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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549


FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2003

Commission file number: 0-30900

XO Communications, Inc.



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(Exact name of registrant as specified in its charter)


|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 54-1983517                          
|                                                               |  |                                     
|(State or other jurisdiction of
incorporation or organization) |  | (I.R.S. Employer
Identification No.)

|                                         |  |  |            | 
|---------------------------------------- |  |  | ---------- | 
|11111 Sunset Hills Road, Reston, VA      |  |  | 20190      | 
|                                         |  |  |            | 
|(Address of principal executive offices) |  |  | (Zip Code) | 

(703) 547-2000

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(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 [  ]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). YES [X] NO [  ]

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE
PRECEDING FIVE YEARS:

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

As of October 28, 2003, the number of shares of common stock of XO
Communications, Inc. issued and outstanding was 96.2 million.





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XO Communications, Inc. and Subsidiaries
Index to Form 10-Q

|                              |                                                                                               |                                                                                                                                                                                                             |    |      |   | 
|----------------------------- | --------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -- | ---- | - | 
|                              |                                                                                               |                                                                                                                                                                                                             |    | Page
|                              |                                                                                               |                                                                                                                                                                                                             |    |     
|Part I. Financial Information |                                                                                               |                                                                                                                                                                                                             |    |     
|                              | Item 1. XO Communications, Inc. and Subsidiaries Condensed Consolidated Financial Statements  |                                                                                                                                                                                                             |    |      |  
|                              |                                                                                               | Condensed Consolidated Balance Sheets for Reorganized XO as of September 30, 2003 and January 1, 2003 and for Predecessor XO as
of December 31, 2002                                                        |    |      | 1 | 
|                              |                                                                                               | Condensed Consolidated Statements of Operations for Reorganized XO for the Three Months Ended September 30, 2003 and for Predecessor XO
for the Three Months Ended September 30, 2002                       |    |      | 2 | 
|                              |                                                                                               | Condensed Consolidated Statements of Operations for Reorganized XO for the Nine Months Ended September 30, 2003 and for Predecessor XO
for January 1, 2003 and for the Nine Months Ended September 30, 2002 |    |      | 3 | 
|                              |                                                                                               | Condensed Consolidated Statements of Cash Flows for Reorganized XO for the Nine Months Ended September 30, 2003 and for Predecessor XO
for January 1, 2003 and for the Nine Months Ended September 30, 2002 |    |      | 4 | 
|                              |                                                                                               | Notes to Condensed Consolidated Financial Statements                                                                                                                                                        |    |      | 5 | 
|                              | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations |                                                                                                                                                                                                             |    | 19   |  
|                              | Item 3. Quantitative and Qualitative Disclosures about Market Risk                            |                                                                                                                                                                                                             |    | 36   |  
|                              | Item 4. Controls and Procedures                                                               |                                                                                                                                                                                                             |    | 36   |  
|Part II. Other Information    |                                                                                               |                                                                                                                                                                                                             |    |     
|                              | Item 1. Legal Proceedings                                                                     |                                                                                                                                                                                                             |    | 36   |  
|                              | Item 2. Changes in Securities and Use of Proceeds                                             |                                                                                                                                                                                                             |    | 36   |  
|                              | Item 3. Defaults Upon Securities                                                              |                                                                                                                                                                                                             |    | 37   |  
|                              | Item 4. Submission of Matters to a Vote of Security Holders                                   |                                                                                                                                                                                                             |    | 37   |  
|                              | Item 5. Other Information                                                                     |                                                                                                                                                                                                             |    | 37   |  
|                              | Item 6. Exhibits and Reports on Form 8-K                                                      |                                                                                                                                                                                                             |    | 37   |  
|Signatures                    |                                                                                               |                                                                                                                                                                                                             | 39 |     
|Certifications                |                                                                                               |                                                                                                                                                                                                             | 40 |     

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

XO Communications, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(Amounts in thousands, except for share and per share data)

|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |            |            |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ---------------------------------------------------- | ------- | -------------- | --------- | -------------- | ------- | -------------- | --------- |  | --------- | ---------- | ---------- | -
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         | Reorganized XO |           | Reorganized XO |         | Predecessor XO
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         | September 30,  |           | January 1,     |         | December 31,  
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         | 2003           |           | 2003           |         | 2002          
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |               
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         | (Unaudited)    |           | (Unaudited)    |         |                |           | 
|ASSETS                                                                                                                                                                                                             |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|Current assets:                                                                                                                                                                                                    |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   | Cash and cash equivalents                                                                                                                                                                                                      |                                                      | $       | 361,619        |           |                | $       | 314,038        |           |  | $         | 314,038    |           
|                                                                                                                                                                                                                   | Marketable securities                                                                                                                                                                                                          |                                                      |         |               |           |                |         | 246,945        |           |  |           | 246,945    |           
|                                                                                                                                                                                                                   | Investment in debt securities                                                                                                                                                                                                  |                                                      |         | 158,516        |           |                |         |               |           |  |           |           |           
|                                                                                                                                                                                                                   | Accounts receivable, net of allowance for doubtful
accounts of $35,456 at September 30, 2003 and
$37,030, at January 1, 2003 and at December 31, 2002,
respectively                                                            |                                                      |         | 108,618        |           |                |         | 116,541        |           |  |           | 116,541    |           
|                                                                                                                                                                                                                   | Other current assets                                                                                                                                                                                                           |                                                      |         | 16,441         |           |                |         | 35,192         |           |  |           | 83,480     |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                | Total current assets                                 |         |                | 645,194   |                |         |                | 712,716   |  |           |            | 761,004    |  
|Property and equipment, net                                                                                                                                                                                        |                                                                                                                                                                                                                                |                                                      | 474,640 |                |           |                | 476,588 |                |           |  | 2,780,589 |           
|Fixed wireless licenses and other intangibles, net                                                                                                                                                                 |                                                                                                                                                                                                                                |                                                      | 116,056 |                |           |                | 135,678 |                |           |  | 984,614   |           
|Other assets, net                                                                                                                                                                                                  |                                                                                                                                                                                                                                |                                                      | 45,749  |                |           |                | 23,108  |                |           |  | 59,289    |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                | Total assets                                         |         | $              | 1,281,639 |                |         | $              | 1,348,090 |  |           | $          | 4,585,496  |  
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |            |           
|LIABILITIES AND STOCKHOLDERS EQUITY (DEFICIT)                                                                                                                                                                     |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|Current liabilities:                                                                                                                                                                                               |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   | Accounts payable                                                                                                                                                                                                               |                                                      | $       | 57,685         |           |                | $       | 67,268         |           |  | $         | 63,729     |           
|                                                                                                                                                                                                                   | Accrued liabilities                                                                                                                                                                                                            |                                                      |         | 224,000        |           |                |         | 235,192        |           |  |           | 266,102    |           
|                                                                                                                                                                                                                   | Current liabilities subject to compromise                                                                                                                                                                                      |                                                      |         |               |           |                |         |               |           |  |           | 5,497,207  |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                | Total current liabilities                            |         |                | 281,685   |                |         |                | 302,460   |  |           |            | 5,827,038  |  
|Long-term debt                                                                                                                                                                                                     |                                                                                                                                                                                                                                |                                                      | 526,824 |                |           |                | 500,000 |                |           |  |          |           
|Other long-term liabilities                                                                                                                                                                                        |                                                                                                                                                                                                                                |                                                      | 73,171  |                |           |                | 70,630  |                |           |  |          |           
|Long-term liabilities not subject to compromise                                                                                                                                                                    |                                                                                                                                                                                                                                |                                                      |        |                |           |                |        |                |           |  | 75,242    |           
|Long-term liabilities subject to compromise                                                                                                                                                                        |                                                                                                                                                                                                                                |                                                      |        |                |           |                |        |                |           |  | 7,182     |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                | Total liabilities                                    |         |                | 881,680   |                |         |                | 873,090   |  |           |            | 5,909,462  |  
|Predecessor XO redeemable preferred stock: par value
$0.01 per share, 25,000,000 shares authorized: 7,856,918
shares issued and outstanding, aggregate liquidation
preference of $1,693,293, subject to compromise |                                                                                                                                                                                                                                |                                                      |        |                |           |                |        |                |           |  | 1,708,316 |           
|Commitments and contingencies                                                                                                                                                                                      |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|Stockholders equity (deficit):                                                                                                                                                                                    |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   | Reorganized XO preferred stock, par value $0.01 per
share, 200,000,000 shares authorized: none issued                                                                                                                          |                                                      |         |               |           |                |         |               |           |  |           |           |           
|                                                                                                                                                                                                                   | Reorganized XO common stock, par value $0.01 per
share, 1,000,000,000 shares authorized: 96,176,290 and
95,000,001 shares issued and outstanding on September
30, 2003 and January 1, 2003, respectively                       |                                                      |         | 481,877        |           |                |         | 475,000        |           |  |           |           |           
|                                                                                                                                                                                                                   | Predecessor XO common stock, par value $0.02 per
share, Class A, 1,000,000,000 shares authorized,
331,033,219 shares issued and outstanding; Class B,
120,000,000 shares authorized, 104,423,158 shares
issued and outstanding |                                                      |         |               |           |                |         |               |           |  |           | 4,628,139  |           
|                                                                                                                                                                                                                   | Deferred compensation                                                                                                                                                                                                          |                                                      |         | (807           | )         |                |         |               |           |  |           | (8,500     | )         
|                                                                                                                                                                                                                   | Accumulated other comprehensive income                                                                                                                                                                                         |                                                      |         |               |           |                |         |               |           |  |           | 2,512      |           
|                                                                                                                                                                                                                   | Accumulated deficit                                                                                                                                                                                                            |                                                      |         | (81,111        | )         |                |         |               |           |  |           | (7,654,433 | )         
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                | Total stockholders equity (deficit)                 |         |                | 399,959   |                |         |                | 475,000   |  |           |            | (3,032,282 | )
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |           
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                | Total liabilities and stockholders equity (deficit) |         | $              | 1,281,639 |                |         | $              | 1,348,090 |  |           | $          | 4,585,496  |  
|                                                                                                                                                                                                                   |                                                                                                                                                                                                                                |                                                      |         |                |           |                |         |                |           |  |           |            |           

See accompanying notes to the unaudited condensed consolidated financial statements.

1



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XO Communications, Inc. and Subsidiaries
Condensed Consolidated Statements of Operations
(Amounts in thousands, except for share and per share data)
(Unaudited)

|                                                                                                        |                                                              |                          |            |                |         |                |             |         |         | 
|------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------ | ------------------------ | ---------- | -------------- | ------- | -------------- | ----------- | ------- | ------- | 
|                                                                                                        |                                                              |                          |            | Reorganized XO |         | Predecessor XO
|                                                                                                        |                                                              |                          |            | Three months   |         | Three months  
|                                                                                                        |                                                              |                          |            | ended          |         | ended         
|                                                                                                        |                                                              |                          |            | September 30,  |         | September 30, 
|                                                                                                        |                                                              |                          |            | 2003           |         | 2002          
|                                                                                                        |                                                              |                          |            |                |         |               
|Revenue                                                                                                 |                                                              | $                        | 279,433    |                |         | $              | 301,526     |        
|Costs and expenses:                                                                                     |                                                              |                          |            |                |         |                |             |        
|                                                                                                        | Cost of service (exclusive of depreciation and amortization) |                          |            | 106,935        |         |                |             | 126,215 |        
|                                                                                                        | Selling, operating, and general                              |                          |            | 179,795        |         |                |             | 175,030 |        
|                                                                                                        | Stock-based compensation                                     |                          |            | 193            |         |                |             | 8,776   |        
|                                                                                                        | Depreciation and amortization                                |                          |            | 28,388         |         |                |             | 187,256 |        
|                                                                                                        | Restructuring and asset write-downs                          |                          |            |               |         |                |             | 477,250 |        
|                                                                                                        |                                                              |                          |            |                |         |                |             |        
|                                                                                                        |                                                              | Total costs and expenses |            |                | 315,311 |                |             |         | 974,527 | 
|Loss from operations                                                                                    |                                                              |                          | (35,878    | )              |         |                | (673,001    | )      
|Interest income                                                                                         |                                                              |                          | 980        |                |         |                | 3,840       |        
|Interest expense, net (contractual interest was $128,546 for
the three months ended September 30, 2002) |                                                              |                          | (5,889     | )              |         |                | (641        | )      
|Reorganization expense, net                                                                             |                                                              |                          |           |                |         |                | (25,407     | )      
|                                                                                                        |                                                              |                          |            |                |         |                |             |        
|Net loss                                                                                                |                                                              | $                        | (40,787    | )              |         | $              | (695,209    | )      
|                                                                                                        |                                                              |                          |            |                |         |                |             |        
|Net loss per common share, basic and diluted                                                            |                                                              | $                        | (0.42      | )              |         | $              | (1.57       | )      
|                                                                                                        |                                                              |                          |            |                |         |                |             |        
|Weighted average shares, basic and diluted                                                              |                                                              |                          | 96,019,526 |                |         |                | 442,260,268 |        
|                                                                                                        |                                                              |                          |            |                |         |                |             |        

See accompanying notes to the unaudited condensed consolidated financial statements.

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XO Communications, Inc. and Subsidiaries
Condensed Consolidated Statements of Operations
(Amounts in thousands, except for share and per share data)
(Unaudited)

|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |   |   | 
|------------------------------------------------------------------------------------------------------ | ------------------------------------------------------------ | ------------------------ | ---------- | -------------- | ------- | -------------- | -------------- | ------- | --------- | - | ----------- | - | - | 
|                                                                                                       |                                                              |                          |            | Reorganized XO |         | Predecessor XO |                |         |           |  
|                                                                                                       |                                                              |                          |            | Nine months    |         | Nine months    |                |         |           |  
|                                                                                                       |                                                              |                          |            | ended          |         | ended          | Predecessor XO |        
|                                                                                                       |                                                              |                          |            | September 30,  |         | September 30,  | January 1,     |        
|                                                                                                       |                                                              |                          |            | 2003           |         | 2002           | 2003           |        
|                                                                                                       |                                                              |                          |            |                |         |                |                |        
|Revenue                                                                                                |                                                              | $                        | 849,443    |                |         | $              | 960,411        |         |           | $ |            |  
|Costs and expenses:                                                                                    |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|                                                                                                       | Cost of service (exclusive of depreciation and amortization) |                          |            | 319,339        |         |                |                | 400,928 |           |   |             |  |  
|                                                                                                       | Selling, operating, and general                              |                          |            | 510,817        |         |                |                | 568,533 |           |   |             |  |  
|                                                                                                       | Stock-based compensation                                     |                          |            | 447            |         |                |                | 26,762  |           |   |             |  |  
|                                                                                                       | Depreciation and amortization                                |                          |            | 81,993         |         |                |                | 516,455 |           |   |             |  |  
|                                                                                                       | Restructuring and asset write-downs                          |                          |            |               |         |                |                | 480,168 |           |   |             |  |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|                                                                                                       |                                                              | Total costs and expenses |            |                | 912,596 |                |                |         | 1,992,846 |   |             |   |  | 
|Loss from operations                                                                                   |                                                              |                          | (63,153    | )              |         |                | (1,032,435     | )       |           |   |            |  
|Interest income                                                                                        |                                                              |                          | 9,301      |                |         |                | 13,405         |         |           |   |            |  
|Interest expense, net (contractual interest was $369,661 for
the nine months ended September 30, 2002) |                                                              |                          | (27,259    | )              |         |                | (225,786       | )       |           |   |            |  
|Reorganization gain (expense), net                                                                     |                                                              |                          |           |                |         |                | (95,553        | )       |           |   | 3,032,282   |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss) before cumulative effect of accounting change                                        |                                                              |                          | (81,111    | )              |         |                | (1,340,369     | )       |           |   | 3,032,282   |  
|Cumulative effect of accounting change                                                                 |                                                              |                          |           |                |         |                | (1,876,626     | )       |           |   |            |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss)                                                                                      |                                                              |                          | (81,111    | )              |         |                | (3,216,995     | )       |           |   | 3,032,282   |  
|Recognition of preferred stock modification fee, net 
reorganization item                             |                                                              |                          |           |                |         |                | 78,703         |         |           |   |            |  
|Preferred stock dividends and accretion of preferred stock
redemption obligation, net                  |                                                              |                          |           |                |         |                | (42,247        | )       |           |   |            |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss) applicable to common shares                                                          |                                                              | $                        | (81,111    | )              |         | $              | (3,180,539     | )       |           | $ | 3,032,282   |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss) per common share, basic and diluted:                                                 |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss) before cumulative effect of accounting change                                        |                                                              | $                        | (0.85      | )              |         | $              | (3.03          | )       |           | $ | 6.86        |  
|Cumulative effect of accounting change                                                                 |                                                              |                          |           |                |         |                | (4.24          | )       |           |   |            |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss)                                                                                      |                                                              |                          | (0.85      | )              |         |                | (7.27          | )       |           |   | 6.86        |  
|Recognition of preferred stock modification fee, net 
reorganization item                             |                                                              |                          |           |                |         |                | 0.17           |         |           |   |            |  
|Preferred stock dividends and accretion of preferred stock
redemption obligation, net                  |                                                              |                          |           |                |         |                | (0.09          | )       |           |   |            |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Net income (loss) per common share, basic and diluted                                                  |                                                              | $                        | (0.85      | )              |         | $              | (7.19          | )       |           | $ | 6.86        |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  
|Weighted average shares, basic and diluted                                                             |                                                              |                          | 95,411,819 |                |         |                | 442,228,825    |         |           |   | 441,964,342 |  
|                                                                                                       |                                                              |                          |            |                |         |                |                |         |           |   |             |  

See accompanying notes to the unaudited condensed consolidated financial statements.

