UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 
 FORM 10-Q 
  x

          

          QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended June 30, 2010 Commission File Number: 0-30900 
 XO HOLDINGS, INC. (Exact name of registrant as specified in its charter)  Delaware

          

          54-1983517(State or other jurisdiction of incorporation or organization)

          

          (I.R.S. Employer Identification No.)
 13865 Sunrise Valley Drive Herndon, Virginia 20171 (Address of principal executive offices, including zip code) (703) 547-2000 (Registrants telephone number, including area code) 
 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15-(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter) during the preceding 12 months. Yes o No o Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.  Large accelerated filer o

          

          Accelerated filer oNon-accelerated filer x

          

          Smaller reporting company o
 Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x The number of shares of common stock outstanding as of August 3, 2010 was 182,075,165.
     TABLE OF CONTENTS XO HOLDINGS, INC. Table of Contents  PagePART I  FINANCIAL INFORMATIONITEM 1.Financial Statements





1Condensed Consolidated Balance Sheets





1Condensed Consolidated Statements of Operations





2Condensed Consolidated Statements of Cash Flows





3Notes to Condensed Consolidated Financial Statements





4ITEM 2.Managements Discussion and Analysis of Financial Condition and Results of Operations





11ITEM 3.Quantitative and Qualitative Disclosures About Market Risk





20ITEM 4.Controls and Procedures





20PART II  OTHER INFORMATIONITEM 1.Legal Proceedings





21ITEM 1A.Risk Factors





22ITEM 5.Other Information





22ITEM 6.Exhibits





22
 i    TABLE OF CONTENTS PART I. FINANCIAL INFORMATION Item 1. Financial Statements. XO Holdings, Inc.   Condensed Consolidated Balance Sheets (in thousands, except per share data)  June 30,2010

          

          December 31,2009(Unaudited)ASSETSCurrent AssetsCash and cash equivalents

          

          $

          66,640

          

          

          $

          363,159Marketable securities

          

          

          1,300

          

          

          

          1,320Accounts receivable, net of allowance for doubtful accounts of $7,944 and $11,052, respectively

          

          

          138,497

          

          

          

          153,745Prepaid expenses and other current assets

          

          

          33,046

          

          

          

          29,248Total current assets

          

          

          239,483

          

          

          

          547,472Property and equipment, net

          

          

          780,853

          

          

          

          749,930Intangible assets, net

          

          

          45,233

          

          

          

          45,233Other assets

          

          

          63,409

          

          

          

          67,123Total Assets

          

          $

          1,128,978

          

          

          $

          1,409,758LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS DEFICITCurrent LiabilitiesAccounts payable

          

          $

          81,189

          

          

          $

          77,344Accrued liabilities

          

          

          215,491

          

          

          

          220,455Total current liabilities

          

          

          296,680

          

          

          

          297,799Deferred revenue, less current portion

          

          

          80,645

          

          

          

          82,400Other liabilities

          

          

          41,871

          

          

          

          43,331Total Liabilities

          

          

          419,196

          

          

          

          423,530Class A convertible preferred stock

          

          

          

          

          

          

          255,011Class B convertible preferred stock

          

          

          636,565

          

          

          

          614,912Class C perpetual preferred stock

          

          

          236,338

          

          

          

          223,958Commitments and contingenciesStockholders DeficitWarrants, common stock and additional paid in capital: par value $0.01 per share, 1,000,000 shares authorized; 182,075 shares issued and outstanding

          

          

          826,629

          

          

          

          864,282Accumulated other comprehensive income

          

          

          1,105

          

          

          

          1,125Accumulated deficit

          

          

          (990,855

          )

          

          

          (973,060

          )Total Stockholders Deficit

          

          

          (163,121

          )

          

          

          (107,653

          )Total Liabilities, Redeemable Preferred Stock and Stockholders Deficit

          

          $

          1,128,978

          

          

          $

          1,409,758
 See accompanying notes to the unaudited condensed consolidated financial statements.
 1    TABLE OF CONTENTS XO Holdings, Inc.   Condensed Consolidated Statements of Operations (Unaudited) (in thousands, except per share data)  Three Months Ended June 30,

          

          Six Months Ended June 30,2010

          

          2009

          

          2010

          

          2009Revenue

          

          $

          383,646

          

          

          $

          385,624

          

          

          $

          753,196

          

          

          $

          763,448Costs and expensesCost of service (exclusive of depreciation and amortization)

          

          

          218,867

          

          

          

          229,565

          

          

          

          427,342

          

          

          

          449,569Selling, general and administrative

          

          

          124,416

          

          

          

          119,122

          

          

          

          255,049

          

          

          

          249,085Depreciation and amortization

          

          

          45,304

          

          

          

          42,910

          

          

          

          90,172

          

          

          

          86,306Impairment of LMDS licenses

          

          

          

          

          

          

          8,282

          

          

          

          

          

          

          

          8,282Loss on disposal of assets

          

          

          1,213

          

          

          

          2,562

          

          

          

          3,121

          

          

          

          4,077Total costs and expenses

          

          

          389,800

          

          

          

          402,441

          

          

          

          775,684

          

          

          

          797,319Loss from operations

          

          

          (6,154

          )

          

          

          (16,817

          )

          

          

          (22,488

          )

          

          

          (33,871

          )Interest income (expense), net

          

          

          (103

          )

          

          

          3,079

          

          

          

          (80

          )

          

          

          6,200Investment gain, net

          

          

          5,374

          

          

          

          8,262

          

          

          

          5,374

          

          

          

          18,020Net loss before income taxes

          

          

          (883

          )

          

          

          (5,476

          )

          

          

          (17,194

          )

          

          

          (9,651

          )Income tax expense

          

          

          (306

          )

          

          

          (518

          )

          

          

          (601

          )

          

          

          (810

          )Net loss

          

          

          (1,189

          )

          

          

          (5,994

          )

          

          

          (17,795

          )

          

          

          (10,461

          )Preferred stock accretion

          

          

          (17,725

          )

          

          

          (19,874

          )

          

          

          (37,880

          )

          

          

          (39,383

          )Net loss allocable to common shareholders

          

          $

          (18,914

          )

          

          $

          (25,868

          )

          

          $

          (55,675

          )

          

          $

          (49,844

          )Net loss allocable to common shareholders per common share, basic and diluted

          

          $

          (0.10

          )

          

          $

          (0.14

          )

          

          $

          (0.31

          )

          

          $

          (0.27

          )Weighted average shares, basic and diluted

          

          

          182,075

          

          

          

          182,075

          

          

          

          182,075

          

          

          

          182,075
 See accompanying notes to the unaudited condensed consolidated financial statements.
 2    TABLE OF CONTENTS XO Holdings, Inc.   Condensed Consolidated Statements of Cash Flows (Unaudited)(in thousands)  Six Months Ended June 30,2010

          

          2009OPERATING ACTIVITIES:Net loss

          

          $

          (17,795

          )

          

          $

          (10,461

          )Adjustments to reconcile net loss to net cash provided by operating activitiesDepreciation and amortization

          

          

          90,172

          

          

          

          86,306Provision for doubtful accounts

          

          

          5,479

          

          

          

          8,449Stock-based compensation

          

          

          230

          

          

          

          421Gain from investments

          

          

          (5,374

          )

          

          

          (18,020

          )Impairment of LMDS licenses

          

          

          

          

          

          

          8,282Loss on disposal of assets

          

          

          3,121

          

          

          

          4,077Changes in assets and liabilitiesAccounts receivable

          

          

          9,770

          

          

          

          5,052Other assets

          

          

          (84

          )

          

          

          (11,636

          )Accounts payable

          

          

          1,276

          

          

          

          (1,069

          )Accrued liabilities

          

          

          (5,807

          )

          

          

          (9,967

          )Net cash provided by operating activities

          

          

          80,988

          

          

          

          61,434INVESTING ACTIVITIES:Capital expenditures

          

          

          (121,764

          )

          

          

          (91,720

          )Proceeds from fixed asset sales

          

          

          117

          

          

          

          150Proceeds from the sale of available-for-sale marketable securities

          

          

          5,374

          

          

          

          57,238Net cash used in investing activities

          

          

          (116,273

          )

          

          

          (34,332

          )FINANCING ACTIVITIES:Redemption of preferred stock

          

          

          (258,861

          )

          

          

          Payments on capital leases

          

          

          (2,373

          )

          

          

          (1,964

          )Net cash used in financing activities

          

          

          (261,234

          )

          

          

          (1,964

          )Net increase (decrease) in cash and cash equivalents

          

          

          (296,519

          )

          

          

          25,138Cash and cash equivalents, beginning of period

          

          

          363,159

          

          

          

          256,747Cash and cash equivalents, end of period

          

          $

          66,640

          

          

          $

          281,885SUPPLEMENTAL DATA:Cash paid for interest

          

          $

          662

          

          

          $

          695Cash paid for income taxes

          

          $

          1,013

          

