Tableof Contents

 

 

 

**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

 

**FORM 10-Q**

 

| **x**                                                  | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934**  |
|--------------------------------------------------------|-----------------------------------------------------------------------------------------------------|
| ** **                                             | ** **                                                                                          |
| **For the  quarterly period ended June 30, 2009** |
| ** **                                             | ** **                                                                                          |
| **or**                                                 |
| ** **                                             | ** **                                                                                          |
| **o**                                                  | **TRANSITION  REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934** |
| ** **                                             | ** **                                                                                          |
| **Commission  File Number 000-29660**                  |

 

 

**SureWestCommunications**

(Exact name ofregistrant as specified in its charter)

 

| **California**                                                 | ** ** | **68-0365195**       |
|----------------------------------------------------------------|------------|----------------------|
| (State or other  jurisdiction                                  |       | (IRS Employer        |
| of incorporation  or organization)                             |       | Identification  No.) |
|                                                           |       |                 |
| **8150  Industrial Avenue, Building A, Roseville, California** | ** ** | **95678**            |
| (Address of  principal executive offices)                      |       | (Zip Code)           |

 

**(916)786-6141**

(Registrant’stelephone number, including area code)

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.  Yes x    No o

 

Indicate by check markwhether the registrant has submitted electronically and posted on its corporateWeb site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter)during the preceding 12 months (or for such shorter period that the registrantwas required to submit and post such files).  Yes o    No o

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, or a smaller reporting company.  See the definitions of “large acceleratedfiler,” “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act. (Check one):

 

| Large  accelerated filer o                                              |   | Accelerated  filer x         |
|-------------------------------------------------------------------------|--------|------------------------------|
|                                                                    |   |                         |
| Non-accelerated  filer o  (Do not check if a smaller reporting company) |   | Smaller  reporting company o |

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).  Yes o    No x

 

On July 24, 2009,the registrant had 14,167,469 shares of Common Stock outstanding.

 

 

 

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Table ofContents

 

**TABLE OF CONTENTS**

 
| ** **                               | ** **                                                                                  | ** ** | **Page** |
|------------------------------------------|---------------------------------------------------------------------------------------------|------------|----------|
| **PART I -  FINANCIAL INFORMATION** |                                                                                        |       |
|                                     |                                                                                        |       |     |
| Item 1.                                  | Financial Statements                                                                        |       | 1        |
|                                     |                                                                                        |       |     |
| Item 2.                                  | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |       | 18       |
|                                     |                                                                                        |       |     |
| Item 3.                                  | Quantitative  and Qualitative Disclosures About Market Risk                                 |       | 34       |
|                                     |                                                                                        |       |     |
| Item 4.                                  | Controls and  Procedures                                                                    |       | 34       |
|                                     |                                                                                        |       |     |
| **PART II  - OTHER INFORMATION**    |                                                                                        |       |
|                                     |                                                                                        |       |     |
| Item 1.                                  | Legal Proceedings                                                                           |       | 35       |
|                                     |                                                                                        |       |     |
| Item 2.                                  | Unregistered  Sales of Equity Securities and Use of Proceeds                                |       | 35       |
|                                     |                                                                                        |       |     |
| Item 4.                                  | Submission of  Matters to a Vote of Security Holders                                        |       | 35       |
|                                     |                                                                                        |       |     |
| Item 6.                                  | Exhibits                                                                                    |       | 36       |
|                                     |                                                                                        |       |     |
| SIGNATURES                               |                                                                                        | 37         |

 

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Table of Contents

 

**PART 1 — FINANCIAL INFORMATION**

 

**ITEM 1.  FINANCIAL STATEMENTS.**

 

**SUREWEST COMMUNICATIONS**

**CONDENSED CONSOLIDATED STATEMENTS OFINCOME**

*(Unaudited; Amounts in thousands,except per share amounts)*

* *
| ** **                                                                  | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------------------------------------------------------|------------|---------------------------------|------------|------------------------------------|------------|
| ** **                                                                  | ** ** | **2009**                        | ** ** | **2008**                           | ** ** | **2009** | ** ** | **2008** | ** ** |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Operating revenues:**                                                     |       |                            |       |                               |       |   |   |   |   |
| Broadband                                                                   |       | $                               | 40,259     |                               | $          | 35,301 |   | $ | 79,481 |   | $ | 62,132 |   |
| Telecom                                                                     |       | 20,671                          |       | 24,551                             |       | 42,391 |   | 49,033 |   |
| Total  operating revenues                                                   |       | 60,930                          |       | 59,852                             |       | 121,872 |   | 111,165 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Operating expenses:**                                                     |       |                            |       |                               |       |   |   |   |   |
| Cost  of services and products (exclusive of depreciation and amortization) |       | 25,118                          |       | 22,314                             |       | 50,132 |   | 40,867 |   |
| Customer  operations and selling                                            |       | 8,345                           |       | 8,575                              |       | 16,580 |   | 16,019 |   |
| General  and administrative                                                 |       | 8,624                           |       | 9,014                              |       | 18,187 |   | 19,572 |   |
| Depreciation  and amortization                                              |       | 14,228                          |       | 14,075                             |       | 29,038 |   | 26,142 |   |
| Total  operating expenses                                                   |       | 56,315                          |       | 53,978                             |       | 113,937 |   | 102,600 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Income from operations**                                                  |       | 4,615                           |       | 5,874                              |       | 7,935 |   | 8,565 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| Other  income (expense):                                                    |       |                            |       |                               |       |   |   |   |   |
| Interest  income                                                            |       | 34                              |       | 224                                |       | 71 |   | 558 |   |
| Interest  expense                                                           |       | (3,046                          | )          | (3,186                             | )          | (5,356 | ) | (5,941 | ) |
| Other,  net                                                                 |       | (88                             | )          | (44                                | )          | (172 | ) | (43 | ) |
| Total  other income (expense), net                                          |       | (3,100                          | )          | (3,006                             | )          | (5,457 | ) | (5,426 | ) |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| Income  from continuing operations before income taxes                      |       | 1,515                           |       | 2,868                              |       | 2,478 |   | 3,139 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| Income  tax expense                                                         |       | 616                             |       | 1,139                              |       | 1,500 |   | 1,388 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Income from continuing operations**                                       |       | 899                             |       | 1,729                              |       | 978 |   | 1,751 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| Discontinued  operations, net of tax:                                       |       |                            |       |                               |       |   |   |   |   |
| Income  (loss) from discontinued operations                                 |       | —                          |       | 179                                |       | (69 | ) | 440 |   |
| Gain  on sale of discontinued operations                                    |       | 60                              |       | 18,977                             |       | 2,568 |   | 18,977 |   |
| Total  discontinued operations                                              |       | 60                              |       | 19,156                             |       | 2,499 |   | 19,417 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Net income**                                                              |       | $                               | 959        |                               | $          | 20,885 |   | $ | 3,477 |   | $ | 21,168 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Basic and diluted earnings per common share:**                            |       |                            |       |                               |       |   |   |   |   |
| Income  from continuing operations                                          |       | $                               | 0.06       |                               | $          | 0.12 |   | $ | 0.07 |   | $ | 0.12 |   |
| Discontinued  operations, net of tax                                        |       | 0.01                            |       | 1.35                               |       | 0.18 |   | 1.37 |   |
| Net  income per basic and diluted common share                              |       | $                               | 0.07       |                               | $          | 1.47 |   | $ | 0.25 |   | $ | 1.49 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Dividends per share**                                                     |       | $                               | —     |                               | $          | 0.25 |   | $ | — |   | $ | 0.50 |   |
|                                                                        |       |                            |       |                               |       |   |   |   |   |
| **Shares of common stock used to calculate****earnings  per share:**        |       |                            |       |                               |       |   |   |   |   |
| Basic                                                                       |       | 14,020                          |       | 14,141                             |       | 13,992 |   | 14,226 |   |
| Diluted                                                                     |       | 14,020                          |       | 14,149                             |       | 13,992 |   | 14,234 |   |

 

See accompanyingnotes.

 

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**SUREWESTCOMMUNICATIONS**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

*(Unaudited;Amounts in thousands)*

* *
| ** **                                                                                                                                                                    | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                    | ** ** | **2009**          | ** ** | **2008**              | ** ** |
| **ASSETS**                                                                                                                                                                    |       |              |       |                  |       |
| Current  assets:                                                                                                                                                              |       |              |       |                  |       |
| Cash  and cash equivalents                                                                                                                                                    |       | $                 | 9,879      |                  | $          | 2,840 |   |
| Short-term  investments                                                                                                                                                       |       | 4,197             |       | 610                   |       |
| Accounts  receivable, net                                                                                                                                                     |       | 20,903            |       | 21,415                |       |
| Income  tax receivable                                                                                                                                                        |       | 3,389             |       | 6,391                 |       |
| Inventories                                                                                                                                                                   |       | 5,468             |       | 6,527                 |       |
| Prepaid  expenses                                                                                                                                                             |       | 4,038             |       | 4,539                 |       |
| Deferred  income taxes                                                                                                                                                        |       | 3,399             |       | 2,989                 |       |
| Other  current assets                                                                                                                                                         |       | 1,921             |       | 1,752                 |       |
| Assets  of discontinued operations                                                                                                                                            |       | —            |       | 5,002                 |       |
| Total  current assets                                                                                                                                                         |       | 53,194            |       | 52,065                |       |
|                                                                                                                                                                          |       |              |       |                  |       |
| Property,  plant and equipment, net                                                                                                                                           |       | 525,382           |       | 523,231               |       |
|                                                                                                                                                                          |       |              |       |                  |       |
| Intangible  and other assets:                                                                                                                                                 |       |              |       |                  |       |
| Long-term  investments                                                                                                                                                        |       | —            |       | 3,508                 |       |
| Customer  relationships, net                                                                                                                                                  |       | 4,454             |       | 5,062                 |       |
| Goodwill                                                                                                                                                                      |       | 45,814            |       | 45,814                |       |
| Deferred  charges and other assets                                                                                                                                            |       | 2,556             |       | 4,129                 |       |
|                                                                                                                                                                          |       | 52,824            |       | 58,513                |       |
|                                                                                                                                                                          |       | $                 | 631,400    |                  | $          | 633,809 |   |
|                                                                                                                                                                          |       |              |       |                  |       |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                                                                 |       |              |       |                  |       |
| Current  liabilities:                                                                                                                                                         |       |              |       |                  |       |
| Current  portion of long-term debt and capital lease obligations                                                                                                              |       | $                 | 15,640     |                  | $          | 15,643 |   |
| Accounts  payable                                                                                                                                                             |       | 2,131             |       | 2,798                 |       |
| Other  accrued liabilities                                                                                                                                                    |       | 17,912            |       | 19,050                |       |
| Advance  billings and deferred revenues                                                                                                                                       |       | 8,568             |       | 8,960                 |       |
| Accrued  compensation                                                                                                                                                         |       | 8,345             |       | 11,292                |       |
| Liabilities  of discontinued operations                                                                                                                                       |       | —            |       | 453                   |       |
| Total  current liabilities                                                                                                                                                    |       | 52,596            |       | 58,196                |       |
|                                                                                                                                                                          |       |              |       |                  |       |
| Long-term  debt                                                                                                                                                               |       | 221,045           |       | 226,045               |       |
| Deferred  income taxes                                                                                                                                                        |       | 50,173            |       | 46,358                |       |
| Accrued  pension and other post-retirement benefits                                                                                                                           |       | 37,573            |       | 36,046                |       |
| Other  liabilities and deferred revenues                                                                                                                                      |       | 5,252             |       | 5,819                 |       |
|                                                                                                                                                                          |       |              |       |                  |       |
| Commitments  and contingencies                                                                                                                                                |       |              |       |                  |       |
|                                                                                                                                                                          |       |              |       |                  |       |
| Shareholders’  equity:                                                                                                                                                   |       |              |       |                  |       |
| Common  stock, without par value; 100,000 shares authorized, 14,166 and 14,082 shares  issued and outstanding at June 30, 2009 and December 31, 2008,  respectively |       | 146,158           |       | 146,558               |       |
| Accumulated  other comprehensive loss                                                                                                                                         |       | (19,266           | )          | (19,248               | )          |
| Retained  earnings                                                                                                                                                            |       | 137,869           |       | 134,035               |       |
| Total  shareholders’ equity                                                                                                                                              |       | 264,761           |       | 261,345               |       |
|                                                                                                                                                                          |       | $                 | 631,400    |                  | $          | 633,809 |   |

 

See accompanyingnotes.

 

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**SUREWESTCOMMUNICATIONS**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

*(Unaudited;Amounts in thousands)*

 
| ** **                                                          | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                                          | ** ** | **2009**                           | ** ** | **2008** | ** ** |
| ** **                                                          | ** ** | ** **                         | ** ** | ** ** | ** ** |
| Net  cash provided by continuing operations                         |       | $                                  | 32,291     |   | $ | 24,568 |   |
| Net  cash (used in) provided by discontinued operations             |       | (507                               | )          | 405 |   |
| Net  cash provided by operating activities                          |       | 31,784                             |       | 24,973 |   |
|                                                                |       |                               |       |   |   |
| Cash  flows from investing activities:                              |       |                               |       |   |   |
| Business  acquisition, net of cash acquired                         |       | —                             |       | (180,133 | ) |
| Proceeds  from sale of discontinued operations                      |       | 10,947                             |       | 66,391 |   |
| Capital  expenditures for property, plant and equipment             |       | (29,522                            | )          | (43,635 | ) |
| Purchases  of available-for-sale securities                         |       | (16                                | )          | — |   |
| Proceeds  from sale of available-for-sale securities                |       | —                             |       | 16,650 |   |
| Net  cash used in continuing operations                             |       | (18,591                            | )          | (140,727 | ) |
| Net  cash used in discontinued operations                           |       | —                             |       | (280 | ) |
| Net  cash used in investing activities                              |       | (18,591                            | )          | (141,007 | ) |
|                                                                |       |                               |       |   |   |
| Cash  flows from financing activities:                              |       |                               |       |   |   |
| Proceeds  from issuance of long-term debt                           |       | 10,500                             |       | 96,000 |   |
| Proceeds  from short-term borrowings                                |       | —                             |       | 60,000 |   |
| Principal  payments on long-term debt and capital lease obligations |       | (15,503                            | )          | (16,003 | ) |
| Repayment  of short-term borrowings                                 |       | —                             |       | (30,000 | ) |
| Dividends  paid                                                     |       | —                             |       | (7,124 | ) |
| Repurchases  and surrenders of common stock                         |       | (1,151                             | )          | (6,117 | ) |
| Net  cash (used in) provided by financing activities                |       | (6,154                             | )          | 96,756 |   |
|                                                                |       |                               |       |   |   |
| Increase  (decrease) in cash and cash equivalents                   |       | 7,039                              |       | (19,278 | ) |
|                                                                |       |                               |       |   |   |
| Cash  and cash equivalents at beginning of period                   |       | 2,840                              |       | 31,114 |   |
|                                                                |       |                               |       |   |   |
| Cash  and cash equivalents at end of period                         |       | $                                  | 9,879      |   | $ | 11,836 |   |

 

See accompanyingnotes.