3



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XO Communications, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(Amounts in thousands)
(Unaudited)

|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |   |            |  
|-------------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------- | ------------------------------------------- | -------- | -------------- | ------ | -------------- | ---------- | -------------- | --------- | - | --------- | - | ---------- | -
|                                                                                                   |                                                                                               |                                             |          | Reorganized XO |        | Predecessor XO |            |                |           |  
|                                                                                                   |                                                                                               |                                             |          | Nine months    |        | Nine months    |            |                |           |  
|                                                                                                   |                                                                                               |                                             |          | ended          |        | ended          |            | Predecessor XO
|                                                                                                   |                                                                                               |                                             |          | September 30,  |        | September 30,  |            | January 1,    
|                                                                                                   |                                                                                               |                                             |          | 2003           |        | 2002           |            | 2003          
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |               
|OPERATING ACTIVITIES:                                                                              |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Net income (loss)                                                                                  |                                                                                               | $                                           | (81,111  | )              |        | $              | (3,216,995 | )              |           | $ | 3,032,282 |  
|Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities: |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|                                                                                                   |                                                                                               | Non-cash reorganization items               |          |                |       |                |            |                | 557,366   |   |           |   | (3,032,282 | )
|                                                                                                   |                                                                                               | Depreciation and amortization               |          |                | 81,993 |                |            |                | 516,455   |   |           |   |           |  
|                                                                                                   |                                                                                               | Stock-based compensation                    |          |                | 447    |                |            |                | 26,762    |   |           |   |           |  
|                                                                                                   |                                                                                               | Cumulative effect of accounting change      |          |                |       |                |            |                | 1,876,626 |   |           |   |           |  
|                                                                                                   |                                                                                               | Accrual of interest                         |          |                | 26,824 |                |            |                |          |   |           |   |           |  
|Changes in assets and liabilities:                                                                 |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|                                                                                                   |                                                                                               | Accounts receivable                         |          |                | 7,923  |                |            |                | 71,755    |   |           |   |           |  
|                                                                                                   |                                                                                               | Other assets                                |          |                | 17,089 |                |            |                | (20,055   | ) |           |   |           |  
|                                                                                                   |                                                                                               | Accounts payable                            |          |                | (4,948 | )              |            |                |          |   |           |   |           |  
|                                                                                                   |                                                                                               | Accrued liabilities                         |          |                | (9,189 | )              |            |                |          |   |           |   |           |  
|                                                                                                   |                                                                                               | Other liabilities subject to compromise     |          |                |       |                |            |                | 196,545   |   |           |   |           |  
|                                                                                                   |                                                                                               | Other liabilities not subject to compromise |          |                |       |                |            |                | (50,243   | ) |           |   |           |  
|                                                                                                   |                                                                                               | Post petition liabilities                   |          |                |       |                |            |                | 20,155    |   |           |   |           |  
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Net cash provided by (used in) operating activities                                                |                                                                                               |                                             | 39,028   |                |        |                | (21,629    | )              |           |   |          |  
|INVESTING ACTIVITIES:                                                                              |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Purchases of property and equipment                                                                |                                                                                               |                                             | (59,606  | )              |        |                | (177,255   | )              |           |   |          |  
|Sales of marketable securities                                                                     |                                                                                               |                                             | 314,460  |                |        |                | 339,942    |                |           |   |          |  
|Purchases of marketable securities and debt securities                                             |                                                                                               |                                             | (226,030 | )              |        |                | (72,465    | )              |           |   |          |  
|Cash received for (paid for) divestitures (acquisitions)                                           |                                                                                               |                                             |         |                |        |                | 3,000      |                |           |   |           |  
|Purchases of escrowed/pledged securities                                                           |                                                                                               |                                             | (25,000  | )              |        |                |           |                |           |   |          |  
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Net cash provided by investing activities                                                          |                                                                                               |                                             | 3,824    |                |        |                | 93,222     |                |           |   |          |  
|FINANCING ACTIVITIES:                                                                              |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Repayments of capital leases                                                                       |                                                                                               |                                             | (895     | )              |        |                | (5,096     | )              |           |   |           |  
|Proceeds from exercise of stock options                                                            |                                                                                               |                                             | 5,624    |                |        |                |           |                |           |   |          |  
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Net cash provided by (used in) financing activities                                                |                                                                                               |                                             | 4,729    |                |        |                | (5,096     | )              |           |   |          |  
|Effect of exchange rate changes on cash                                                            |                                                                                               |                                             |         |                |        |                | (1,256     | )              |           |   |          |  
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Net increase in cash and cash equivalents                                                          |                                                                                               |                                             | 47,581   |                |        |                | 65,241     |                |           |   |          |  
|Cash and cash equivalents, beginning of period                                                     |                                                                                               |                                             | 314,038  |                |        |                | 246,189    |                |           |   | 314,038   |  
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Cash and cash equivalents, end of period                                                           |                                                                                               | $                                           | 361,619  |                |        | $              | 311,430    |                |           | $ | 314,038   |  
|                                                                                                   |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|SUPPLEMENTAL DATA:                                                                                 |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|Non-cash financing and investing activities:                                                       |                                                                                               |                                             |          |                |        |                |            |                |           |   |           |  
|                                                                                                   | Accrued redeemable preferred stock dividends, payable
in shares of redeemable preferred stock |                                             | $        |               |        |                | $          | 45,683         |           |   | $         |  |           
|Cash paid for interest                                                                             |                                                                                               | $                                           | 1,843    |                |        | $              | 30,452     |                |           | $ |          |  

See accompanying notes to the unaudited condensed consolidated financial statements.

4



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##### 



XO Communications, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)

1. BASIS OF PRESENTATION

The condensed consolidated financial statements of XO Communications, Inc.
(XO Parent) and its subsidiaries (together with its predecessors,
collectively referred to as the Company or XO) are unaudited and have been
prepared in accordance with generally accepted accounting principles in the
United States for interim financial statements and the Securities and Exchange
Commission (the Commission) instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles in the United
States for complete financial statements. As discussed further in note 2, the
condensed consolidated statements of operations and cash flows for reorganized
XO for the three and nine months ended September 30, 2003, show the operations
of the reorganized Company from and including January 1, 2003, the date that
the reorganized Company applied fresh start accounting, through September 30,
2003. Predecessor XOs January 1, 2003 statements of operations and cash flows
reflect only the effect of the reorganization and the application of fresh
start as of such date and do not reflect any operating results. Operating
results for the three and nine month period ended September 30, 2003 are not
necessarily indicative of the results that may be expected for any subsequent
quarterly period, or for the year ending December 31, 2003. In the opinion of
management, the unaudited condensed consolidated financial statements contain
all the adjustments (consisting of those of a normal recurring nature)
considered necessary to present fairly the financial position and the results
of operations and cash flows for the periods presented in conformity with
accounting principles generally accepted in the United States applicable to
interim periods. The accompanying financial statements should be read in
conjunction with the audited consolidated financial statements of XO, included
in its Annual Report on Form 10-K for the year ended December 31, 2002 (the
2002 Annual Report).

As further discussed in the 2002 Annual Report, on June 17, 2002 (the
Petition Date), XO Parent filed a voluntary petition for relief under Chapter
11 of the United States Bankruptcy Code (the Bankruptcy Code) with the United
States Bankruptcy Court for the Southern District of New York (the Bankruptcy
Court). XO Parent emerged from the Bankruptcy Court proceedings pursuant to
the terms of its third amended plan of reorganization (the Plan of
Reorganization) on January 16, 2003 (the Effective Date). As discussed in
note 2, the Company implemented the fresh start accounting provisions (fresh
start) of the American Institute of Certified Public Accountants Statement of
Position 90-7, Financial Reporting by Entities in Reorganization under the
Bankruptcy Code, (SOP 90-7) as of January 1, 2003. Under fresh start, the
estimated fair value of the reorganized Company was allocated among its assets
and liabilities, and its accumulated deficit as of January 1, 2003 was
eliminated. As discussed in note 2, the implementation of fresh start has
resulted in a substantial reduction in the carrying value of the Companys
long-lived assets, including property and equipment, fixed wireless licenses,
other intangible assets and other noncurrent assets. As a result, the
predecessor financial statements are not comparable to the financial statements
of the reorganized Company.

2. REORGANIZATION AND FRESH START ACCOUNTING

On the Effective Date, XO Parent consummated its Plan of Reorganization
and emerged from its Chapter 11 reorganization proceedings with a significantly
restructured balance sheet. As described in more detail in the 2002 Annual
Report, the consummation of the Plan of Reorganization resulted in the
following changes:



| |  |  | The conversion of $1.0 billion of loans under the Companys
pre-petition secured credit facility into $500.0 million of outstanding
principal amount under a new credit agreement (the New Credit
Agreement);
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | The extinguishment of all amounts due under the Companys
pre-petition unsecured senior and subordinated notes and certain
general unsecured obligations;                                                      
|
| |  |  | The cancellation of all outstanding shares and interests in the
Companys pre-petition preferred stock and pre-petition common stock;                                                                          
|
| |  |  | The issuance of approximately 95.0 million shares of common stock
of the reorganized Company (the New Common Stock) and warrants to
purchase up to an additional 23.75 million shares of New Common          

5



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##### 





| |   |  | Stock of the reorganized Company. As part of the distribution process, XO
Parent is holding approximately 1.0 million shares of New Common Stock
and warrants to purchase approximately 6.2 million shares of New Common
Stock in a reserve for distribution to holders of XO Parents
pre-petition unsecured senior notes and pre-petition general unsecured
claims. These securities will be distributed upon final resolution of
disputed XO Parent bankruptcy claims; and                                                                                                                         
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | The requirement to issue rights to subscribe for 40.0 million to
43.3 million shares of New Common Stock, at $5.00 per share, through a
two stage rights offering, (the Rights Offering). XO Parent has
registered the New Common Stock to be issued upon exercise of
subscription rights in the Rights Offering and transferable
subscription rights issuable to XO Parents affiliates in the Rights
Offering in its Registration Statement on Form S-1 (Reg. No.
333-107254), which became effective on October 16, 2003. The initial
stage of the Rights Offering commenced on October 16, 2003.

The Company adopted fresh start as of January 1, 2003. Although the
Effective Date of the Plan of Reorganization was January 16, 2003, due to the
immateriality of the results of operations for the period between January 1,
2003 and the Effective Date, the Company has accounted for the consummation of
the Plan of Reorganization as if it had occurred on January 1, 2003 and
implemented fresh start as of that date. Fresh start required that the Company
adjust the historical cost of its assets and liabilities to their estimated
fair values as determined by the reorganization value of the Company and that
the reorganization value be allocated among the reorganized entitys net assets
in conformity with procedures specified by SFAS No. 141, Business
Combinations, (SFAS No. 141). The Company engaged an independent appraiser
to assist in the allocation of the reorganization value to the reorganized
Companys assets and liabilities by determining the estimated fair market value
of its property and equipment, intangible assets and certain obligations
related to its facility leases. The accompanying January 1, 2003 statement of
operations and balance sheet show the impact of this valuation, but do not
reflect any of the Companys operating results as attributable to that date. A
reconciliation of the adjustments recorded in connection with the
reorganization and the adoption of fresh start is presented below (in
thousands):

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

6



---



##### 



| |                                        |                                                      |  |            |            |   |  |           |           |  |  |  |  |  |  |           |            |   |  |   |           | 
| | -------------------------------------- | ---------------------------------------------------- |  | ---------- | ---------- | - |  | --------- | --------- |  |  |  |  |  |  | --------- | ---------- | - |  | - | --------- | 
| | Deferred compensation                  |                                                      |  | (8,500     | )          |   |  |          |           |  |  |  |  |  |  | 8,500     |            |   |  |  |          
| | Accumulated other comprehensive income |                                                      |  | 2,512      |            |   |  |          |           |  |  |  |  |  |  | (2,512    | )          |   |  |  |          
| | Accumulated deficit                    |                                                      |  | (7,654,433 | )          |   |  | 6,199,983 |           |  |  |  |  |  |  | 1,454,450 |            |   |  |  |          
| |                                        |                                                      |  |            |            |   |  |           |           |  |  |  |  |  |  |           |            |   |  |  
| |                                        | Total stockholders equity (deficit)                 |  |            | (3,032,282 | ) |  |           | 6,674,983 |  |  |  |  |  |  |           | (3,167,701 | ) |  |   | 475,000   | 
| |                                        |                                                      |  |            |            |   |  |           |           |  |  |  |  |  |  |           |            |   |  |  
| |                                        | Total liabilities and stockholders equity
(deficit) |  | $          | 4,585,496  |   |  | $         |          |  |  |  |  |  |  | $         | (3,237,406 | ) |  | $ | 1,348,090 | 
| |                                        |                                                      |  |            |            |   |  |           |           |  |  |  |  |  |  |           |            |   |  |   |          



| | (a) |  | To record the discharge of pre-petition indebtedness, including a
$1.0 billion credit facility, $4.2 billion of senior and convertible
subordinated notes, $245.2 million of accrued interest, the elimination
of $1.7 billion of pre-petition redeemable preferred stock and $50.6
million of accrued dividends all in accordance with the Plan of
Reorganization.
| | --- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (b) |  | To record the outstanding principal under the New Credit Agreement,
in accordance with the Plan of Reorganization.                                                                                                                                                                                                                                                 
|
| | (c) |  | To record the issuance of 95.0 million shares of New Common Stock
and warrants in accordance with the Plan of Reorganization. Any
participation in the Rights Offering will be recorded in the fourth
quarter of 2003.                                                                                                                                             
|
| | (d) |  | To adjust the carrying value of assets, liabilities and
stockholders equity to estimated fair value, in accordance with fresh
start.                                                                                                                                                                                                                              

Reorganization gain, net on January 1, 2003 consisted of the following
(dollars in thousands):

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

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Review of Significant Accounting Policies

As discussed in note 2, the Company adopted fresh start as of January 1,
2003, creating, in substance, per SOP 90-7, a new reporting entity. The
reorganized Company has adopted the policy of expensing customer installation
costs and internal labor directly associated with network construction in the
period in which the costs are incurred. The predecessor Company capitalized and
amortized these costs. In accordance with SOP 90-7, the reorganized Company was
also required to implement newly issued accounting pronouncements that would
require adoption within twelve months of applying fresh start.

Principles of Consolidation

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 accounts and transactions
among consolidated entities have been eliminated.

Preparation of Condensed Consolidated Financial Statements

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

Cash and Cash Equivalents

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

Marketable Securities

Marketable securities generally consist of U.S. government agency issued
and other high-grade and highly-liquid securities with original maturities
beyond three months. The Company classifies investments in debt and equity
securities as available-for-sale and records such investments at fair value.
The fair values are based on quoted

7



---



##### 



market prices. Unrealized gains and losses on available-for-sale
marketable securities are reported as a separate component of comprehensive
income. Realized gains and losses for available-for-sale securities are
recognized in interest income.