          

          $

          993
 See accompanying notes to the unaudited condensed consolidated financial statements.
 3    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES a. Organization XO Holdings, Inc. together with its consolidated subsidiaries (XOH or the Company) is a leading facilities-based, competitive telecommunications services provider that delivers a comprehensive array of telecommunications services to the telecommunications provider, business and government markets. The Company uses its nationwide IP network, extensive local metropolitan networks and broadband wireless facilities to offer a broad portfolio of services. b. Basis of Presentation The unaudited condensed consolidated financial statements of the Company have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission. Certain information and note disclosures normally included in annual consolidated financial statements prepared according to U.S. generally accepted accounting principles (GAAP) have been condensed or omitted, although the Company believes the disclosures are adequate to prevent the information presented from being misleading. As a result, the accompanying condensed consolidated financial statements should be read in conjunction with the audited consolidated
financial statements of the Company included in its Annual Report on Form 10-K for the year ended December 31, 2009 (the 2009 Annual Report). In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring entries) considered necessary to present fairly the financial position, results of operations and cash flows for the periods presented. Operating results for any interim period are not necessarily indicative of results that may be expected for any subsequent interim period or for the year ended December 31, 2010. The Companys condensed consolidated financial statements include all of the assets, liabilities and results of operations of subsidiaries in which the Company has a controlling interest. All inter-company transactions among consolidated entities have been eliminated. The carrying amounts reported in our condensed consolidated balance sheets for cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities and other liabilities approximate fair value due to the immediate to short-term maturity of these financial instruments. The preparation of condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting periods. Actual results could differ materially from these estimates. Managements estimates and assumptions are evaluated on an ongoing basis and are based on historical experience, current conditions and available information. Significant items subject to such estimates and assumptions
include: estimated customer life related to revenue recognition; estimated collection of accounts receivable; accrued balances and disputed amounts payable for cost of service provided by other telecommunication carriers; liability estimates related to loss contingencies, asset retirement obligations and accruals for underutilized space; estimated useful lives and recoverability of long-lived fixed assets and intangible assets; and valuation of preferred stock. c. Transaction-Based Taxes and Other Surcharges The Company records certain transaction-based taxes and other surcharges on a gross basis. For the three months ended June 30, 2010 and 2009, revenue and expenses included taxes and surcharges of $3.2 million and $3.4 million, respectively. For the six months ended June 30, 2010 and 2009, revenue and expenses included taxes and surcharges of $6.3 million and $6.9 million, respectively.
 4    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES   (continued) d. Accounts Receivable The Companys principal concentration of credit risk is accounts receivable. Although the Companys accounts receivable are geographically dispersed and include numerous customers in many different industries, the receivables from other telecommunications service providers represented 30% of our consolidated receivables as of June 30, 2010. XOH generally does not require collateral to secure its receivable balances. 2. COMPREHENSIVE LOSS Comprehensive loss includes the Companys net loss, as well as net unrealized gains and losses on available-for-sale investments. The following table summarizes the Companys calculation of comprehensive loss (in thousands):  Three Months Ended June 30,

          

          Six Months Ended June 30,2010

          

          2009

          

          2010

          

          2009Net loss

          

          $

          (1,189

          )

          

          $

          (5,994

          )

          

          $

          (17,795

          )

          

          $

          (10,461

          )Other comprehensive income:Net unrealized gain (loss) on investments

          

          

          (100

          )

          

          

          22,817

          

          

          

          (20

          )

          

          

          37,199Comprehensive income (loss)

          

          $

          (1,289

          )

          

          $

          16,823

          

          

          $

          (17,815

          )

          

          $

          26,738
 3. MARKETABLE SECURITIES The Companys marketable securities consist of equity securities that are classified as available-for-sale and are stated at estimated fair value based upon available market information. The estimated fair values of our marketable securities are as follows (in thousands):  Quoted Prices in Active Markets (Level 1)At June 30, 2010

          

          At December 31, 2009Available-for-sale marketable equity securities

          

          $

          1,300

          

          

          $

          1,320
 Unrealized gains and losses are computed on the basis of average cost and are reported as a separate component of accumulated other comprehensive income (loss) in stockholders deficit until realized. There were $1.1 million in unrealized holding gains related to equity securities at both June 30, 2010 and December 31, 2009. These unrealized gains were recorded on the Consolidated Balance Sheets as a separate component of stockholders deficit. No marketable securities were sold during the three or six months ended June 30, 2010. For the three and six months ended June 30, 2009, proceeds from sales of marketable securities totaled $22.0 million and $51.4 million, respectively. The amount of gains reclassified out of accumulated other comprehensive income into earnings for the three and six months ended June 30, 2009 were $4.6 million and $5.5 million, respectively. The Company recognized net investment gains of $5.4 million for both the three and six months ended June 30, 2010. This gain resulted from the $5.4 million distribution related to a legal matter regarding the Companys holding of certain debt securities. The Company recognized net investment gains of $8.3 million and $18.0 million for the three and six months ended June 30, 2009, respectively. The net investment gain for the three months ended June 30, 2009 primarily resulted from $7.8 million of realized gains from the sale of available-for-sale securities. For the six months ended June 30, 2009, net investment gains principally resulted
 5    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 3. MARKETABLE SECURITIES   (continued) from $11.7 million of realized gains from the sale of available-for-sale marketable securities and the receipt of a $5.8 million distribution related to a legal matter regarding the Companys holding of certain debt securities. 4. PROPERTY AND EQUIPMENT Property and equipment consisted of the following (in thousands):  June 30, 2010

          

          December 31, 2009Telecommunications networks and acquired bandwith

          

          $

          1,443,832

          

          

          $

          1,376,254Furniture, fixtures, equipment and other

          

          

          434,198

          

          

          

          410,0631,878,030

          

          

          

          1,786,317Less: accumulated depreciation

          

          

          (1,199,921

          )

          

          

          (1,112,171

          )678,109

          

          

          

          674,146Construction-in-progress, parts and equipment

          

          

          102,744

          

          

          

          75,784Property and equipment, net

          

          $

          780,853

          

          

          $

          749,930
 Depreciation and amortization expense was $45.3 million and $42.9 million for the three months ended June 30, 2010 and 2009, respectively. For the six months ended June 30, 2010 and 2009, depreciation and amortization expense was $90.2 million and $86.3 million, respectively. Assets classified as construction-in-progress, parts and equipment are not being depreciated as they have not yet been placed in service. During the three months ended June 30, 2010 and 2009, the Company capitalized interest on construction costs of $0.3 million and $0.4 million, respectively. During the six months ended June 30, 2010 and 2009, the Company capitalized interest on
construction costs of $0.6 million and $0.9 million, respectively. 5. REDEEMABLE PREFERRED STOCK As of June 30, 2010, there were 200,000,000 authorized shares of redeemable preferred stock. The table below shows shares of preferred stock issued and outstanding:  June 30, 2010

          

          December 31, 2009Class A convertible preferred stock

          

          

          

          

          

          

          3,695,686Class B convertible preferred stock

          

          

          555,000

          

          

          

          555,000Class C perpetual preferred stock

          

          

          225,000

          

          

          

          225,000
 The terms of the Companys Class A preferred stock provided that on January 15, 2010, the Company would redeem in cash and in a manner provided for therein all of the shares of Class A preferred stock then outstanding at a redemption price equal to 100% of its liquidation preference. On February 5, 2009, ACF Holding Corp. (ACF Holding), an affiliate of the Companys Chairman and majority shareholder, agreed to extend the date on which the Company would be required to redeem the shares of Class A preferred stock held by ACF Holding (the ACF Holding Shares) from January 15, 2010 to a date no later than April 15, 2010.
The extension did not affect the redemption date of any of the shares of Class A preferred stock other than the ACF Holding Shares. On July 9, 2009, the Company purchased and retired 304,314 shares of Class A preferred stock from entities unaffiliated with the Chairman at an aggregate purchase price of approximately $18.4 million. On January 15, 2010, the Company redeemed and retired all 599,137 shares of Class A preferred stock held by entities unaffiliated with the Chairman for cash at a redemption price equal to 100% of the aggregate liquidation preference of $41.4 million as of such date. On April 15, 2010, the Company redeemed and retired the remaining 3,096,549 ACF Holding Shares for cash at a redemption price equal to 100% of the aggregate liquidation preference for such
shares of $217.5 million as of such date. As of June 30, 2010, there were no shares of Class A preferred stock outstanding.
 6    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 6. EARNINGS (LOSS) PER SHARE Net loss per common share, basic is computed by dividing net loss allocable to common shareholders by the weighted average common shares outstanding during the period. Net loss per common share, diluted is calculated by dividing net loss allocable to common shareholders by the weighted average common shares outstanding adjusted for the dilutive effect of common stock equivalents related to stock options, warrants and preferred stock. In periods where the assumed common share equivalents for stock options, warrants and preferred stock are anti-dilutive, they are excluded from the calculation of diluted weighted average shares. The table below details the anti-dilutive items that were excluded in the computation of net loss per common share, diluted for the three and six months ended June 30, (in millions):  2010