 

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**SUREWESTCOMMUNICATIONS**

**NOTES TOCONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

*(Unaudited;Amounts in thousands, except share and per share amounts)*

 

**1.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

**Businessand Basis of Accounting**

 

SureWest Communications(the “Company”, “we” or “our”) is a holding company with operating subsidiariesthat provide communications services in Northern California, primarily thegreater Sacramento region, and the greater Kansas City, Kansas and Missouriareas (“Kansas City area”). Our operating subsidiaries are SureWest Broadband,SureWest TeleVideo, SureWest Internet, SureWest Custom Data Services, SureWestKansas, Inc. (formerly “Everest Broadband, Inc.” with its variousdirect and indirect subsidiaries, “SureWest Kansas” or the “Kansas Cityoperations”), SureWest Telephone and SureWest Long Distance.

 

In February 2008 weacquired 100% of the issued and outstanding stock of Everest Broadband Inc. (“Everest”)and in May 2008 we sold the operating assets of our Wireless business,SureWest Wireless. Further, in October of 2008 we entered into adefinitive purchase agreement to sell our communication tower assets andcompleted the transaction on February 27, 2009. Accordingly, the financialresults of SureWest Wireless and our communication tower assets have beenreported as discontinued operations for all periods presented in accordancewith Statement of Financial Accounting Standards (“SFAS”) No. 144, *Accounting for the Impairment or Disposal of Long-Lived Assets*.The notes to condensed consolidated financial statements reflect historicalamounts exclusive of discontinued operations, unless otherwise noted.

 

In the opinion ofmanagement, the accompanying condensed consolidated balance sheets and relatedinterim statements of income and cash flows include all adjustments, consistingonly of normal recurring items, necessary for their fair presentation inconformity with accounting principles generally accepted in the United States (“U.S.GAAP” or “GAAP”) for interim financial information and pursuant to the rules andregulations of the Securities and Exchange Commission (the “SEC”). Certaininformation and footnote disclosures normally included in annual financialstatements prepared in accordance with U.S. GAAP have been condensed or omittedpursuant to such SEC rules and regulations and accounting principlesapplicable for interim periods. Events subsequent to the balance sheet datehave been evaluated for inclusion in the accompanying condensed consolidatedfinancial statements through the issuance date, August 6, 2009. Management believes that the disclosures made are adequate to make theinformation presented not misleading. Interim results are not necessarilyindicative of results for a full year. The information presented in this Form 10-Q should be read inconjunction with Management’s Discussion and Analysis of Financial Conditionand Results of Operations and the consolidated financial statements and notesthereto included in our 2008 Annual Report on Form 10-K filed with theSEC.

 

**Stock-basedCompensation**

 

***Stock Plan***

*** ***

Our Board of Directorsmay grant share-based awards from our shareholder approved Equity IncentivePlan; the 2000 Equity Incentive Plan (the “Stock Plan”) to certain of ouremployees, outside directors and consultants. The Stock Plan permits issuanceof awards in the form of restricted common stock (“RSAs”), restricted commonstock units (“RSUs”), performance shares, stock options and stock appreciationrights. Under the Stock Plan, approximately 2.0 million shares of our commonstock were authorized for issuance, including those outstanding as of June 30,2009.

 

***Restricted Common Stock Awards and Units***

*** ***

Wemeasure the fair value of the RSAs and RSUs based upon the market price of theunderlying common stock as of the date of the grant.  RSAs and RSUs are amortized over theirrespective vesting periods, generally from immediate vest to a five-yearvesting period using the straight-line method. We have estimated expected forfeitures based on historical experienceand are recognizing compensation expense only for those RSAs and RSUs expectedto vest. We will continue to recognize stock-based compensation for RSAs andRSUs granted prior to the adoption of SFAS No. 123(R), *Share-Based Payment,* using the graded vesting method.

 

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The following table summarizes the grants thatoccurred under the Stock Plan during the quarters and six-month periods ended June 30,2009 and 2008:

 
| ** **     | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|----------------|------------|-------------------------------------------|------------|------------------------------------|------------|
| ** **     | ** ** | ** **                                | ** ** | **Grant Date**                | ** ** | ** ** | ** ** | **Grant Date** | ** ** | ** ** | ** ** | **Grant Date** | ** ** | ** ** | ** ** | **Grant Date** | ** ** |
| ** **     | ** ** | **2009**                                  | ** ** | **Fair Value**                | ** ** | **2008** | ** ** | **Fair Value** | ** ** | **2009** | ** ** | **Fair Value** | ** ** | **2008** | ** ** | **Fair Value** | ** ** |
|           |       |                                      |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| RSAs  Granted  |       | —                                    |       | $                                  | —     |   | — |   | $ | — |   | 166,506 |   | $ | 11.56 |   | 7,056 |   | $ | 15.59 |   |
| RSUs  Granted  |       | —                                    |       | $                                  | —     |   | 22,240 |   | $ | 8.43 |   | 72,443 |   | $ | 11.56 |   | 22,240 |   | $ | 8.43 |   |
| RSU  Dividends |       | 933                                       |       | $                                  | 8.29       |   | 802 |   | $ | 8.88 |   | 7,970 |   | $ | 9.66 |   | 802 |   | $ | 8.88 |   |
| Total          |       | 933                                       |       |                               |       | 23,042 |   |   |   | 246,919 |   |   |   | 30,098 |   |   |   |

 

RSUDividends consist of dividends that were previously granted to the holders ofRSUs, which have fully vested and were released during the quarters andsix-month periods ended June 30, 2009 and 2008, respectively, inaccordance with the underlying award agreement. Stock-based compensation expense for both RSAs and RSUs of $464 and$1,072 was recorded during the quarter and six-month period ended June 30,2009, respectively.  During the sameprior year periods, we recorded stock-based compensation expense of $345 and$486, respectively.

 

**The following table summarizesthe RSA and RSU activity during the six-month period ended June 30, 2009:**

 

| ** **                      | ** ** | ** ** | ** ** | **Weighted Average**      | ** ** |
|---------------------------------|------------|------------|------------|---------------------------|------------|
| **Nonvested Shares**            | ** ** | **Shares** | ** ** | **Grant Date Fair Value** | ** ** |
|                            |       |       |       |                      |       |
| Nonvested-January 1,  2009 |       | 269,038    |       | $                         | 14.98      |   |
| Granted                         |       | 246,919    |       | $                         | 11.50      |   |
| Vested                          |       | (77,968    | )          | $                         | 12.18      |   |
| Forfeited                       |       | (3,063     | )          | $                         | 18.36      |   |
| Nonvested-June 30,  2009   |       | 434,926    |       |                      |       |

 

Asof June 30, 2009, total unrecognized compensation costs related tononvested restricted stock was $5,333 and will be recognized over aweighted-average period of approximately 3.14 years. The total fair value ofRSAs and RSUs vested during the six-month period ended June 30, 2009 was$950.

 

***Stock Options***

*** ***

In2003, we ceased granting stock options and have since granted RSAs and RSUs aspart of our equity compensation plans. We issue new shares of common stock uponexercise of stock options. The exercise price per share of the Company’s commonstock to be purchased under any incentive stock option shall not be less than100% of the fair market value of a share of the Company’s common stock on thedate of the grant, and the exercise price under a non-qualified stock optionshall not be less than 85% of the fair market value of the Company’s commonstock at the date of the grant. The term of any stock option shall not exceedten years.  There were no stock optionsgranted or exercised during the quarters or six-month periods ended June 30,2009 and 2008. The aggregate intrinsic value is calculated as the differencebetween the exercise price of the stock options and the quoted price of ourcommon stock.  There were no options thatwere in-the-money as of June 30, 2009 and 2008.

 

The following table summarizes stock optionactivity for the six-month period ended June 30, 2009:

 
| ** **                                    | ** ** | ** ** | ** ** | **Weighted** | ** ** | **Weighted**         | ** ** |
|-----------------------------------------------|------------|------------|------------|--------------|------------|----------------------|------------|
| ** **                                    | ** ** | ** ** | ** ** | **Average**  | ** ** | **Average**          | ** ** |
| ** **                                    | ** ** | ** ** | ** ** | **Exercise** | ** ** | **Remaining**        | ** ** |
| **Options**                                   | ** ** | **Shares** | ** ** | **Price**    | ** ** | **Contractual Life** | ** ** |
|                                          |       |       |       |         |       |                 |       |
| Outstanding-January 1,  2009             |       | 335,839    |       | $            | 40.37      |                 |       |   |
| Expired                                       |       | (11,650    | )          | —       |       |                 |       |
| Outstanding-June 30,  2009               |       | 324,189    |       | $            | 40.43      |                 | 2          |   |
| Vested  and Exercisable at June 30, 2009 |       | 324,189    |       | $            | 40.43      |                 | 2          |   |

 

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**Per ShareAmounts**

 

Sharesused in the computation of basic earnings (loss) per share are based on theweighted average number of RSAs and RSUs outstanding, excluding unvested RSAsand unvested RSUs. Shares used in the computation of diluted earnings per shareare based on the weighted average number of RSAs and RSUs outstanding, alongwith other potentially dilutive securities outstanding in each period.

 

Cash dividends per shareare based on the actual dividends per share, as declared by our Board ofDirectors. On each date that we paid a cash dividend to the holders of theCompany’s common stock, we credited the holders of RSUs an additional number ofRSUs equal to the total number of whole RSUs and additional RSUs previouslycredited to the holders, multiplied by the dollar amount of the cash dividendper share of common stock, divided by the Company’s stock price on the dividendpayment date. Based on a decision of our Board of Directors to discontinuedividend payments for the foreseeable future, we have not paid a cash dividendsince June 2008.  The reinstatementof future dividend payments is at the discretion of our Board of Directors.

 

**Other****Comprehensive Income**

 

Significant components ofour other comprehensive income are as follows:

 
| ** **                                                                       | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|---------------------------------|------------|------------------------------------|------------|
| ** **                                                                       | ** ** | **2009**                        | ** ** | **2008**                           | ** ** | **2009** | ** ** | **2008** | ** ** |
| Net  income                                                                      |       | $                               | 959        |                               | $          | 20,885 |   | $ | 3,477 |   | $ | 21,168 |   |
| Unrealized  holding gains (losses) on available-for-sale investments, net of tax |       | 1                               |       | (257                               | )          | (34 | ) | (603 | ) |
| Reclassification  adjustment for losses included in net income, net of tax       |       | 16                              |       | —                             |       | 16 |   | — |   |
| Comprehensive  income                                                            |       | $                               | 976        |                               | $          | 20,628 |   | $ | 3,459 |   | $ | 20,565 |   |

 

Accumulated other comprehensive loss consists of adjustments, net oftax, related to unrealized gains and losses on available-for-sale securitiesand minimum pension and post-retirement benefits.

 

**Reclassifications**

 

Certainamounts in our 2008 condensed consolidated financial statements have beenreclassified to conform to the presentation of our 2009 condensed consolidatedfinancial statements, which consists of the effects of reclassifications fromthe presentation of our Tower Assets as a discontinued operation.

 

**2.   INVESTMENTS AND FAIR VALUE OF FINANCIALINSTRUMENTS**

 

*Investments*

 

The following is a summary of our short-term available-for-saleinvestments:

 
| ** **         | ** ** | **As of June 30, 2009** | ** ** | **As of December 31, 2008** | ** ** |
|--------------------|------------|------------------------------|------------|----------------------------------|------------|
| ** **         | ** ** | **Adjusted  Cost**           | ** ** | **Gross  Unrealized  Gains**     | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair Market  Value** | ** ** | **Adjusted  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair Market  Value** | ** ** |
| Equity  securities |       | $                            | 636        |                             | $          | — |   | $ | (68 | ) | $ | 568 |   | $ | 648 |   | $ | — |   | $ | (38 | ) | $ | 610 |   |
|                    |            |                              |            |                                  |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

As of June 30, 2009 and December 31, 2008, we concluded thatthe gross unrealized losses of the equity securities are temporary, as thedecline in the value of the investments has been in a continuous loss positionfor less than twelve months and the extent of the decline, both in dollars andpercentages of cost is not considered significant.  The unrealized losses, net of tax, onshort-term available-for-sale investments were recorded as a component of othercomprehensive income at such dates. Fair values for short-term equity securityinvestments were determined by quoted market prices.

 

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*Fair Value of FinancialInstruments*

 

In accordance with SFAS No. 157,*Fair Value Measurements* (“SFAS 157”), wemeasure our cash equivalents (money market funds) and short-term investments(equity securities, auction rate security and put option) at fair value.  SFAS 157 clarifies that fair value is an exitprice, representing the amount that would be received to sell an asset or paidto transfer a liability in an orderly transaction between market participants.As such, fair value is a market-based measurement that should be determinedbased on assumptions that market participants would use in pricing an asset ora liability. A financial asset or liability’s classification within thehierarchy is determined based on the lowest level input that is significant tothe fair value measurement. As a basis for considering such assumptions, SFAS157 establishes a three-tier value hierarchy, which prioritizes the inputs usedin the valuation methodologies in measuring fair value:

 

Level 1 — Observableinputs that reflect quoted prices (unadjusted) for identical assets orliabilities in active markets.

 

Level 2— Include other inputs that are directly or indirectly observable in themarketplace.

 

Level 3— Unobservable inputs which are supported by little or no market activity.

