost trend would increase theaccumulated post-retirement benefit obligation at December 31, 2006 by$1,369,000. A decrease of one-percentage point in the assumed health care costtrend would decrease the accumulated post-retirement benefit obligation atDecember 31, 2006 by $1,100,000.

In December 2003, the Medicare PrescriptionDrug, Improvement and Modernization Act of 2003 was enacted which introduced aprescription drug benefit under Medicare, as well as a federal subsidy tosponsors of retiree health care benefit plans that provide a benefit that is atleast actuarially equivalent to the Medicare plan. In May 2004, the FinancialAccounting Standards Board issued FASB Staff Position No. 106-2, “Accountingand Disclosure Requirements Related to the Medicare Prescription Drug,Improvement and Modernization Act of 2003,” which requires current recognitionof the federal subsidy that employers may receive for providing prescriptiondrug coverage to retirees. Substantial portions of the prescription drugbenefits provided under its post-retirement benefit plan are deemed actuariallyequivalent to the benefits provided under Medicare Part D. Consequently,HickoryTech re-measured its accumulated post-retirement benefit obligation(APBO) as of June 30, 2004, to account for the federal subsidy. The relatedreduction in APBO was deemed to be significant as of the re-measurement dateand HickoryTech has recognized a decrease in the net periodic cost for the lasttwo quarters of fiscal 2004 of $54,000. As of December 31, 2006 and 2005, thereduction in the APBO due to the subsidy was $937,000 and $939,000.

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**NOTE 11**–**INCOME TAXES**

The income tax provision(benefit) for operations for the years ended December 31, 2006, 2005 and 2004include the following components:
| (Dollars in Thousands) | ** ** | **2006**   | ** ** | **2005** | ** ** | **2004** | ** ** |
|----------------------------------|------------|------------|------------|----------|------------|----------|------------|
|                             | ** ** | ** ** |       |     |       |     |       |
| Current Income Taxes:            | ** ** | ** ** |       |     |       |     |       |
| Federal                          | ** ** | **$**      | **972**    |     | $          | 3,726    |       | $ | 430 |   |
| State                            | ** ** | **276**    |       | 1,060    |       | 122      |       |
| Deferred Income Taxes:           | ** ** | ** ** |       |     |       |     |       |
| Federal                          | ** ** | **218**    |       | 496      |       | 3,602    |       |
| State                            | ** ** | **317**    |       | 339      |       | 1,000    |       |
| Total Income Tax  Provision      | ** ** | **$**      | **1,783**  |     | $          | 5,621    |       | $ | 5,154 |   |

 

Income tax expense is included in the financialstatements as follows:

 
| (Dollars in Thousands) | ** ** | **2006**   | ** ** | **2005** | ** ** | **2004** | ** ** |
|----------------------------------|------------|------------|------------|----------|------------|----------|------------|
|                             | ** ** | ** ** |       |     |       |     |       |
| Continuing Operations            | ** ** | **$**      | **3,372**  |     | $          | 5,646    |       | $ | 5,896 |   |
| Discontinued Operations          | ** ** | **(1,589** | **)**      | (25      | )          | (742     | )          |
| Total Income Tax  Provision      | ** ** | **$**      | **1,783**  |     | $          | 5,621    |       | $ | 5,154 |   |

 

Deferred tax liabilities and assets are comprised of the following at December31:

 
| (Dollars in Thousands)                   | ** ** | **2006**   | ** ** | **2005** | ** ** |
|----------------------------------------------------|------------|------------|------------|----------|------------|
| Tax Liabilities:                                   | ** ** | ** ** |       |     |       |
| Depreciation and Fixed Assets                      | ** ** | **$**      | **12,509** |     | $          | 12,045 |   |
| Intangible Assets                                  | ** ** | **5,274**  |       | 5,129    |       |
| Derivatives                                        | ** ** | **991**    |       | 1,366    |       |
| Other                                              | ** ** | **158**    |       | 268      |       |
| Gross Deferred Tax Liability                       | ** ** | **18,932** |       | 18,808   |       |
|                                               | ** ** | ** ** |       |     |       |
| Tax Assets:                                        | ** ** | ** ** |       |     |       |
| Deferred Compensation and Post-Retirement Benefits | ** ** | **3,439**  |       | 2,607    |       |
| Receivables and Inventories                        | ** ** | **519**    |       | 231      |       |
| Accrued Liabilities                                | ** ** | **457**    |       | 244      |       |
| State Net Operating Loss                           | ** ** | **1,616**  |       | 1,531    |       |
| Alternative Minimum Tax Credits                    | ** ** | **—** |       | 680      |       |
| Gross Deferred Tax Asset                           | ** ** | **6,031**  |       | 5,293    |       |
| Valuation  Allowance                               | ** ** | **(1,616** | **)**      | (1,531   | )          |
| Net Deferred Tax  Liability                        | ** ** | **14,517** |       | 15,046   |       |
| Current Deferred  Tax Asset                        | ** ** | **815**    |       | 300      |       |
| Net Non-Current  Deferred Tax Liability            | ** ** | **$**      | **15,332** |     | $          | 15,346 |   |