          

          2009Stock options

          

          

          7.2

          

          

          

          8.2Warrants

          

          

          

          

          

          

          23.7Class A convertible preferred stock

          

          

          

          

          

          

          58.0Class B convertible preferred stock

          

          

          423.3

          

          

          

          394.9
 7. INCOME TAXES The provision for income taxes for the three and six months ended June 30, 2010 of $0.3 million and $0.6 million, respectively, and $0.5 million and $0.8 million, respectively, for the three and six months ended June 30, 2009, are for current taxes. The Company has a full valuation against its operating loss and net deferred tax assets. The current provision for income taxes consists primarily of state taxes computed based on modified gross receipts or gross margin but designated as income tax by the Financial Accounting Standards Board due to the various components of the calculation and interest on certain state income tax positions. Open Tax Years The statutes of limitation for the Companys U.S. federal income tax return and the Commonwealth of Virginia state income tax return remain open for tax years 2006 through 2009 and certain other state income tax returns where the Company has a large presence, including California, New Jersey, and Texas, remain open for the tax years 2005 through 2009. 8. RELATED PARTY TRANSACTIONS Various entities controlled by the Chairman of the Companys Board of Directors and the Companys majority stockholder (the Chairman) hold the following interests in the Company:  At June 30, 2010(1)

          

          At December 31, 2009(2)Outstanding Common Stock

          

          

          Greater than 50%

          

          

          

          Greater than 50%Series A, B and C Warrants(3)

          

          

          NA

          

          

          

          Greater than 40%Class A convertible preferred stock(4)

          

          

          

          

          

          

          Greater than 80%Class B convertible preferred stock

          

          

          100%

          

          

          

          100%Class C perpetual preferred stock

          

          

          100%

          

          

          

          100%
  (1)

          As reported in the July 1, 2010 Form 4 for the Chairman and other parties to such joint filing, and the July 1, 2010 Amendment No. 25 to Schedule 13D filed by the Chairman and other parties to such joint filing. (2)

          As reported in the January 4, 2010 Form 4 for the Chairman and other parties to such joint filing, and the January 4, 2010, Amendment No. 23 to Schedule 13D filed by the Chairman and other parties to such joint filing.
 7    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 8. RELATED PARTY TRANSACTIONS   (continued) (3)

          The terms of the Companys Series A, B and C Warrants provided that all such unexercised warrants expired on January 15, 2010. (4)

          The original terms of the Companys Class A preferred stock required that by January 15, 2010, the Company would redeem in cash and in a manner provided for therein all of the shares of Class A preferred stock then outstanding at a redemption price equal to 100% of its liquidation preference. On February 5, 2009, ACF Holding Corp. (ACF Holding), an affiliate of the Chairman, agreed to extend the date on which the Company would be required to redeem the shares of Class A preferred stock held by ACF Holding (the ACF Holding Shares) from January 15, 2010 to a date no later than April 15, 2010. The extension did not affect the redemption date of any of the shares of Class A preferred stock other than the ACF Holding Shares. Accordingly, on January 15, 2010, the Company redeemed all 599,137 shares of Class A preferred stock held by entities unaffiliated with the Chairman at an aggregate purchase price of approximately
$41.4 million. On April 15, 2010, the Company redeemed the outstanding shares of Class A preferred stock held by ACF Holding for cash at a redemption price equal to 100% of the aggregate liquidation preference for such shares of $217.5 million as of such date. As of June 30, 2010, there were no shares of Class A preferred stock outstanding. As a result of his ownership of a majority of the Companys common stock and voting preferred stock, the Chairman can elect all of the Companys directors. Currently, three employees of entities controlled by the Chairman are members of the Companys board of directors and certain of its committees. Under applicable law and the Companys certificate of incorporation and by-laws, certain actions cannot be taken without the approval of holders of a majority of the Companys voting stock, including mergers, acquisitions, the sale of substantially all of the Companys assets and amendments to the Companys certificate of
incorporation and by-laws. Icahn Sourcing LLC (Icahn Sourcing) is an entity formed and controlled by the Chairman in order to leverage the potential buying power of a group of entities which the Chairman either owns or with which he otherwise has a relationship in negotiating with a wide range of suppliers of goods, services, and tangible and intangible property. The Company is a member of the buying group and, as such, is afforded the opportunity to purchase goods, services and property from vendors with whom Icahn Sourcing has negotiated rates and terms. Icahn Sourcing does not guarantee that the Company will purchase any goods, services or property from any such
vendors and the Company is under no legal obligation to do so. The Company does not pay Icahn Sourcing any fees or other amounts with respect to the buying group arrangement. The Company has purchased a variety of goods and services as a member of the buying group at prices and on terms that it believes are more favorable than those which would be achieved on a stand-alone basis. 9. COMMITMENTS AND CONTINGENCIES The Company is involved in lawsuits, claims, investigations and proceedings consisting of commercial, securities, tort and employment matters, which arise in the ordinary course of business. The Company accrues its best estimates of required provisions for any such matters when the loss is probable and the amount of loss can be reasonably estimated. The Company reviews these provisions at least quarterly and adjusts these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular case. Litigation is inherently unpredictable. However, management believes
that the Company has valid defenses with respect to legal matters pending against it. Nevertheless, it is possible that cash flows or results of operations could be materially and adversely affected in any particular period by the unfavorable resolution of one or more of these contingencies. Legal costs related to litigation in these matters are expensed as incurred. Metro Nashville The Metropolitan Government of Nashville and Davidson County, Tennessee (Metro) filed a complaint against XO Tennessee, Inc. (XOT), now XO Communications Services Inc., successor in interest to XOT, on March 1, 2002, before the Tennessee State Chancery Court for Davidson County, Tennessee. Metro sought
 8    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 9. COMMITMENTS AND CONTINGENCIES   (continued) declaratory judgment that, under Metros franchise ordinance and the franchise agreement executed by XOTs predecessor, US Signal, on October 18, 1994, XOT (a) owed franchise fees in the amount of five percent of gross revenues from 1997 to current, and (b) was contractually obligated to allow Metro access and use of four dark fibers on XOTs network. On February 28, 2003, XOT answered the complaint contending that the franchise fee and dark fiber compensation provisions violated Tennessee and federal law. XOT also filed a counterclaim seeking to recover all sums paid to Metro under the invalid ordinance and to recover the
value of the free fiber that Metro has been using and continues to use without payment. In an amended complaint, Metro added an alternative basis for relief, namely legal or equitable relief up to its costs allocated to XOT for maintaining, managing, and owning the rights-of-way. Based on a study conducted by Metro (received by the Company in November 2006) and the length of the relevant period of this case, to date, Metros costs, as calculated by Metro for the relevant period and allocated by Metro to XOT, would likely exceed $20.0 million. On August 9, 2007, XOT filed a motion for judgment on the pleadings. On February 25, 2008, the court denied XOTs motion. On March 26, 2008, XOT filed a request with the court seeking permission to file an interlocutory appeal of the courts denial. On July 16, 2009, the court granted XOTs Motion for Interlocutory Appeal. However, on October 27, 2009, the appellate court denied XOTs petition for interlocutory appeal. The
parties will coordinate the resumption of litigation with the trial court and are exploring settlement opportunities. On July 30, 2010, the court denied Metros April 2010 motion for judgment on the pleadings. The effect of this case is not expected to be material to the Companys financial position, results of operations, or cash flows. City of Memphis Franchise Fees XOH has a Right of Way (ROW) franchise agreement with the City of Memphis (the City) for XOH fiber. The ROW franchise agreement, among other provisions, states that, as payment for the ROW, XOH was to pay a percent of its gross receipts and provide dark fiber to the City. On July 12, 2004, the Tennessee Court of Appeals, in BellSouth vs. City of Memphis found that the Citys franchise fee structure violated state law and determined that any fee imposed by a city acting pursuant to its police powers must bear a reasonable relation to the cost to the city in providing use of the rights-of-way. XOH has
refused to pay the Citys gross receipts based franchise fees based on this court ruling. Further, XOH claims that the City owes XOH for the use of the dark fiber XOH provided to the City because this also amounted to an improper payment imposed upon XOH by the City under its ROW franchise agreement that was violative of state law. The City claims that XOH owes the City some amount for the use of the Citys rights-of-way. No litigation has been filed to date by either the City or XOH. An estimated loss, if any, associated with this case is not known at this time. R2 Derivative Litigation On April 28, 2009, R2 Investments, LDC filed a complaint in the Supreme Court of the State of New York (New York County) naming individual members of the Companys Board of Directors and certain entities controlled by Carl C. Icahn, the Chairman of the Companys Board of Directors and majority shareholder, as defendants and naming the Company as the nominal defendant in connection with derivative claims. The plaintiff alleges that the defendants breached fiduciary duties in connection with the financing transaction consummated in July 2008 and other related matters. The complaint seeks equitable relief as well as damages in an unspecified
amount. On July 24, 2009, the Defendants filed a Motion to Dismiss the Complaint, which was denied on December 10, 2009. On April 23, 2010, the defendants filed an answer to the amended complaint. On May 10, 2010, the defendants filed a summary judgment motion. Discovery in this case is ongoing. The effect of this case on the Company, if any, is not known at this time. Hillenmeyer Derivative Litigation On July 21, 2009, an XOH shareholder, Don Hillenmeyer, filed under seal in the Delaware Court of Chancery a Complaint titled Verified Derivative and Class Action Complaint. On August 6, 2009, XOH filed a
 9    TABLE OF CONTENTS XO Holdings, Inc.   Notes to Condensed Consolidated Financial Statements (Unaudited) 9. COMMITMENTS AND CONTINGENCIES   (continued) redacted version of the Complaint in the Chancery Court. The Complaint names as defendants individual members of the Companys Board of Directors and ACF Holding, an entity controlled by Carl C. Icahn, the Chairman of our Board of Directors and majority shareholder, and names XOH as the nominal defendant. The Complaint challenges, among other things, ACF Holdings then-recent proposal to acquire all of the outstanding XOH common shares which it does not already own, and alleges various breaches of fiduciary duties. The parties have entered into a Stipulation and Order Extending Time to Answer and agreed to stay proceeding with the case until
Plaintiff filed an Amended Complaint. On December 15, 2009, based on plaintiffs motion, the court entered an order dismissing that portion of the suit that sought to enjoin ACF Industries Holding Corp.s July 9, 2009 proposal to acquire all of the shares of XO common stock that ACF and its affiliates did not already own. On January 7, 2010 the Defendants filed a motion to stay or dismiss the remaining portion of the suit in favor of the NY litigation (R-2 v. Icahn et al). On January 26, 2010, Plaintiff filed an Amended Complaint. On February 18, 2010, Defendants filed a supporting brief for its motion to dismiss. On March 26, 2010, plaintiff filed its answering brief to defendants motion to dismiss or stay. Defendants reply brief was filed on April 13, 2010. On May 28, 2010, the court dismissed the case without prejudice. Zheng Derivative Class Action Litigation On or about June 3, 2010, Youlu Zheng filed a class action complaint in the Supreme Court of the State of New York, County of New York alleging that the defendants breached fiduciary duties in connection with the financing transaction consummated in July 2008 and other related matters. The plaintiffs request that the court rescind the July 2008 financing transaction, award compensatory damages to the class of plaintiffs, award the plaintiff expenses, costs and attorneys fees, and impose a constructive trust in favor of the plaintiff and the class upon benefits improperly received by the defendants. The case is under consideration and the effect
of this case on the Company, if any, is not known at this time. Other Contingencies The Universal Service Administrative Company is in the process of auditing the Companys compliance with universal service contribution reporting obligations in connection with services provided during 2007. The Company believes that it complied with applicable Federal Communications Commission rules in all material respects; however, an adverse audit determination could result in significant retroactive assessment of universal service fund contribution liability and associated interest, penalties, fines or forfeitures. An estimated loss, if any, associated with this ongoing audit is not known at this time.
 10    TABLE OF CONTENTS Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations. The Company uses the terms we, us, and our, to describe XOH and its subsidiaries within this Quarterly Report on Form 10-Q. This managements discussion and analysis of financial condition and results of operations is intended to provide readers with an understanding of our past performance, our financial condition and our prospects. This discussion should be read in conjunction with our 2009 Annual Report and our condensed consolidated financial statements, including the notes thereto, appearing in Part 1, Item 1 of this Quarterly Report. Cautionary Language Concerning Forward-Looking Statements The statements contained in this Quarterly Report on Form 10-Q that are not historical facts are forward-looking statements, as this term is defined in the Private Securities Litigation Reform Act of 1995, that involve risks and uncertainties. These statements can be identified by the use of words such as anticipate, believe, estimate, expect, plan, intend, can, may, could or other comparable words. Our forward-looking statements are based on currently available operational, financial and competitive information and managements current
expectations, estimates and projections. These forward-looking statements include: 