Investment in Debt Securities

Investment in debt securities at September 30, 2003 consists of
investments in senior secured debt of Global Crossing Ltd. and Global Crossing
Holdings Ltd. (collectively Global Crossing), a telecommunications company
which is currently in Chapter 11 reorganization proceedings, see also note 12.
The debt trades in a thin market primarily between dealers but is neither
listed on any exchange nor on any over-the-counter NASDAQ or National Quotation
Bureau systems. Accordingly, XO is currently reporting all Global Crossing
debt securities at cost which approximates fair market value and has not
accrued any interest income on this investment.

Long-Lived Assets

Long-lived assets includes property and equipment, fixed wireless
licenses, and intangible assets to be held and used. Long-lived assets,
excluding intangible assets with indefinite useful lives, are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount should be addressed pursuant to SFAS No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, (SFAS No. 144). The
criteria for determining impairment for such long-lived assets to be held and
used is determined by comparing the carrying value of these long-lived assets
to managements best estimate of future undiscounted cash flows expected to
result from the use of the assets. The Company believes that no impairment
existed under SFAS No. 144 as of September 30, 2003. In the event that there
are changes in the planned use of the Companys long-lived assets or its
expected future undiscounted cash flows are reduced significantly, the
Companys assessment of its ability to recover the carrying value of these
assets under SFAS No. 144 could change.

Intangible assets with indefinite useful lives are tested for impairment
annually or more frequently if an event indicates that the asset might be
impaired. In accordance with SFAS No. 142, Goodwill and Other Intangible
Assets, (SFAS No. 142), the fair value of these intangible assets is
determined based on a discounted cash flow methodology.

Property and Equipment

Property and equipment acquired prior to December 31, 2002 was recorded at
its fair value at January 1, 2003, as required by fresh start, net of
subsequent depreciation. Additions to property and equipment during 2003 are
recorded at cost. Depreciation is calculated on a straight-line basis over the
estimated useful lives of the assets beginning in the month telecommunications
networks and acquired bandwidth are substantially complete and available for
use and in the month equipment and furniture are acquired. Telecommunications
networks and bandwidth include the deployment of fiber optic cable and
telecommunications hardware and software for the expressed purpose of
delivering telecommunications services. Costs of additions and improvements are
capitalized, and repairs and maintenance are charged to expense as incurred.
Direct external costs of constructing property and equipment are capitalized
including interest costs related to construction. The reorganized Company has
adopted the policy of expensing internal labor directly associated with network
construction in the period in which the costs are incurred.

Equipment held under capital leases acquired prior to December 31, 2002
was recorded at its fair value at January 1, 2003 as required by fresh start
accounting. Additions during 2003 to equipment held under capital leases are
recorded at the lower of the fair value of the asset or the net present value
of the minimum lease payments at the inception of the lease. For equipment held
under capital leases, depreciation is provided using the straight-line method
over the shorter of the estimated useful lives of the leased assets or the
related lease term.

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

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

These useful lives are determined based on historical usage with
consideration given to technological changes and trends in the industry, which
could impact the network architecture and asset utilization. Accordingly, in
making this assessment, the Company considers its planned use of the assets,
the views of experts within the Company and

8



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##### 



outside sources regarding the impact of technological advances and trends
in the industry on the value and useful lives of its network assets.

Fixed Wireless Licenses and Other Intangibles

Fixed wireless licenses acquired prior to December 31, 2002 were recorded
at their fair values at January 1, 2003, as required by fresh start. The
reorganized Company is amortizing these licenses over an estimated useful life
of 10 years based on the initial license term granted by the Federal
Communications Commission. Amortization commences when commercial service using
fixed wireless technology is deployed in the licenses geographic area.

Other intangibles of the Company are valued at fair value as required by
the provisions of fresh start and SFAS No. 141 and consist of customer
relationships, internally developed technology and XOs trade name. The
customer relationships and internally developed technology are being amortized
using the straight-line method over their estimated useful lives of three
years. The XO trade name was determined to have an indefinite life.
Accordingly, it is not subject to amortization; however, it is reviewed at
least annually for impairment as required under SFAS No. 142.

Other Assets

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

Income Taxes

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

As of December 31, 2002, the Company had net operating loss carryforwards
of approximately $4.0 billion and capital loss carryforwards of approximately
$0.5 billion. As of the Effective Date, the Company recognized a substantial
amount of taxable income from the cancellation of indebtedness, eliminating a
substantial portion of these capital and net operating loss carryforwards.
Other tax attributes, including property bases, have also been reduced. Any
surviving capital or net operating loss carryforwards will be subject to
limitations imposed under the ownership change rules in the U.S. Internal
Revenue Code. As discussed in more detail in note 10, the Company will join
with the affiliated group of corporations controlled by Mr. Carl C. Icahn,
Chairman and controlling shareholder of XO, (Mr. Icahn) in filing a
consolidated federal income tax return for periods following the Effective
Date.

Revenue Recognition

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

Service discounts and incentives related to telecommunication services are
recorded as a reduction of revenue when granted or ratably over a contract
period. Fees billed in connection with service installations and other
non-recurring charges are deferred and recognized ratably over the estimated
customer life of 3 years.

The Company establishes allowances for collection of doubtful accounts and
other sales credit adjustments. Allowances for sales credits are established
through a charge to revenue, while allowances for doubtful accounts are
established through a charge to selling, operating and general expense. The
Company assesses the adequacy of these reserves monthly by considering general
factors, such as the length of time individual receivables are past due,
historical collection experience, the economic and competitive environment, and
changes in the creditworthiness of its customers. The Company believes that the
established valuation allowances were adequate as of September 30, 2003 and
December 31, 2002. If circumstances relating to specific customers change or
economic conditions worsen such that the Companys past collection experience
and assessment of the economic environment are no longer relevant, XOs
estimate of the recoverability of its trade receivables could be further
reduced.

9



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

Cost of Service

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

Net Income (Loss) Per Share

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

Stock-Based Compensation

Effective January 1, 2003, the Company adopted the disclosure provisions
of SFAS No. 148, Accounting for Stock-Based Compensation-Transition and
Disclosure, (SFAS No. 148). This statement amends SFAS No. 123, Accounting
for Stock-Based Compensation, (SFAS No. 123), to provide for alternative
methods of transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. As allowed by SFAS No. 148,
the Company has chosen to continue to account for compensation cost associated
with its employee stock option plan in accordance with the intrinsic value
method prescribed by APB No. 25, Accounting for Stock Issued to Employees,
(APB No. 25) adopting the disclosure-only provisions of SFAS No. 123. Under
this method, no compensation expense is recorded if stock options are granted
at an exercise price equal to the fair market value of the Companys stock on
the grant date. If the Company had adopted the fair value method of accounting
for its stock option awards, the Companys pro forma net loss applicable to
common shares, and pro forma net loss per common share, basic and diluted,
would have been as follows (dollars in thousands, except per share data):

|                                                  |                                                                                                                               |   |                    |        |                    |   |          |       |  
|------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------- | - | ------------------ | ------ | ------------------ | - | -------- | ----- | -
|                                                  |                                                                                                                               |   | Reorganized XO     |        | Predecessor XO    
|                                                  |                                                                                                                               |   | Three months ended |        | Three months ended
|                                                  |                                                                                                                               |   | September 30, 2003 |        | September 30, 2002
|                                                  |                                                                                                                               |   |                    |        |                   
|Net loss applicable to common shares, as reported |                                                                                                                               | $ | (40,787            | )      |                    | $ | (695,209 | )    
|                                                  | Add: Stock-based employee compensation expense included in net loss applicable
to common shares, as reported                  |   |                    | 193    |                    |   |          | 8,776 |  
|                                                  | Deduct: Total stock-based employee compensation expense determined under fair
value based methods for all stock option awards |   |                    | (3,735 | )                  |   |          | (366  | )
|                                                  |                                                                                                                               |   |                    |        |                    |   |          |      
|Pro forma net loss                                |                                                                                                                               | $ | (44,329            | )      |                    | $ | (686,799 | )    
|                                                  |                                                                                                                               |   |                    |        |                    |   |          |      
|Net loss per common share, basic and diluted:     |                                                                                                                               |   |                    |        |                    |   |          |      
|                                                  | Net loss per common share, basic and diluted  as reported                                                                    |   | $                  | (0.42  | )                  |   | $        | (1.57 | )
|                                                  |                                                                                                                               |   |                    |        |                    |   |          |      
|                                                  | Net loss per common share, basic and diluted  pro forma                                                                      |   | $                  | (0.46  | )                  |   | $        | (1.55 | )
|                                                  |                                                                                                                               |   |                    |        |                    |   |          |      

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|                                                  |                                                                                                                               |   |                    |         |                    |   |            |        |  
|------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------- | - | ------------------ | ------- | ------------------ | - | ---------- | ------ | -
|                                                  |                                                                                                                               |   | Reorganized XO     |         | Predecessor XO    
|                                                  |                                                                                                                               |   | Nine months ended  |         | Nine months ended 
|                                                  |                                                                                                                               |   | September 30, 2003 |         | September 30, 2002
|                                                  |                                                                                                                               |   |                    |         |                   
|Net loss applicable to common shares, as reported |                                                                                                                               | $ | (81,111            | )       |                    | $ | (3,180,539 | )     
|                                                  | Add: Stock-based employee compensation expense included in net loss applicable
to common shares, as reported                  |   |                    | 447     |                    |   |            | 26,762 |  
|                                                  | Deduct: Total stock-based employee compensation expense determined under fair
value based methods for all stock option awards |   |                    | (11,730 | )                  |   |            | (1,097 | )
|                                                  |                                                                                                                               |   |                    |         |                    |   |            |       
|Pro forma net loss                                |                                                                                                                               | $ | (92,394            | )       |                    | $ | (3,154,874 | )     
|                                                  |                                                                                                                               |   |                    |         |                    |   |            |       
|Net loss per common share, basic and diluted:     |                                                                                                                               |   |                    |         |                    |   |            |       
|                                                  | Net loss per common share, basic and diluted  as reported                                                                    |   | $                  | (0.85   | )                  |   | $          | (7.19  | )
|                                                  |                                                                                                                               |   |                    |         |                    |   |            |       
|                                                  | Net loss per common share, basic and diluted  pro forma                                                                      |   | $                  | (0.97   | )                  |   | $          | (7.13  | )
|                                                  |                                                                                                                               |   |                    |         |                    |   |            |       

Comprehensive Loss

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

Concentration of Credit Risk

During the second quarter of 2003, XO liquidated its entire portfolio of
marketable securities which consisted of an investment portfolio containing
U.S. government agency issued and other securities with duration of less than
one year. The Company invested a portion of the proceeds, $158.5 million, in
$761.1 million principal amount of senior secured debt of Global Crossing, a
telecommunications company which is currently in reorganization proceedings.
The debt trades in a thin market primarily between dealers but is neither
listed on any exchange nor on any over-the-counter NASDAQ or National Quotation
Bureau systems. If the Company chooses to liquidate its investment in this
debt, it may not be able to locate a buyer that would allow it to liquidate the
debt in a timely fashion to recover the amount paid. Accordingly, it cannot be
assured that the Company will be able to dispose of the investment for an
amount equal to or greater than the amount it paid for it. The distribution
that would be received upon consummation of Global Crossings bankruptcy case
is expected to have a value greater than this investment. However, no assurance
can be made by the Company as to the timing of Global Crossings emergence from
bankruptcy.

Other financial instruments that potentially subject the Company to
concentrations of credit risk consist primarily of trade receivables. Although
the Companys trade receivables are geographically dispersed and include
customers in many different industries, a portion of the Companys revenue is
generated from services provided to other telecommunications service providers.
Several of these companies have filed for protection under Chapter 11 of the
Bankruptcy Code. The Company believes that its established valuation and credit
allowances are adequate as of September 30, 2003 to cover these risks.

Fair Value of Financial Instruments

SFAS No. 107, Disclosure about Fair Value of Financial Instruments
(SFAS No. 107), requires disclosure of fair value information about financial
instruments, for which it is practicable to estimate the value. The carrying
amounts for the Companys financial instruments classified as current assets
and liabilities approximate their fair value due to their short maturities with
the exception of the investment in debt securities which consists primarily of
senior secured debt of Global Crossing, a telecommunications company which is
currently in reorganization proceedings. The Global Crossing debt trades in a
thin market primarily between dealers but is neither listed on any exchange nor
on any over-the-counter NASDAQ or National Quotation Bureau systems and is
therefore recorded at cost. Management believes that fair market value
approximates cost for this investment.

Other Consolidated Financial Information

As part of its implementation of fresh start accounting, the Company
recorded provisions related to certain operating leases which had either
unfavorable market rates or were unutilized. These provisions were recorded at
their estimated fair value, which was determined by calculating the net present
value of the appropriate future cash flow stream. During the first and second
quarters of 2003, the Company accreted the imputed interest portion of the

11



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total present value adjustment to interest expense, using the interest
method, and amortized the remainder of the provision, on a straight line basis,
to selling, operating and general expense. During the third quarter of 2003, in
conjunction with a review of its accounting policies, the Company determined
that recording straight line amortization of the imputed interest amount
through selling, operating and general expense is the appropriate treatment and
adopted this approach. The effect of this difference on the financial
statements for the first two quarters of 2003 was not material. Accordingly,
the Company has recorded the effect of this change for the first half of 2003
in the third quarter of 2003, which increased selling, operating and general
expense by $1.3 million, reduced interest expense by $3.5 million and improved net loss by $2.2 million or $0.02 per share for the three month period ended
September 30, 2003.

Recent Accounting Pronouncements

In June 2001, the Financial Accounting Standards Board, (FASB) issued
SFAS No. 143, Accounting for Asset Retirement Obligations, (SFAS No. 143),
which requires an entity to recognize the fair value of a liability for an
asset retirement obligation in the period in which a legal or contractual
removal obligation is incurred if a reasonable estimate of fair value can be
made. If a reasonable estimate of fair value cannot be made in the period the
asset retirement obligation is incurred, SFAS No. 143 requires the liability to
be recognized when a reasonable estimate of the fair value can be made. As
required by SOP 90-7, we implemented SFAS No. 143 on January 1, 2003, in
conjunction with the implementation of fresh start and recorded an estimated
asset retirement obligation of $12.0 million, as disclosed in note 5 to the
accompanying condensed consolidated financial statements.

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

Effective January 1, 2003, the Company adopted SFAS No. 146, Accounting
for Costs Associated with Exit or Disposal Activities (SFAS No. 146), which
requires that costs, including severance costs, associated with exit or
disposal activities be recorded at their fair value when a liability has been
incurred. Under previous guidance, certain exit costs, including severance
costs, were accrued upon managements commitment to an exit plan, which is
generally before an actual liability has been incurred. In the nine months
ended September 30, 2003, the Company did not have any exit or disposal
activities initiated after December 31, 2002; however, in conjunction with the
Companys implementation of fresh start accounting, the Companys remaining
restructuring accrual has been reduced to its fair value as discussed in note
6.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation-Transition and Disclosure, (SFAS No. 148) which
amends SFAS No. 123, Accounting for Stock-Based Compensation, (SFAS No.
123), to provide alternative methods of transition to SFAS No. 123s fair
value method of accounting for stock-based employee compensation. SFAS No. 148
also amends the disclosure provisions of SFAS No. 123 and APB No. 28, Interim
Financial Reporting, or APB No. 28, to require disclosure in the summary of
significant accounting policies of the effects of an entitys accounting policy
with respect to stock-based employee compensation on reported net income and
earnings per share in annual and interim financial statements. While SFAS No.
148 does not amend SFAS No. 123 to require companies to account for employee
stock options using the fair value method, the disclosure provisions of SFAS
No. 148 are applicable to all companies with stock-based employee compensation,
regardless of whether they account for that compensation using the fair value
method of SFAS No. 123 or the intrinsic value method of APB No. 28. Effective
January 1, 2003, we adopted the disclosure provisions of SFAS No. 148. As
allowed by SFAS No. 148, we have chosen to continue to account for compensation
cost associated with our employee stock option plans in accordance with the
intrinsic value method prescribed by APB No. 25, Accounting for Stock Issued
to Employees, or APB No. 25.

In May 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, (SFAS No. 149), which amends
and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities
under SFAS No.