 

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HickoryTech hasstate net operating loss carry-forwards for tax purposes, available to offsetfuture income, of approximately $28,000,000 at December 31, 2006. The state netoperating loss carry-forwards expire in varying amounts between 2018 and 2025.The utilization of these carry-forwards as an available offset to futuretaxable income is subject to limitations under applicable state income taxlaws. A valuation allowance has been established to reduce the carrying valueof the benefits associated with the net operating losses incurred bysubsidiaries of HickoryTech in the state of Iowa. This valuation allowance wasestablished due to uncertainty as to realization of these benefits based on thecontinued net operating losses generated by these subsidiaries. Future events andchanges in circumstances could cause this valuation allowance to change.  In the third quarter of 2006, we released atax reserve of $158,000in order to comply with SFAS No. 109, “Accounting for Income Taxes.” Thisreserve related to a prior year federal audit period, which was closed due tothe expiration of the statute of limitations. This benefit was partially offsetby normal true-ups of prior year tax accruals.

The reconciliation of the U.S. income tax rate to the effective incometax rate for continuing operations is as follows:
|                                                           | ** ** | **2006** | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Statutory Tax  Rate                                       | ** ** | **34.0** | **%**      | 34.0     | %          | 34.0     | %          |
| Effect of:                                                |       |     |       |     |       |     |       |
| State Income  Taxes Net of Federal Tax Benefit            | ** ** | **6.1**  |       | 5.8      |       | 5.8      |       |
| Release of  Income Tax Reserve and Prior Year Adjustments | ** ** | **(1.2** | **)**      | —   |       | —   |       |
| Medicare Part D  Subsidy                                  | ** ** | **(0.6** | **)**      | (0.4     | )          | —   |       |
| Other, Net                                                | ** ** | **0.9**  |       | 0.3      |       | 0.6      |       |
| Effective Tax Rate                                        | ** ** | **39.2** | **%**      | 39.7     | %          | 40.4     | %          |

 

**NOTE 12**–**FINANCIAL DERIVATIVE INSTRUMENTS**

HickoryTech accounts forderivative instruments in accordance with SFAS No. 133, “Accounting forDerivative Instruments and Hedging Activities,” as amended by SFAS No. 149, “Amendmentof Statement 133 Accounting for Derivative Instruments and Hedging Activities,”which requires derivative instruments to be recorded on the balance sheet atfair value. Changes in fair value of derivative instruments must be recognizedin earnings unless specific hedge accounting criteria are met, in which casethe gains and losses are included in other comprehensive income rather than inearnings.

HickoryTech has variable ratedebt instruments, which subject the Company to interest rate risk. Beginning inthe second quarter of 2003, HickoryTech entered into interest rate swapagreements, with remaining maturities of eighteen months, to manage its exposureto interest rate movements on a portion of its variable rate debt obligations.The market value of the cumulative gain or loss on these derivative instrumentsis reported as a component of accumulated other comprehensive income/loss inshareholders’ equity and will be recognized in earnings over the term of theswap agreement.

The fair value of theHickoryTech’s derivatives at December 31, 2006 and 2005 is a net asset of$2,489,000 and $3,429,000, respectively, which is included in other assets inthe consolidated balance sheet.

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**NOTE 13**–**REGULATORY ASSET ANDLIABILITY**