          expectations regarding revenue, expenses, capital expenditures and financial position in future periods; 

          our ability to broaden our customer reach and expand our market share; 

          pursuit of growth opportunities; 

          the potential need to obtain future financing; and 

          our ability to fund our business plan and pay our financial obligations. Readers are cautioned that these forward-looking statements are only predictions and are subject to a number of both known and unknown risks and uncertainties. Should one or more of these risks or uncertainties materialize, or should our underlying assumptions prove incorrect, our actual results in future periods may differ materially from the future results, performance, and/or achievements expressed or implied in this document. These risks include any failure by us to: 

          generate funds from operations sufficient to meet our cash requirements and execute our business strategy; 

          prevail in our legal and regulatory proceedings; 

          increase the volume of traffic on our network; 

          realize benefits from our enterprise-wide transformation initiative; and 

          achieve and maintain market penetration and revenue levels given the highly competitive nature of the telecommunications industry. For a detailed discussion of risk factors affecting our business and operations, see Item 1A, Risk Factors in our 2009 Annual Report. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise. These forward-looking statements should not be relied on as representing our estimates or views as of any subsequent date. Executive Summary We are a leading nationwide facilities-based competitive telecommunications services provider that delivers a comprehensive array of telecommunications solutions to large enterprises, medium and small business, government customers, telecommunications carriers and service providers, and internet content providers. The items we believe differentiate us from the competition include our nationwide high-capacity network, advanced IP and converged communications services, broadband wireless capabilities, and a responsive, customer-focused orientation. We offer customers a broad range of managed voice, data and IP services in
 11    TABLE OF CONTENTS more than 80 metropolitan markets across the United States. While we, like other wireline telecommunications services providers, continue to face short term challenges, we continue to remain bullish on the long term potential for the Company. Total revenue for the six months ended June 30, 2010 was $753.2 million, a decrease of $10.3 million, or 1%, compared to the same period last year. This decrease primarily resulted from targeted wholesale long-distance services price increases implemented to improve margins on selected routes. On July 9, 2009, we purchased and retired 304,314 shares of our Class A preferred stock from entities unaffiliated with our Chairman at an aggregate purchase price of $18.4 million. On January 15, 2010, we redeemed and retired all remaining 599,137 shares of Class A preferred stock held by entities unaffiliated with our Chairman for cash at a redemption price equal to 100% of the aggregate liquidation preference of $41.4 million as of such date. As of March 31, 2010, ACF Holding, an affiliate of our Chairman, was the holder of 100% of the remaining 3,096,549 shares of Class A preferred stock. On April 15, 2010, we redeemed and retired the outstanding
shares of Class A preferred stock held by ACF Holding for cash at a redemption price equal to 100% of the aggregate liquidation preference for such shares of $217.5 million as of such date. As of June 30, 2010, there were no shares of Class A preferred stock outstanding. In 2008, after an extensive review of our business and operations with the assistance of outside advisers, we commenced an enterprise-wide transformation plan intended to enhance shareholder value through focusing on improving service delivery, accelerating Broadband revenue growth, and reducing our operating costs. In conjunction with this implementation, we have invested in new network infrastructure and have sought to develop new service offerings and to expand our customer base in high-growth markets. While this transformation plan has required, and will continue to require, significant capital expenditures, we continue to
believe that it is the optimal, and perhaps the only, way for us to remain competitive in the long term with much larger telecommunications and cable companies. In this regard, we will continue to require significant capital expenditures to enhance, maintain and operate our fiber network. We also believe in the current economic environment and the highly competitive telecommunications industry, certain opportunities may exist today that may not recur such as, but not limited to, the acquisition of other telecommunications services providers. For all the above reasons, we intend to seek to raise appropriate levels of capital in the near future. We continue to explore various alternatives to obtain additional capital. While we intend to explore every alternative, including high yield debt, we continue to believe, based on past experience, that an issuance of high yield debt would be deleterious to XOH for the following reasons: 1) the high cost of such debt would negatively affect our ability to compete in the current highly competitive telecommunications environment; and 2) the burdensome restrictive covenants associated with such debt would impair our ability to pursue potential strategic investments and to take advantage of other opportunities which may be necessary for us to compete in
such environment. Based on our current level of operations, we believe that cash flow from operations as well as cash on hand will enable us to meet our working capital and other obligations for at least the next 12 months. However, we believe that additional capital is necessary to continue to implement our transformation plan and also give us the resources to take advantage of opportunities which may arise for strategic growth. Our ability to fund our capital needs depends on our future operating performance and cash flow, which are subject to prevailing economic conditions and other factors, many of which are beyond our control. Heretofore, we have not
generated sufficient free cash flows to allow us to continue to fully fund our transformation plan or to pursue other strategic opportunities. We continue to monitor the impact of macro-economic conditions on our business. Potential negative aspects include a general slowdown in the demand for telecommunications services, delayed IT and other projects that have telecommunications needs, elongated sales cycles on the part of our customers, higher involuntary churn, and delayed payments from customers. Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are based on the selection of accounting policies and the application of significant accounting estimates, some of which require management to make significant assumptions. We believe that some of the more critical estimates and related assumptions that affect our
 12    TABLE OF CONTENTS financial condition and results of operations are in the areas of revenue recognition, cost of service, allowance for uncollectible accounts, assessment of loss contingencies and property and equipment. For more information on critical accounting policies and estimates, see Item 7, Managements Discussion and Analysis of Financial Condition and Results of Operations, of our 2009 Annual Report. We have discussed the application of these critical accounting policies and estimates with the Audit Committee of our Board of Directors. During the three months ended June 30, 2010, we did not change or adopt any new accounting policies that had a material effect on our consolidated financial condition or results of operations.  Results of Operations The following table contains certain data from our unaudited condensed consolidated statements of operations (dollars in thousands):  Three Months Ended June 30,2010