12



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133. SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003 and for hedging relationships designated after June 30,
2003. The adoption of SFAS No. 149 did not have a material impact on the
Companys consolidated financial statements.

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

In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities, an interpretation of Accounting Research Bulletin
No.51, Consolidated Financial Statements (FIN 46). FIN 46 applies to any
business enterprise that has a controlling interest, contractual relationship
or other business relationship with a variable interest entity (VIE) and
establishes guidance for the consolidation of VIEs that function to support the
activities of the primary beneficiary. The Company does not believe it has
investments in, or contractual or other business relationships with VIEs.
Therefore, the adoption of FIN 46 had no effect on the Companys consolidated
financial position as of September 30, 2003 or the results of operations for
the three and nine months ended September 30, 2003.

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

4. LONG-LIVED ASSETS

As discussed in note 2, the Company applied fresh start on January 1,
2003. Accordingly its property and equipment, fixed wireless licenses and other
intangible assets as of January 1, 2003, have been recorded at their then fair
values. Purchases of long-lived assets during 2003 have been recorded at cost.

Property and Equipment

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

|                                                   |  |                |         |                |  |                |         |  |  |   |            |  
|-------------------------------------------------- |  | -------------- | ------- | -------------- |  | -------------- | ------- |  |  | - | ---------- | -
|                                                   |  | Reorganized XO |         | Reorganized XO |  | Predecessor XO
|                                                   |  | September 30,  |         | January 1,     |  | December 31,  
|                                                   |  | 2003           |         | 2003           |  | 2002          
|                                                   |  |                |         |                |  |               
|Telecommunications networks and acquired
bandwidth |  | $              | 383,362 |                |  | $              | 359,247 |  |  | $ | 2,920,819  |  
|Furniture, fixtures, equipment, and other          |  |                | 71,687  |                |  |                | 61,501  |  |  |   | 656,994    |  
|                                                   |  |                |         |                |  |                |         |  |  |   |            |  
|                                                   |  |                | 455,049 |                |  |                | 420,748 |  |  |   | 3,577,813  |  
|Less accumulated depreciation                      |  |                | (62,024 | )              |  |                |        |  |  |   | (1,165,216 | )
|                                                   |  |                |         |                |  |                |         |  |  |   |            |  
|                                                   |  |                | 393,025 |                |  |                | 420,748 |  |  |   | 2,412,597  |  
|Network construction-in-progress                   |  |                | 81,615  |                |  |                | 55,840  |  |  |   | 367,992    |  
|                                                   |  |                |         |                |  |                |         |  |  |   |            |  
|                                                   |  | $              | 474,640 |                |  | $              | 476,588 |  |  | $ | 2,780,589  |  
|                                                   |  |                |         |                |  |                |         |  |  |   |            |  

Depreciation expense related to property and equipment for the reorganized
Companys three and nine months ended September 30, 2003 was $21.8 million and
$62.4 million, respectively, and for the predecessor Companys three and nine
months ended September 30, 2002 was $161.0 million and $437.5 million,
respectively. Assets classified as construction-in-progress are not being
depreciated as they are not currently ready for their intended use.

Fixed Wireless Licenses and Other Intangibles

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

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|                                      |  |                |         |                |  |                |         |  |  |   |           |  
|------------------------------------- |  | -------------- | ------- | -------------- |  | -------------- | ------- |  |  | - | --------- | -
|                                      |  | Reorganized XO |         | Reorganized XO |  | Predecessor XO
|                                      |  | September 30,  |         | January 1,     |  | December 31,  
|                                      |  | 2003           |         | 2003           |  | 2002          
|                                      |  |                |         |                |  |               
|Fixed wireless licenses               |  | $              | 59,508  |                |  | $              | 59,508  |  |  | $ | 997,942   |  
|Customer relationships                |  |                | 49,987  |                |  |                | 49,987  |  |  |   | 123,745   |  
|Internally developed technology       |  |                | 9,521   |                |  |                | 9,521   |  |  |   |          |  
|Acquired technology                   |  |                |        |                |  |                |        |  |  |   | 130,515   |  
|Other                                 |  |                |        |                |  |                |        |  |  |   | 35,413    |  
|                                      |  |                |         |                |  |                |         |  |  |   |           |  
|                                      |  |                | 119,016 |                |  |                | 119,016 |  |  |   | 1,287,615 |  
|Less accumulated amortization         |  |                | (19,622 | )              |  |                |        |  |  |   | (303,001  | )
|                                      |  |                |         |                |  |                |         |  |  |   |           |  
|                                      |  |                | 99,394  |                |  |                | 119,016 |  |  |   | 984,614   |  
|XO Trade name  indefinite life asset |  |                | 16,662  |                |  |                | 16,662  |  |  |   |          |  
|                                      |  |                |         |                |  |                |         |  |  |   |           |  
|                                      |  | $              | 116,056 |                |  | $              | 135,678 |  |  | $ | 984,614   |  
|                                      |  |                |         |                |  |                |         |  |  |   |           |  

Amortization expense related to intangible assets for the reorganized
Companys three and nine months ended September 30, 2003 was $6.5 million and
$19.6 million, respectively, and for the predecessor Companys three and nine
months ended September 30, 2002 was $26.3 million and $79.0 million,
respectively. As of September 30, 2003, approximately $23.5 million of fixed
wireless licenses are not being amortized as commercial services have not been
deployed in the licenses geographic area.

Goodwill

In July 2001, SFAS No. 142 was issued and revised the accounting for
purchased goodwill and intangible assets and superseded APB Opinion No. 17,
Intangible Assets (APB No. 17). As described in greater detail in the 2002
Annual Report, the predecessor Company performed the required impairment tests
of goodwill as of January 1, 2002, and as a result, during the first quarter of
2002, the predecessor Company recorded a $1.9 billion adjustment as a
cumulative effect of accounting change to write-off all of its goodwill.

5. ACCOUNTING FOR ASSET RETIREMENT OBLIGATIONS

In June 2001, SFAS No. 143, Accounting for Asset Retirement Obligations,
(SFAS No. 143) was issued which requires an entity to recognize the fair
value of a liability for an asset retirement obligation in the period in which
the entity makes the legal or contractual commitment related to the removal
obligation if a reasonable estimate of fair value can be made. The Company
implemented SFAS No. 143 on January 1, 2003 in conjunction with its
implementation of fresh start.

The Company leases Internet data center facilities and various technical
sites. Terminating and decommissioning these locations would require the
removal of any XO assets and restoration of the leased space to its original
condition. Accordingly, upon adoption of SFAS No. 143, the Company recorded an
estimated asset retirement obligation of $12.0 million, which was estimated
using managements best estimate of the expected cash expenditures. The present
value of the asset retirement obligation was calculated using a discount rate
of 8.0% over a period of 5-20 years, which is representative of the estimated
remaining period XO will occupy its data centers and technical facilities.

6. RESTRUCTURING CHARGES AND ASSET WRITE-DOWNS

During the second half of 2001, and the first half of 2002, the Company
implemented a plan to restructure certain of its business operations. The
restructuring plan included reducing the Companys discretionary spending,
capital expenditures and workforce based on its assessment at that time of
current and expected future market conditions and the divestiture of its
European operations. As of September 30, 2003, the remaining restructuring
accrual was $35.1 million, which relates primarily to payments due to landlords
on exited leased facilities. The restructuring accrual has decreased from $79.0
million as of December 31, 2002, primarily due to payments associated with
exited leased facilities and adjustments made in conjunction with the Companys
implementation of fresh start to appropriately reflect the remaining accrual at
its net present value.

7. LONG-TERM DEBT

As discussed in the 2002 Annual Report and in note 2, upon the Effective
Date, the $1.0 billion of loans under the pre-petition senior secured credit
facility were converted into 90.25 million shares of New Common Stock of the

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reorganized Company and $500.0 million of outstanding principal amount of
loans under the New Credit Agreement. The maturity date of the outstanding
principal under the New Credit Agreement is July 15, 2009 and automatic and
permanent quarterly reductions of the principal amount commence on October 15,
2007. In the event that consolidated excess cash flow (as defined in the New
Credit Agreement) for any fiscal quarter during the term of the agreement is
greater than $25 million, at the request of the lender, the Company will pay an
amount equal to 50% of such excess cash flow greater than $25 million toward
the reduction of outstanding indebtedness. The security for the New Credit
Agreement consists of all assets of XO Parent, including the stock of its
direct and indirect subsidiaries, and all assets of virtually all of those
subsidiaries.

The New Credit Agreement limits additional indebtedness, liens, dividend
payments and certain investments and transactions, and contains certain
covenants with respect to EBITDA (earnings before interest, taxes, depreciation
and amortization) requirements and maximum capital expenditures. The Company is
also to maintain an unrestricted cash balance of $80 million at September 30,
2003, $45 million at December 31, 2003, and $25 million at the end of each
fiscal quarter thereafter during the term of the New Credit Agreement. Under
certain circumstances, the New Credit Agreement permits the Company to obtain a
senior secured facility of up to $200.0 million, subject to reduction in an
amount equal to any proceeds received from the exercise of rights in the Rights
Offering. At September 30, 2003, long-term debt of $526.8 million including
$500.0 million principal amount outstanding on the New Credit Agreement and
$26.8 million of accrued interest thereon. More than 90% of the underlying
loans of the New Credit Agreement are held by an entity controlled by Mr.
Icahn.

The Company is not required to pay cash interest accrued on the principal
amount under the New Credit Agreement until it meets certain financial ratios;
however the Company can elect to begin paying interest in cash prior to the
required date. Loans under the New Credit Agreement bear interest, at the
Companys option, at an alternate base rate, as defined, or a Eurodollar rate,
plus in each case, applicable margins. Once the Company begins to pay accrued
interest in cash, the applicable margins are reduced. At September 30, 2003,
the annualized weighted average interest rate applicable to outstanding
borrowings under the New Credit Agreement was 7.52%.

Also upon the Effective Date, all of XO Parents pre-petition unsecured
senior notes and pre-petition general unsecured claims were cancelled in
exchange for (i) 4.75 million shares of New Common Stock (ii) warrants to
purchase shares up to an additional 23.75 million shares of New Common Stock
(iii) rights to purchase shares of New Common Stock in accordance with the
terms of the Rights Offering and (iv) a portion of the cash consideration
received by XO Parent in connection with the settlement and termination of the
proposed investment transaction that was the basis for the first restructuring
alternative contemplated by the Plan of Reorganization. As part of the
distribution process, XO Parent is holding approximately 1.0 million shares of
New Common Stock and warrants to purchase approximately 6.2 million shares of
New Common Stock in a reserve for distribution to holders of XO Parents
pre-petition unsecured senior notes and pre-petition general unsecured claims.
These securities will be distributed upon final resolution of disputed XO
Parent bankruptcy claims. Holders of pre-petition subordinated notes of XO
Parent had their securities cancelled, and received a cash payment under
certain terms as defined by the Plan of Reorganization and are entitled to
participate in the Rights Offering.

8. STOCKHOLDERS EQUITY

Pursuant to the Companys Certificate of Incorporation that was adopted in
connection with the Plan of Reorganization, the Company has the authority to
issue 1,000.0 million shares of New Common Stock and 200.0 million shares of
new undesignated preferred stock. As of September 30, 2003, approximately 96.2
million shares of New Common Stock had been issued, more than 80% of which were
owned and controlled by an entity controlled by Mr. Icahn. As part of the
distribution process, XO Parent is holding approximately 1.0 million shares of
New Common Stock for distribution to XO Parents pre-petition unsecured senior
notes and pre-petition unsecured general claims after the resolution of
disputed bankruptcy claims.

As a result of the cancellation of the pre-petition senior notes and
pre-petition general unsecured claims, discussed in note 2, pursuant to the
Plan of Reorganization on January 16, 2003, such holders were granted, among
other consideration, warrants to purchase shares up to an additional 23.75
million shares of New Common Stock.

The warrants consist of:



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

15



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##### 





| |  |  | Series B Warrants to purchase approximately 7.1 million
shares of New Common Stock at an exercise price of $7.50 per share;
and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Series C Warrants to purchase approximately 7.1 million
shares of New Common Stock at an exercise price of $10.00 per share.   

As part of the distribution process, XO Parent is holding Series A
Warrants to purchase approximately 2.5 million shares of New Common Stock,
Series B Warrants to purchase approximately 1.8 million shares of New Common
Stock and Series C Warrants to purchase approximately 1.8 million shares of New
Common Stock in reserve for distribution to holders of XO Parents pre-petition
unsecured senior notes and pre-petition general unsecured claims after the
resolution of disputed bankruptcy claims. The warrants are included in
reorganized XOs common stock in the accompanying condensed consolidated
balance sheet. The warrants will expire 7 years after the date of issuance. The
exercise price applicable to each respective series of warrants is subject to
adjustment in certain events. Upon final distribution of warrants under the
Plan of Reorganization, XO estimates the entity controlled by Mr. Icahn will
own Series A Warrants to purchase approximately 4.0 million shares of New
Common Stock, Series B Warrants to purchase approximately 3.0 million shares of
New Common Stock, and Series C Warrants to purchase approximately 3.0 million
shares of New Common Stock.

In accordance with the Plan of Reorganization, the first stage of the
Rights Offering began on October 16, 2003 and will continue until 5:00 p.m.,
New York time on November 14, 2003 (the Subscription Rights Expiration Date).
The thirty day second stage of the Rights Offering, if any, will begin as soon
as commercially practicable after the Subscription Rights Expiration Date. Any
proceeds of the Rights Offering will be used to pay down principal outstanding
under the New Credit Agreement.

The Company has a stock option plan that can further dilute investors if
exercised. This plan is discussed further in note 11. On September 30, 2003,
there were 2.4 million exercisable in-the-money stock options, which, if
exercised, would have resulted in an additional 2.4 million shares of New
Common Stock being issued.

9. OPERATING SEGMENTS

The Company operates its business as one telecommunications segment and
classifies its products and services revenues offered by its telecommunications
services segment into voice services, data services and integrated voice and
data services (dollars in thousands):

|                          |  |                |         |                |  |                |         |                |  |   |         |  |  |   |         | 
|------------------------- |  | -------------- | ------- | -------------- |  | -------------- | ------- | -------------- |  | - | ------- |  |  | - | ------- | 
|                          |  | Reorganized XO |         | Predecessor XO |  | Reorganized XO |         | Predecessor XO
|                          |  | Three months   |         | Three months   |  | Nine months    |         | Nine months   
|                          |  | ended          |         | ended          |  | ended          |         | ended         
|                          |  | September 30,  |         | September 30,  |  | September 30,  |         | September 30, 
|                          |  | 2003           |         | 2002           |  | 2003           |         | 2002          
|                          |  |                |         |                |  |                |         |               
|Voice services            |  | $              | 140,387 |                |  | $              | 158,208 |                |  | $ | 441,129 |  |  | $ | 502,363 | 
|Data services             |  |                | 101,038 |                |  |                | 109,892 |                |  |   | 300,336 |  |  |   | 364,283 | 
|Integrated voice and data |  |                | 38,008  |                |  |                | 33,426  |                |  |   | 107,978 |  |  |   | 93,765  | 
|                          |  |                |         |                |  |                |         |                |  |   |         |  |  |   |         | 
|Total revenue             |  | $              | 279,433 |                |  | $              | 301,526 |                |  | $ | 849,443 |  |  | $ | 960,411 | 
|                          |  |                |         |                |  |                |         |                |  |   |         |  |  |   |         | 

10. RELATED PARTY TRANSACTIONS

After the initial distribution of New Common Stock pursuant to the Plan of
Reorganization, an entity controlled by Mr. Icahn, holds more than 80% of the
outstanding shares of New Common Stock. Of the warrants to be distributed under
the Plan of Reorganization to holders of the pre-petition senior unsecured
notes, it is estimated this Icahn controlled entity will receive Series A
Warrants to purchase approximately 4.0 million shares of New Common Stock,
Series B Warrants to purchase approximately 3.0 million shares of New Common
Stock, and Series C Warrants to purchase approximately 3.0 million shares of
New Common Stock. As entities controlled by Mr. Icahn owned portions of XOs
predecessor unsecured debt, they are claimants in the Companys bankruptcy
reorganization and will receive approximately 40% of the rights to participate
in its Rights Offering. If the Icahn affiliates elect to exercise these rights
they could acquire additional shares of New Common Stock. In addition, more
than 90% of the $500.0 million in loans outstanding under the New Credit
Agreement are held by an entity which is also controlled by Mr. Icahn.