 

The following tablesummarizes our financial assets (cash equivalents and short-term investments)measured at fair value on a recurring basis:

 
| ** **               | ** ** | **As of June 30, 2009** | ** ** |
|--------------------------|------------|------------------------------|------------|
| ** **               | ** ** | **Total**                    | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** |
| Money  market funds      |       | $                            | 1,826      |   | $ | 1,826 |   | $ | — |   | $ | — |   |
| Equity  securities       |       | 568                          |       | 568 |   | — |   | — |   |
| Auction  rate securities |       | 3,032                        |       | — |   | — |   | 3,032 |   |
| Put  Option              |       | 597                          |       | — |   | — |   | 597 |   |
|                     |       | $                            | 6,023      |   | $ | 2,394 |   | $ | — |   | $ | 3,629 |   |

 

Fair values for cash equivalentsand equity securities in short-term investments were determined by quotedmarket prices. Fair values for the auction rate security and put option weredetermined based on discounted cash flow (“DCF”) models, as described below.

 

The following tableprovides a reconciliation of the beginning and ending balances for the assetsmeasured at fair value using significant unobservable inputs (Level 3):

 
| ** **                                     | ** ** | **2009**       | ** ** | **2008**                     | ** ** |
|------------------------------------------------|------------|----------------|------------|------------------------------|------------|
| ** **                                     | ** ** | **Put Option** | ** ** | **Auction Rate  Securities** | ** ** | **Auction Rate  Securities** | ** ** |
| Beginning  balance at January 1st         |       | $              | 1,383      |                         | $          | 2,125 |   | $ | — |   |
| Transfers  in and/or out of Level 3            |       | —         |       | —                       |       | 3,700 |   |
| Losses  included in other comprehensive income |       | —         |       | —                       |       | (440 | ) |
| Gains  (losses) included in earnings           |       | (745           | )          | 745                          |       | — |   |
| Balance  at March 31st                    |       | 638            |       | 2,870                        |       | 3,260 |   |
|                                           |       |           |       |                         |       |   |   |
| Losses  included in other comprehensive income |       | —         |       | —                       |       | (414 | ) |
| Gains  (losses) included in earnings           |       | (41            | )          | 162                          |       | — |   |
| Balance  at June 30th                     |       | $              | 597        |                         | $          | 3,032 |   | $ | 2,846 |   |

 

As of June 30, 2009,we held one $3,700 par value auction rate security (“ARS”) with an estimated fairvalue of $3,032, which was measured using Level 3 inputs. This ARS iscollateralized by student loans that are guaranteed primarily by a monolineinsurance company and partially by the Federal Family Education Loan Program (“FFELP”).

 

Weprepared a DCF model to estimate the fair value of the ARS as of June 30,2009.  The significant estimates thatwere used as inputs in our DCF model were the credit quality of the issuer, thecredit quality of the monoline insurance company, the percentage and the typesof guarantees (such as the monoline insurance company and FFELP), interestrates, expected holding period of the ARS, expected future cash flows, and anilliquidity discount factor. This ARS is compared, when possible, to otherobservable and relevant market data. Changes in the assumptions of the modelare based on dynamic market conditions which could have a significant impact onthe valuation of this security and may result in impairment charges for thissecurity in the future.

 

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Based on our review ofour DCF model, the inputs to the model and the assessment of fair value as of June 30,2009, we determined there was an increase in the fair value of the ARSinvestment of $162 and $907 during the quarter and six months ended June 30,2009, respectively.  Accordingly, theincrease in fair value has been recorded as a gain to other income (expense),other, net, in the condensed consolidated statement of income in 2009.

 

As of December 31,2008, we classified the ARS as a long-term asset on our condensed consolidatedbalance sheet.  We did not expect to havea need to access these funds in the short-term; however, in the event we neededto access these funds, they were not expected to be accessible until one of thefollowing occurs: a successful auction, the issuer redeems the issue, a buyeris found outside of the auction process or the underlying securities mature. Inaddition, the underlying maturities of the securities are greater than20 years.  As of June 30, 2009,we have classified the ARS as a current asset in short-term investments on ourcondensed consolidated balance sheet, as a result of our Right, as describedbelow. We continue to earn and receive interest on our ARS, as specified in theterms of the prospectus.

 

In November 2008, weaccepted an offer (“Right”) from UBS Financial Services, Inc., asubsidiary of UBS AG (“UBS”), entitling us to sell at par value our ARSoriginally purchased from UBS at anytime during a two-year period from June 30,2010 through July 2, 2012. Although we expect to sell our ARS under theRight, if the Right is not exercised before July 2, 2012, it will expireand UBS will have no further rights or obligation to buy our ARS.  If UBS has insufficient funding to buy backthe ARS and the auction process continues to fail, then we may incur furtherlosses on the carrying value of the ARS.

 

Prior to accepting theRight, we recorded our ARS as an available-for-sale investment, and therefore,recorded resulting unrealized gains or losses, net of tax, in accumulated othercomprehensive income in stockholders’ equity. In connection with the acceptanceof the Right in November 2008, we transferred our ARS, subject to theRight, from available-for-sale to trading in accordance with SFAS No. 115,*Accounting for Certain Investments in Debtand Equity Securities*. The transfer to trading securities reflectsmanagement’s intent to exercise the Right during the period June 30, 2010to July 2, 2012.  As a result ofthis put option period, we have classified this Right (put option) as a currentasset in short-term investments on our condensed consolidated balance sheet asof June 30, 2009.

 

Upon transfer of the ARSto trading securities in November 2008, we recognized a loss of $1,575,included in other income (expense), other, net, for the amount of theunrealized loss not previously recognized in earnings. The enforceability ofthe Right results in a put option and is recognized as a separate freestandingasset and is accounted for separately from the ARS investment. We elected tomeasure the Right at fair value under SFAS No.159, *The FairValue Option for Financial Assets and Financial Liabilities***-***Including an Amendmentof FASB Statement No. 115**,* which permits an entity to elect the fair valueoption for recognized financial assets, in order to match the changes in thefair value of the ARS.  Based on dataavailable as of December 31, 2008, we valued the Right using a DCFapproach which included estimates of interest rates, timing and amount of cashflow, adjusted for any bearer risk associated with UBS’s financial ability torepurchase the ARS beginning June 30, 2010. These assumptions are volatileand subject to change as the underlying sources of these assumptions and marketconditions change. As of December 31, 2008, we recorded $1,383 as the fairvalue of the Right asset and classified it as a long-term investment on theconsolidated balance sheet, with a corresponding credit to other income(expense), other, net, in the consolidated statement of income for the yearended December 31, 2008.  Therecording of the realized gain (fair value) of the Right during the year ended December 31,2008 largely offset the realized loss on the ARS during that same period.

 

As of June 30, 2009,we estimated the fair value of the Right to be $597, which was measured usingLevel 3 inputs.  We prepared a DCF modelto value the Right as of June 30, 2009. Based on our DCF model, the inputs to the model and the assessment offair value as of June 30, 2009, we determined there was a decline in thefair value of the Right of $41 and $786 during the quarter and six months endedJune 30, 2009, respectively. Accordingly, the decline in fair value has been recorded as a charge toother income (expense), other, net, in the condensed consolidated statement ofincome in 2009.  The recording of therealized loss on the Right during the quarter and six months ended June 30,2009 largely offset the realized gain on the ARS during that same period.

 

We will continue toanalyze our ARS and Right (put option) each reporting period for additionalchanges in fair value and will record those gains or losses in the condensedconsolidated statements of income.

 

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*Fair Value of Debt*

 

We had no short-term borrowings as of June 30, 2009 and December 31,2008. The fair value of our long-term debt was estimated using a DCF analysesbased on incremental borrowing rates for similar types of borrowingarrangements.

 
| ** **                                     | ** ** | **As of June 30, 2009** | ** ** | **As of December 31, 2008** | ** ** |
|------------------------------------------------|------------|------------------------------|------------|----------------------------------|------------|
| ** **                                     | ** ** | **Carrying Value**           | ** ** | **Fair Value**                   | ** ** | **Carrying Value** | ** ** | **Fair Value** | ** ** |
| Long-term  debt (including current maturities) |       | $                            | 236,682    |                             | $          | 237,929 |   | $ | 241,681 |   | $ | 238,464 |   |
|                                                |            |                              |            |                                  |            |  |  |  |  |  |  |  |  |

 

**3.   DISCONTINUED OPERATIONS**

 

*SureWest Wireless*

 

In May 2008, wecompleted the sale of the operating assets of our Wireless business, SureWestWireless, to Verizon Wireless (“Verizon”) for an aggregate cash purchase priceof $69,746, resulting in a gain of $18,864, net of tax.  Under the agreement, Verizon acquired thespectrum licenses and operating assets of SureWest Wireless, excluding our ownedcommunication towers.  See theCommunication Tower Assets section below for further discussion regarding ourowned communication towers.  SureWestWireless was previously reported as a separate reportable segment.

 

A portion of the purchaseprice equal to $3,450 was placed in escrow, half of which was received duringthe quarter ended June 30, 2009 and the balance of which will be availableduring the second quarter of 2010, less the amount of any pending claims, ineach case, to be held as security for certain losses, if any, incurred byVerizon in the event of (i) any breach of the representations andwarranties set forth in the agreement, (ii) any breach or nonperformanceof covenants set forth in the agreement and (iii) certain other specifiedevents. The actual gain on sale could vary based on future claims, if any, madeagainst the amounts held in escrow.

 

The results of SureWestWireless have been reported as a discontinued operation in our condensedconsolidated financial statements for all periods presented.

 

The followingtable summarizes the financial information for SureWest Wireless’ operations:

 
| ** **                                                  | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-------------------------------------------------------------|------------|----------------------------------|------------|------------------------------------|------------|
| ** **                                                  | ** ** | **2008**                         | ** ** | **2009**                           | ** ** | **2008** | ** ** |
| Operating  revenues                                         |       | $                                | 2,928      |                               | $          | — |   | $ | 10,055 |   |
| Operating  expenses including depreciation and amortization |       | 2,585                            |       | —                             |       | 9,277 |   |
| Income  from operations                                     |       | 343                              |       | —                             |       | 778 |   |
| Other  income (expense)                                     |       | (11                              | )          | —                             |       | (7 | ) |
| Income  tax expense                                         |       | 167                              |       | —                             |       | 312 |   |
| Income  from discontinued operations                        |       | $                                | 165        |                               | $          | — |   | $ | 459 |   |
|                                                        |       |                             |       |                               |       |   |   |
| Gain  on sale of discontinued operations, net of tax        |       | $                                | 18,977     |                               | $          | 43 |   | $ | 18,977 |   |

 

In connection with thesale, we entered into a short-term Transition Services Agreement (“TSA”) withVerizon to provide certain operating services during the transition of theWireless business to Verizon.  The TSAconcluded during the third quarter of 2008. During the transition period, our Telecommunications (“Telecom”) andBroadband segments provided certain services including long distance andinterconnect services to Verizon. Such services, which were provided to SureWestWireless prior to the sale and eliminated in our condensed consolidatedfinancial statements were $545 and $1,869 for the quarter and six-month periodended June 30, 2008, respectively.

 

*Communication Tower Assets*

 

In February 2009, wesold our fifty-two wireless communications towers (“Tower Assets”) owned by oursubsidiary West Coast PCS, LLC (“West Coast PCS”) to Global Tower Partners.West Coast PCS was a component of our Broadband segment. The sale was completedfor an aggregate cash purchase price of $9,222, based on the tower cash flowgenerated by commenced tenant leases, resulting in a gain as of June 30,2009 of $2,525, net of tax.

 

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The results of theTower Assets have been reported as a discontinued operation in our condensedconsolidated financial statements for all periods presented.

 

At December 31,2008, the major components of the Tower Assets and liabilities to be sold wereas follows:

 

| ** **                              | ** ** | **December 31, 2008** | ** ** |
|-----------------------------------------|------------|-----------------------|------------|
| Prepaid expenses                        |       | $                     | 98         |   |
| Property, plant and equipment, net      |       | 4,904                 |       |
| Total assets                            |       | $                     | 5,002      |   |
|                                    |       |                  |       |
| Other liabilities and deferred revenues |       | $                     | 453        |   |
| Total liabilities                       |       | $                     | 453        |   |

 

The following tablesummarizes the financial information for the operations of the Tower Assets forthe quarters and six-month periods ended June 30, 2009 and 2008:

 
| ** **                                                  | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-------------------------------------------------------------|------------|---------------------------------|------------|------------------------------------|------------|
| ** **                                                  | ** ** | **2009**                        | ** ** | **2008**                           | ** ** | **2009** | ** ** | **2008** | ** ** |
| Operating  revenues                                         |       | $                               | —     |                               | $          | 398 |   | $ | 249 |   | $ | 705 |   |
| Operating  expenses including depreciation and amortization |       | —                          |       | 378                                |       | 365 |   | 735 |   |
| Income  (loss) from operations                              |       | —                          |       | 20                                 |       | (116 | ) | (30 | ) |
| Income  tax expense (benefit)                               |       | —                          |       | 6                                  |       | (47 | ) | (11 | ) |
| Income  (loss) from discontinued operations                 |       | $                               | —     |                               | $          | 14 |   | $ | (69 | ) | $ | (19 | ) |
|                                                        |       |                            |       |                               |       |   |   |   |   |
| Gain  on sale of discontinued operations, net of tax        |       | $                               | 60         |                               | $          | — |   | $ | 2,525 |   | $ | — |   |

 

**4.   BUSINESS SEGMENTS**

 

We have two reportablebusiness segments: Broadband and Telecom. We have aggregated certain of ouroperating segments within the Broadband and Telecom segments because we believethat such operating segments share similar economic characteristics.  We measure and evaluate the performance ofour segments based on income (loss) from operations. Corporate Operations areallocated to the appropriate segment, except for cash; investments; certainproperty, plant, and equipment; and miscellaneous other assets, which are notallocated to the segments. However, the investment income associated with cashand investments held by Corporate Operations is included in the results of theoperations of our segments.

 

The Broadband segmentutilizes fiber-to-the-premise and fiber-to-the-node networks to offer many ofour bundled residential and commercial services that include Internetprotocol-based digital and high-definition television, high-speed internet,Voice over Internet Protocol and local and long distance telephone in thegreater Sacramento region and Kansas City area.

 

The Telecom segmentoffers landline telecommunications services, Digital Subscriber Line (“DSL”)service, long distance services and certain non-regulated services operatingonly in the greater Sacramento area. SureWest Telephone, which is the principaloperating subsidiary of the Telecom segment, provides local services, tolltelephone services, network access services and certain non-regulated services.SureWest Long Distance is a reseller of long distance services.