          

          % of Consolidated Revenue

          

          2009

          

          % of Consolidated Revenue

          

          ChangeDollars

          

          PercentRevenue

          

          $

          383,646

          

          

          

          100

          %

          

          $

          385,624

          

          

          

          100

          %

          

          $

          (1,978

          )

          

          

          -1

          %Costs and expenses:Cost of service*

          

          

          218,867

          

          

          

          57

          %

          

          

          229,565

          

          

          

          60

          %

          

          

          (10,698

          )

          

          

          -5

          %Selling, general and administrative

          

          

          124,416

          

          

          

          32

          %

          

          

          119,122

          

          

          

          30

          %

          

          

          5,294

          

          

          

          4

          %Depreciation and amortization

          

          

          45,304

          

          

          

          13

          %

          

          

          42,910

          

          

          

          11

          %

          

          

          2,394

          

          

          

          6

          %Impairment of LMDS licenses

          

          

          

          

          

          

          0

          %

          

          

          8,282

          

          

          

          2

          %

          

          

          (8,282

          )

          

          

          -100

          %Loss on disposal of assets

          

          

          1,213

          

          

          

          0

          %

          

          

          2,562

          

          

          

          1

          %

          

          

          (1,349

          )

          

          

          -53

          %Total costs and expenses

          

          

          389,800

          

          

          

          102

          %

          

          

          402,441

          

          

          

          104

          %

          

          

          (12,641

          )

          

          

          -3

          %Loss from operations

          

          $

          (6,154

          )

          

          

          -2

          %

          

          $

          (16,817

          )

          

          

          -4

          %

          

          $

          (10,663

          )

          

          

          -63

          %
  Six Months Ended June 30,2010

          

          % of Consolidated Revenue

          

          2009

          

          % of Consolidated Revenue

          

          ChangeDollars

          

          PercentRevenue

          

          $

          753,196

          

          

          

          100

          %

          

          $

          763,448

          

          

          

          100

          %

          

          $

          (10,252

          )

          

          

          -1

          %Costs and expenses:Cost of service*

          

          

          427,342

          

          

          

          57

          %

          

          

          449,569

          

          

          

          59

          %

          

          

          (22,227

          )

          

          

          -5

          %Selling, general and administrative

          

          

          255,049

          

          

          

          34

          %

          

          

          249,085

          

          

          

          32

          %

          

          

          5,964

          

          

          

          2

          %Depreciation and amortization

          

          

          90,172

          

          

          

          12

          %

          

          

          86,306

          

          

          

          11

          %

          

          

          3,866

          

          

          

          4

          %Impairment of LMDS licenses

          

          

          

          

          

          

          0

          %

          

          

          8,282

          

          

          

          1

          %

          

          

          (8,282

          )

          

          

          -100

          %Loss on disposal of assets

          

          

          3,121

          

          

          

          0

          %

          

          

          4,077

          

          

          

          1

          %

          

          

          (956

          )

          

          

          -23

          %Total costs and expenses

          

          

          775,684

          

          

          

          103

          %

          

          

          797,319

          

          

          

          104

          %

          

          

          (21,635

          )

          

          

          -3

          %Loss from operations

          

          $

          (22,488

          )

          

          

          -3

          %

          

          $

          (33,871

          )

          

          

          -4

          %

          

          $

          (11,383

          )

          

          

          -34

          %
  *

          exclusive of depreciation and amortization Revenue Total revenue decreased by 1% for both the three and six months ended June 30, 2010. For 2010, we anticipate that our full year revenue will remain consistent relative to 2009. Based on continued investments which leverage next-generation IP-based technologies, we expect revenue from Legacy/TDM services, as a
 13    TABLE OF CONTENTS percentage of our total revenue, will continue to decline throughout 2010 as our sales and marketing efforts continue to focus on next-generation IP-based solutions. The projections for 2010 will be sensitive to influences in a challenging macro-economic environment and regulatory climate changes. Revenue was earned from services provided in the following categories (dollars in thousands):  Three Months Ended June 30,2010

          

          % of Revenue

          

          2009

          

          % of Revenue

          

          ChangeDollars

          

          PercentBroadband

          

          $

          219,963

          

          

          

          57

          %

          

          $

          195,361

          

          

          

          51

          %

          

          $

          24,602

          

          

          

          13

          %Integrated/Voice

          

          

          56,800

          

          

          

          15

          %

          

          

          74,533

          

          

          

          19

          %

          

          

          (17,733

          )

          

          

          -24

          %Legacy/TDM services

          

          

          106,883

          

          

          

          28

          %

          

          

          115,730

          

          

          

          30

          %

          

          

          (8,847

          )

          

          

          -8

          %Total revenue

          

          $

          383,646

          

          

          

          100

          %

          

          $

          385,624

          

          

          

          100

          %

          

          $

          (1,978

          )

          

          

          -1

          %
 Broadband.  During the three months ended June 30, 2010, we experienced continued growth in market demand for telecommunications services utilizing next generation Broadband technologies as evidenced by the 13% increase in revenue from our Broadband services compared to the year-ago period. This increase principally resulted from improvements in the IP VPN, IP Flex, Ethernet, Dedicated Private Line, and Dedicated Internet Access services, which collectively increased $24.4 million, or 15%, compared to the year-ago period. Growth in private line is attributable to continued benefit from previous augments to XOs long haul
transport network. The increases in IP VPN and Ethernet were driven by strong demand for secure, low-cost IP access. The increase in IP Flex was due to continued market demand shift away from TDM-based solutions. Offsetting the improvements in Broadband revenue was a $2.5 million decline in wholesale Carrier VoIP origination and termination due to targeted price increases implemented to improve margins on selected routes. Integrated/Voice.Integrated/Voice revenue decreased by $17.7 million, or 24%, during the three months ended June 30, 2010, compared to the year-ago period. This category contains more mature bundled data and voice offerings as well as traditional Carrier Long Distance Termination (CLDT). In addition to the continuing demand shift from older integrated voice and data offerings to Broadband-enabled solutions, CLDT decreased by $4.2 million compared to the year-ago period. The decline in CLDT was also due to targeted price increases implemented to improve margins on selected routes. Legacy/TDM Services.For the three months ended June 30, 2010, revenue from our Legacy/TDM services category decreased compared to the three months ended June 30, 2009 due primarily to declines in our legacy voice products including retail long distance usage. Our Legacy/TDM services comprise approximately one-third of our installed customer base and generate a considerable percentage of our revenue.  Six Months Ended June 30,2010

          

          % of Revenue

          

          2009

          

          % of Revenue

          

          ChangeDollars

          

          PercentBroadband

          

          $

          429,748

          

          

          

          57

          %

          

          $

          384,727

          

          

          

          51

          %

          

          $

          45,021

          

          

          

          12

          %Integrated/Voice

          

          

          112,726

          

          

          

          15

          %

          

          

          147,289

          

          

          

          19

          %

          

          

          (34,563

          )

          

          

          -23

          %Legacy/TDM services

          

          

          210,722

          

          

          

          28

          %

          

          

          231,432

          

          

          

          30

          %

          

          

          (20,710

          )

          

          

          -9

          %Total revenue

          

          $

          753,196

          

          

          

          100

          %

          

          $

          763,448

          

          

          

          100

          %

          

          $

          (10,252

          )

          

          