16



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

In February 2003, an entity controlled by Mr. Icahn, acquired ownership of
the building in which XO headquarters is located in a transaction that was
approved by the Bankruptcy Court. XO currently leases approximately 170,000
square feet of space in that building. In connection with its purchase of the
building, the entity controlled by Mr. Icahn assumed the Companys existing
lease agreement and amended the lease to include certain terms that are more
favorable to the Company. Pursuant to the assumed lease agreement, XO has paid
$2.5 million in lease expense through September 30, 2003 and XO is obligated to
pay approximately $16.1 million in the aggregate through the expiration of the
initial term of the lease, which is November 30, 2007.

XO Parent has entered into a Tax Allocation Agreement, dated January 16,
2003, between XO Parent and Starfire Holding Corporation (Starfire), the
parent entity of the affiliated group of corporations controlled by Mr. Icahn,
because it is contemplated that these Icahn controlled entities will be filing
consolidated federal income tax returns, and possibly combined returns for
state tax purposes. The Tax Allocation Agreement, which was approved by the
Bankruptcy Court in connection with XO Parents Chapter 11 proceedings,
establishes the methodology for the calculation and payment of income taxes in
connection with the consolidation of the Company with Starfire for income tax
purposes. Generally, the Tax Allocation Agreement provides that Starfire will
pay all consolidated federal income taxes on behalf of the consolidated group
that includes the Company, and the Company will make payments to Starfire in an
amount equal to the tax liability, if any, that it would have if it were to
file as a consolidated group separate and apart from Starfire.

The Company provides certain telecommunications services to companies
affiliated with Mr. Icahn. For the three and nine months ended September 30,
2003, the total revenue recognized on such services was $0.1 million and $0.3
million respectively.

11. STOCK-BASED COMPENSATION

Upon the Effective Date of the Plan of Reorganization, all options under
the predecessor XO stock option plans were cancelled and the plans were
terminated. Upon the Effective Date of the Plan of Reorganization, the XO
Communications, Inc. 2002 Stock Incentive Plan (the 2002 Stock Incentive
Plan) was adopted. Under the 2002 Stock Incentive Plan, the Company is
authorized to issue awards for up to 17.6 million shares of New Common Stock in
the form of restricted stock or options to purchase New Common Stock.
Non-qualified options to purchase 10.8 million shares of New Common Stock have
been granted and are outstanding as of September 30, 2003.

On June 20, 2003, XO filed a registration statement covering the offer and
sale of stock options and stock appreciation rights (SARs) to be granted in
conjunction with the 2003 Employee Retention and Incentive Plan (the  2003
Retention Plan) for an aggregate award of 1.9 million shares of New Common
Stock. (the Retention Plan Awards). In the third quarter of 2003, XO granted
208,375 options and 10,644 SARs in conjunction with the 2003 Retention Plan,
50% of which were vested and exercisable on the date of grant, with the
remaining 50% vesting ratably every month over the next twenty four months
following the month of grant. Additional grants may be made in 2004 if the
Company attains certain financial goals in the second half of 2003. The
financial goals and the terms of the Retention Plan were established by the
Companys Board of Directors. The per share exercise price for the Retention
Plan Awards was set at $5.84. Compensation expenses were approximately $0.2
million and $0.4 million for the three and nine months ended September 30,
2003, respectively.

12. COMMITMENTS AND CONTINGENCIES

Legal Proceedings

The Company is not currently a party to any other legal proceedings, other
than regulatory and other proceedings that are in the normal course of
business. However, as discussed above, although XO Parent has consummated its
Plan of Reorganization and emerged from its Chapter 11 proceedings, disputes
with respect to the amount of allowed claims owed by XO Parent to certain of
its general unsecured creditors, and claims of certain professionals remain
outstanding. In addition, a party has filed a complaint in the Bankruptcy Court
seeking relief from the courts order confirming the Plan of Reorganization and
a declaratory judgment that such partys derivative suit for the benefit of the
Company against a former director of XO Parent and an affiliate of that
director should not

17



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be released by the confirmation order. While the outcome of these matters,
or any other relief that may be granted, is currently not determinable,
management does not expect that the ultimate costs to resolve these matters
will have a material adverse effect on the Companys consolidated financial
position, results of operations, or cash flows.

Investment in Debt Securities

During the second quarter of 2003, XO liquidated its entire portfolio of
marketable securities which consisted of an investment portfolio containing
U.S. government agency issued and other securities with a duration of less than
one year. The Company invested a portion of the proceeds, $158.5 million, in
$761.1 million principal amount of senior secured debt of Global Crossing, a
telecommunications company which is currently in reorganization proceedings.
The debt trades in a thin market primarily between dealers but is neither
listed on any exchange nor on any over-the-counter NASDAQ or National Quotation
Bureau systems. If the Company chooses to liquidate its investment in this
debt, it may not be able to locate a buyer that would allow it to liquidate the
debt in a timely fashion to recover the amount paid. Accordingly, it cannot be
assured that the Company will be able to dispose of the investment for an
amount equal to or greater than the amount it paid for it. The distribution
that may be received upon consummation of Global Crossings bankruptcy case is
expected to have a value greater than this investment. However, no assurance
can be made by the Company as to the timing of Global Crossings emergence from
bankruptcy.

Prepaid Calling Card Tax Matter

On July 26, 2002, the Company was advised by the staff of the Commission
that it was conducting an informal inquiry primarily relating to the Companys
obligations with respect to, and its accrual of liabilities for, specified
federal excise and state sales tax and similar tax obligations arising in
connection with prepaid calling card services and relating to certain other
matters. On July 29, 2003, the Company was notified by the Commission that the
investigation was terminated and no enforcement action has been recommended.

Unfunded Affiliate Pension Obligation

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

As a result of the more than 80% ownership interest in XO Parent by
entities controlled by Mr. Icahns affiliates, XO Parent and its subsidiaries
will be subject to the pension liabilities of any entities in which Mr. Icahn
has a direct or indirect ownership interest of at least 80%, which includes ACF
Industries, Inc. (ACF), which is the sponsor of certain pension plans. As
most recently reported by the ACF plans actuaries, pension plans maintained by
ACF are underfunded in the aggregate by approximately $14.0 million on an ongoing
actuarial basis and by approximately $102.0 million if those plans were
terminated. As a member of the same controlled group, XO Parent and each of its
subsidiaries would be liable for any failure of ACF to make ongoing pension
contributions or to pay the unfunded liabilities upon a termination of the ACF
pension plans.

The current underfunded status of the ACF pension plans requires ACF to
notify the PBGC if XO Parent or its subsidiaries cease to be a member of the
ACF controlled group. In addition, so long as entities controlled by Mr. Icahn
holds more than 80% of the Companys New Common Stock, certain other
reportable events, including certain extraordinary dividends and stock
redemptions, must be reported to the PBGC.

18



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PART I. FINANCIAL INFORMATION

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

Forward-looking and Cautionary Statements

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



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

All such forward-looking statements are qualified by the inherent risks
and uncertainties surrounding expectations generally, and also may materially
differ from our actual experience involving any one or more of these matters
and subject areas. The operation and results of our business also may be
subject to the effect of other risks and uncertainties in addition to the
relevant qualifying factors identified in the Liquidity Assessment discussions set forth below and the
Risks and Uncertainties discussion and the Risk Factors section of our 2002
Annual Report, including, but not limited to:



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

Overview

We provide a comprehensive array of voice and data communications services
to business customers. Our voice services include local and long distance
services, both bundled and standalone, other voice-related services such as
conferencing, domestic and international toll free services and voicemail, and
transactions processing services for prepaid calling cards. Our data services
include Internet access, private data networking, including dedicated
transmission capacity on our networks, virtual private network services,
Ethernet services, and web hosting services. We also combine many of these
services in flat rate service packages. These services are offered to a variety
of customers, including small, medium and large retail businesses,
multi-location businesses and carrier or wholesale customers.

To serve our customers broad and expanding telecommunications needs, we
operate a network comprised of a series of rings of fiber optic cables located
in the central business districts of numerous metropolitan areas, which we
refer to as metro fiber networks, that are connected primarily by a network of
numerous dedicated wavelengths of transmission capacity on fiber optic cables,
which we refer to as an intercity network. By integrating these networks

19



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with advanced telecommunications technologies, we are able to provide a
comprehensive array of telecommunications services primarily or entirely over a
network that we own or control, from the initiation of the voice or data
transmission to the point of termination, which we refer to as end-to-end
service. This capability enables us to provide telecommunications services
between customers connected to our network and among customers with multiple
locations primarily or entirely over our network.

To develop these networks, we have assembled metro and intercity network
assets in the United States, substantially all of which we own or control
through indefeasible exclusive rights or other leasing arrangements, making us
a facilities-based carrier. These network assets incorporate state-of-the-art
fiber optic cable, dedicated wavelengths of transmission capacity on fiber
optic networks and transmission equipment capable of carrying high volumes of
data, voice, video and Internet traffic. We operate 37 metro fiber networks in
22 states and the District of Columbia, including 25 of the 30 largest
metropolitan areas in the U.S. We have constructed, acquired or leased many of
these metro fiber networks, which consist of up to 432 strands of fiber optic
cable and, in some cases, additional empty conduits through which fiber optic
cable can be deployed. For our inter-city network, we have leased dedicated,
high-capacity wavelengths of transmission capacity on fiber optic cables, onto
which we have deployed our own switching, routing and optical equipment, which
give us greater control over how voice and data information is transmitted. We
also hold indefeasible exclusive rights to use 18 fiber optic strands on the
routes served by our intercity networks pursuant to arrangements with Level 3
Communications, Inc, substantially all of which are unlit.

Recent Events

Changes in Certifying Accountant

On September 24, 2003, XO notified its independent auditors, Ernst & Young
LLP that XO had decided to change auditors. On September 30, 2003, the Audit
Committee of XOs Board of Directors appointed KPMG, LLP to serve as its new
independent auditors for the year ending December 31, 2003. The change was
effective immediately and was reported on Form 8-K filed with the Commission on
September 30, 2003.

Announcement of Offer to Acquire All of the Assets of Global Crossing Ltd.
and Global Crossing Holdings Ltd.

On May 30, 2003, we made the first of a series of offers to acquire all of
the assets and business of Global Crossing Ltd. and Global Crossing Holdings
Ltd, which we collectively refer to as Global Crossing, a telecommunications
company which is currently in Chapter 11 reorganization proceedings.
Thereafter, we made several modifications to, and enhancements of, our initial
offer, and, on June 24, 2003, commenced an offer to purchase all of the senior
secured debt of Global Crossing that we did not already own. To date, we paid
approximately $158.5 million to acquire approximately $761.1 million principal
amount of the approximately $2,214.0 million principal amount of such debt
outstanding.

The United States Bankruptcy Court for the Southern District of New York
approved Global Crossings request to extend until November 14, 2003 the
exclusivity period of its existing purchase agreement with Singapore
Technologies PTE. On September 19, 2003 Global Crossing announced that it
received approval from the Committee for Foreign Investment in the United
States for Singapore Technologies PTEs proposed investment in Global Crossing
and on October 8, 2003 the FCC also approved this purchase agreement. Upon
consummation of Global Crossings Plan of Reorganization, we estimate that we
will receive the following in exchange for our share of Global Crossings
pre-petition senior secured debt:



| |  |  | $105 million in cash;                                          
| | - |  | ---------------------------------------------------------------
|
| |  |  | $60 million of new senior secured notes of Global Crossing; and
|
| |  |  | Approximately 2% of new common stock in Global Crossing.       

However, no assurance can be made by the Company as to the timing of
Global Crossings emergence from bankruptcy.

Bid to Purchase Assets

In August 2003, XO bid at a Bankruptcy Court auction on certain of the
assets and business of Touch America, Inc., a facilities-based
telecommunications service provider serving retail and carrier customers in the
Western,

20



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Central and Southern United States. XOs final bid of approximately $42.5
million, less $5.6 million of pass through revenue, was the second-highest bid
received in the auction. As a result, under the rules governing the auction,
if the winning bidder fails to close its proposed purchase, Touch America will
have the right, but not the obligation, to accept XOs final bid. However, and
since XOs final bid was subject to a number of contractual terms including,
without limitation, Touch Americas compliance with representations and
warranties, the absence of any material adverse change in Touch Americas
business, additional covenants, regulatory approval, and other conditions, it
is not known whether or not XO would be obligated to make such purchase.

Announcement of Chief Executive Officer Appointment

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

Our Chapter 11 Reorganization and Emergence

The Reorganization Proceedings

On June 17, 2002, XO Parent filed for protection under Chapter 11 of the
Bankruptcy Code in the United States Bankruptcy Court for the Southern District
of New York. On November 15, 2002, the Bankruptcy Court confirmed XO Parents
plan of reorganization, and, on January 16, 2003, the Effective Date, XO Parent
consummated the plan of reorganization and it emerged from its Chapter 11
reorganization proceedings with a significantly restructured balance sheet. As
described in more detail in our annual report on Form 10-K for the year ended
December 31, 2002 as filed with the Commission on March 21, 2003, hereinafter
referred to as the 2002 Annual Report, the consummation of the Plan of
Reorganization resulted in the following changes:



| |  |  | The conversion of $1.0 billion of loans under XO Parents
pre-petition senior secured credit facility, which we refer to as the
Pre-Petition Credit Facility, into $500.0 million of outstanding
principal amount which we refer to as the New Credit Agreement;                                                                                                                                                                                                                                                                                                                                                                                                                                    
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | The extinguishment of all amounts due under our pre-petition
unsecured senior and subordinated notes and certain general unsecured
obligations;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
| |  |  | The cancellation of all outstanding shares and interest in our
pre-petition preferred stock and pre-petition common stock.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|
| |  |  | The issuance of approximately 95.0 million shares of common stock
of the reorganized Company which we refer to as the New Common Stock
and warrants to purchase up to an additional 23.75 million shares of
New Common Stock of the reorganized Company. As part of the
distribution process, XO Parent is holding approximately 1.0 million
shares of New Common Stock and warrants to purchase approximately 6.2
million shares of New Common Stock in a reserve for distribution to
holders of XO Parents pre-petition unsecured senior notes and
pre-petition general unsecured claims. These securities will be
distributed upon final resolution of disputed XO Parent bankruptcy
claims; and
|
| |  |  | The requirement to issue rights to subscribe for 40.0 million to
43.3 million shares of New Common Stock, at $5.00 per share, through
the Rights Offering. XO Parent has registered the New Common Stock to
be issued upon exercise of subscription rights in the Rights Offering
and transferable subscription rights issuable to XO Parents affiliates
in the Rights Offering in its Registration Statement on Form S-1 (Reg.
No. 333-107254), which became effective on October 16, 2003. The
initial stage of the Rights Offering commenced on October 16, 2003.                                                                                                                               

Distributions to and Interests Held by Entities Controlled by Mr. Carl C.
Icahn

After the initial distribution of New Common Stock pursuant to the Plan of
Reorganization, an entity controlled by Mr. Carl C. Icahn, Chairman of XO,
holds more than 80% of the outstanding shares of New Common Stock. Upon final
distribution of warrants under the Plan of Reorganization, we estimate the
entity controlled by Mr. Icahn will receive Series A Warrants to purchase
approximately 4.0 million shares of New Common Stock, Series B

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Warrants to purchase approximately 3.0 million shares of New Common Stock,
and Series C Warrants to purchase approximately 3.0 million shares of New
Common Stock. As entities controlled by Mr. Icahn owned portions of our
pre-petition unsecured debt, they are claimants in our reorganization and will
receive approximately 40% of the rights to participate in our Rights Offering.
If they elect to exercise these rights they could acquire additional shares of
New Common Stock. In addition, more than 90% of the $500.0 million in loans
outstanding under the New Credit Agreement are held by an entity which is also
controlled by Mr. Icahn.