 

As discussed in Note 3, in May 2008 we sold the operating assetsof our Wireless business, SureWest Wireless, which was previously reported as aseparate reportable segment. The Wireless business sold has been presented as adiscontinued operation for all periods presented.

 

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These segments arestrategic business units that offer different products and services. Theaccounting policies of these segments are the same as those described in Note1. We account for intersegment revenues and expenses at prevailing marketrates.  Our business segment informationis as follows:

 
| ** **                                          | ** ** | ** **    | ** ** | ** **  | ** ** | **Intercompany** | ** ** | ** **       | ** ** |
|-----------------------------------------------------|------------|---------------|------------|-------------|------------|------------------|------------|------------------|------------|
| ** **                                          | ** ** | **Broadband** | ** ** | **Telecom** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **For the three months ended June 30,  2009:** |       |          |       |        |       |             |       |             |       |
| Operating revenues fromexternal customers           |       | $             | 40,259     |        | $          | 20,671           |       | $                | —     |   | $ | 60,930 |   |
| Intersegment revenues                               |       | 94            |       | 4,981       |       | (5,075           | )          | —           |       |
| Operating expenses*                                 |       | 34,294        |       | 12,868      |       | (5,075           | )          | 42,087           |       |
| Depreciation and amortization                       |       | 11,283        |       | 2,945       |       | —           |       | 14,228           |       |
| Income (loss) from operations                       |       | (5,224        | )          | 9,839       |       | —           |       | 4,615            |       |
| Income (loss) from continuing operations            |       | $             | (4,884     | )           | $          | 5,783            |       | $                | —     |   | $ | 899 |   |

 

----

*Exclusive of depreciationand amortization

 
| ** **                                            | ** ** | ** **    | ** ** | ** **  | ** ** | **Intercompany** | ** ** | ** **       | ** ** |
|-------------------------------------------------------|------------|---------------|------------|-------------|------------|------------------|------------|------------------|------------|
| ** **                                            | ** ** | **Broadband** | ** ** | **Telecom** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **For the three months ended****June 30, 2008:** |       |          |       |        |       |             |       |             |       |
| Operating revenues from external customers            |       | $             | 35,301     |        | $          | 24,551           |       | $                | —     |   | $ | 59,852 |   |
| Intersegment revenues                                 |       | 141           |       | 4,560       |       | (4,701           | )          | —           |       |
| Operating expenses*                                   |       | 31,085        |       | 13,519      |       | (4,701           | )          | 39,903           |       |
| Depreciation and amortization                         |       | 10,335        |       | 3,740       |       | —           |       | 14,075           |       |
| Income (loss) from operations                         |       | (5,978        | )          | 11,852      |       | —           |       | 5,874            |       |
| Income (loss) from continuing operations              |       | $             | (5,391     | )           | $          | 7,120            |       | $                | —     |   | $ | 1,729 |   |

 

----

*Exclusive of depreciation and amortization

 
| ** **                                          | ** ** | ** **    | ** ** | ** **  | ** ** | **Intercompany** | ** ** | ** **       | ** ** |
|-----------------------------------------------------|------------|---------------|------------|-------------|------------|------------------|------------|------------------|------------|
| ** **                                          | ** ** | **Broadband** | ** ** | **Telecom** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **For the six months ended****June 30, 2009:** |       |          |       |        |       |             |       |             |       |
| Operating revenues fromexternal customers           |       | $             | 79,481     |        | $          | 42,391           |       | $                | —     |   | $ | 121,872 |   |
| Intersegment revenues                               |       | 185           |       | 9,855       |       | (10,040          | )          | —           |       |
| Operating expenses*                                 |       | 68,989        |       | 25,950      |       | (10,040          | )          | 84,899           |       |
| Depreciation and amortization                       |       | 22,903        |       | 6,135       |       | —           |       | 29,038           |       |
| Income (loss) from operations                       |       | (12,226       | )          | 20,161      |       | —           |       | 7,935            |       |
| Income (loss) from continuing operations            |       | $             | (10,282    | )           | $          | 11,260           |       | $                | —     |   | $ | 978 |   |

 

----

*Exclusive of depreciation and amortization

 
| ** **                                          | ** ** | ** **    | ** ** | ** **  | ** ** | **Intercompany** | ** ** | ** **       | ** ** |
|-----------------------------------------------------|------------|---------------|------------|-------------|------------|------------------|------------|------------------|------------|
| ** **                                          | ** ** | **Broadband** | ** ** | **Telecom** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **For the six months ended****June 30, 2008:** |       |          |       |        |       |             |       |             |       |
| Operating revenues from external customers          |       | $             | 62,132     |        | $          | 49,033           |       | $                | —     |   | $ | 111,165 |   |
| Intersegment revenues                               |       | 281           |       | 8,903       |       | (9,184           | )          | —           |       |
| Operating expenses*                                 |       | 57,108        |       | 28,534      |       | (9,184           | )          | 76,458           |       |
| Depreciation and amortization                       |       | 18,740        |       | 7,402       |       | —           |       | 26,142           |       |
| Income (loss) from operations                       |       | (13,435       | )          | 22,000      |       | —           |       | 8,565            |       |
| Income (loss) from continuing operations            |       | $             | (11,161    | )           | $          | 12,912           |       | $                | —     |   | $ | 1,751 |   |

 

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*Exclusive of depreciation and amortization

 

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**5.   REGULATORYMATTERS AND ESTIMATED SHAREABLE EARNINGS OBLIGATIONS**

 

Certainof our rates are subject to regulation by the Federal Communications Commission(“FCC”) and the State Commissions. Intrastate service rates are subject toregulation by State Commissions. With respect to toll calls initiated byinterexchange carriers’ customers, the interexchange carriers are assessedaccess charges based on tariffs filed by the Company. Interstate access ratesand resultant earnings are subject to regulation by the FCC. With respect tointerstate services, SureWest Telephone has detariffed its DSL services andfiles its own tariff with the FCC for switched and special access services. Forinterstate common line charges, SureWest Telephone concurs with tariffs filedby the National Exchange Carrier Association. Pending and future regulatoryactions may have a material impact on our condensed consolidated financialposition and results of operations.

 

*FCC Matters*

 

TheFCC monitors SureWest Telephone’s interstate earnings through the use of annualcost separation studies prepared by SureWest Telephone, which utilize estimatedcost information and projected demand usage. The FCC establishes rules thatcarriers must follow in the preparation of the annual studies. Additionally,under current FCC rules governing rate making, SureWest Telephone isrequired to establish interstate rates based on projected demand usage for itsvarious services and determine the actual earnings from these rates once actualvolumes and costs are known.

 

*California Public Utility Commission (“CPUC”)Matters*

 

In 2004, we entered into a settlement agreement (the “SettlementAgreement”), which was ultimately approved by the CPUC, to resolve an ongoingregulatory proceeding with various parties. The Settlement Agreement resolved past sharing liabilities and suspendedfuture sharing requirements in the intrastate jurisdiction.  In accordance with the Settlement Agreement,SureWest Telephone returned approximately $6,500, plus interest at the 90-daycommercial paper rate for non-financial institutions and an imputed rate of3.15%, to its end-users through a consumer dividend.  The surcredit was recorded as a reduction ofour contractual shareable earnings obligations over a period of approximatelyfour years, which began January 1, 2005. During the first quarter of 2009 and prior to the cessation of thesurcredit on February 9, 2009, we returned approximately $165. For thequarter and six-month period ended June 30, 2008, we returnedapproximately $418 and $849, respectively, to end users through the consumerdividends.

 

As part of the Settlement Agreement, SureWest Telephone was required toimplement an additional annual consumer dividend of $1,300 on January 1,2007 to end-users receiving SureWest Telephone services subject to sharing onor after that date.  In December 2006,the CPUC authorized us to offset our annual $11,500 interim draw from theCalifornia High Cost Fund (“CHCF”) with the aforementioned $1,300 consumerdividend Settlement Agreement.  The CHCFwas previously authorized by the CPUC to offset SureWest Telephone’s intrastateregulated operating expenses on an interim basis. In September 2007, the CPUCissued Decision 07-09-002 which provides for SureWest Telephone to phase-downour annual CHCF interim draw by approximately $2,000 over a five-year period toend on January 1, 2012.  Our 2008interim CHCF draw was $8,160 and we anticipate our 2009 interim CHCF draw willbe approximately $6,120.

 

In an ongoing proceeding relating to the New Regulatory Framework(under which SureWest Telephone has been regulated since 1996), the CPUCadopted Decision 06-08-030 in 2006, which grants carriers broader pricingfreedom in the provision of telecommunications services, bundling of services,promotions and customer contracts.  Thisdecision adopted a new regulatory framework, the Uniform Regulatory Framework (“URF”),which among other things (i) eliminates price regulation and allows fullpricing flexibility for all new and retail services except basic residentialservices, which can only be raised up to $3.25 per year for 2009 and2010 as described below,(ii) allows new forms of bundles and promotionalpackages of telecommunication services, (iii) allocates all gains andlosses from the sale of assets to shareholders and (iv) eliminates almostall elements of rate of return regulation, including the calculation ofshareable earnings.  On September 18,2008, the CPUC adopted Decision 08-09-042, which allows URF Incumbent LocalExchange Carriers (“ILECs”) to increase their basic residential rate by up to$3.25 per year over the next two years. Beginning January 1, 2011, the URF ILECs will be allowed fullpricing flexibility for the basic residential rate.

 

**6.   INCOMETAXES**

 

Our effective federal and state income tax rates for continuingoperations were 60.5% and 44.2% for the six-month period ended June 30,2009 and 2008, respectively. For the six-month period ended June 30, 2009,our actual tax expense differed from the federal statutory rate primarily dueto state taxes and permanent differences resulting from the decrease betweenthe grant and vesting prices of RSAs and RSUs that vested during the currentyear period.

 

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We had a liability for unrecognized tax benefits of approximately $199and $257 at June 30, 2009 and December 31, 2008, respectively.  The following table provides a reconciliationof the beginning and ending amount of unrecognized tax benefits during thesix-month period ended June 30, 2009:

 
| Balance at  December 31, 2008            |   | $   | 257    |   |
|-----------------------------------------------|--------|-----|--------|--------|
| Additions based  on prior year tax positions  |   | 3   |   |
| Reductions based  on prior year tax positions |   | (61 | )      |
| Balance at  June 30, 2009                |   | $   | 199    |   |

 

Our policy is to recognize interest and penalties related to uncertaintax positions in income tax expense.  Wedid not accrue significant amounts of interest and penalties related tounrecognized tax benefits during the quarters and six-month periods ended June 30,2009 and 2008, respectively.  As of June 30,2009, we had approximately $60 of accrued interest and approximately $40 ofpenalties in the unrecognized tax benefits below.

 

The total amount of unrecognized tax benefits that, if recognized,would affect the effective tax rate were $126 and $123 at June 30, 2009and December 31, 2008, respectively. It is reasonably possible that a reduction of up to $74 of unrecognizedtax benefits may occur within twelve months as a result of the interest andpenalties related to filed amended returns.

 

As of June 30, 2009, the following tax years and related taxingjurisdictions were open:

 
| **Tax Year** | ** ** | **Taxing Jurisdiction** |
|--------------|------------|-------------------------|
| 2002 - 2008  |       | Federal                 |
| 2004 - 2008  |       | California              |
| 2006 - 2008  |       | Kansas and Missouri     |

 

**7.   PENSIONAND OTHER POST-RETIREMENT BENEFITS**

 

Wemaintain a noncontributory defined benefit pension plan (the “Pension Plan”)which covers certain eligible employees. Benefits are based on years of serviceand the employee’s average compensation during the five highest consecutiveyears of the last ten years of credited service. Our funding policy is tocontribute annually an actuarially determined amount consistent with applicablefederal income tax regulations. Contributions are intended to provide forbenefits attributed to service to date. Pension Plan assets are primarilyinvested in domestic equity securities, fixed income and international equitysecurities.

 

We also maintain an unfunded Supplemental ExecutiveRetirement Plan (“SERP”), which provides supplemental retirement benefits tocertain of our retired executives. The SERP provides for incremental pensionpayments to partially offset the reduction in amounts that would have beenpayable under the Pension Plan if it were not for limitations imposed byfederal income tax regulations.

 

Inaddition, we provide certain post-retirement benefits other than pensions (“OtherBenefits Plan”) to certain eligible employees of our California location,including life insurance benefits and a stated reimbursement for Medicaresupplemental insurance.

 

Inrecent years, we substantially modified our employee compensation structure inorder to attract and retain the right mix of talent necessary to successfullysupport our operations.  For that reason,we amended our Pension Plan, SERP and Other Benefits (collectively the “Plans”).  The amendments to the Plans, effective April 1,2007, froze the Plans so that no person is eligible to become a new participanton or following that date and all future benefit accruals for existingparticipants under the Plans cease.

 

Weaccount for our Pension Plan in accordance with SFAS No. 158, *Employers’ Accounting for Defined Benefit Pension and OtherPostretirement Plans, an Amendment of FASB Statements No. 87, 88, 106 and 132(R) *(“SFAS158”).  SFAS 158 requires an employer torecognize the overfunded or underfunded status of a defined benefitpostretirement plan as an asset or liability in its statement of financialposition and to recognize changes in that funded status in the year in whichthe changes occur through comprehensive income. The Statement also requires an employer to measure the funded status ofa plan as of the date of its year-end statement of financial position.

 

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**Components of Net Periodic Pension Cost**

 

The following table summarizes the benefit costs (income) related toour Pension and SERP Plans:

 
| ** **                                     | ** ** | **2009** | ** ** | **2008** | ** ** |
|------------------------------------------------|------------|----------|------------|----------|------------|
| **Quarter ended June 30,**                |       |     |       |     |       |
| Interest cost on  projected benefit obligation |       | $        | 1,809      |     | $          | 1,769 |   |
| Expected return  on plan assets                |       | (1,667   | )          | (2,282   | )          |
| Amortization of:                               |       |     |       |     |       |
| Net actuarial  loss                            |       | 566      |       | 5        |       |
| Net periodic  pension expense (income)         |       | $        | 708        |     | $          | (508 | ) |
|                                           |       |     |       |     |       |
| ** **                                     | ** ** | **2009** | ** ** | **2008** | ** ** |
| **Six months ended June 30,**             |       |     |       |     |       |
| Interest cost on  projected benefit obligation |       | $        | 3,617      |     | $          | 3,577 |   |
| Expected return  on plan assets                |       | (3,342   | )          | (4,532   | )          |
| Amortization of:                               |       |     |       |     |       |
| Prior service  cost                            |       | 1        |       | 1        |       |
| Net actuarial  loss                            |       | 1,296    |       | 11       |       |
| Net periodic  pension expense (income)         |       | $        | 1,572      |     | $          | (943 | ) |

 

Net periodic benefit costs related to the Other Benefits Plan were notsignificant to our condensed consolidated financial statements for the quartersor six-month periods ended June 30, 2009 and 2008.