          -1

          %
 Broadband.  During the six months ended June 30, 2010, revenue from our Broadband services increased 12% compared to the year-ago period primarily due to increased revenue from our IP VPN, IP Flex, Dedicated Private Line, Ethernet, and DIA services. Revenue from these services increased by $45.2 million compared to the year-ago period. Growth in private line is attributable to continued benefit from previous augments to XOs long haul transport network. The increases in IP VPN and Ethernet were driven by strong demand for secure, low-cost IP access. The increase in IP Flex was due to continued market demand shift away from
TDM-based solutions. Offsetting the improvements in Broadband revenue was a $5.9 million decline in wholesale Carrier VoIP origination and termination due to targeted price increases implemented to improve margins on selected routes.
 14    TABLE OF CONTENTS Integrated/Voice.  Integrated/Voice revenue decreased by $34.6 million, or 23%, during the six months ended June 30, 2010, compared to the year-ago period. Integrate/Voice revenue decreased due principally to the decrease in traditional TDM-based integrated solutions as part of the demand shift from XOptions to Broadband-enabled solutions. Also adding to the decline was an $8.7 million, or 18%, decrease in CLDT revenue for the six months ended June 30, 2010 compared to the year-ago period due to targeted price increases implemented to improve margins on selected routes. Legacy/TDM Services.  For the six months ended June 30, 2010, revenue from our Legacy/TDM services category decreased compared to the six months ended June 30, 2009 due primarily to the $20.7 million, or 9%, decline in our legacy voice products. We believe certain Legacy/TDM services are an important part of our overall service mix; however, we expect revenue from Legacy/TDM services to decline as a percentage of our total revenue during 2010 as our sales and marketing efforts continue to primarily focus on next-generation Broadband solutions. Cost of Service Our cost of service (COS) includes telecommunications services costs, network operations costs and pass-through taxes. Telecommunication services costs include expenses directly associated with providing services to customers, such as the cost of connecting customers to our network via leased facilities, leasing components of network facilities and interconnect access and transport services paid to third-party service providers. Network operations includes costs related to network repairs and maintenance, costs to maintain rights-of-way and building access facilities, and certain functional costs related to engineering, network, system
delivery, field operations and service delivery. Pass-through taxes are taxes we are assessed related to selling our services which we pass through to our customers. COS excludes depreciation and amortization expense. The following table summarizes our COS by component (dollars in thousands):  Three Months Ended June 30,

          

          Change2010

          

          % of Revenue

          

          2009

          

          % of Revenue

          

          Dollars

          

          PercentTelecommunications services

          

          $

          157,137

          

          

          

          41

          %

          

          $

          165,990

          

          

          

          43

          %

          

          $

          (8,853

          )

          

          

          -5

          %Network operations

          

          

          48,599

          

          

          

          13

          %

          

          

          49,766

          

          

          

          13

          %

          

          

          (1,167

          )

          

          

          -2

          %Pass-through taxes

          

          

          13,131

          

          

          

          3

          %

          

          

          13,809

          

          

          

          4

          %

          

          

          (678

          )

          

          

          -5

          %Total cost of services

          

          $

          218,867

          

          

          

          57

          %

          

          $

          229,565

          

          

          

          60

          %

          

          $

          (10,698

          )

          

          

          -5

          %
 The COS decrease for the three months ended June 30, 2010 compared to the same period in 2009 was mainly due to the decrease in telecommunications services costs in both dollars and as a percentage of total revenue. The primary factors that contributed to the period over period decrease were $10.3 million of incremental cost savings achieved through planned network optimization projects completed as of June 30, 2010 and a $20.1 million decline in the cost of terminating wholesale long distance usage as a result of traffic terminating to lower cost locations. These decreases were partially offset by an $8.0 million incremental increase in the volume of
wholesale long distance usage costs, and an $8.9 million growth in sales of our IP and data service lines. Additionally, we recognized a $4.6 million decrease in cost benefit from net changes in dispute balances and other accrued liabilities, relative to the year-ago period. Network optimization projects are initiatives and actions we take to reduce our costs associated with providing telecommunications services to our customers. Network optimization projects include rehoming circuits to the nearest network POP, hubbing circuits onto the same transport facility, moving network facilities to lower cost providers, disconnecting capacity from third party providers which is no longer required and other similar actions which vary in type, size and duration. Pass-through taxes decreased by 5% for the three months ended June 30, 2010. This decrease resulted from a reduction in certain regulatory fees, partially offset by an increase in pass-through tax rates.
 15    TABLE OF CONTENTS  Six Months Ended June 30,

          

          Change2010

          

          % of Revenue

          

          2009

          

          % of Revenue

          

          Dollars

          

          PercentTelecommunications services

          

          $

          302,129

          

          

          

          40

          %

          

          $

          324,229

          

          

          

          43

          %

          

          $

          (22,100

          )

          

          

          -7

          %Network operations

          

          

          98,080

          

          

          

          13

          %

          

          

          99,804

          

          

          

          13

          %

          

          

          (1,724

          )

          

          

          -2

          %Pass-through taxes

          

          

          27,133

          

          

          

          4

          %

          

          

          25,536

          

          

          

          3

          %

          

          

          1,597

          

          

          

          6

          %Total cost of services

          

          $

          427,342

          

          

          

          57

          %

          

          $

          449,569

          

          

          

          59

          %

          

          $

          (22,227

          )

          

          

          -5

          %
 The telecommunications services decrease for the six months ended June 30, 2010 compared to the same period in 2009 was due primarily to $43.2 million of incremental cost savings achieved through planned network optimization projects completed as of June 30, 2010 and a $28.7 million decline in the cost of terminating wholesale long distance usage as a result of traffic terminating to lower cost locations. These decreases were partially offset by $36.8 million of growth in sales of our Broadband service lines and the $1.5 million incremental increase in the volume of wholesale long distance usage costs. Additionally, during 2010, we recognized an $8.5
million decrease in cost benefit related to net changes in dispute balances and other accrued liabilities, relative to the year-ago period. Pass-through taxes increased by 6% for the six months ended June 30, 2010 compared to the year-ago period due to an increase in pass-through tax rates, partially offset by a reduction in certain regulatory fees. While we continue to undertake initiatives and actions to reduce the cost of providing service to our customers, we expect the cost savings from network optimization projects to decline in 2010 compared to 2009. Overall, excluding the effects of future dispute settlements, if any, we expect our cost of service as a percentage of revenue for 2010 will remain relatively consistent with 2009. Selling, General and Administrative For the three months ended June 30, 2010, SG&A increased by $5.3 million compared to the same period in 2009. In addition, for the six months ended June 30, 2010, SG&A increased by $6.0 million compared to the same period in 2009. The respective increases were primarily due to changes in employee benefit programs, partially offset by a decline in bad debt expense due to improved collections experience. We plan on continuing to invest in the resources and infrastructure necessary to help grow and support our business units during 2010 while continuing to realize cost savings. Our goal during 2010 is to decrease SG&A as a percentage of revenue through continuation of company-wide expense reduction measures. Impairment of LMDS Licenses As a result of the impairment evaluation performed for our LMDS licenses resulting from the integration of our Nextlink operations into our existing product offerings, it was determined that the fair value of our LMDS licenses was less than its carrying value. Consequently, the carrying value of our LMDS licenses was reduced by $8.3 million in the quarter ended June 30, 2009. Interest Income (Expense), net Interest income, net for the three months ended June 30, 2009 primarily relates to interest earned on debt securities of approximately $3.6 million and capitalized interest of $0.4 million. These amounts were partially offset by imputed interest under our capital lease. Interest income, net for the six months ended June 30, 2009 primarily relates to interest earned on debt securities of approximately $7.5 million and capitalized interest of $0.9 million. These amounts were partially offset by imputed interest under our capital lease. As of December 31, 2009, we sold all of our investments in debt securities; therefore, no interest was earned related to these securities during the three and six months ended June 30, 2010. Investment Gain, Net We recognized net investment gains of $5.4 million for both the three and six months ended June 30, 2010. This gain resulted from the receipt of a $5.4 million distribution related to a legal matter regarding our holding of certain debt securities.
 16    TABLE OF CONTENTS We recognized net investment gains of $8.3 million and $18.0 million for the three and six months ended June 30, 2009, respectively. Net investment gains for the three months ended June 30, 2009 principally resulted from realized gains from the sale of available-for-sale securities. For the six months ended June 30, 2009, net investment gains principally resulted from $11.7 million of realized gains from the sale of available-for-sale marketable securities and the receipt of a $5.8 million distribution related to a legal matter regarding our holding of certain debt securities. Capital Expenditures  Six Months Ended June 30,

          

          Dollars

          

          % of Revenue(in thousands)2010

          

          $

          121,764

          

          

          

          16

          %2009

          

          $

          91,720

          

          

          