Effective January 1, 2002, theFCC, in its “MAG Order” on Access Charge Reform, directed all rate-of-returncarriers to file revisions to their tariffs to eliminate the TIC as a separaterate element. In effect, the costs previously recovered through the TIC werereallocated over all other access categories, including carrier common line,transport, local switching, information surcharge and special access. The FCCmade it clear that “this tariff filing should be a revenue neutral tarifffiling.” The total revenues reallocated from the TIC to the remaining accesselements were limited to the total revenues recovered from the TIC for thetwelve-month period ended June 30, 2001. These revenues were calculated usingthe carrier’s traffic volumes and the TIC rate for the twelve-month periodended June 30, 2001. These calculations were prepared by an independentthird-party and approved by NECA. Reallocating the costs to the other accessbilling categories eliminated TIC. The FCC conducted an investigation of alltariff filings, including NECA’s CCL tariff and Heartland’s TS tariff, todetermine if the filing parties had properly reallocated the TIC costs amongthe other access charge categories. The FCC terminated its investigation ofseveral tariff filings, concluding that “the carriers have substantiallycomplied with the Rate-of-Return Access Charge Reform Order and their tariffsno longer warrant investigation.” Despite this ruling by the FCC during thefourth quarter of 2003, NECA informed HickoryTech’s Heartland subsidiary thatit would not allow it to recover a portion of the TIC costs allocated to theCCL, because an incorrect TIC rate was used in the calculation. As a result ofthis billing error, the Company recovered $611,000 of excess revenues from theNECA CCL pool. NECA required Heartland to repay the $611,000 in 2004. The FCCapproved a mid-course correction to Heartland’s TS tariff as a supportablemethod of recouping NECA’s CCL reduction. The revision corrects the TIC rateoriginally used, and factors recovery of the $611,000, into the TS rateelements. HickoryTech recouped this revenue over the remaining eighteen monthsof the TS tariff, from January 1, 2004 to June 30, 2005. In accordance withSFAS No. 71, HickoryTech recorded a regulatory asset for the revenue it wouldrecoup with a balance of $0 at December 31, 2005 and $204,000 at December 31,2004.

**NOTE 14 – COMMITMENT AND CONTINGENCIES**

HickoryTech is involved in certain contractual disputes in the ordinarycourse of business. HickoryTech does not believe the ultimate resolution of anyof these existing matters will have a material adverse effect on its financialposition, results of operations, or cash flows. HickoryTech has change ofcontrol agreements with our executive officers. These agreements provide thatthe executive will be paid between two and three times their annualcompensation in the event that the executive is terminated within three yearsafter a change of control. In addition, we have an employment agreement withour CEO that provides for severance benefits equal to eighteen months salary inthe event we terminate his employment without cause, or he terminates for agood reason (information pertaining to these agreements with the executiveofficers is included in Part III, Item 11, Executive Compensation).

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**NOTE 15 – QUARTERLY FINANCIAL INFORMATION (Unaudited)**

*(Dollarsin Thousands, except per share amounts)*
| ** **                                   | ** ** | **2006** | ** ** |
|----------------------------------------------|------------|----------|------------|
| ** **                                   | ** ** | **4th**  | ** ** | **3rd** | ** ** | **2nd** | ** ** | **1st** | ** ** |
| Operating Revenues                           |       | $        | 33,401     |   | $ | 32,670 |   | $ | 34,090 |   | $ | 32,740 |   |
| Operating Income                             |       | $        | 2,978      |   | $ | 4,230 |   | $ | 4,444 |   | $ | 4,179 |   |
| Income from Continuing  Operations           |       | $        | 486        |   | $ | 1,629 |   | $ | 1,587 |   | $ | 1,533 |   |
| Income from Disc. Ops.,  Net of Taxes        |       | $        | (2,426     | ) | $ | (184 | ) | $ | (213 | ) | $ | (144 | ) |
| Net Income                                   |       | $        | (1,940     | ) | $ | 1,445 |   | $ | 1,374 |   | $ | 1,389 |   |
| Basic EPS - Continuing  Operations           |       | $        | 0.04       |   | $ | 0.12 |   | $ | 0.12 |   | $ | 0.12 |   |
| Basic EPS -  Discontinued Operations         |       | $        | (0.18      | ) | $ | (0.01 | ) | $ | (0.02 | ) | $ | (0.01 | ) |
| Fully Diluted EPS -  Continuing Operations   |       | $        | 0.04       |   | $ | 0.12 |   | $ | 0.12 |   | $ | 0.12 |   |
| Fully Diluted EPS -  Discontinued Operations |       | $        | (0.18      | ) | $ | (0.01 | ) | $ | (0.02 | ) | $ | (0.01 | ) |
|                                         |       |     |       |   |   |   |   |   |   |
| Dividends Per Share                          |       | $        | 0.12       |   | $ | 0.12 |   | $ | 0.12 |   | $ | 0.12 |   |