Accounting Impact of Implementing the Plan of Reorganization

Due to XO Parents emergence from its Chapter 11 proceeding, we have
implemented the fresh start accounting provisions of the American Institute
of Certified Public Accountants, or the AICPA, Statement of Position 90-7,
Financial Reporting by Entities in Reorganization under the Bankruptcy Code,
to our financial statements. Fresh start requires that, upon our emergence, we
establish a fair value basis for the carrying value of the assets and
liabilities for reorganized XO. Although the effective date of the Plan of
Reorganization was January 16, 2003, due to the immateriality of the results of
operations for the period between January 1, 2003 and the Effective Date, we
accounted for the consummation of the Plan of Reorganization as if it had
occurred on January 1, 2003 and implemented fresh start as of that date. The
January 1, 2003 balance sheet included in the accompanying condensed
consolidated financial statements set forth in Item 1 above, and in note 2 to
such financial statements, illustrates the impact of applying fresh start.

Comparison of Financial Results

As a consequence of the Chapter 11 reorganization, the financial results
for the three and nine months ended September 30, 2003 have been separately
presented under the label Reorganized XO and are not comparable with prior
year results. The results for Predecessor XO for January 1, 2003 reflect
solely the impact of the application of fresh start on that date. The
reorganized Company has adopted the policy of expensing customer installation
costs and internal labor directly associated with network construction in the
period in which the costs are incurred. The predecessor Company capitalized and
amortized these costs. In accordance with SOP 90-7, the reorganized Company was
required to implement newly issued accounting pronouncements that would require
adoption within twelve months of applying fresh start.

The operational results for the three and nine months ended September 30,
2003 are discussed below.

Three and Nine Months Ended September 30, 2003 versus Three and Nine Months
Ended September 30, 2002

Revenue. Total revenue for the three months ended September 30, 2003
decreased 7.3% to $279.4 million from $301.5 million in the same period of 2002
while total revenue for the nine months ended September 30, 2003 decreased
11.6% to $849.4 million from $960.4 million for the same period of 2002. This
decline is primarily due to a high level of customer disconnects due to reduced
demand from other telecommunications companies as a result of a weakened
economy, customer bankruptcies in the telecommunication industry, and
regulatory and competitive pricing pressures across certain services. To
increase sales activity in 2003, we have hired additional direct sales
personnel and sales agents. Programs launched in 2002 and 2003 to decrease
customer disconnects will continue. We expect that total revenue will decline
in the near term as customer churn continues and the level of new customer
installations lag behind increased sales productivity. Price declines in
carrier long-distance services will also contribute to this trend. Revenue was
earned from providing the following services (dollars in thousands):

|                          |               |   |                    |         |                    |  |      |       |              |   |          |         |  |  |      |       |   |  |       |      |   
|------------------------- | ------------- | - | ------------------ | ------- | ------------------ |  | ---- | ----- | ------------ | - | -------- | ------- |  |  | ---- | ----- | - |  | ----- | ---- | --
|                          |               |   | Reorganized XO     |         | Predecessor XO     |  |      |       |             
|                          |               |   | Three Months Ended |         | Three Months Ended |  |      |       |             
|                          |               |   | September 30,      |         | September 30,      |  |      |       |             
|                          |               |   |                    |         |                    |  |      |       |             
|                          |               |   | 2003               |         | % of Revenue       |  | 2002 |       | % of Revenue |   | % Change
|                          |               |   |                    |         |                    |  |      |       |              |   |         
|Voice services            |               | $ | 140,387            |         |                    |  | 50.2 | %     |              | $ | 158,208  |         |  |  | 52.5 | %     |   |  | (11.3 | %)  
|Data services             |               |   | 101,038            |         |                    |  | 36.2 | %     |              |   | 109,892  |         |  |  | 36.4 | %     |   |  | (8.1  | %)  
|Integrated voice and data |               |   | 38,008             |         |                    |  | 13.6 | %     |              |   | 33,426   |         |  |  | 11.1 | %     |   |  | 13.7  | %   
|                          |               |   |                    |         |                    |  |      |       |              |   |          |         |  |  |      |       |   |  |       |     
|                          | Total revenue |   | $                  | 279,433 |                    |  |      | 100.0 | %            |   | $        | 301,526 |  |  |      | 100.0 | % |  |       | (7.3 | %)
|                          |               |   |                    |         |                    |  |      |       |              |   |          |         |  |  |      |       |   |  |       |     

22



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|                          |               |   |                   |         |                   |  |      |       |              |   |          |         |  |  |      |       |   |  |       |       |   
|------------------------- | ------------- | - | ----------------- | ------- | ----------------- |  | ---- | ----- | ------------ | - | -------- | ------- |  |  | ---- | ----- | - |  | ----- | ----- | --
|                          |               |   | Reorganized XO    |         | Predecessor XO    |  |      |       |             
|                          |               |   | Nine Months Ended |         | Nine Months Ended |  |      |       |             
|                          |               |   | September 30,     |         | September 30,     |  |      |       |             
|                          |               |   |                   |         |                   |  |      |       |             
|                          |               |   | 2003              |         | % of Revenue      |  | 2002 |       | % of Revenue |   | % Change
|                          |               |   |                   |         |                   |  |      |       |              |   |         
|Voice services            |               | $ | 441,129           |         |                   |  | 51.9 | %     |              | $ | 502,363  |         |  |  | 52.3 | %     |   |  | (12.2 | %)   
|Data services             |               |   | 300,336           |         |                   |  | 35.4 | %     |              |   | 364,283  |         |  |  | 37.9 | %     |   |  | (17.6 | %)   
|Integrated voice and data |               |   | 107,978           |         |                   |  | 12.7 | %     |              |   | 93,765   |         |  |  | 9.8  | %     |   |  | 15.2  | %    
|                          |               |   |                   |         |                   |  |      |       |              |   |          |         |  |  |      |       |   |  |       |      
|                          | Total revenue |   | $                 | 849,443 |                   |  |      | 100.0 | %            |   | $        | 960,411 |  |  |      | 100.0 | % |  |       | (11.6 | %)
|                          |               |   |                   |         |                   |  |      |       |              |   |          |         |  |  |      |       |   |  |       |      

Voice services revenue includes revenue from bundled local and long
distance voice services, prepaid calling card processing, and other voice
telecommunications based services, interactive voice response services and
stand-alone long distance services. Voice services revenue for the three months
ended September 30, 2003 decreased to $140.4 million from $158.2 million for
the same period of 2002, and for the nine months ended September 30, 2003,
decreased to $441.1 million from $502.4 million in the same period of 2002. The
decrease is primarily attributable to customer disconnects and usage reductions
arising from customers downsizing due to the state of the domestic economy and
reduced carrier access billing rates.

Data services revenue includes revenue from Internet access, network
access and web applications hosting services. Data services revenue for the
three months ended September 30, 2003 decreased to $101.0 million from $109.9
million for the same period of 2002, and for the nine months ended September
30, 2003, it decreased to $300.3 million from $364.3 million for the same
period of 2002. The decline was attributable to customer bankruptcies,
customer disconnects, and a lower demand from large customers due to reductions
in those customers data capacity needs.

Integrated voice and data services revenue is generated largely from our
XOptions service offerings, a flat-rate bundled package offering a combination
of voice and data services. Integrated voice and data services revenue for the
three months ended September 30, 2003 increased to $38.0 million from $33.4
million for the same period in 2002, and for the nine months ended September
30, 2003, it increased to $108.0 million from $93.8 million in the same period
of 2002. The increase is due to the acceptance in the marketplace of our
XOptions service offering.

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

|                    |                                     |   |                    |         |                    |  |      |      |              |   |          |         |  |  |  |       |   |  |       |       |   
|------------------- | ----------------------------------- | - | ------------------ | ------- | ------------------ |  | ---- | ---- | ------------ | - | -------- | ------- |  |  |  | ----- | - |  | ----- | ----- | --
|                    |                                     |   | Reorganized XO     |         | Predecessor XO     |  |      |      |             
|                    |                                     |   | Three Months Ended |         | Three Months Ended |  |      |      |             
|                    |                                     |   | September 30,      |         | September 30,      |  |      |      |             
|                    |                                     |   |                    |         |                    |  |      |      |             
|                    |                                     |   | 2003               |         | % of Revenue       |  | 2002 |      | % of Revenue |   | % Change
|                    |                                     |   |                    |         |                    |  |      |      |              |   |         
|Costs and expenses: |                                     |   |                    |         |                    |  |      |      |              |   |          |         |  |  |  |       |   |  |       |      
|                    | Cost of service                     |   | $                  | 106,935 |                    |  |      | 38.3 | %            |   | $        | 126,215 |  |  |  | 41.9  | % |  |       | (15.3 | %)
|                    | Selling, operating and general      |   |                    | 179,795 |                    |  |      | 64.3 | %            |   |          | 175,030 |  |  |  | 58.0  | % |  |       | 2.7   | % 
|                    | Stock-based compensation            |   |                    | 193     |                    |  |      | 0.0  | %            |   |          | 8,776   |  |  |  | 2.9   | % |  |       | (97.8 | %)
|                    | Depreciation and amortization       |   |                    | 28,388  |                    |  |      | 10.2 | %            |   |          | 187,256 |  |  |  | 62.1  | % |  |       | (84.8 | %)
|                    | Restructuring and asset write-downs |   |                    |        |                    |  |      |     |              |   |          | 477,250 |  |  |  | 158.3 | % |  | NM   
|                    |                                     |   |                    |         |                    |  |      |      |              |   |          |         |  |  |  |       |   |  |       |      
|Total               |                                     | $ | 315,311            |         |                    |  |      |      |              | $ | 974,527  |         |  |  |  |       |   |  | (67.6 | %)   
|                    |                                     |   |                    |         |                    |  |      |      |              |   |          |         |  |  |  |       |   |  |       |      

|                    |                                     |   |                   |         |                   |  |      |      |              |   |           |         |  |  |  |      |   |  |       |       |   
|------------------- | ----------------------------------- | - | ----------------- | ------- | ----------------- |  | ---- | ---- | ------------ | - | --------- | ------- |  |  |  | ---- | - |  | ----- | ----- | --
|                    |                                     |   | Reorganized XO    |         | Predecessor XO    |  |      |      |             
|                    |                                     |   | Nine Months Ended |         | Nine Months Ended |  |      |      |             
|                    |                                     |   | September 30,     |         | September 30,     |  |      |      |             
|                    |                                     |   |                   |         |                   |  |      |      |             
|                    |                                     |   | 2003              |         | % of Revenue      |  | 2002 |      | % of Revenue |   | % Change 
|                    |                                     |   |                   |         |                   |  |      |      |              |   |          
|Costs and expenses: |                                     |   |                   |         |                   |  |      |      |              |   |           |         |  |  |  |      |   |  |       |      
|                    | Cost of service                     |   | $                 | 319,339 |                   |  |      | 37.6 | %            |   | $         | 400,928 |  |  |  | 41.7 | % |  |       | (20.4 | %)
|                    | Selling, operating and general      |   |                   | 510,817 |                   |  |      | 60.1 | %            |   |           | 568,533 |  |  |  | 59.2 | % |  |       | (10.2 | %)
|                    | Stock-based compensation            |   |                   | 447     |                   |  |      | 0.1  | %            |   |           | 26,762  |  |  |  | 2.8  | % |  |       | (98.3 | %)
|                    | Depreciation and amortization       |   |                   | 81,993  |                   |  |      | 9.7  | %            |   |           | 516,455 |  |  |  | 53.8 | % |  |       | (84.1 | %)
|                    | Restructuring and asset write-downs |   |                   |        |                   |  |      |     |              |   |           | 480,168 |  |  |  | 50.0 | % |  | NM   
|                    |                                     |   |                   |         |                   |  |      |      |              |   |           |         |  |  |  |      |   |  |       |      
|Total               |                                     | $ | 912,596           |         |                   |  |      |      |              | $ | 1,992,846 |         |  |  |  |      |   |  | (54.2 | %)   
|                    |                                     |   |                   |         |                   |  |      |      |              |   |           |         |  |  |  |      |   |  |       |      

NM - Not Meaningful

Cost of service. Cost of service includes expenses directly associated
with providing telecommunications services to our customers. Cost of service
includes, among other items, the cost of connecting customers to our networks
via leased facilities, the costs of leasing components of our network
facilities and costs paid to third party

23



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service providers for interconnect access and transport services. Cost of
service for the three and nine months ended September 30, 2003 decreased in
absolute dollars and as a percentage of revenue compared to the same period in
2002. The year over year decline was due primarily to cost optimization
programs which reduced expenses by transferring traffic from leased facilities
onto our owned or controlled facilities, reduced costs due to reduced revenue,
and favorable resolutions of disputed third party costs during the first nine
months of 2003. The decline was partially offset by our adoption of an
accounting policy during the first quarter of 2003, to expense rather than
defer costs associated with the installation of customer services.

We anticipate that cost of service as a percentage of revenue will
fluctuate based on trends in revenue, product mix, the impact of customer
bankruptcies, the extension of services into new markets, regulatory decisions
and our ability to continue favorable resolution of third party billing
disputes.

Selling, operating and general.Selling, operating and general expense
includes expenses related to sales and marketing, internal network operations
and engineering, information systems, general corporate office functions and
collection risks. Selling, operating and general expense for the three months
ended September 30, 2003 was $179.8 million versus $175.0 million for the same
period in 2002. Selling, operating and general expenses for the third quarter
of 2003 increased in absolute dollars and as a percentage of revenue when
compared to the third quarter of 2002 due to increased costs associated with
hiring, training and compensating new sales personnel. For the nine months
ended September 30, 2003, selling, operating and general expense was $510.8
million versus $568.5 million for the same period in 2002. Selling, operating
and general expense for the nine months ended September 30, 2003 decreased from
the nine months ended September 30, 2002 in part due to cost reduction and
restructuring initiatives that included significant headcount reductions. In
addition, bankruptcy allowed us to reject or renegotiate many contracts and
fresh start accounting required us to adjust our lease commitments and property
to fair value resulting in expense savings in various contracted services, rent
and property taxes. These reductions were partially offset by our adoption of
the policy of expensing internal labor costs directly associated with customer
installation and the construction of our network.

We expect selling, operating and general expense to remain relatively
stable in absolute dollars but increase as a percentage of revenue for the
remainder of 2003 until the investment made in the expanded sales force is
realized in revenue growth.

Stock-based compensation. Stock-based compensation expense represents
non-cash charges recorded in connection with the grant of compensatory stock
options and restricted stock to employees whose compensation is included in
selling, operating and general expense. XO incurred $8.8 million in deferred
compensation expense in the third quarter of 2002 and $26.8 million in the
first nine months of 2002. With respect to new grants of compensatory stock
options and restricted stock the reorganized company recognized stock-based
compensation expense of approximately $0.2 million and $0.4 million for the
three and nine months ended September 30, 2003, respectively.

Depreciation and amortization. As discussed above, we implemented fresh
start on January 1, 2003 which resulted in a reduction of the carrying value of
our property and equipment to its estimated fair value which is significantly
lower than historical cost. Consequently, depreciation expense decreased to
$21.8 million for the three months ended September 30, 2003, versus $161.0
million for the same period in 2002 and to $62.4 million for the first nine
months of 2003 versus $437.5 million in the first nine months of 2002.
Amortization expense includes the amortization of fixed wireless licenses and
other intangible assets with definite lives. As a result of fresh start
accounting, the carrying value of fixed wireless licenses and intangible assets
was adjusted to their estimated fair value. The aggregate estimated fair value
of these assets is significantly lower than their historical cost. Total
amortization expense decreased to $6.5 million for the three months ended
September 30, 2003 versus $26.3 million for the same period in 2002 and it
decreased to $19.6 million for the first nine months of 2003 versus $79.0
million for the first nine months of 2002.

We expect depreciation and amortization expense for the remainder of the
year to continue to track with the first nine months of 2003. As of September
30, 2003, we had approximately $81.6 million of construction-in-progress plus $23.5 million of fixed wireless licenses that are not currently ready
for their intended use or placed into service and, accordingly, are not
currently being depreciated or amortized.

Loss from Operations.Loss from operations was $35.9 million for the
third quarter of 2003 and $63.2 million for the first nine months of 2003. As
discussed above, we expect revenue to decrease and costs and expenses to

24



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increase from third quarter results. Consequently we expect our loss from
operations to increase to approximately $50.0 million during the fourth quarter
of 2003.

Interest
income. Interest income for the three months ended September 30,
2003 decreased to $1.0 million from $3.8 million for the same period in 2002.
For the nine months ended September 30, 2003, interest income decreased to $9.3
million from $13.4 million for the same period in 2002. The decrease in
interest income is due primarily to reduced interest rates on lower invested
balances and our policy of not accruing interest income on our investment in
debt securities of Global Crossing.