 

**8.   COMMITMENTSAND CONTINGENCIES**

 

**Credit Arrangements**

 

In February 2008, we entered into a SecondAmended and Restated Credit Agreement (“Credit Agreement”) to restate andreplace a May 2007 credit agreement. The Credit Agreement terms, amongother things (i) revised the amount available under the Term Loan Afacility from $40,000 to $120,000, (ii) issued a 1-year $60,000 Term LoanB facility and (iii) modified certain financial covenants. No significantchanges were made to the existing $60,000 Revolving Loan facility. The creditfacilities were used in part to acquire Everest and were available for generalcorporate purposes. The Term Loan A facility and the Revolving Loan facilityare due and payable on May 1, 2012.

 

The Term Loan A facility, prior to the CreditAgreement, which had $40,000 outstanding, was extinguished resulting in a losson extinguishment of debt of $607, which was recorded as a component of interestexpense in the first quarter of 2008. $40,000 of the Credit Agreementborrowings bore interest at a fixed rate. The remaining $80,000 of the CreditAgreement borrowings bore interest based, at our election, on the LondonInterbank Offered Rate (“LIBOR”) or the bank’s Prime Rate, in either case, plusan applicable margin. The Term Loan B facility was due and payable on February 12,2009 and included automatic increases to the applicable interest margins. On May 14,2008, we repaid $30,000 of the Term Loan B and $16,000 of the Revolvingfacility with proceeds from the sale of the operating assets of our Wirelessbusiness, SureWest Wireless.

 

In September 2008, we entered into a ThirdAmended and Restated Credit Agreement (“New Agreement”) to restate and replacethe Credit Agreement. The New Agreement terms, among other things (i) reflectedthe repayment of $30,000 of the Term Loan B facility under the Credit Agreementto reduce the principal balance from $60,000 to $30,000, (ii) modifiedinterest margins and (iii) extended the maturity date of the Term Loan Bfacility to May 1, 2012.

 

As of June 30, 2009, $120,000, $30,000 and $20,500 wereoutstanding on the Term Loan A, Term Loan B and Revolving Loan facilities,respectively.

 

Our Series A and Series B Senior Notes and the New Agreementcontain financial and operating covenants that may restrict, among otherthings, the repurchase of the Company’s capital stock, the making of certainother restricted payments and the incurrence of additional indebtedness. Thecovenants also require us to maintain certain financial ratios and minimumlevels of tangible net worth. At June 30, 2009 and December 31, 2008,retained earnings of $104,761 and $101,345, respectively, were available forthe payments described above. As of June 30, 2009, we were in compliancewith all of our debt covenants.

 

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**Litigation, Regulatory Proceedings and OtherContingencies**

 

Weare subject to certain legal proceedings, Internal Revenue Service examinationsand other income tax exposures, and other claims arising in the ordinary courseof our business. In the opinion of management, the ultimate outcome of thesematters will not materially affect our consolidated financial position, resultsof operations or cash flows.

 

We are also subject to a number of regulatory proceedings occurring atthe federal and state levels that may have a material impact on our operations.These regulatory proceedings include, but are not limited to, consideration ofchanges to the jurisdictional separations process, the interstate universalservice fund, intercarrier compensation access charge reform, broadbanddeployment, the regulation of local exchange carriers and their competitors,including providers of Internet protocol-enabled services, and the provision ofvideo services and competition in the market. The outcomes and impact on ouroperations due to these proceedings and related court matters cannot bedetermined at this time.

 

The FCC continues to promulgate rules and regulations oncompetition, interconnection, access charges, broadband deployment anduniversal service reform, and the various on-going legal challenges consideringthe validity of these FCC orders and it is not yet possible to determine fullythe impact of the related FCC regulations on our operations.

 

The regulatory proceedings occurring at the state and federal levelsdescribed above may also authorize new competition in the provision ofregulated services and change the rates and rate structure for regulatedservices that we furnish, of which the effects on us cannot yet be determined.

 

**9.   RECENTACCOUNTING PRONOUNCEMENTS**

 

**Recently IssuedAccounting Pronouncements**

** **

In June 2009, the Financial AccountingStandards Board (“FASB”) issued SFAS No. 168,*The FASBAccounting Standards Codification**TM** and the Hierarchy of Generally AcceptedAccounting Principles — a replacement of FASB Statement No. 162 (“SFAS 168”).*SFAS 168 replaces FASB Statement No. 162, *TheHierarchy of Generally Accepted Accounting Principles* (“SFAS 162”)and establishes only two levels of GAAP, authoritative andnonauthoritative.  The FASB AccountingStandards Codification (the “Codification”) will become the source ofauthoritative nongovernmental GAAP, except for rules and interpretivereleases of the SEC, which are sources of authoritative GAAP for SECregistrants.  All other nongrandfathered,non-SEC accounting literature not included in the Codification will becomenonauthoritative.  SFAS 168 is effectivefor financial statements for interim or annual reporting periods ending after September 15,2009.  We will begin to use the newguidelines and numbering system prescribed by the Codification when referringto GAAP in the third quarter of 2009.  Asthe Codification was not intended to change or alter existing GAAP, it is notexpected to have any impact on our condensed consolidated financial statements.

 

In December 2008, the FASB issued Staff Position (“FSP”) FAS No. 132(R)-1,*Employers’ Disclosures about Postretirement BenefitPlan Assets* (“FSP FAS 132(R)-1”). FSP FAS 132(R)-1 amends FASBStatement No. 132 (revised 2003), *Employers’ Disclosuresabout Pensions and Other Postretirement Benefits,*to requiredisclosure of additional information about assets held in a defined benefitpension or other postretirement plan. Specifically, FSP FAS 132(R)-1 requiresan employer to disclose (i) investment policies and strategies includingtarget allocation percentages, (ii) major categories of plan assets, (iii) inputsand valuation techniques used to measure the fair value of plan assets and (iv) significantconcentration of risk within plan assets. The additional disclosurerequirements of FSP FAS 132(R)-1 are effective for fiscal years ending after December 15,2009, with earlier application permitted. We are currently evaluating theimpact this statement will have on our condensed consolidated financialstatements.

 

**Recently AdoptedAccounting Pronouncements**

** **

In May 2009, the FASB issued SFAS No. 165, *Subsequent Events* (“SFAS 165”), which establishes generalstandards of accounting for and disclosure of events that occur after thebalance sheet date but before financial statements are issued or available tobe issued. SFAS 165 requires disclosure of the date through which subsequentevents have been evaluated, as well as whether that date is the date thefinancial statements were issued or the date the financial statements wereavailable to be issued. SFAS 165 was effective for interim or annual financialperiods ending after June 15, 2009. Our adoption of SFAS 165 did not have a material impact on our condensedconsolidated financial position and results of operations.

 

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In April 2009, theFASB issued three FSPs that are intended to provide additional applicationguidance and enhance disclosures about fair value measurements and impairmentsof securities. FSP FAS No. 157-4, *Determining Fair ValueWhen the Volume and Level of Activity for the Asset or Liability HaveSignificantly Decreased and Identifying Transactions That Are Not Orderly,*clarifiesthe objective and method of fair value measurement even when there has been asignificant decrease in market activity for the asset being measured. FSP FAS No. 115-2and FSP FAS No. 124-2, *Recognition ofOther-Than-Temporary Impairments* establishes a new model for measuringother-than-temporary impairments for debt securities, including establishingcriteria for when to recognize a write-down through earnings versus othercomprehensive income. FAS No. 107-1 and APB 28-1, *InterimDisclosures about Fair Value of Financial Instruments* expands thefair value disclosures required for all financial instruments within the scopeof SFAS No. 107, *Disclosures about FairValue of Financial Instruments*, to interim periods. Our adoption ofthe provisions of these FSPs as of April 1, 2009 did not have a materialimpact on our condensed consolidated financial position and results ofoperations.

 

In November 2008, the Emerging Issues Task Force (“EITF”) reacheda consensus on EITF No. 08-7, *Accounting for DefensiveIntangible Assets*(“EITF 08-7”)*.*EITF 08-7requires the acquirer of a defensive intangible asset to account for adefensive intangible asset as a separate unit of accounting and assign a usefullife for a defensive intangible asset according to the entity’s consumption ofthe expected benefits related to that asset. Our adoption of EITF No. 08-7,on January 1, 2009 did not have a materialimpact on our condensed consolidated financial position and results ofoperations.

 

In June 2008, the FASB issued FSP EITF 03-6-1, *Determining Whether Instruments Granted in Share-Based PaymentTransactions Are Participating Securities* (“FSP EITF 03-6-1”). FSPEITF 03-6-1 addresses whether instruments granted in share-based paymenttransactions are participating securities prior to vesting and, therefore, needto be included in the earnings allocation in computing earnings per share underthe two-class method as described in SFAS No. 128, *Earnings perShare*. Under the guidance in FSP EITF 03-6-1, unvested share-basedpayment awards that contain non-forfeitable rights to dividends or dividendequivalents (whether paid or unpaid) are participating securities and shall beincluded in the computation of earnings per share pursuant to the two-classmethod. EITF 03-6-1 was effective for us on January 1, 2009.  Our adoption of EITF 03-6-1 did not have a material impact on our condensed consolidatedfinancial position and results of operations.

 

In April 2008, the FASB issued FSP No. FAS 142-3,*Determination of the Useful Life of IntangibleAssets* (“FSP FAS 142-3”). FSP FAS 142-3 amends the factors thatshould be considered in developing renewal or extension assumptions used forpurposes of determining the useful life of a recognized intangible asset underSFAS No. 142, *Goodwill and OtherIntangible Assets*(“SFAS 142”).  FSP FAS 142-3 is intended toimprove the consistency between the useful life of a recognized intangibleasset under SFAS 142 and the period of expected cash flows used to measure thefair value of the asset under SFAS 141(R),*Business Combinations*, andother U.S. GAAP.  FSP FAS 142-3 was effective for us on January 1,2009.  Our adoption of FSP FAS 142-3 didnot have a material impact on ourcondensed consolidated financial position and results of operations.

 

In May 2008, the FASB issued SFAS No. 162,*The Hierarchy of Generally Accepted AccountingPrinciples* (“SFAS 162”). SFAS 162 identifies a consistent framework,or hierarchy, for selecting accounting principles to be used in preparingfinancial statements that are presented in conformity with GAAP fornongovernmental entities (the “Hierarchy”). The Hierarchy within SFAS 162 isconsistent with that previously defined in the AICPA Statement on AuditingStandards No. 69, *The Meaning ofPresent Fairly in Conformity With Generally Accepted Accounting Principles*.SFAS 162 was effective 60 days following the SEC’s approval of the PublicCompany Accounting Oversight Board amendments to AU Section 411,*The Meaning of Present Fairly in Conformity WithGenerally Accepted Accounting Principles*. The SEC approved theamendments in September 2008, establishing the effective date of November 2008.  Ouradoption of SFAS 162 did not have a material effect on our condensedconsolidated financial position and results of operations.

 

In December 2007, the FASB issued SFAS No. 141(R) whichestablishes principles and requirements for how the acquirer recognizes andmeasures in its financial statements the identifiable assets acquired, theliabilities assumed and any noncontrolling interest in the acquiree in a businesscombination.  SFAS 141(R) alsoestablishes principles around how goodwill acquired in a business combinationor gain from a bargain purchase should be recognized and measured, as well asprovides guidelines on the disclosure requirements on the nature and financialimpact of the business combination. SFAS 141(R) also requiresacquisition-related transaction and restructuring costs to be expensed ratherthan treated as part of the cost of the acquisition.  In April 2009, the FASB issued FSP FAS141(R)-1, *Accounting for Assets Acquired and LiabilitiesAssumed in a Business Combination That Arise from Contingencies*(“FSPFAS 141(R)-1”*)*. FSP FAS 141(R)-1 amends SFAS141(R) by establishing a model to account for certain pre-acquisitioncontingencies.  Under FSP FAS 141(R)-1,an acquirer is required to recognize at fair value an asset acquired or aliability assumed in a business combination that arises from a contingency ifthe acquisition-date fair 

 

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value of that asset or liability can be determined during themeasurement period.  If theacquisition-date fair value cannot be determined, then the acquirer should followthe recognition criteria in SFAS No. 5, *Accountingfor Contingencies*, and FASB Interpretation No. 14, *Reasonable Estimation of the Amount of a Loss - an interpretation ofFASB Statement No. 5*. Our adoption of SFAS 141(R) and FSP FAS 141(R)-1, effective January 1,2009, did not have a material impact onour condensed consolidated financial position and results of operations.

 

In February 2008, the FASB issued FSP No. FAS 157-2, *Effective Date of FASB Statement No. 157*(“FSP FAS157-2”) which amended SFAS 157 to delay the effective date until January 1,2009 for nonfinancial assets and nonfinancial liabilities, except for itemsthat are recognized or disclosed at fair value in the financial statements on arecurring basis, at least annually.  SFAS157, as amended, was effective for financial statements issued for fiscal yearsbeginning after November 15, 2008 and for interim periods within thosefiscal years.  Our adoption of theprovisions of FSP FAS 157-2 did not have a material impact on our condensed consolidated financial position andresults of operations.

 

**10.  SUBSEQUENTEVENTS**

 

On July 13, 2009, we entered into a real estate purchase contract tosell a parcel of land and warehouse for an aggregate cash purchase price of$650. The transaction is pending approval from the CPUC; however, is expectedto be completed during the third quarter of 2009. We estimate the gain on thesale of these assets will be in the range of $97 to $108, net of tax.

 

On July 31, 2009, we completed an asset purchase agreement to sell ourfixed wireless assets for an aggregate cash purchase price of $200. At the dateof the closing, we had received $180 and the remaining $20 was deposited intoan escrow account, pending any post-closing adjustments. We anticipatereceiving the remainder of the purchase price during the fourth quarter of2009. We estimate the loss on the sale of the fixed wireless assets will be inthe range of $92 to $95, net of tax.