 
| ** **                                   | ** ** | **2005** | ** ** |
|----------------------------------------------|------------|----------|------------|
| ** **                                   | ** ** | **4th**  | ** ** | **3rd** | ** ** | **2nd** | ** ** | **1st** | ** ** |
| Operating Revenues *(1)*                     |       | $        | 18,987     |   | $ | 18,903 |   | $ | 20,199 |   | $ | 19,833 |   |
| Operating Income                             |       | $        | 4,341      |   | $ | 4,676 |   | $ | 4,784 |   | $ | 4,677 |   |
| Income from Continuing  Operations           |       | $        | 1,967      |   | $ | 2,136 |   | $ | 2,256 |   | $ | 2,207 |   |
| Income from Disc. Ops.,  Net of Taxes        |       | $        | (116       | ) | $ | 16 |   | $ | 154 |   | $ | (91 | ) |
| Net Income                                   |       | $        | 1,851      |   | $ | 2,152 |   | $ | 2,410 |   | $ | 2,116 |   |
| Basic EPS - Continuing  Operations           |       | $        | 0.15       |   | $ | 0.16 |   | $ | 0.18 |   | $ | 0.17 |   |
| Basic EPS -  Discontinued Operations         |       | $        | (0.01      | ) | $ | — |   | $ | 0.01 |   | $ | (0.01 | ) |
| Fully Diluted EPS -  Continuing Operations   |       | $        | 0.15       |   | $ | 0.16 |   | $ | 0.18 |   | $ | 0.17 |   |
| Fully Diluted EPS -  Discontinued Operations |       | $        | (0.01      | ) | $ | — |   | $ | 0.01 |   | $ | (0.01 | ) |
|                                         |       |     |       |   |   |   |   |   |   |
| Dividends Per Share                          |       | $        | 0.12       |   | $ | 0.12 |   | $ | 0.12 |   | $ | 0.12 |   |

 

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*(1)*       Enventis Telecom wasacquired on December 30, 2005.  2005results to not reflect operating results from the Enventis sector.

The summation of quarterly earnings per share computations may notequate to the year-end computation as the quarterly computations are performedon a discrete basis.

**NOTE 16 – SUBSEQUENT EVENT**

HickoryTech’s Board of Directors has declared a regular quarterlydividend of 12 cents per share, payable March 5, 2007 to shareholders of recordon February 15, 2007.

**Item 9.****                             Changes in and Disagreements with Accountants on Accounting andFinancial Disclosure.**

None.

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**Item 9A.**                      **Controls and Procedures.**

**EVALUATIONOF DISCLOSURE CONTROLS AND PROCEDURES AND CHANGES IN INTERNAL CONTROLS**

Anevaluation was performed under the supervision and with the participation ofthe Company’s management, including the respective persons acting as chiefexecutive officer and chief financial officer, regarding the effectiveness ofthe design and operation of the Company’s disclosure controls and procedures(as defined in Rule 13a-15(f) promulgated under the Securities and Exchange Actof 1934, as amended (the “Exchange Act”)) as of December 31, 2006. Based onthat evaluation, the Company’s management, including the respective personsacting as chief executive officer and chief financial officer, concluded thatthe Company’s disclosure controls and procedures were effective in ensuringthat information required to be disclosed by HickoryTech in the reports that itfiles or submits under the Exchange Act is recorded, processed, summarized andreported within the time periods specified in the applicable rules and formsand that such information is accumulated and communicated to HickoryTech’smanagement, including its chief executive officer and chief financial officer,in a manner that allows timely decisions regarding required disclosure.

**MANAGEMENT’S REPORT ON INTERNAL CONTROL OVERFINANCIAL REPORTING**

Management is responsible for establishing andmaintaining adequate internal control over financial reporting as defined inthe Securities Exchange Act of 1934 Rule 13a-15(f), and for performing anassessment of the effectiveness of internal control over financial reporting asof December 31, 2006. Internal control over financial reporting is a processdesigned to provide reasonable assurance regarding the reliability of financialreporting and the preparation of financial statements for external purposes inaccordance with generally accepted accounting principles. The Company’s systemof internal control over financial reporting includes those policies andprocedures that (i) pertain to the maintenance of records that, in reasonabledetail, accurately and fairly reflect the transactions and dispositions of theassets of the Company; (ii) provide reasonable assurance that transactions arerecorded as necessary to permit preparation of financial statements inaccordance with generally accepted accounting principles, and that receipts andexpenditures of the Company are being made only in accordance withauthorizations of management and directors of the Company; and (iii) providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use, or disposition of the Company’s assets that could have amaterial effect on the financial statements.

Management performed an assessment of theeffectiveness of the Company’s internal control over financial reporting as ofDecember 31, 2006 based upon criteria in *Internal Control –Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission (“COSO”). Based on our assessment,management determined that the Company’s internal control over financialreporting was effective as of December 31, 2006 based on the criteria in *Internal Control-Integrated Framework* issued by the COSO.