          12

          %
 Capital expenditures increased for the six months ended June 30, 2010 compared to the year-ago period due to increased investment in customer based capital to drive future revenue growth, as well as increased capital investment intended to improve network efficiency. We plan to spend between $80.0 million and $100.0 million on additional capital expenditures during the remainder of 2010 for continued investment in our networks and Ethernet and Broadband services, expansion into new markets and continuation of our transformation initiative. Liquidity and Capital Resources In 2008, after an extensive review of our business and operations with the assistance of outside advisers, we commenced an enterprise-wide transformation plan intended to enhance shareholder value through focusing on improving service delivery, accelerating Broadband revenue growth, and reducing our operating costs. In conjunction with this implementation, we have invested in new network infrastructure and have sought to develop new service offerings and to expand our customer base in high-growth markets. While this transformation plan has required, and will continue to require, significant capital expenditures, we continue to
believe that it is the optimal, and perhaps the only, way for us to remain competitive in the long term with much larger telecommunications and cable companies. In this regard, we will continue to require significant capital expenditures to enhance, maintain and operate our fiber network. We also believe in the current economic environment and the highly competitive telecommunications industry, certain opportunities may exist today that may not recur such as, but not limited to, the acquisition of other telecommunications services providers. For all the above reasons, we intend to seek to raise appropriate levels of capital in the near future. We continue to explore various alternatives to obtain additional capital. While we intend to explore every alternative, including high yield debt, we continue to believe, based on past experience, that an issuance of high yield debt would be deleterious to XOH for the following reasons: 1) the high cost of such debt would negatively affect our ability to compete in the current highly competitive telecommunications environment; and 2) the burdensome restrictive covenants associated with such debt would impair our ability to pursue potential strategic investments and to take advantage of other opportunities which may be necessary for us to compete in
such environment. Based on our current level of operations, we believe that cash flow from operations as well as cash on hand will enable us to meet our working capital and other obligations for at least the next 12 months. However, we believe that additional capital is necessary to continue to implement our transformation plan and also give us resources to take advantage of opportunities which may arise for strategic growth. Our ability to fund our capital needs depends on our future operating performance and cash flow, which are subject to prevailing economic conditions and other factors, many of which are beyond our control. Heretofore, we have not
generated sufficient free cash flows to allow us to continue to fully fund our transformation plan or to pursue other strategic opportunities. Redemption of Class A Convertible Preferred Stock The terms of our Class A preferred stock provided that on January 15, 2010, we redeem in cash and in a manner provided for therein all of the shares of Class A preferred stock then outstanding at a redemption price equal to 100% of its liquidation preference. On February 5, 2009, ACF Holding, an affiliate of our Chairman,
 17    TABLE OF CONTENTS agreed to extend the date on which we would be required to redeem the shares of Class A preferred stock held by ACF Holding (the ACF Holding Shares) from January 15, 2010 to a date no later than April 15, 2010. The extension did not affect the redemption date of any of the shares of Class A preferred stock other than the ACF Holding Shares. On July 9, 2009, we purchased and retired 304,314 shares of our Class A preferred stock from entities unaffiliated with our Chairman at an aggregate purchase price of approximately $18.4 million. On January 15, 2010, we redeemed and retired all 599,137 shares of Class A preferred stock held by entities unaffiliated with our Chairman for cash at a redemption price equal to 100% of the aggregate liquidation preference of $41.4 million as of such date. In accordance with the agreement with ACF Holding extending the redemption date for the ACF Holding Shares, on April 15, 2010, we redeemed and retired the remaining 3,096,549 ACF Holding Shares for cash at
a redemption price equal to 100% of the aggregate liquidation preference for such shares of $217.5 million as of such date. As of June 30, 2010, there were no shares of Class A preferrred stock outstanding. Cash Flow As of June 30, 2010, our balance of cash and cash equivalents was $66.6 million, a decrease of $296.5 million from December 31, 2009. The primary reason for this decrease was redemption of 599,137 shares of Class A preferred stock on January 15, 2010 for an aggregate redemption price of $41.4 million and the redemption of 3,096,549 shares of Class A preferred stock on April 15, 2010 for an aggregate redemption price of $217.5 million. We invested all of our cash provided by operations in strategic, growth-related capital expenditure investments to grow revenue through enhancing our next generation broadband network. As part of plans to grow our
business, during the first half of 2010 we continued the investments in our long-haul fiber optic network as well as our Ethernet and Broadband services. We expect our growth-related capital expenditures will continue to outpace our cash inflows from operations during 2010. The following table summarizes the components of our cash flows for the six months ended June 30 (in thousands):  2010

          

          2009Cash provided by operating activities

          

          $

          80,988

          

          

          $

          61,434Cash used in investing activities

          

          $

          (116,273

          )

          

          $

          (34,332

          )Cash used in financing activities

          

          $

          (261,234

          )

          