 

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**ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION ANDRESULTS OF OPERATIONS.**

 

*(Amounts in thousands, exceptselect operating metrics and share and per share amounts)*

 

Certain statements included in this report, including that whichrelates to the impact on future revenue sources and potential sharingobligations of pending and future regulatory orders, continued expansion of thetelecommunications network and expected changes in the sources of our revenueand cost structure resulting from our entrance into new communications markets,are forward-looking statements and are made pursuant to the safe harborprovisions of the Securities Litigation Reform Act of 1995. These forwardlooking statements generally are identified by the words “believe”, “expect”, “anticipate”,“estimate”, “intend”, “should”, “may”, “will”, “would”, “will be”, “willcontinue” or similar expressions. Such forward looking statements involve knownand unknown risks, the impact of current economic conditions, uncertainties andother factors that may cause actual results, performance or achievements ofSureWest Communications (the “Company, “we” or “our”) to be different fromthose expressed or implied in the forward-looking statements. A detaileddiscussion of these and other risks and uncertainties that could cause actualresults and events to differ materially from such forward—looking statements isincluded in our 2008 Annual Report on Form 10-K filed with the Securitiesand Exchange Commission (“SEC”). We disclaim any intention or obligation toupdate or revise publicly any forward-looking statements. Management’sDiscussion and Analysis should be read in conjunction with our unauditedcondensed consolidated financial statements and accompanying notes to thefinancial statements (“Notes”) as of and for the six months ended June 30,2009 included in Item 1 of this Quarterly Report on Form 10-Q.

 

**Overview**

** **

We are one of the nation’s leading integrated communications providersand are the bandwidth leader in the markets we serve.  We classify our operations in two reportablesegments: Broadband and Telecommunications (“Telecom”). We market our servicesindividually and as bundled services to both residential and business customersin the greater Sacramento, California and greater Kansas City, Kansas andMissouri areas (“Kansas City area”).

 

Our Broadband segmentearns revenues primarily through subscriptions to our video, high-speedInternet and digital phone services.  Ourvideo services range from a limited basic service to a full digital cableservice.  Many of our services aredelivered utilizing fiber-to-the-premise and fiber-to-the-node networks, whichallow us to offer a high quality experience with our digital TV Packages. Ourfull digital cable service provides access to over 340 and 260 channels in ourCalifornia and Kansas City area markets, respectively, including premium andpay-per-view channels (which include concerts, wrestling, boxing, sporting eventsand movies); video on demand (“VOD”) service (which allows access to a libraryof movies and the ability to start a selection at any time and to pause, rewindand fast-forward and replay); premium VOD channels, music channels and aninteractive, on-screen program guide (which allows the subscriber to navigatethe channel lineup and the video on demand library).  Digital cable subscribers can also subscribeto additional digital cable services, including a digital video recorder (“DVR”)(which allows subscribers to record two programs at the same time and pause,replay and rewind “live” television) and high-definition (“HD”) television (“HDTV”),which provides multiple channels in high definition.

 

Our high-speed Internetservice can provide Internet access at symmetrical speeds of up to 50 Mbps,depending on the level of service selected. As of June 30, 2009, approximately 32% of the homes in the areas weserve subscribed to one of our high-speed Internet services.  In March 2008, we launched our new Voiceover Internet Protocol (“VoIP”) digital phone product in the Sacramentomarket.  Our digital phone service isavailable in packages ranging from basic service to unlimited local anddomestic long distance calling plans. Nearly all of our digital phone service plans include an extensive arrayof calling features including caller identification and call waiting, FindMe/Follow Me, sequential ringing and selective call acceptance andrejection.  As of June 30, 2009,approximately 12% of the homes in our Sacramento market have subscribed to ournew VoIP phone service.

 

Our Telecom segment, which operates only in theSacramento area, offers a broad selection of telecommunications servicesincluding traditional landline voice services, Digital Subscriber Line (“DSL”),long distance services and certain non-regulated services. Traditional landlineservices are offered from basic local service to bundled packages ranging fromunlimited local calling to unlimited local and domestic long distance callingplans.  Our voice products include longdistance services and value-added services such as voicemail, call waiting,caller identification and many other calling feature options.  Long distance services are offered by oursubsidiary SureWest Long Distance, which is a reseller of long distanceservices.

 

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**CurrentBusiness Developments**

 

In February 2009, we sold our fifty-two wireless communicationstowers (“Tower Assets”) owned by our subsidiary West Coast PCS, LLC (“WestCoast PCS”) to Global Tower Partners. West Coast PCS was a component of ourBroadband segment. The sale was completed for an aggregate cash purchase priceof $9,222, based on the tower cash flow generated by commenced tenant leases,resulting in a gain as of June 30, 2009 of $2,525, net of tax. Proceedsfrom the sale of the Tower Assets were used to repay a portion of outstandinglong-term debt.

 

In May 2008, we completed the sale of the operating assets of ourWireless business, SureWest Wireless, to Verizon Wireless (“Verizon”) for anaggregate cash purchase price of $69,746, resulting in a gain of $18,864, netof tax.  Under the agreement, Verizonacquired the spectrum licenses and operating assets of SureWest Wireless,excluding our owned communication towers. SureWest Wireless was previously reported as a separate reportablesegment.

 

On February 13, 2008, we acquired 100% of theissued and outstanding stock of Everest Broadband, Inc. (“Everest”, “SureWestKansas” or the “Kansas City operations”) for a total purchase price of$181,459, including transaction costs. Subsequent to the acquisition, theKansas City operations have been included in our Broadband segment. SureWestKansas is a competitive provider of high-speed data, video and voice servicesin the greater Kansas City area. The addition of our Kansas City operationsaccelerates our growth strategy and has positioned us as the premier providerof network services to residential and business customers in the markets weserve.

 

**Resultsof Operations**

 

**Consolidated Overview**

 

The tables below reflect certain financial data (on a consolidated andsegment basis) and select operating metrics for each of our reportable segmentsas of and for the quarters and six months ended June 30, 2009 and 2008.

 

**Financial Data**

 
| ** **                                    | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------------------------|------------|---------------------------------|------------|------------------------------------|------------|
| ** **                                    | ** ** | ** **                      | ** ** | ** **                         | ** ** | **$** | ** ** | **%** | ** ** | ** ** | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
| ** **                                    | ** ** | **2009**                        | ** ** | **2008**                           | ** ** | **Change** | ** ** | **Change** | ** ** | **2009** | ** ** | **2008** | ** ** | **Change** | ** ** | **Change** | ** ** |
| **Operating  revenues**(1)                    |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Broadband                                     |       | $                               | 40,259     |                               | $          | 35,301 |   | $ | 4,958 |   | 14 | % | $ | 79,481 |   | $ | 62,132 |   | $ | 17,349 |   | 28 | % |
| Telecom                                       |       | 20,671                          |       | 24,551                             |       | (3,880 | ) | (16 | ) | 42,391 |   | 49,033 |   | (6,642 | ) | (14 | ) |
| Operating  revenues                           |       | 60,930                          |       | 59,852                             |       | 1,078 |   | 2 |   | 121,872 |   | 111,165 |   | 10,707 |   | 10 |   |
|                                          |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Income  (loss) from operations**            |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Broadband                                     |       | (5,224                          | )          | (5,978                             | )          | 754 |   | 13 |   | (12,226 | ) | (13,435 | ) | 1,209 |   | 9 |   |
| Telecom                                       |       | 9,839                           |       | 11,852                             |       | (2,013 | ) | (17 | ) | 20,161 |   | 22,000 |   | (1,839 | ) | (8 | ) |
| Income from  operations                       |       | 4,615                           |       | 5,874                              |       | (1,259 | ) | (21 | ) | 7,935 |   | 8,565 |   | (630 | ) | (7 | ) |
|                                          |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| **Income  (loss) from continuing operations** |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Broadband                                     |       | (4,884                          | )          | (5,391                             | )          | 507 |   | 9 |   | (10,282 | ) | (11,161 | ) | 879 |   | 8 |   |
| Telecom                                       |       | 5,783                           |       | 7,120                              |       | (1,337 | ) | (19 | ) | 11,260 |   | 12,912 |   | (1,652 | ) | (13 | ) |
| Income from  continuing operations            |       | $                               | 899        |                               | $          | 1,729 |   | $ | (830 | ) | (48 | )% | $ | 978 |   | $ | 1,751 |   | $ | (773 | ) | (44 | )% |

 

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(1) Externalcustomers only

 

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**SelectOperating Metrics**

 
| ** **                                          | ** ** | **As of June 30,** | ** ** |
|-----------------------------------------------------|------------|-------------------------|------------|
| ** **                                          | ** ** | **2009**                | ** ** | **2008** | ** ** | **Change** | ** ** | **% Change** | ** ** |
| **Broadband**                                       |       |                    |       |   |   |   |   |   |   |
| Total  residential subscribers (1)                  |       | 101,800                 |       | 99,000 |   | 2,800 |   | 3 | % |
| Broadband  residential revenue-generating units (2) |       | 224,800                 |       | 207,700 |   | 17,100 |   | 8 |   |
| Data                                                |       | 97,700                  |       | 94,000 |   | 3,700 |   | 4 |   |
| Video                                               |       | 59,100                  |       | 57,100 |   | 2,000 |   | 4 |   |
| Voice                                               |       | 68,000                  |       | 56,600 |   | 11,400 |   | 20 |   |
| Total  business customers (3)                       |       | 6,800                   |       | 6,200 |   | 600 |   | 10 |   |
| ** **                                          | ** ** | ** **              | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Telecom**                                         |       |                    |       |   |   |   |   |   |   |
| Voice  revenue-generating units (4)                 |       | 45,100                  |       | 62,900 |   | (17,800 | ) | (28 | ) |
| Total  business customers (3)                       |       | 8,900                   |       | 9,600 |   | (700 | ) | (7 | )% |

 

----

| (1) |   | Total residential  subscribers are customers who receive one or more residential data, video or  voice services from one of our subsidiaries in the Broadband segment.                                                                                                                                                                                  |
|-----|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) |   | We can deliver multiple  services to a customer. Accordingly, we maintain statistical data regarding  revenue-generating units (“RGUs”) for digital video, voice and data, in  addition to the number of subscribers. For example, a single customer who  purchases digital video, voice and data services would be reflected as three  RGUs. |
| (3) |   | Total business  customers are customers who receive business data, voice or video services  and represent a distinct customer account.                                                                                                                                                                                                                  |
| (4) |   | Voice RGUs are  residential customers who subscribe to one or more voice access lines.                                                                                                                                                                                                                                                                  |

 

*OperatingRevenues*

 

Operating revenues in theBroadband segment increased $4,958 and $17,349 during the quarter and six-monthperiod ended June 30, 2009, respectively, compared to the same periods in2008. The Broadband segment results of operations in the current year periodscompared to the same prior year periods have been impacted by the effects ofthe Everest acquisition in February 2008, as described above.

 

At June 30, 2009, the Broadband segment experienced a 3% annualincrease in the number of residential subscribers compared to the prior year.Data and video RGUs both increased 4% compared to 2008 which was reflective ofour ability to offer subscribers high-speed data, HDTV, HD DVR and otherenhanced services.  In addition,Broadband operating revenues increased as a result of higher pricing for videoand data services in 2009 as well as the continued expansion of the broadbandnetwork and growth in the demand for digital video, voice and data offered as abundled triple-play package.

 

The introduction of ourVoIP Digital Phone product in the Sacramento market during 2008, including thein Telecom segment service territory, has resulted in an elevated take rate andan increase in broadband residential triple-play RGUs, while successfullymitigating access line losses in the Telecom segment by migrating thesecustomers to voice RGUs in the Broadband segment.  Broadband voice RGUs in the Sacramento marketincreased 20% as of June 30, 2009 compared to the same prior year period.

 

We will continue toinvest in success-based capital and building and deploying the broadbandinfrastructure primarily within the Kansas City area, while focusing on thegeneration of new customers and increasing residential penetration on existingmarketable homes.

 

Operating revenues in theTelecom segment decreased $3,880 and $6,642 during the quarter and six-monthperiod ended June 30, 2009, respectively, compared to the same periods in2008. Residential revenues accounted for nearly all of the decrease inoperating revenues in the current year periods. Residential services were largely impacted by our customer’s migrationtoward alternative communication services, including those offered by ourBroadband segment, which contributed to an approximate 28% decline in theTelecom segment voice RGUs as of June 30, 2009 compared to the same periodin 2008.  In an effort to mitigate futureoperating revenue and voice RGU declines, we offer various flat-rate andbundled service packages and provide a broadband VoIP service to customersresiding within SureWest Telephone’s service area.  The decrease in operating revenues was alsoimpacted by the scheduled 

 

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reduction in CaliforniaHigh Cost Fund (“CHCF”) subsidies of approximately $510 and $1,020 during thequarter and six-month period ended June 30, 2009, respectively, comparedto the same periods in 2008.  See theRegulatory Matters section below for a further discussion regarding theregulatory subsidies we receive.

 

*Operating Expenses*

 

Consolidated operatingexpenses, excluding depreciation and amortization, increased $2,184 and $8,441during the quarter and six-month period ended June 30, 2009, respectively,compared to the same periods in 2008. The Broadband segment accounted forsubstantially all of the increases in our consolidated operating expensesprimarily as a result of the addition and growth of our Kansas City operations.The increase in operating expenses in the current year periods was offset inpart by a decline in operating expenses in the Telecom segment consequential tothe decline in Telecom operating revenues and voice RGUs.

 

Cost of services andproducts expense increased $2,804 and $9,265 during the quarter and six-monthperiod ended June 30, 2009, respectively, compared to the same periods in2008.  The increase was largely due toincreases in programming and network costs related to providing video servicesand to the growth in Broadband subscribers. Customer operations and sellingexpense decreased $230 and increased $561 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in 2008due in part to a decrease in sales and advertising costs as a result of areduction in radio and television advertising in the current year periods.General and administrative expenses decreased $390 and $1,385 during thequarter and six-month period ended June 30, 2009, respectively, comparedto the same periods in 2008 primarily as a result of (i) a decline inconsulting and advisory fees related to strategic initiatives and (ii) informationtechnology costs related to production support projects in the prior yearperiods.