Our management’s assessment of the effectiveness ofthe Company’s internal control over financial reporting as of December 31, 2006has been audited by PricewaterhouseCoopers LLP, an independent registeredpublic accounting firm, as stated in their report which appears herein.

DatedMarch 14, 2007
| John W. Finke                          |   | David A. Christensen      |
|----------------------------------------|--------|---------------------------|
| President and  Chief Executive Officer |   | Senior Vice President and |
|                                   |   | Chief Financial Officer   |

 

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**CHANGESIN INTERNAL CONTROL OVER FINANCIAL REPORTING**

There has been nochange in the Company’s internal control over financial reporting during theperiod ended December 31, 2006 that has materially affected, or is reasonablylikely to materially affect, the Company’s control over financial reporting.

**Item 9B.       Other Information.**

None.

**PART III**

**Item 10.****                        Directors, Executive Officers of the Registrantand Corporate Governance.**

Information as to Directors and Executive Officers ofHickoryTech included in the Proxy Statement under the headings “Proposal 1:Election of Directors,” “Security Ownership of Management,” “Other ExecutiveOfficers” and “Section 16(a) Beneficial Ownership Reporting Compliance” isincorporated by reference. Disclosure relating to the audit committee,including the audit committee financial expert, found under the heading of “AuditCommittee Report” in the Proxy Statement is also incorporated by reference.

HickoryTech has adopted a Code of Ethics that appliesto its Chief Executive Officer, Chief Financial Officer, all officers ofHickoryTech, Director of Regulatory Affairs, Director of Public and InvestorRelations, Controller, Senior Manager of Financial Compliance, the Board ofDirectors and other appropriate personnel as identified.

**Item 11.****                        Executive Compensation.**

Information as to executive compensation includedunder the headings of “Compensation Discussion and Analysis,” “SummaryCompensation Table,” “Grants of Plan Based Awards in 2006,” “Outstanding EquityAwards at 2006 Fiscal Year End,” “2006 Option Exercises and Stock Vested,” “Non-QualifiedDeferred Compensation for 2006,” “Employment Contracts, Change of ControlAgreements, Severance Agreements and Other Agreements,” “Compensation CommitteeReport on Executive Compensation,” and “Compensation of Directors,” in theProxy Statement is incorporated by reference.

**Item 12.****                      Security Ownership of Certain Beneficial Ownersand Management and Related Stockholder Matters.**

Theinformation as to beneficial ownership of more than five percent of HickoryTech’scommon stock included under the heading “Beneficial Owners of Common Stock” ofthe Proxy Statement is incorporated by reference. The information as to security ownership of management included underthe heading of “Security Ownership of Management” in the Proxy Statement isincorporated by reference.

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The following table provides information on equitycompensation plans under which equity securities of the Company are authorizedfor issuance, as of December 31, 2006.
| ** **                                                     | ** ** | **Number of securities to  be issued upon exercise  of outstanding options,  warrants and rights** | ** ** | **Weighted-average  exercise price of  outstanding options,  warrants and rights** | ** ** | **Number of securities  remaining available for  future issuance under  equity compensation  plans (excluding  securities reflected in  column (a))** | ** ** |
|----------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| **Plan Category**                                         | ** ** | **(a)**                                                                                                                                              | ** ** | **(b)**                                                                                                     | ** ** | **(c)**                                                                                                                                                                                                      | ** ** |
|                                                           |       |                                                                                                                                                 |       |                                                                                                        |       |                                                                                                                                                                                                         |       |
| Equity  compensation plans   approved by security holders (1): |       | 515,884                                                                                                                                              |       | $                                                                                                           | 12.75      |                                                                                                                                                                                                         | 1,418,363  |   |
|                                                           |       |                                                                                                                                                 |       |                                                                                                        |       |                                                                                                                                                                                                         |       |
| Equity  compensation plans   not approved by security holders: |       | —                                                                                                                                               |       | —                                                                                                      |       | —                                                                                                                                                                                                       |       |
|                                                           |       |                                                                                                                                                 |       |                                                                                                        |       |                                                                                                                                                                                                         |       |
| Total                                                          |       | 515,884                                                                                                                                              |       | $                                                                                                           | 12.75      |                                                                                                                                                                                                         | 1,418,363  |   |

 

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(1)- Includes the Company’s Employee Stock Purchase Plan, Retainer Stock Plans forDirectors, Non-Employee Director Stock Option Plan, Non-Employee Directors’Incentive Plan, and Stock Award Plan.

**Item 13.****                        Certain Relationships and Related Transactions,and Director Independence.**

HickoryTech doesnot know of any transactions with related persons required to be reported underthis item. The information regarding director independence under the caption “CorporateGovernance Matters – The Board of Directors and Committees,” in the ProxyStatement is incorporated by reference.