Interest expense, net.Interest expense, net for the reorganized Company
for the three and nine months ended September 30, 2003 was $5.9 million and
$27.3 million, respectively. During the third quarter of 2003, we reduced
interest expense by $3.5 million that have been accreted during the first half
of 2003 on our unfavorable lease commitments (see note 3 to the condensed consolidated financial statements). For the three and nine months
ended September 30, 2002, interest expense was $0.6 million and $225.8 million,
respectively. The increase for the three months ended September 30, 2003 is due
to no accrual of interest expense on our pre-petition debt in the third quarter
of 2002 as we were in bankruptcy. Contractual interest was $128.5 million for
the third quarter of 2002. The significant reduction for the nine months was
caused by the cancellation of our pre-petition senior notes, pre-petition
convertible subordinated notes and the Pre-Petition Credit Facility upon
consummation of our Plan of Reorganization. Interest expense for the nine
months ended September 30, 2003 primarily relates to interest on the New Credit
Agreement. Any proceeds from the Rights Offering will be used to retire
outstanding debt of the New Credit Agreement, discussed further in Liquidity
and Capital Resources.

Critical Accounting Policies

Our significant accounting policies are more fully described in the notes
to the consolidated financial statements in our 2002 Annual Report. The
preparation of the condensed consolidated financial statements in accordance
with accounting principles generally accepted in the United States requires
management to make judgments, estimates and assumptions regarding uncertainties
that affect the reported amounts of assets and liabilities, disclosure of
contingent assets and liabilities and the reported amounts of revenues and
expenses. Management uses historical experience and all available information
to make these judgments and estimates and actual results could differ from
those estimates and assumptions that are used to prepare our financial
statements at any given time. Despite these inherent limitations, management
believes that Managements Discussion and Analysis and the accompanying
condensed consolidated financial statements and footnotes provide a meaningful
and fair perspective of our financial condition and our operating results for
the current period. Management believes the following critical accounting
policies represent the more significant judgments and estimates used in the
preparation of our condensed consolidated financial statements included in this
Quarterly Report on Form 10-Q.

Investment in Debt Securities

Investment in debt securities at September 30, 2003 consist of investments
in senior secured debt of Global Crossing, a telecommunications company which is
currently in Chapter 11 reorganization proceedings. The debt trades in a thin
market primarily between dealers but is neither listed on any exchange nor on
any over-the-counter NASDAQ or National Quotation Bureau systems. Accordingly,
we currently report all Global Crossing debt securities at cost, which
approximates fair value, and have not accrued any interest income on this
investment.

Long-Lived Assets

Our long-lived assets include property and equipment, fixed wireless
licenses, and identifiable intangible assets to be held and used. Property and
equipment acquired prior to December 31, 2002 was recorded at fair value as
required by fresh start, net of accumulated depreciation. Additions to property
and equipment during 2003 are recorded at historical cost. Depreciation is
calculated on a straight-line basis over the estimated useful lives of the
assets. The estimated useful lives of telecommunications networks and acquired
bandwidth are 3 to 20 years and 5 to 7 years for furniture fixtures, equipment
and other. These useful lives are determined based on historical usage with
consideration given to technological changes and trends in the industry that
could impact the network architecture and asset utilization. This latter
assessment is significant because we operate within an industry in which new
technological changes could render some or all of our network related equipment
obsolete requiring application of a shorter useful life or, in certain
circumstances, a write-off of the entire value of the asset. Accordingly, in
making this assessment, we consider our planned use of the assets, the views of
experts both from internal and outside sources regarding the impact of
technological advances and trends in the industry on the value and useful lives
of our network assets. Costs of additions and improvements (other than internal
labor costs related to network

25



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construction, as discussed below) are capitalized and repairs and
maintenance are charged to expense as incurred. Direct external costs of
constructing property and equipment are capitalized including interest costs
related to construction. The reorganized Company has adopted the policy of
expensing internal labor directly associated with network construction in the
period in which the costs are incurred.

Investments in fixed wireless licenses acquired prior to December 31, 2002
were recorded at their fair values at January 1, 2003, as required by fresh
start. We are amortizing these over the license period of 10 years as
determined by the Federal Communications Commission. Other intangibles consist
of customer relationships, internally developed technology and XOs trade name.
The customer relationships and internally developed technology are being
amortized using the straight-line method over the estimated useful lives of
three years. The XO trade name was determined to have an indefinite life and is
not being amortized, but is reviewed at least annually for impairment, as
required under Statement of Financial Accounting Standards, or SFAS, No. 142
Goodwill and Other Intangible Assets, or SFAS No. 142.

Depreciation or amortization of the long-lived asset begins when the asset
is substantially complete or placed into service.

Long-lived assets are reviewed for impairment whenever events or changes
in circumstances indicate that the carrying amount should be addressed pursuant
to SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived
Assets, or SFAS No. 144. The criteria for determining impairment for
long-lived assets to be held and used is determined by comparing the carrying
value of these long-lived assets to managements best estimate of future
undiscounted cash flows expected to result from the use of the assets and their
eventual disposition. We believe that no impairment existed under SFAS No. 144
as of September 30, 2003. In the event that there are changes in the planned
use of our long-lived assets or our expected future undiscounted cash flows are
reduced significantly, our assessment of our ability to recover the carrying
value of these assets under SFAS No. 144 could change.

Revenue Recognition

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

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

We establish an allowance for collection of doubtful accounts and other
sales credit adjustments. Allowances for sales credits are established through
a charge to revenue, while allowances for doubtful accounts are established
through a charge to selling, operating and general expenses. We assess the
adequacy of these reserves monthly by considering general factors, such as the
length of time individual receivables are past due, historical collection
experience, the economic and competitive environment, and changes in the credit
worthiness of our customers. As considered necessary, we also assess the
ability of specific customers to meet their financial obligations to us and
establish specific valuation allowances based on the amount we expect to
collect from these customers. We can and have experienced material changes to
our reserve requirements on a month to month basis as significant customers
have in the past unexpectedly filed for bankruptcy or otherwise became
insolvent. We believe that our established valuation allowances were adequate
as of September 30, 2003. If circumstances relating to specific customers
change or economic conditions worsen such that our past collection experience
and assessment of the economic environment are no longer valid, our estimate of
the recoverability of our trade receivables could be changed. If this occurs,
we would adjust our valuation allowance in the period the new information is
known.

26



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Revenue from the sale or lease of unlit network capacity is recognized
upon consummation of the transaction and the acquirers acceptance of the
capacity in instances when we receive upfront cash payments and are
contractually obligated to transfer title to the specified capacity at the end
of the contract term. If the transaction does not meet these criteria, revenue
is recognized ratably over the contract term.

Cost of Service

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

Income Taxes

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

As of December 31, 2002, we had net operating loss carryforwards of
approximately $4.0 billion and capital loss carryforwards of approximately $0.5
billion. As of the Effective Date, we recognized a substantial amount of
taxable income from the cancellation of indebtedness, eliminating a substantial
portion of these capital and net operating loss carryforwards. Other tax
attributes, including property bases, have also been reduced. Any surviving
capital or net operating loss carryforwards will be subject to limitations
imposed under the ownership change rules in the U.S. Internal Revenue Code. As
discussed in more detail in note 10 to the accompanying Condensed Consolidated
financial statements, we will join with the affiliated group of corporations
controlled by Mr. Carl C. Icahn in filing a consolidated federal income tax
return for periods following the Effective Date.

Recent Accounting Pronouncements

In June 2001, the Financial Accounting Standards Board, or FASB issued
SFAS No. 143, Accounting for Asset Retirement Obligations, or SFAS No. 143,
which requires an entity to recognize the fair value of a liability for an
asset retirement obligation in the period in which a legal or contractual
removal obligation is incurred if a reasonable estimate of fair value can be
made. If a reasonable estimate of fair value cannot be made in the period the
asset retirement obligation is incurred, SFAS No. 143 requires the liability to
be recognized when a reasonable estimate of the fair value can be made. As
required by SOP 90-7, we implemented SFAS No. 143 on January 1, 2003, in
conjunction with the implementation of fresh start and recorded an estimated
asset retirement obligation of $12.0 million, as disclosed in note 5 to the
accompanying condensed consolidated financial statements.

Effective January 1, 2003, we adopted SFAS No. 145, Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections as of April 2002 or SFAS No. 145, which eliminates the requirement
to report material gains or losses from debt extinguishments as an
extraordinary item, net of any applicable income tax effect, in an entitys
statement of operations. SFAS No. 145 instead requires that a gain or loss
recognized from a debt extinguishment be classified as an extraordinary item
only when the extinguishment meets the criteria of both unusual in nature and
infrequent in occurrence as prescribed under Accounting Principles Board
Opinion, or APB, No. 30, Reporting the Results of
Operations - Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions. The adoption of SFAS No. 145
had no effect on our financial position or results of operations for the three
and nine months ended September 30, 2003 and 2002.

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

27



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activities be recorded at their fair value when a liability has been
incurred. Under previous guidance, certain exit costs, including severance
costs, were accrued upon managements commitment to an exit plan, which is
generally before an actual liability has been incurred. In the first nine months of
2003, we did not have any exit or disposal activities initiated after December
31, 2002; however, in conjunction with our implementation of fresh start
accounting, our remaining restructuring accrual has been reduced to its fair
value as discussed in note 6.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation-Transition and Disclosure, or SFAS No. 148 which
amends SFAS No. 123, Accounting for Stock-Based Compensation, or SFAS No.
123, to provide alternative methods of transition to SFAS No. 123s fair value
method of accounting for stock-based employee compensation. SFAS No. 148 also
amends the disclosure provisions of SFAS No. 123 and APB No. 28, Interim
Financial Reporting, or APB No. 28, to require disclosure in the summary of
significant accounting policies of the effects of an entitys accounting policy
with respect to stock-based employee compensation on reported net income and
earnings per share in annual and interim financial statements. While SFAS No.
148 does not amend SFAS No. 123 to require companies to account for employee
stock options using the fair value method, the disclosure provisions of SFAS
No. 148 are applicable to all companies with stock-based employee compensation,
regardless of whether they account for that compensation using the fair value
method of SFAS No. 123 or the intrinsic value method of APB No. 28. Effective
January 1, 2003, we adopted the disclosure provisions of SFAS No. 148. As
allowed by SFAS No. 148, we have chosen to continue to account for compensation
cost associated with our employee stock option plans in accordance with the
intrinsic value method prescribed by APB No. 25, Accounting for Stock Issued
to Employees, or APB No. 25.

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

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

In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities, an interpretation of Accounting Research Bulletin
No.51, Consolidated Financial Statements (FIN 46). FIN 46 applies to any
business enterprise that has a controlling interest, contractual relationship
or other business relationship with a variable interest entity (VIE) and
establishes guidance for the consolidation of VIEs that function to support the
activities of the primary beneficiary. We believe we have no investments in, or
contractual or other business relationships with VIEs. Therefore, the adoption
of FIN 46 had no effect on our consolidated financial position as of September
30, 2003 or the results of our operations for the three and nine months ended
September 30, 2003.

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

Liquidity and Capital Resources

Our goal is to provide our customers complete, integrated, voice and data
network applications and services primarily through networks that we own or
control. We believe that the consummation of our Plan of Reorganization and the
changes in our capital structure as a result of our emergence from Chapter 11
bankruptcy along with the various initiatives we have undertaken to reduce
operating costs and capital expenditures over the past two years, position us
to be able to successfully execute our business plans and generate cash flow
over the long term. However, in the near term we expect to incur net negative
cash flows from operating and investing activities.

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Our balance of cash, marketable securities, and investments in debt
securities decreased to $520.1 million at September 30, 2003 from $561.0
million at December 31, 2002. During the second quarter of 2003, we liquidated
our entire portfolio of marketable securities containing U.S. government agency
issued securities and we paid $158.5 million to purchase $761.1 million
principal amount of senior secured debt of Global Crossing Holdings Ltd. and
Global Crossing North America, Inc., telecommunications companies which are
currently in reorganization proceedings. We now hold approximately 34% of the
$2.214 billion principal amount of such debt outstanding. These Global
Crossing securities are classified as investment in debt securities. They are
significantly higher in risk than our previous marketable securities as they
are thinly traded between dealers, not listed on any exchange or on the
over-the-counter market and may not be recoverable at our cost should Global
Crossings financial condition deteriorate or reorganization plan be further
delayed or not consummated.

On September 19, 2003, Global Crossing announced that it received approval
from the Committee for Foreign Investment in the United States for ST
Telemedias proposed investment in Global Crossing and on October 8, 2003 the
FCC also approved this purchase agreement. Upon consummation of Global
Crossings Plan of Reorganization, we estimate that we will receive the
following in exchange for our share of Global Crossings pre-petition senior
secured debt:



| |  |  | $105 million in cash;                                          
| | - |  | ---------------------------------------------------------------
|
| |  |  | $60 million of new senior secured notes of Global Crossing; and
|
| |  |  | Approximately 2% of new common stock in Global Crossing.       

However, no assurance can be made by the Company as to the timing of
Global Crossings emergence from bankruptcy.

Capital Resources and Liquidity Assessment

We expect that, in the near term, our business will use existing cash to
fund capital expenditures and working capital requirements. We expect that the
majority of our planned capital expenditure requirements will be
success-based in that they will be used to purchase and install optical
equipment, channel banks, routers, servers or other customer-related equipment
and electronics in connection with growing revenue by adding new customers or
increasing the amount of services provided to existing customers. Much of the
remaining planned capital expenditures will be for the continued development
and implementation of our information systems to support and enhance the
provisioning and billing of new and existing customers. Part of our working
capital requirements are commitments under lease and contractual obligations
for software licenses and ongoing support of software for IT and network
applications.

There are no additional borrowings available under our New Credit
Agreement, although, under certain circumstances, the New Credit Agreement
permits us to obtain a senior secured facility of up to $200.0 million, less
the amount of any proceeds from the Rights Offering, so long as the terms are
satisfactory to the administrative agent and holders of a majority of the
principal amount of the loans outstanding under the New Credit Agreement. We
have no current debt service requirements since automatic and permanent
quarterly reductions of the principal amount outstanding under the New Credit
Agreement do not commence until October 15, 2007. In the event that
consolidated excess cash flow (as defined in the New Credit Agreement) for any
fiscal quarter during the term of the agreement is greater than $25 million, at
the request of the lender, the Company will pay an amount equal to 50% of such
excess cash flow greater than $25 million toward the reduction of outstanding
indebtedness. We are not required to pay cash for interest accrued on the
principal amount under the New Credit Agreement until we meet certain financial
ratios. As previously noted, XO filed an amended Rights Offering registration
statement with the Commission and commenced the offering on October 16, 2003.
We cannot predict at this time how much capital will be raised, but all
proceeds will be used to pay down principal outstanding under the New Credit
Agreement and will reduce the amount permissible under the $200.0 million
senior secured facility discussed above.

We expect that our current cash balance of $361.6 million will be
sufficient to fund our working capital and capital expenditure needs and allow
us to successfully execute our business plan. Current economic conditions of
the telecommunications industry, however, have created potential opportunities
for XO to invest or acquire companies or portions of companies at attractive
prices. We may in the future make offers to acquire additional
telecommunication companies or assets. If we do so, we do not know what the
terms of any such transactions would be. Such transactions, if any, involving
cash consideration could significantly and adversely affect our liquidity. To

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support further business expansion, including investments in or
acquisitions of other companies or portion of other companies, we may consider
additional equity and debt financings.

Our current financial projections do not assure that we will have
sufficient cash to repay debt amounts due in 2007 under the New Credit
Agreement. We expect to be able to refinance the debt outstanding under our New
Credit Agreement in or prior to 2007, and expect to be in position to do so on
commercially reasonable terms, however no assurance can be given that we will
be successful in refinancing this debt or under the terms that are commercially
reasonable. More than 90% of the underlying loans of the New Credit Agreement
are currently held by an entity controlled by Mr. Icahn.

Off-Balance Sheet Transactions

We are not currently engaged in the use of off-balance sheet derivative
financial instruments, to hedge or partially hedge interest rate exposure.