 

The increase in theconsolidated operating expenses in 2009 compared to 2008 was also due to anincrease in the costs associated with our defined benefit pension plan (the “PensionPlan”), Supplemental Executive Retirement Plan and certain post-retirementbenefits other than pensions (“Other Benefits Plan”) (collectively the “Plans”).As a result of an increase in costs related to the Plans, consolidatedoperating expenses increased $1,077 and $2,223 during the quarter and six-monthperiod ended June 30, 2009 compared to the same periods in 2008. SeeNote 7 for more information on the Plans.

 

Our consolidateddepreciation and amortization expense increased $153 and $2,896 during thequarter and six-month period ended June 30, 2009, respectively, comparedto the same periods in 2008.  Theincrease in depreciation and amortization expense was primarily due to theaddition and growth of our Kansas City operations, continued network build-outand success-based capital projects undertaken within the residential broadbandservice territories; however, was partially offset by certain Telecom assetsbecoming fully depreciated in the current year period.

 

*Reclassifications*

 

Certain amounts in our2008 condensed consolidated financial statements have been reclassified toconform to the presentation of our 2009 condensed consolidated financialstatements, which primarily consists of the effects of reclassifications frompresentation of our Tower Assets as a discontinued operation.

 

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**SegmentResults of Operations**

 

**Broadband**

 
| ** **                                        | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------|------------|---------------------------------|------------|------------------------------------|------------|
| ** **                                        | ** ** | ** **                      | ** ** | ** **                         | ** ** | **$** | ** ** | **%** | ** ** | ** ** | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
| ** **                                        | ** ** | **2009**                        | ** ** | **2008**                           | ** ** | **Change** | ** ** | **Change** | ** ** | **2009** | ** ** | **2008** | ** ** | **Change** | ** ** | **Change** | ** ** |
|                                              |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Data                                              |       | $                               | 11,184     |                               | $          | 10,338 |   | $ | 846 |   | 8 | % | $ | 21,947 |   | $ | 19,127 |   | $ | 2,820 |   | 15 | % |
| Video                                             |       | 11,995                          |       | 10,365                             |       | 1,630 |   | 16 |   | 23,684 |   | 17,734 |   | 5,950 |   | 34 |   |
| Voice                                             |       | 6,594                           |       | 5,395                              |       | 1,199 |   | 22 |   | 12,993 |   | 9,144 |   | 3,849 |   | 42 |   |
| Total  residential revenues                       |       | 29,773                          |       | 26,098                             |       | 3,675 |   | 14 |   | 58,624 |   | 46,005 |   | 12,619 |   | 27 |   |
| Business                                          |       | 9,615                           |       | 8,374                              |       | 1,241 |   | 15 |   | 19,200 |   | 14,722 |   | 4,478 |   | 30 |   |
| Access                                            |       | 398                             |       | 370                                |       | 28 |   | 8 |   | 782 |   | 590 |   | 192 |   | 33 |   |
| Other                                             |       | 473                             |       | 459                                |       | 14 |   | 3 |   | 875 |   | 815 |   | 60 |   | 7 |   |
| Total  operating revenues from external customers |       | 40,259                          |       | 35,301                             |       | 4,958 |   | 14 |   | 79,481 |   | 62,132 |   | 17,349 |   | 28 |   |
| Intersegment  revenues                            |       | 94                              |       | 141                                |       | (47 | ) | (33 | ) | 185 |   | 281 |   | (96 | ) | (34 | ) |
| Operating  expenses*                              |       | 34,294                          |       | 31,085                             |       | 3,209 |   | 10 |   | 68,989 |   | 57,108 |   | 11,881 |   | 21 |   |
| Depreciation  and amortization                    |       | 11,283                          |       | 10,335                             |       | 948 |   | 9 |   | 22,903 |   | 18,740 |   | 4,163 |   | 22 |   |
| Loss  from operations                             |       | (5,224                          | )          | (5,978                             | )          | 754 |   | 13 |   | (12,226 | ) | (13,435 | ) | 1,209 |   | 9 |   |
| Loss  from continuing operations                  |       | $                               | (4,884     | )                                  | $          | (5,391 | ) | $ | 507 |   | 9 | % | $ | (10,282 | ) | $ | (11,161 | ) | $ | 879 |   | 8 | % |

 

----

*Exclusive of depreciation and amortization

 

**Broadband Segment Operating Revenues**

 

Operating revenues fromexternal customers in the Broadband segment increased $4,958 and $17,349 duringthe quarter and six-month period ended June 30, 2009, respectively,compared to the same periods in 2008. The increase in operating revenues was due in part to the acquisition ofEverest in February 2008, as described above, and growth in residentialRGUs and business customers.

 

**ResidentialRevenues**

 

Broadband residentialrevenues increased $3,675 and $12,619 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in2008.  Broadband residential subscribersand RGUs increased 3% and 8%, respectively, as of June 30, 2009 comparedto the same period in 2008.  Weanticipate continued growth in residential broadband RGUs and average revenueper user resulting from the HD DVR and VoIP digital phone services.  The digital phone product presents ourcustomers with a more competitive triple-play offering with increased optionsand multiple packages.

 

*Data*

 

We offer high speedInternet access at symmetrical speeds of up to 50 Mbps, depending on the levelof service selected.  The reliability andhigh speeds of the data service in both the Sacramento and Kansas City marketsenhance other services such as the SureWest Digital Phone, where customersmanage phone services through the online SureWest portal.  Through the SureWest portal, customers canmanage their SureWest Digital Phone service and access a variety of value addedfeatures and enhancements that are designed to take advantage of the speed ofthe Internet service we provide.

 

Our residential datarevenues increased $846 and $2,820 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in 2008 asa result of subscriber growth and the addition of our Kansas Cityoperations.  Data RGUs increased 4% as ofJune 30, 2009 compared to the same period in 2008.

 

*Video*

 

Many of our videoservices range from a limited basic service to a full digital cableservice.  Our services are deliveredutilizing fiber-to-the-premise and fiber-to-the-node networks, which allow usto offer a high quality experience with digital TV Packages. Our full digitalcable service provides access to over 340 and 260 channels in our Californiaand Kansas City markets, respectively, including premium and pay-per-viewchannels, VOD service,

 

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premium VOD channels,music channels and an interactive, on-screen program guide.  Digital cable subscribers can also subscribeto additional digital cable services, including a DVR and HDTV.

 

Residential videorevenues increased $1,630 and $5,950 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in2008.  The Broadband segment experiencedgrowth in Video RGUs and residential subscribers of 4% and 3%, respectively, asof June 30, 2009 compared to the same period in 2008.  Revenues also increased as a result of higherpricing on our video services effective January 2009 and demand forenhanced video offerings such as VOD, DVR and HDTV.

 

*Voice*

 

In March 2008, welaunched our new VoIP digital phone product in the Sacramento market.  Our digital phone service is available inpackages ranging from basic service to unlimited local and domestic longdistance calling plans.  Nearly all ofour digital phone service plans include a broad array of calling featuresincluding Caller ID and Call Waiting, Find Me/Follow Me, sequential ringing andselective call acceptance and rejection. As of June 30, 2009, approximately 12% of the homes in ourSacramento market have subscribed to our new digital phone service and weanticipate that the take rate on this service will continue to increasethroughout 2009.  We also offertraditional voice services in some of the areas we serve.

 

Residential voicerevenues increased $1,199 and $3,849 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in2008.  The increase was due in part tothe growth in voice RGUs of 20% as of June 30, 2009 compared to the sameperiod in 2008.  As anticipated, thelaunch of our VoIP Digital Phone product in the Sacramento market, including inthe Telecom service territory, has resulted in elevated take rates and anincrease in Broadband residential triple-play RGUs.

 

**Business Revenues**

 

We provide a variety ofbusiness communications services to small, medium and large businesscustomers.  The services we offer to ourbusiness customers include: fiber-optics based high-speed Internet, customizeddata and Ethernet transport services, data center and disaster recoverysolutions, traditional landline and VoIP phone services and digital TV.

 

Business revenuesincreased $1,241 and $4,478 during the quarter and six-month period ended June 30,2009, respectively, compared to the same periods in 2008 due primarily to a 10%increase in business customers as of June 30, 2009 compared to the sameperiod in 2008.  We continue to expandour business broadband services in Sacramento; however, a portion of thebusiness revenue growth was due to the addition of our Kansas City operations.

 

**Broadband Segment Operating Expenses**

 

Total operatingexpenses in the Broadband segment increased $3,209 and $11,881 during thequarter and six-month period ended June 30, 2009, respectively, comparedto the same periods in 2008.  Theincrease was due in part to the addition of our Kansas City operations in February 2008and an increase in costs related to the Plans of approximately $754, asdescribed in the Consolidated Overview section above.

 

Cost of servicesand products (exclusive of depreciation and amortization) increased $3,385 and$10,951 during the quarter and six-month period ended June 30, 2009,respectively, compared to the same periods in 2008.  The increase in costs in the current yearperiods was largely due to direct costs incurred to provide videoservices.  Programming costs have beenincreasing over the last several years due to an increase in our video RGUs andon a per subscriber basis due to an increase in costs per program channel,particularly for sports and HD channels. Further, in 2009 local commercial television broadcast stations begancharging retransmission fees, similar to fees charged by other programproviders.  Costs to provide data andvoice services increased due to the additional capacity required to handle theincreasing volume of data usage, including our VoIP digital phone product inthe Sacramento market.

 

Customer operationsexpense increased $111 and $1,484 during the quarter and six-month period endedJune 30, 2009, respectively, compared to the same periods in 2008.  Substantially all of the increase in thecurrent year period was attributable to increased advertising in the KansasCity market. We have experienced a modest decrease in the Sacramento market insales and advertising costs due to decreases in radio and televisionadvertising in the six-month period ended June 30, 2009.

 

General andadministrative expense decreased $287 and $554 during the quarter and six-monthperiod ended June 30, 2009, respectively, compared to the same periods in2008 primarily due to decreases in (i) information technology costsrelated to system maintenance and development, including integration of ourKansas City operations and increased production support projects in the prioryear period and (ii) headcount in the current year period.

 

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Depreciation andamortization increased $948 and $4,163 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in 2008due primarily to the acquisition of the Kansas City operations in February 2008,as well as the continued expansion of the broadband network and success-basedcapital projects.

 

**Telecom**

 
| ** **                                        | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------|------------|---------------------------------|------------|------------------------------------|------------|
| ** **                                        | ** ** | ** **                      | ** ** | ** **                         | ** ** | **$** | ** ** | **%** | ** ** | ** ** | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
| ** **                                        | ** ** | **2009**                        | ** ** | **2008**                           | ** ** | **Change** | ** ** | **Change** | ** ** | **2009** | ** ** | **2008** | ** ** | **Change** | ** ** | **Change** | ** ** |
|                                              |       |                            |       |                               |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Residential                                       |       | $                               | 6,407      |                               | $          | 8,523 |   | $ | (2,116 | ) | (25 | )% | $ | 13,269 |   | $ | 17,425 |   | $ | (4,156 | ) | (24 | )% |
| Business                                          |       | 9,089                           |       | 9,814                              |       | (725 | ) | (7 | ) | 18,137 |   | 18,861 |   | (724 | ) | (4 | ) |
| Access                                            |       | 4,953                           |       | 6,023                              |       | (1,070 | ) | (18 | ) | 10,600 |   | 12,365 |   | (1,765 | ) | (14 | ) |
| Other                                             |       | 222                             |       | 191                                |       | 31 |   | 16 |   | 385 |   | 382 |   | 3 |   | 1 |   |
| Total  operating revenues from external customers |       | 20,671                          |       | 24,551                             |       | (3,880 | ) | (16 | ) | 42,391 |   | 49,033 |   | (6,642 | ) | (14 | ) |
| Intersegment  revenues                            |       | 4,981                           |       | 4,560                              |       | 421 |   | 9 |   | 9,855 |   | 8,903 |   | 952 |   | 11 |   |
| Operating  expenses*                              |       | 12,868                          |       | 13,519                             |       | (651 | ) | (5 | ) | 25,950 |   | 28,534 |   | (2,584 | ) | (9 | ) |
| Depreciation  and amortization                    |       | 2,945                           |       | 3,740                              |       | (795 | ) | (21 | ) | 6,135 |   | 7,402 |   | (1,267 | ) | (17 | ) |
| Income  from operations                           |       | 9,839                           |       | 11,852                             |       | (2,013 | ) | (17 | ) | 20,161 |   | 22,000 |   | (1,839 | ) | (8 | ) |
| Income  from continuing operations                |       | $                               | 5,783      |                               | $          | 7,120 |   | $ | (1,337 | ) | (19 | )% | $ | 11,260 |   | $ | 12,912 |   | $ | (1,652 | ) | (13 | )% |

 

----

*Exclusive ofdepreciation and amortization

 

**Telecom Segment Operating Revenues**

 

Operating revenues fromexternal customers in the Telecom segment decreased $3,880 and $6,642 duringthe quarter and six-month period ended June 30, 2009, respectively,compared to the same periods in 2008.

 

**ResidentialRevenues**

 

SureWest Telephone offersseveral different phone services, from basic local service packages tounlimited California and nationwide flat-rate plans.  All of the plans include options forvoicemail and other calling features such as Caller ID and Call Forwarding.* *SureWest Telephoneresidential revenues decreased by $2,116 and $4,156 in the quarter andsix-month period ended June 30, 2009, respectively, as we continue toexperience decreases in revenue due to competition from wireless, wirelinecompetitors and cable providers (including SureWest Broadband).  Residential subscribers and voice RGUsdeclined approximately 28% as of June 30, 2009 compared to the same periodin 2008.  In addition, some competitorsinitiated marketing campaigns to include voice services targeted directly toresidential subscribers within SureWest Telephone’s service area.  We continue to mitigate additional voiceoperating revenue losses through our VoIP phone service now offered tocustomers within the Telecom service area through our Broadband segment.  As a result, we expect a portion of theTelecom segment’s voice revenue will continue to shift to the VoIP servicebeing offered by our Broadband segment. As of June 30, 2009, approximately 7,552, or 42%, of the decline inTelecom voice RGUs mentioned above have transferred to SureWest Broadband’sVoIP phone service.  See the Broadbandsegment residential revenue section above for a more detailed discussionregarding VoIP and other services offered by SureWest Broadband.