**Item 14.****                       ****Principal AccountantFees and Services.**

The informationunder the heading “Independent Auditors and Payment of Fees to Auditors,” inthe Proxy Statement is incorporated herein by reference.

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**PART IV**

**Item 15.****                        Exhibits and Financial Statement Schedule.**

(a)                                  Listof Documents Filed as a Part of this Report

1.                                       FinancialStatements
| Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                         |   |
|-------------------------------------------------------------------------------------------------------------------------------------|--------|
| Report of  Independent Registered Public Accounting Firm                                                                            |   |
| Consolidated  Statements of Operations*  Years Ended December 31, 2006, 2005, and 2004                                              |   |
| Consolidated Balance  Sheets*  December 31, 2006 and 2005                                                                           |   |
| Consolidated  Statements of Cash Flows*  Years Ended December 31, 2006, 2005, and 2004                                              |   |
| Consolidated  Statements of Shareholders’ Equity and Comprehensive Income/Loss*  Years Ended December 31, 2006, 2005, and 2004 |   |
| Notes to  Consolidated Financial Statements*                                                                                        |   |
| Management’s Report on  Internal Control over Financial Reporting*                                                             |   |
| Selected Financial  Data                                                                                                            |   |

 

 

*Addressed by Report ofIndependent Registered Public Accounting Firm

2.                                       FinancialStatement Schedule
| Schedule II – Valuation and  Qualifying Accounts |   |
|-------------------------------------------------------|--------|

 

All schedules notincluded are omitted either because of the absence of conditions under whichthey are required or because the required information is given in the financialstatements or notes thereto.

3.                                       Exhibits

The following documentsare filed as Exhibits to this Form 10-K or incorporated by reference herein.Any document incorporated by reference is identified by a parentheticalreference to the SEC filing which included such document.
| Exhibit | ** ** | **Description**                                                                                                                                                                                                |
|---------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3(a)    |       | Restated Articles of Incorporation (Incorporated by  reference to Exhibit 3 to the registrant’s Form 10-Q dated May 6, 1999)                                                                              |
| 3(b)    |       | Amended and Restated By-Laws (Incorporated by  reference to Exhibit 3(b) to the registrant’s Form 8-K filed February 22,  2005)                                                                           |
| 3(c)    |       | Certificate of Designations of Series A Junior  Participating Preferred Stock of Hickory Tech Corporation (Incorporated by  reference to Exhibit 3(c) to the registrant’s Form 10-K dated March 29, 2000) |
| 4(a)    |       | Shareholder Rights Agreement (Incorporated by  reference to Exhibit 1 to the registrant’s Form 8-A dated March 9, 1999)                                                                                   |

 