Credit Risk

During the second quarter of 2003, XO liquidated its entire portfolio of
marketable securities which consisted of an investment portfolio containing
U.S. government agency issued and other securities with a duration of less than
one year. XO invested a portion of the proceeds, $158.5 million, in $761.1
million principal amount of senior secured debt of Global Crossing, a
telecommunications company which is currently in reorganization proceedings.
The debt trades in a thin market primarily between dealers but is neither
listed on any exchange nor on any over-the-counter NASDAQ or National Quotation
Bureau systems. If XO chooses to liquidate its investment in this debt, it may
not be able to locate a buyer that would allow it to liquidate the debt in a
timely fashion to recover the amount paid. Accordingly, it cannot be assured
that XO will be able to dispose of the investment for an amount equal to or
greater than the amount it paid for it. The distribution that would be received
upon consummation of Global Crossings bankruptcy case is expected to have a
value greater than this investment. However, no assurance can be made by the
Company as to the timing of Global Crossings emergence from bankruptcy.

Other financial instruments that potentially subject us to concentrations
of credit risk consist primarily of trade receivables. Although our trade
receivables are geographically dispersed and include customers in many
different industries, a portion of our revenue is generated from services
provided to other telecommunications service providers. Several of these
companies have filed for protection under Chapter 11 of the Bankruptcy Code. We
believe that our established valuation and credit allowances are adequate as of
September 30, 2003 to cover these risks.

Regulatory Overview

Overview

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

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

We believe that the Telecom Act provided the opportunity to accelerate the
development of competition at the local level by, among other things, requiring
the incumbent carriers to cooperate with competitors entry into the local
exchange market. We have developed our business and designed and constructed
our networks to take advantage of the features of the Telecom Act that require
cooperation from the incumbent carriers, and believe that

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the continued viability of the pro-competitive statutory provisions is
critical to the success of the competitive framework contemplated by the
Telecom Act.

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

Federal Regulation

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

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



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

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

Although the rights established in the Telecom Act are a necessary
prerequisite to the introduction of full local competition, they must be
properly implemented and enforced to permit competitive telephone companies
like us to

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compete effectively with the incumbent carriers. Discussed below are
several FCC and court proceedings relating to the application of certain FCC
rules and policies that are significant to and directly impact our operations
as well as the nature and scope of industry competition.

Unbundling of Incumbent Network Elements

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

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

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

On August 21, 2003, the FCC released its Triennial Review Order (TRO).
Under the TRO, our ability to obtain access to certain unbundled network
elements and incumbent network upgrades may be curtailed or more costly in the
future. Also, the TRO has delegated to the states the overall responsibility
for deciding what unbundled elements should be available to competitors like us
in local markets of each of the respective states. Delegation of these
determinations creates the risk that some states may decide to limit or
eliminate unbundled elements to which we have access today and that we will be
faced with different sets of rules and costs if states issue inconsistent
decisions.

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



| |  |  | Curtailed Access to Broadband: The TRO adopted new rules that, for
certain very small customers, will restrict competitive carriers from
leasing as unbundled elements certain upgrades that the incumbent
carriers make to their networks, such as the deployment of new optical
fiber or upgrades from copper to optical fiber. For example, a new
fiber loop to a very small customer that replaces an existing copper
loop could be exempt from unbundling, except that incumbents must
continue to unbundle the pre-existing copper loop or provide a voice
channel for us on the new fiber loops that is equivalent to the old
copper loop. Although the imposition of any restrictions on our access
to the incumbents broadband networks is not a favorable development
for us, we believe that the adverse impact is partially mitigated by
the fact that incumbents are required to continue to provide us with
basic access to those facilities that we currently lease from them to
serve many of our customers.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Unbundled Local Loops: The Order made a general, national finding
that, with the exception of optical carrier (OC) level loops,
competitive carriers should have access to unbundled loops of the
incumbent carriers. The states, however, may remove competitive
carriers access to certain non-OC level high capacity and dark fiber
loops based on the results of specified competitive analyses. Incumbent
carriers will no longer be required to provide competitive carriers
with access to OC level loops. We believe that the net result of these
changes will not have a significant impact on us because the access to
the vast majority of unbundled loops that we use today will be
preserved.                                                                                                                                                                                                                                                                                                                
|
| |  |  | Unbundled Dedicated Transport: The TRO has changed the definition
of dedicated transport in such a way that competitive carriers will
have to purchase certain transport facilities at higher rates than they
do today. The TRO has maintained unbundled access to many types of
transport between incumbent facilities, such as transport between
incumbent central offices, but it redefines dedicated transport to
eliminate the unbundling of other transport. The TRO also sets forth a
test that the states must follow in considering                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

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| |   |  | whether unbundled transport should be available in local markets within
the states. The FCC also ruled that OC level transport would no longer be
available as an unbundled element and that shared transport would be
unavailable as an unbundled element in most business markets. We believe
that it is likely that this determination will raise our costs for
transport services in the future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Enhanced Extended Links and Co-Mingling: The TRO will enhance the
ability of competitive carriers like us to obtain a combination of
unbundled loop and transport elements known as enhanced extended
links, provided that the underlying loop and transport elements are
individually available on an unbundled basis. The FCC created new rules
that will permit competitive carriers to mix services that they lease
from the incumbent carriers. We will now be able to mix incumbent
carrier unbundled network elements with services purchased from the
wholesale tariff (e.g., switched and special access services) instead
of being required to artificially segregate unbundled network elements
from such wholesale services. Because we currently lease both wholesale
services and unbundled network elements from the incumbent carriers, we
believe that these developments will result in cost savings for us.
|
| |  |  | Calculation of Unbundled Element Rates: The TRO will allow
incumbent carriers to utilize a higher cost of capital and shorter
depreciation lives to establish rates for unbundled elements. We
believe that these modifications could raise our costs for leasing
unbundled network elements in the future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     

Several carriers and other entities have appealed the FCCs TRO decision.
The U.S. Court of Appeals for the D.C. Circuit in Washington, D.C. will have
jurisdiction over the appellate review process. In addition, many incumbent
carriers will continue to seek to institute follow-on administrative
proceedings with the FCC and state regulatory agencies, and lobby the United
States Congress, all in an effort to affect laws and regulations in a manner
even more favorable to them and against the interests of competitive carriers.
At the same time, we anticipate that competitive carriers will endeavor to
improve their positions and access to the incumbents networks through similar
means. The implementation and review of the Triennial Review Order is expected
to continue for the next year or more. The final outcome of the appellate
review and implementation process remains unknown at this time but it is
possible that further changes to the rules could adversely affect our cost of
doing business by increasing the cost of purchasing or leasing network
facilities from the incumbent carriers.

Collocation in Incumbent Central Offices

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

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

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Regulation of the RBOCs Ability to Provide Long Distance Service

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



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

The FCC has granted each of the RBOCs the authority to provide long
distance service in a number of states. Verizon, SBC and BellSouth have been
granted authority to provide long distance service in every state they operate.
Qwest has been granted authority to provide long distance in every state
where it operates except for Arizona. We expect that Qwest will receive
authority with respect to Arizona in the near term. RBOC authorization to
provide in-region long distance services could have an adverse affect on our
ability to compete if effective post-approval safeguards are not enforced to
ensure that the RBOCs continue to comply with the market-opening requirements.

Provision of Broadband Telecommunications Services and Information Services

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

Universal Service

In 1997, the FCC established a significantly expanded federal
telecommunications subsidy regime known as universal service. Specifically,
the FCC established new subsidies for services provided to qualifying schools
and libraries and rural health care providers, and expanded existing subsidies
to low income consumers. Most telecommunications companies, including us, must
pay for these programs based on their share of interstate and international
telecommunications end user revenues. On June 6, 2003 the FCC increased the
contribution factor to 9.50% of end user telecommunications revenue for the
third quarter of 2003. The FCC has taken further steps to modify the system for
assessment and recovery of universal service funds. In a December 2002 Notice
of Proposed Rulemaking, the FCC has asked many broad-ranging questions
regarding universal service, including whether to change its method of
assessing contributions due from carriers by basing it on the number and
capacity of connections they provide, rather than on interstate and
international end user revenues they earn. At this time, we are unable to
predict whether the FCCs rulemaking or legislative initiatives will increase
the size of our subsidy

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payments, the scope of the subsidy program, or our costs of calculating,
collecting and remitting the universal service related payments.

Intercarrier Compensation Reform

Currently, telecommunications carriers are required to pay other carriers
for interstate access charges and local reciprocal compensation charges, both
of which are being considered for reform.

Interstate Access Charges.Long distance carriers pay local
facilities-based carriers, including us, interstate access charges for both
originating and terminating the interstate calls of long distance customers
on the local carriers networks. Historically, the incumbent carriers set
access charges higher than cost and justified this pricing to regulators as
a subsidy to the cost of providing local telephone service to higher cost
customers. With the establishment of an explicit and competitively neutral
universal service subsidy mechanism, however, the FCC is under increasing
pressure to revise the current access charge regime to bring the charges
closer to the actual cost of providing access. In response, the FCC issued
a decision in 2001 setting the rates that competitive local carriers charge
to long distance carriers at a level that will gradually decrease over
three years from a maximum of $0.025 per minute to the rates charged by
incumbent carriers. As long as we are in compliance with the FCCs rate
schedule, the FCCs order forbids long distance carriers from challenging
our interstate access rates. Although this FCC decision lowering access
charges will reduce our access charge revenues over time, we do not expect
that such a reduction will have a material impact on our total revenues or
financial position.

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

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

TELRIC Proceeding.On September 10, 2003, the FCC initiated a new
proceeding to consider significantly revamping the current Total Element
Long Run Incremental Cost (TELRIC) methodology used for the pricing of
unbundled network elements. An adverse ruling in the new proceeding will
allow the

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incumbent carriers to increase unbundled network element rates and
this would raise our costs for leasing unbundled network elements in the
future. The comment and reply period extends to the end of 2003 and a
decision is expected sometime in 2004.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

We had $500.0 million in secured loans as of September 30, 2003. Currently
we do not pay cash interest on the loans under the New Credit Agreement.

During the second quarter of 2003, XO liquidated its entire portfolio of
marketable securities which consisted of an investment portfolio containing
U.S. government agency issued and other securities with a duration of less than
one year. The Company invested a portion of the proceeds, $158.5 million, in
$761.1 million principal amount of senior secured debt of Global Crossing, a
telecommunications company which is currently in reorganization proceedings.
The debt trades in a thin market primarily between dealers but is neither
listed on any exchange nor on any over-the-counter NASDAQ or National Quotation
Bureau systems. If the Company chooses to liquidate its investment in this
debt, it may not be able to locate a buyer that would allow it to liquidate the
debt in a timely fashion to recover the amount paid. Accordingly, it cannot be
assured that the Company will be able to dispose of the investment for an
amount equal to or greater than the amount it paid for it. The distribution
that would be received upon consummation of Global Crossings bankruptcy is
expected to have a value greater than this investment. However, no assurance
can be made by the Company as to the timing of Global Crossings emergence from
bankruptcy.

We are not currently engaged in the use of off-balance sheet derivative
financial instruments, to hedge or partially hedge interest rate exposure.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our Principal Executive Officer and our Principal Financial Officer have
evaluated the effectiveness of our disclosure controls and procedures as of the
end of the period covered by this report. Based on the evaluation they have
concluded that, as of the end of such period the controls and procedures were
effective at ensuring that required information was disclosed on a timely basis
in our report filed under the Exchange Act.

Changes in Internal Controls

We maintain a system of internal accounting controls that are designed to
provide reasonable assurance that our books and records accurately reflect our
transactions and that our established policies and procedures are followed. For
the nine months ended September 30, 2003, there were no significant changes to
our internal controls or in other factors that could significantly affect our
internal controls.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

XO is not currently a party to any other legal proceedings, other than
regulatory and other proceedings that are in the normal course of business.
However, as discussed above, although XO Parent has consummated its Plan of
Reorganization and emerged from its Chapter 11 proceedings, disputes with
respect to the amount of allowed claims owed by XO Parent to certain of its
general unsecured creditors, and claims of certain professionals remain
outstanding. While the outcome of these matters, or any other relief that may
be granted, is currently not determinable, we do not expect that the ultimate
costs to resolve these matters, or any other relief that may be granted, will
have a material adverse effect on the our financial position, results of
operations, or cash flows.

Item 2. Changes in Securities and Use of Proceeds

None.

Recent Sales of Unregistered Securities

The following securities were issued by us within the past year pursuant
to the Plan of Reorganization without registration under the Securities Act:

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(a)  approximately 95.0 million shares of New Common Stock to our
pre-petition senior secured creditors in exchange for their claims;

(b)  7-year warrants to purchase approximately:

(i)  9.5 million shares of New Common Stock at $6.25 per share;

(ii)  7.1 million shares of New Common Stock at $7.50 per share; and

(iii)  7.1 million shares of New Common Stock at $10.00 per share.

(c)  non-transferable and transferable subscription rights to purchase up
to 43,333,333 shares of New Common Stock in the Rights Offering to holders of
our pre-petition senior notes and general unsecured creditors in exchange for
their claims.

Each of the transactions above is exempt from registration under the
Securities Act pursuant to Section 1145 of the Chapter 11 of the United States
Code or, in the case of certain affiliates of XO Parent, Section 4(2) of the
Securities Act.

Under the Plan of Reorganization we also issued non-transferable
subscription rights to purchase up to 43,333,333 shares of New Common Stock in
the Rights Offering (the Non-Transferable Subscription Rights) to holders of
our pre-petition class A common stock, pre-petition subordinated notes,
pre-petition preferred stock and pre-petition class B common stock. The
issuance of Non-Transferable Subscription Rights is exempt from registration
under the Securities Act pursuant to Section 1145 of the Chapter 11 of United
States Code, the no sale doctrine or, in the case of certain affiliates of XO
Parent, Section 4(2) of the Securities Act.

A number of transferable subscription rights to purchase up to 43,333,333
shares of New Common Stock in the Rights Offering (the Transferable
Subscription Rights) equal to the number of rights that remained unexercised
on the Subscription Rights Expiration Date (excluding rights added to the
offering pursuant to the shareholder stipulation) will be issued, if available,
to holders of pre-petition senior secured lenders claims and is exempt from
registration under the Securities Act pursuant to Section 1145 of the Chapter
11 of the United States Code or, in the case of certain affiliates of XO
Parent, Section 4(2) of the Securities Act. The Transferable Rights to be
issued, if available, to certain affiliates to XO Parent has also been
registered with the Commission pursuant to the Registration Statement of XO
Parent on Form S-1 (Reg. No. 333-107254), which became effective on October 16,
2003.

Item 3. Defaults Upon Securities

None.

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

No matters were submitted to a vote of security holders during the quarter ended September 30, 2003.

Item 5. Other Information

None.

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits

|     |  |                                                                                                                     
|---- |  | --------------------------------------------------------------------------------------------------------------------
|31.1 |  | Rule 13a - 14(a)/15(d) - 14(a) Certification                                                                        
|     |  |                                                                                                                     
|31.2 |  | Rule 13a - 14(a)/15(d) - 14(a) Certification                                                                        
|     |  |                                                                                                                     
|32.1 |  | Certificate pursuant to 18 U.S.C. Section 1350 as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|     |  |                                                                                                                     
|32.2 |  | Certificate pursuant to 18 U.S.C. Section 1350 as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.

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(b)  Reports on Form 8-K



| | (1) |  | Current Report on Form 8-K filed on September 30, 2003,
reporting under item 4, changes in the Companys Certifying
Accountant.                                                                                  
| | --- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (2) |  | Current Report on Form 8-K filed on October 7, 2003,
reporting under item 7, preliminary financial information for the
third quarter of 2003.                                                                    
|
| | (3) |  | Current Report on Form 8-K file on October 16, 2003,
reporting under item 5, the Companys filing of its amended
Registration on Form S-1 for the shares of New Common Stock to
be issued in the Rights Offering.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrants have duly caused this report to be signed on their behalf by the
undersigned thereunto duly authorized.

|                        |  |                                                                                    |  |                       
|----------------------- |  | ---------------------------------------------------------------------------------- |  | ----------------------
|                        |  | XO Communications, Inc.                                                           
|                        |  |                                                                                    |  |                       
|Date: November 10, 2003 |  | By:                                                                                |  | /s/ Wayne M. Rehberger
|                        |  | Wayne M. Rehberger                                                                
|                        |  | Executive Vice President and Chief Financial Officer
(Principal Financial Officer)

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