          $

          (1,964

          )
 Operating Activities.  The increase in cash provided by operating activities for the six months ended June 30, 2010 compared to the same period in 2009 was related primarily to the $22.8 million improvement in working capital cash flow. Investing Activities.  The $81.9 million increase in cash used in investing activities was primarily due to the $51.9 million period-over-period decline in proceeds from the sale of available-for-sale marketable securities. The marketable securities balance at June 30, 2010 was $1.3 million. Therefore, investment gains comparable to those recognized in 2009 are not anticipated for 2010. Also contributing to the increase in cash used in investing activities was a $30.0 million increase in capital expenditures. We plan to spend between $80.0 million and $100.0 million on additional capital expenditures during the remainder of 2010 for
continued investment in our networks and Ethernet and Broadband services, expansion into new markets and continuation of our transformation initiative. Without these expenditures, we believe it would be difficult to continue to effectively compete against the ever increasing pressures from the other telecommunications service providers. Financing Activities.  The primary use of cash for financing activities for the six months ended June 30, 2010 was the purchase and retirement of all remaining shares of our Class A preferred stock for $258.9 million. Regulatory For additional information regarding the regulatory matters affecting our business, see Regulatory subheading in Item 1, Business of our 2009 Annual Report. Other than as discussed below, during the three months ended June 30, 2010, there was no new material activity related to regulatory matters.
 18    TABLE OF CONTENTS Additional Federal Regulations Verizon and Qwest Petitions for Forbearance from Unbundling Requirements.  On September 6, 2006 and on April 27, 2007, pursuant to section 10 of the Communications Act of 1934, as amended (the Communications Act), the regulated, wholly owned subsidiaries of Verizon Communications, Inc. (collectively Verizon) and Qwest Corporation (Qwest), respectively, filed petitions for forbearance from loop and transport unbundling obligations imposed by section 251(c), price cap regulations, dominant carrier tariff regulation, computer III requirements, and section 214 dominant carrier regulations. Verizon
sought relief in six markets: Boston; New York; Pittsburgh; Philadelphia; Providence, RI and Virginia Beach, VA. Qwests request included relief in four markets: Denver; Minneapolis; Phoenix and Seattle. On December 4, 2007, the Federal Communications Commission (FCC), in a unanimous decision, found that the current evidence of competition does not satisfy the section 10 forbearance standard with respect to any of Verizons requests. Accordingly, the Commission denied the requested relief in all six MSAs. On January 14, 2008, Verizon filed an appeal in the United States Court of Appeals for the DC Circuit (DC Circuit). On July 25, 2008, in a unanimous decision, the FCC adopted a Memorandum Opinion and Order denying Qwests four petitions in their entirety. On July 29, 2008, Qwest filed an appeal of the FCCs decision with the United States Court of Appeals for the DC Circuit. We intervened in the appeals of the FCCs decisions in the
Verizon and Qwest Forbearance cases in support of the FCC. On June 19, 2009, the DC Circuit ruled on Verizons appeal, remanding to the FCC a very limited question regarding how the FCC reached its rejection of the forbearance petitions  but not overturning the actual decision. While the Qwest appeal is still pending in the DC Circuit, on July 17, 2009, the FCC asked the DC Circuit to remand the pending Qwest appeal back to the FCC so that the issues in the Qwest forbearance case can be decided simultaneously with the remand of the Verizon forbearance case. In addition, on March 24, 2009, Qwest re-filed its petition for forbearance for the Phoenix market, citing greater intermodal competition since July 25, 2008 when the FCC rejected Qwests first petition for forbearance for the Phoenix market. The FCC asked interested parties to file comments and reply on both the Verizon and Qwest remand docket as well as the Qwest re-filed Phoenix petition by September 21, 2009 and
October 21, 2009, respectively. On April 15, 2010, the FCC released a Public Notice in the Qwest re-filed Phoenix docket asking parties to comment on a market share based test to analyze whether forbearance should be granted. On June 22, 2010, the FCC released an order denying Qwests re-filed request for forbearance in the Phoenix market and adopted a market share-based test for analysis of forbearance decisions relevant to unbundled network elements. The FCC concluded Qwest had failed to demonstrate forbearance was warranted pursuant to this analysis. On July 30, 2010, Qwest filed a petition for review of the FCCs decision in the Phoenix docket with the United State Court of Appeals for the 10th Circuit. It is not possible to predict the outcome of, or potential effect upon, our operations of Qwests appeal of the FCCs decision in the Phoenix docket or of the pending Verizon and Qwest remand docket. Additional State and Local Regulation XOCS Complaints Against Verizon.  On April 18, 2008, XO Communications Services, Inc. (XOCS) an indirect subsidiary of XOH, filed a formal complaint against Verizon Pennsylvania Inc. before the Pennsylvania Public Utilities Commission. In the Pennsylvania complaint, XOCS claimed that Verizon was erroneously, and in violation of its tariffs, assessing switched access dedicated tandem trunk port charges on local interconnection trunks used to jointly provide switched access services to third party interexchange carriers. In Pennsylvania, evidentiary hearings have been held, and briefs have been submitted. On June 26, 2010,
the administrative law judges recommended decision was issued in which he determined that Verizon acted illegally by imposing dedicated tandem port charges for local interconnection trunks on XO and any other CLEC which elected to subtend Verizons access tandem switch for the transmission and routing of long distance traffic. Additionally, the administrative law judge found XO (as well as any other similarly situated CLEC) is entitled to a refund with interest at the legal rate from the date each payment was made. On July 14, 2010 Verizon filed Exceptions in which Verizon stated that it did not object to the substantive conclusions of the recommended decision resolving XOs complaint. XO filed Reply Exceptions on July 26, 2010. The Pennsylvania Commission will issue a final decision in this matter at a later date. As such, the final outcome of the XOCS complaint proceeding in Pennsylvania is not known at this time.
 19    TABLE OF CONTENTS On December 14, 2009, XOCS filed a formal complaint against Verizon New Jersey before the New Jersey Board of Public Utilities (the BPU). On April, 29, 2010, XOCS filed a notice of voluntary withdrawal to dismiss XOCS complaint against Verizon New Jersey. The notice of voluntary withdrawal was the final action in the docket and ends the complaint. Qwest Complaints Against XO.  On June 24, 2008, Qwest Communications Corporation (QCC) filed a formal complaint against XOCS and numerous other telecommunications providers before the Public Utilities Commission of the State of Colorado. On August 1, 2008, QCC filed a formal complaint against XOCS and numerous other telecommunications providers before the Public Utilities Commission for the State of California. On July 2, 2009, QCC filed a formal complaint against XOCS and numerous other telecommunications providers before the Public Service Commission for the State of New York. On December 11, 2009, QCC filed a formal
complaint against XOCS and numerous other telecommunications providers before the Public Service Commission of the State of Florida. In the complaints, QCC claimed that XOCS and the other telecommunications providers violated state statutes and regulations and, in certain cases the providers respective tariffs, subjecting QCC to unjust and unreasonable rate discrimination in connection with the provision of intrastate access services. On August 1, 2008, September 22, 2008, August 27, 2009 and January 29, 2010, XOCS filed its answers to the Colorado, California, New York and Florida complaints, respectively, denying QCCs claims and setting forth affirmative defenses. On August 1, 2010 the California Public Utilities Commission issued a decision dismissing Qwests complaint against XO and numerous other telecommunications providers. Qwest can file a petition for rehearing within 30 days of issuance of the decision. It is not known at this time whether Qwest will seek
rehearing of the California decision, and the likely outcomes of the proceedings pending before the commissions in Colorado, New York and Florida are not known at this time. Item 3. Quantitative and Qualitative Disclosures about Market Risk. There have been no material changes in our market risks during the three months ended June 30, 2010. For additional information regarding market risk, see our Annual Report on Form 10-K for the year ended December 31, 2009. Item 4. Controls and Procedures. Disclosure Controls and Procedures We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our periodic reports pursuant to the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow for timely decisions regarding required financial disclosures. We carried out an evaluation, under the supervision and with the participation of our management including our principal executive officer and principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Exchange Act Rules 13a-15(e) or 15d-15(e) as of the end of the period covered by this report. Based on this evaluation, our principal executive officer and our principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report. Changes in Internal Controls There were no changes in our internal control over financial reporting during the quarter ended June 30, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
 20    TABLE OF CONTENTS PART II. OTHER INFORMATION Item 1. Legal Proceedings. XOH is involved in lawsuits, claims, investigations and proceedings consisting of commercial, securities, tort and employment matters, which arise in the ordinary course of its business. XOH believes it has adequate provisions for any such matters. We review these provisions at least quarterly and adjust these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular case. Litigation is inherently unpredictable. However, we believe that we have valid defenses with respect to legal matters pending against us. Nevertheless, it is possible that cash flows or
results of operations could be materially and adversely affected in any particular period by the unfavorable resolution of one or more of these contingencies. Legal costs related to litigation in these matters are expensed as incurred. R2 Derivative Litigation On April 28, 2009, R2 Investments, LDC filed a complaint in the Supreme Court of the State of New York (New York County) naming individual members of the Companys Board of Directors and certain entities controlled by Carl C. Icahn, the Chairman of the Companys Board of Directors and majority shareholder, as defendants and naming the Company as the nominal defendant in connection with derivative claims. The plaintiff alleges that the defendants breached fiduciary duties in connection with the financing transaction consummated in July 2008 and other related matters. The complaint seeks equitable relief as well as damages in an unspecified
amount. On July 24, 2009 the Defendants filed a Motion to Dismiss the Complaint, which was denied on December 10, 2009. On April 23, 2010, defendants filed an answer to the complaint. On May 10, 2010, the defendants filed a summary judgment motion. Discovery in this case is ongoing. The effect of this case on the Company, if any, is not known at this time. Hillenmeyer Derivative Litigation On July 21, 2009, an XOH shareholder, Don Hillenmeyer, filed under seal in the Delaware Court of Chancery a Complaint titled Verified Derivative and Class Action Complaint. On August 6, 2009, XOH filed a redacted version of the Complaint in the Chancery Court. The Complaint names as defendants individual members of the Companys Board of Directors and ACF Industries Holding Corp. (ACF Holding), an entity controlled by Carl C. Icahn, the Chairman of our Board of Directors and majority shareholder, and names XOH as the nominal defendant. The Complaint challenges, among other things, ACF Holdings then-recent proposal to
acquire all of the outstanding XOH common shares which it does not already own, and alleges various breaches of fiduciary duties. The parties have entered into a Stipulation and Order Extending Time to Answer and agreed to stay proceeding with the case until Plaintiff filed an Amended Complaint. On December 15, 2009, based on plaintiffs motion, the court entered an order dismissing that portion of the suit that sought to enjoin ACF Holdings July 9, 2009 proposal to acquire all of the shares of XO common stock that ACF Holding and its affiliates did not already own. On January 7, 2010 the Defendants filed a motion to stay or dismiss the remaining portion of the suit in favor of the NY litigation (R-2 v. Icahn et al). On January 26, 2010, Plaintiff filed an Amended Complaint. On February 18, 2010, Defendants filed a supporting brief for its motion to dismiss. On May 28, 2010 the Court dismissed the case without prejudice. Zheng Derivative Class Action Litigation On or about June 3, 2010, Youlu Zheng filed a class action complaint in the Supreme Court of the State of New York, County of New York alleging that the defendants breached fiduciary duties in connection with the financing transaction consummated in July 2008 and other related matters. The plaintiffs request that the court rescind the July 2008 financing transaction, award compensatory damages to the class of plaintiffs, award the plaintiff expenses, costs and attorneys fees, and impose a constructive trust in favor of the plaintiff and the class upon benefits improperly received by the defendants. The case is under consideration and the effect
of this case on the Company, if any, is not known at this time.
 21    TABLE OF CONTENTS Item 1A. Risk Factors A description of the risks associated with our business and operations is set forth in Part I, Item 1A Risk Factors of our 2009 Annual Report. There have been no material changes in our risks from such description. Item 5. Other Information None. Item 6. Exhibits.  3.1

          

          Certificate of Incorporation of XO Holdings, Inc., as filed with the Secretary of State of the State of Delaware on October 25, 2005 (incorporated herein by reference to exhibit 3.1 filed with the Current Report on Form 8-K of XO Holdings, Inc., filed on March 6, 2006)3.2

          

          Certificate of Designation of the Powers, Preferences and Relative, Participating, Optional and other Special Rights of the 6% Class A Convertible Preferred Stock and Qualifications, Limitations and Restrictions thereof, as filed with the Secretary of State of the State of Delaware on February 28, 2006 (incorporated herein by reference to exhibit 3.2 filed with the Current Report on Form 8-K of XO Holdings, Inc., filed on March 6, 2006)3.3

          

          Bylaws of XO Holdings, Inc. (incorporated herein by reference to exhibit 3.3 filed with the Current Report on Form 8-K of XO Holdings, Inc., filed on March 6, 2006)10.1

          

          XO Holdings, Inc. 2010 Annual Executive Bonus Plan (filed herewith)22.1

          

          Submission of Matters to a Vote of Security Holders (incorporated herein by reference to the Current Report on Form 8-K of XO Holdings, Inc., filed on June 22, 2010)31.1

          

          Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act, as amended (filed herewith)31.2

          

          Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act, as amended (filed herewith)32.1

          

          Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of Sarbanes-Oxley Act of 2002 (filed herewith)
 22    TABLE OF CONTENTS SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.  Date: August 16, 2010

          

          XO HOLDINGS, INC.By:/s/ Laura W. ThomasLaura W. Thomas Senior Vice President and Chief Financial Officer (Principal Financial Officer)
 23