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| Exhibit        | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                             |
|----------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4(b)           |       | Third Amended and Restated Credit Agreement dated as  of December 30, 2005, by and among Hickory Tech Corporation, as Borrower, the  Lenders referred to herein and Wachovia (formerly known as First Union National  Bank), as Administrative Agent (Incorporated by reference to Exhibit 4.1 to  the registrant’s Form 8-K filed on January 6, 2006) |
| 10(b) †   |       | Supplemental Retirement Agreement dated January 31,  1984, between registrant’s subsidiary, Mankato Citizens Telephone Company,  and David A. Christensen (Incorporated by reference to Exhibit 10(b) to the  registrant’s Form S-8 dated May 11, 1993)                                                                                           |
| 10(c) †   |       | Hickory Tech Corporation Executive Incentive Plan  Amended and Restated December 4, 2002 (Incorporated by reference to Exhibit  10(a) to the registrant’s Form 10-Q dated May 13, 2003)                                                                                                                                                                |
| 10(e) †   |       | Change in Control Agreement dated June 25, 1998,  between registrant and David A. Christensen, John W. Finke and Mary T. Jacobs  (Incorporated by reference to Exhibit 10(e) to the registrant’s Form 10-K  dated March 29, 2000)                                                                                                                      |
| 10(g) †   |       | Hickory Tech Corporation Directors’ Stock Option  Plan Amended and Restated February 5, 2003 (Incorporated by reference to  Exhibit 10(g) to the registrant’s Form 10-K filed March 9, 2004)                                                                                                                                                      |
| 10(i) †   |       | Hickory Tech Corporation Retainer Stock Plan for  Directors Restated and Amended effective September 1, 1996 (Incorporated by  reference to Exhibit 10(m) to the registrant’s Form 10-Q dated August 12,  1996)                                                                                                                                        |
| 10(j) †   |       | Hickory Tech Corporation Retirement Savings Plan and  Trust, as amended (Incorporated by reference to Exhibit 10(j) to the  registrant’s Form S-8 dated May 11, 1993)                                                                                                                                                                                  |
| 10(l) †   |       | Hickory Tech Corporation 1993 Stock Award Plan  (Amended and Restated effective January 29, 1997) (Incorporated by reference  to Exhibit 10(l) to the registrant’s Form 10-K dated March 26, 1997)                                                                                                                                                     |
| 10(p)          |       | Stock Purchase Agreement dated as of September 18,  2003 between Hickory Tech Corporation and Western Wireless Corporation  (Incorporated by reference to Exhibit 2.1 to the registrant’s Form 8-K dated  December 30, 2003)                                                                                                                           |
| 10(q) †   |       | Summary of the Hickory Tech Corporation Long-Term  Executive Incentive Program (Incorporated by reference to Exhibit 10(q) to  the registrant’s Form 8-K filed February 22, 2005)                                                                                                                                                                      |
| 10(r)†    |       | Form of Stock Option Agreement Used in Connection  with Grants Under the 1993 Stock Award                                                                                                                                                                                                                                                                   |
| 10(s)          |       | Hickory Tech Corporation Directors’ Incentive Plan  (Incorporated by reference to Exhibit 10(s) to the registrant’s Form 8-K  filed May 9, 2005)                                                                                                                                                                                                  |
| 10(t)          |       | Stock Purchase Agreement by and between Hickory Tech  Corporation and Minnesota Power Enterprises, Inc. dated November 9, 2005.  (Incorporated by reference from Exhibit 2.1 to the registrant’s Current  Report on Form 8-K filed on November 10, 2005)                                                                                               |
| 10(u)          |       | First Amendment to the Stock Purchase Agreement by  and between Hickory Tech Corporation and Minnesota Power Enterprises, Inc.,  dated December 30, 2005. (Incorporated by reference from Exhibit 2.1A to the  registrant’s Current Report on Form 8-K filed on January 05, 2006)                                                                      |
| 10(v)          |       | Agreement for Wholesale Financing between  HickoryTech and GE Commercial Distribution Finance Corporation dated February  23, 2006 (Incorporated by reference from the Current Report on Form 8-K of  the Company filed April 7, 2006)                                                                                                                      |
| 10-1(a) † |       | Employment agreement between the Company and John W.  Finke, President and Chief Executive Officer of the Company, dated August 10,  2006 (Incorporated by reference from the Current Report on Form 8-K of the  Company filed August 16, 2006)                                                                                                             |
| 10-1(b)        |       | Separation Agreement and General Release between the  Company and John E. Duffy, former President and Chief Executive Officer of  the Company, dated June 2, 2006 (Incorporated by reference from the Current  Report on Form 10-6 of the Company filed August 4, 2006)                                                                                     |

 

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| Exhibit        | ** ** | **Description**                                                                                                                                             |
|----------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10-1(c) † |       | Separation Agreement and General Release between the  Company and Jon L. Anderson, former President of Small and Medium Business  Solutions of the Company. |
| 10-1(d) † |       | Amended and restated Hickory Tech Corporation  Employee Stock Purchase Plan, dated August 1, 2006                                                           |
| 14             |       | Code of Ethics (Incorporated by reference to Exhibit  14 to the registrant’s Form 10-K dated March 9, 2004)                                            |
| 21 *           |       | Subsidiaries of Hickory Tech Corporation                                                                                                                    |
| 23.1 *         |       | Consent of Independent Registered Public Accounting  Firm                                                                                                   |
| 31(a)*         |       | Certification Pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002                                                                                    |
| 31(b)*         |       | Certification Pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002                                                                                    |
| 32(a)*         |       | Certification Pursuant to 18 U.S.C. Section 1350, As  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                     |
| 32(b)*         |       | Certification Pursuant to 18 U.S.C. Section 1350, As  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                     |

 

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*        Filed herewith.

†         Management compensationplan or arrangement required to be filed as an exhibit.

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# **SCHEDULE II – VALUATION ANDQUALIFYING ACCOUNTS**

ALLOWANCE FORUNCOLLECTIBLE ACCOUNTS:

 
| ** **                                             | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------|------------|
| **(In Thousands)**                                | ** ** | **2006**                                    | ** ** | **2005** | ** ** | **2004** | ** ** |
|                                                   |       |                                        |       |   |   |   |   |
| Balance, at  beginning of year                         | ** ** | **$**                                       | **334**    |   | $ | 1,256 |   | $ | 1,283 |   |
| Additions charged to income - Continuing Operations    | ** ** | **1,043**                                   |       | 953 |   | 1,003 |   |
| Write-offs, net of recoveries - Continuing  Operations | ** ** | **(441**                                    | **)**      | (1,875 | ) | (1,030 | ) |
| Discontinued Operations, Net                           | ** ** | **(85**                                     | **)**      | — |   | — |   |
|                                                   |       |                                        |       |   |   |   |   |
| Balance, at end  of year                               | ** ** | **$**                                       | **851**    |   | $ | 334 |   | $ | 1,256 |   |

 

INVENTORYVALUATION RESERVE:

 
| ** **                     | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------|------------|---------------------------------------------|------------|
| **(In Thousands)**        | ** ** | **2006**                                    | ** ** | **2005** | ** ** | **2004** | ** ** |
|                           | ** ** | ** **                                  |       |   |   |   |   |
| Balance, at  beginning of year | ** ** | **$**                                       | **266**    |   | $ | 1,432 |   | $ | 734 |   |
| Additions charged to income    | ** ** | **438**                                     |       | 239 |   | 731 |   |
| Reductions (1)                 | ** ** | **(27**                                     | **)**      | (1,405 | ) | (33 | ) |
| Discontinued Operations, Net   | ** ** | **(215**                                    | **)**      | — |   | — |   |
|                           |       |                                        |       |   |   |   |   |
| Balance, at end  of year       | ** ** | **$**                                       | **462**    |   | $ | 266 |   | $ | 1,432 |   |

 

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(1) Disposal of fullyreserved inventory.

DEFERRED TAX ASSETVALUATION ALLOWANCE
| ** **                     | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------|------------|---------------------------------------------|------------|
| **(In Thousands)**        | ** ** | **2006**                                    | ** ** | **2005** | ** ** | **2004** | ** ** |
|                           | ** ** | ** **                                  |       |   |   |   |   |
| Balance, at  beginning of year | ** ** | **$**                                       | **1,531**  |   | $ | 1,205 |   | $ | 640 |   |
| Additions charged to income    | ** ** | **85**                                      |       | 326 |   | 565 |   |
| Reductions                     | ** ** | **—**                                  |       | — |   | — |   |
|                           |       |                                        |       |   |   |   |   |
| Balance, at end  of year       | ** ** | **$**                                       | **1,616**  |   | $ | 1,531 |   | $ | 1,205 |   |

 

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**SIGNATURES**

Pursuant to the requirements of section 13 or 15(d) of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned, thereunto duly authorized.
| Dated: | March 14, 2007 |                                           | HICKORY TECH CORPORATION |
|--------|----------------|------------------------------------------------|--------------------------|
|   |           |                                           |                     |
|   | By:            | /s/ David A. Christensen                       |                     |   |
|   |           | David A. Christensen, Secretary,               |                     |
|   |           | Senior Vice President, Chief Financial Officer |
|   |           | and Treasurer                                  |                     |

 

Pursuant to the requirements ofthe Securities Exchange Act of 1934, the following persons on behalf of theregistrant and in the capacities and on the dates indicated have signed thisreport.

 
| /s/ R. Wynn Kearney, Jr.                                        |   |   | March 14, 2007 |
|-----------------------------------------------------------------|--------|--------|----------------|
| R. Wynn Kearney, Jr.,  Chair                                    |   |   |
|                                                            |   |   |
| /s/ John W. Finke                                               |   |   | March 14, 2007 |
| John W. Finke                                                   |   |   |           |
| President, Chief  Executive Officer and Director                |   |   |
| (principal executive  officer)                                  |   |   |
|                                                            |   |   |           |
| /s/ David A.  Christensen                                       |   |   | March 14, 2007 |
| David A. Christensen,  Secretary,                               |   |   |
| Senior Vice  President, Chief Financial Officer and Treasurer   |
| (principal  financial officer and principal accounting officer) |
|                                                            |   |   |           |
| /s/ James W. Bracke                                             |   |   | March 14, 2007 |
| James W. Bracke,  Director                                      |   |   |
|                                                            |   |   |           |
| /s/ Myrita P. Craig                                             |   |   | March 14, 2007 |
| Myrita P. Craig,  Director                                      |   |   |           |
|                                                            |   |   |           |
| /s/ James H. Holdrege                                           |   |   | March 14, 2007 |
| James H. Holdrege,  Director                                    |   |   |
|                                                            |   |   |           |
| /s/ Dale E. Parker                                              |   |   | March 14, 2007 |
| Dale E, Parker,  Director                                       |   |   |           |

 

(amajority of directors)

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