 

***BusinessRevenues***

* *

We provide a variety ofbusiness service offerings to small, medium and large business customers on ouradvanced fiber network.  The services weoffer to our business customers include: Fiber-optics based high-speedInternet, customized data and Ethernet transport services, data center anddisaster recovery solutions, traditional landline and scalable Internetprotocol (“IP”) communication systems. SureWest Telephone business revenues decreased by approximately $725 inthe respective current year periods largely due to the current economic impacton small to medium sized businesses and the continued strong competitivepressures, as discussed above.  While ourbusiness customer base declined 7% as of June 30, 2009 compared to thesame period in 2008, Average Revenue Per Unit grew 3% during the same timeperiod.  We have mostly alleviated thebusiness revenue losses, which could have resulted from the decline in the customerbase, with a continued strong demand for data services and the increasingrequirement for businesses to network multiple locations in order to sharedata.

 

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**Access Revenues**

 

Accessrevenues, which include switched access revenue, interstate common line (“CL”)revenue and draws from the CHCF decreased $1,070 and $1,765 during the quarterand six-month period ended June 30, 2009, respectively, compared to thesame periods in 2008. As anticipated, subsidies received during the quarter andsix-month period ended June 30, 2009 from the CHCF have decreased byapproximately $510 and $1,020, respectively, compared to the same prior yearperiods. The CHCF decrease was offset in part by approximately $224, primarilydue to a settlement received from CHCF-B in the current year related to2008.  Switched access revenues alsodeclined by approximately $963 and $1,705 during the quarter and six-monthperiod ended June 30, 2009, respectively, compared to the same periods in2008 due to declines in minutes of use associated with the reduction ofresidential voice services previously discussed.  The decline in access revenues was partiallyoffset by an increase in interstate CL settlements received from the NationalExchange Carrier Association (“NECA”) of approximately $642 and $1,112 duringthe quarter and six-months ended June 30, 2009, respectively, as a resultof a shift in revenue recovery from end users to the NECA pool.  See the Regulatory Matters**section below for a more detailed discussion regardingSureWest Telephone’s regulated revenues.

 

**Telecom Segment Operating Expenses**

 

Operating expensesfor the Telecom segment decreased $651 and $2,584 during the quarter andsix-month period ended June 30, 2009, respectively, compared to the sameperiods in 2008.  As discussed in the Residential Revenue section above,during the six months ended June 30, 2009 we have experienced a decline invoice RGUs due in part to subscribers opting to initiate service of our VoIPdigital phone offered by our Broadband segment. As a result, certain of the operating costs associated with thesesubscribers are now included in the Broadband segment.  The decrease in operating expenses was offsetin part by an increase in costs related to the Plans of approximately $809 and$1,469 during the quarter and six month period ended June 30, 2009,respectively, as described in the Consolidated Overview section above.

 

Cost of services andproducts (exclusive of depreciation and amortization) decreased $70 and $614during the quarter and six-month period ended June 30, 2009, respectively,compared to the same periods in 2008. This decrease was predominately due tothe decline in local and long distance expenses as a result of decreases invoice RGUs and business customers of 28% and 7%, respectively, as of June 30,2009 compared to the same prior year period.

 

Customer operationsexpense decreased $446 and $1,061 during the quarter and six-month period endedJune 30, 2009, respectively, compared to the same periods in 2008.  The decrease was primarily due to a decreasein sales and advertising costs as a result of a reduction in radio andtelevision advertising in the current year period in the Telecom segmentservice territory.

 

General andadministrative expense decreased $135 and $909 during the quarter and six-monthperiod ended June 30, 2009, respectively, compared to the same periods in2008.  The decrease was primarily due to (i) adecline in consulting and advisory fees and (ii) the incurrence in theprior year period of additional information technology costs related toproduction support projects.

 

Depreciation andamortization decreased $795 and $1,267 during the quarter and six-month periodended June 30, 2009, respectively, compared to the same periods in2008.  This decrease was duepredominately to a portion of aerial and underground cable becoming fullydepreciated in the current year period and a portion of general purposesoftware becoming fully depreciated during the third quarter of 2008.

 

**Regulatory Matters**

 

Revenues from servicessubject to regulation constituted approximately 32% and 31% of our totaloperating revenues from continuing operations during the quarter and six-monthperiod ended June 30, 2009, respectively. For the same prior year periods, revenues from services subject toregulation constituted approximately 40% and 36% of our total operatingrevenues from continuing operations, respectively.  Those revenues, which include local service,network access service and toll service, are derived from various sources,including:

 

·                  business and residential subscribers of basic exchange services;

·                  surcharges mandated by State Commissions;

 

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·                  long distance carriers, for network access service;

·                  competitive access providers and commercial enterprises for networkaccess service;

·                  interstate pool settlements from NECA;

·                  support payments from federal or state programs; and

·                  support payments from the CHCF, recovering costs of services includingextended area service.

 

Significant portions ofour telephone rates and charges are subject to regulation by the FederalCommunications Commission (“FCC”) and state commissions. Rates and charges arebased on various tariffs filed by the Company and others, including those filedby the NECA for interstate CL charges. Pending and future regulatory actions,with respect to these and other matters and the filing of new or amendedtariffs, may have a material impact on our consolidated financial position andresults of operations.

 

Intrastateservice rates are subject to regulation by state commissions. With respect totoll calls initiated by interexchange carriers’ customers, the interexchangecarriers are assessed access charges based on tariffs filed by the Company.Interstate access rates and resultant earnings are subject to regulation by theFCC. With respect to interstate services, SureWest Telephone has detariffed itsDSL services and files its own tariff with the FCC for switched and specialaccess services. For interstate CL charges, SureWest Telephone concurs withtariffs filed by NECA. Pending and future regulatory actions may have amaterial impact on our consolidated financial position and results ofoperations.

 

*FCC Matters*

 

TheFCC monitors SureWest Telephone’s interstate earnings through the use of annualcost separation studies prepared by SureWest Telephone, which utilize estimatedcost information and projected demand usage. The FCC establishes rules thatcarriers must follow in the preparation of the annual studies. Additionally,under current FCC rules governing rate making, SureWest Telephone isrequired to establish interstate rates based on projected demand usage for itsvarious services and determine the actual earnings from these rates once actualvolumes and costs are known.

 

*California Public UtilityCommission (“CPUC”) Matters*

 

In 2004, we entered intoa settlement agreement (the “Settlement Agreement”), which was ultimatelyapproved by the CPUC, to resolve an ongoing regulatory proceeding with variousparties.  The Settlement Agreement resolvedpast sharing liabilities and suspended future sharing requirements in theintrastate jurisdiction.  In accordancewith the Settlement Agreement, SureWest Telephone returned approximately$6,500, plus interest at the 90-day commercial paper rate for non-financialinstitutions and an imputed rate of 3.15%, to its end-users through a consumerdividend.  The surcredit was recorded asa reduction of our contractual shareable earnings obligations over a period ofapproximately four years, which began January 1, 2005.  During the first quarter of 2009 and prior tothe cessation of the surcredit on February 9, 2009, we returnedapproximately $165. For the quarter and six-month period ended June 30,2008, we returned approximately $418 and $849, respectively, to end usersthrough the consumer dividends.

 

As part of the SettlementAgreement, SureWest Telephone was required to implement an additional annualconsumer dividend of $1,300 on January 1, 2007 to end-users receivingSureWest Telephone services subject to sharing on or after that date.  In December 2006, the CPUC authorized usto offset our annual $11,500 interim draw from the CHCF with the aforementioned$1,300 consumer dividend Settlement Agreement. The CHCF was previously authorized by the CPUC to offset SureWestTelephone’s intrastate regulated operating expenses on an interim basis. In September 2007,the CPUC issued Decision 07-09-002 which provides for SureWest Telephone tophase-down our annual CHCF interim draw over a five-year period.  In 2008, our interim CHCF draw was $8,160 andis being incrementally reduced by approximately $2,000 annually.  We anticipate our 2009 interim CHCF draw willbe approximately $6,120.

 

In an ongoing proceeding relating to the New Regulatory Framework(under which SureWest Telephone has been regulated since 1996), the CPUCadopted Decision 06-08-030 in 2006, which grants carriers broader pricingfreedom in the provision of telecommunications services, bundling of services,promotions and customer contracts.  Thisdecision adopted a new regulatory framework, the Uniform Regulatory Framework (“URF”),which among other things (i) eliminates price regulation and allows fullpricing flexibility for all new and retail services except basic residentialservices which can only be raised up to $3.25 per year for 2009 and2010 as described below,(ii) allows new forms of bundles and promotionalpackages of telecommunication services, (iii) allocates all gains andlosses from the sale of assets to shareholders and (iv) eliminates almostall elements of rate of return regulation, including 

 

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the calculation of shareable earnings. On September 18, 2008, the CPUC adopted Decision 08-09-042, whichallows URF Incumbent Local Exchange Carriers (“ILECs”) to increase their basicresidential rate by up to $3.25 per year over the next two years.  Beginning January 1, 2011, the URF ILECswill be allowed full pricing flexibility for the basic residential rate.

 

*OtherRegulatory Matters*

 

There are a number ofother regulatory proceedings occurring at the federal and state levels that mayhave a material impact on us. These regulatory proceedings include, but are notlimited to, consideration of changes to the jurisdictional separations process,the interstate universal service fund, intercarrier compensation access chargereform, broadband deployment, the regulation of local exchange carriers andtheir competitors, including providers of IP-enabled services and the provisionof video services and competition in the market. The outcomes and impact on ouroperations due to these proceedings and related court matters cannot bedetermined at this time.

 

The regulatoryproceedings occurring at the state and federal levels described above may alsoauthorize new competition in the provision of regulated services and change therates and rate structure for regulated services that we furnish, of which theeffects on us cannot yet be determined.

 

**Non-OperatingItems**

 

*Other Income andExpense, Net*

* *

Consolidated interestincome decreased $190 and $487 during the quarter and six-month period ended June 30,2009, respectively, compared to the same periods in 2008. During the prior yearperiods, we had higher cash and investment balances due primarily to thereceipt of proceeds from the sale of certain non-core assets, including ourWireless business. The higher cash and investment balances in the prior yearperiods resulted in a decrease in interest income in the current yearperiods.  Further, decreases in interestrates on our invested balances have also contributed to the reduction ofinterest income.

 

Consolidated interestexpense decreased $140 and $585 during the quarter and six-month period ended June 30,2009, respectively, compared to the same periods in 2008. Although interestexpense on our existing debt increased $332 during the six-month period ended June 30,2009 compared to the same period in 2008, it was offset by the receipt ofpatronage dividends of $963 and $400 during the quarters ended March 31,2009 and 2008, respectively, and the impact of the loss on the extinguishmentof debt of $607 recorded during the quarter ended March 31, 2008, asdescribed in the Liquidity and Capital Resources section below. We earnpatronage dividends from CoBank, ACB (“CoBank”) based on our share of the netincome earned by CoBank.  We record thereceipt of the patronage dividends against interest expense.

 

*Income Taxes*

* *

Income taxes decreased$523 during the quarter ended June 30, 2009 compared to the same period in2008 due primarily to a decrease in income before income taxes.  Income taxes increased $112 during thesix-month period ended June 30, 2009 compared to the same period in 2008due primarily to an increase in permanent differences resulting from thedecrease between the grant and vesting prices of restricted common stock andrestricted common stock units that vested during the six-month period ended June 30,2009.  The effective federal income taxrates for continuing operations were 60.5% and 44.2% for the six-month periodsended June 30, 2009 and 2008, respectively.

 

**Liquidity and Capital Resources**

 

**Overview**

 

We generate significantcash flows from operating activities. The proceeds from monetizing our non strategic investments have alsoprovided us with a significant source of cash flow.  We believe that we will be able to meet ourcurrent and long-term liquidity and capital requirements, through our cash flowfrom operating activities, existing cash, cash equivalents and investments;through available borrowings under our existing credit facilities; and throughour ability to obtain future external financing.  Our primary use of cash in 2009 has been forcapital expenditures, scheduled payments of long-term debt (including interest)and the payment during the current year related to our 2008 incentivecompensation plan. We anticipate continuing to use a substantial portion of ourcash flow to fund our capital expenditures, invest in new businessopportunities, fund network expansion and modernization, meet scheduledpayments of long-term debt and may fund the authorized share repurchase plan.

 

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The followingtable summarizes our cash flows:

 
| ** **                                        | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------|------------|------------------------------------|------------|
| ** **                                        | ** ** | **2009**                           | ** ** | **2008** | ** ** | **$ Change** | ** ** |
| Cash  Flows Provided By (Used In)                 |       |                               |       |   |   |   |   |
| Operating  Activities:                            |       |                               |       |   |   |   |   |
| Continuing  operations                            |       | $                                  | 32,291     |   | $ | 24,568 |   | $ | 7,723 |   |
| Discontinued  operations                          |       | (507                               | )          | 405 |   | (912 | ) |
|                                              |       |                               |       |   |   |   |   |
| Investing  Activities:                            |       |                               |       |   |   |   |   |
| Continuing  operations                            |       | (18,591                            | )          | (140,727 | ) | 122,136 |   |
| Discontinued  operations                          |       | —                             |       | (280 | ) | 280 |   |
|                                              |       |                               |       |   |   |   |   |
| Financing  Activities:                            |       |                               |       |   |   |   |   |
| Continuing  operations                            |       | (6,154                             | )          | 96,756 |   | (102,910 | ) |
|                                              |       |                               |       |   |   |   |   |
| Increase  (decrease) in Cash and Cash Equivalents |       | $                                  | 7,039      |   | $ | (19,278 | ) | $ | 26,317 |   |

 

**Cash Flows Provided By Operating Activities**

 

Net cash provided bycontinuing operating activities was $32,291 during the six-month period ended June 30,2009.  Significant adjustments to netincome to arrive at cash provided by operating activities include (i) non-cashcharges of $31,849 consisting primarily of (a) depreciation and amortizationof $29,038 due to capital investments principally in the Broadband segment, (b) deferredincome taxes of $1,703 and (c) stock compensation expense of $1,108 and (ii) adecrease in income tax receivable of $3,002 primarily as a result of a refund receivedfor an overpayment of estimated income taxes related to 2008.  Cash provided by operating activities wasoffset in part due to improved working capital as a result of a decrease in (i) accountspayable and accrued liabilities of $1,805 related to the timing of outstandingobligations for inventory and capital project expenditures and (ii) accruedcompensation of $2,947 related to the payment in the current year of 2008incentive compensation.

 

**CashFlows Used In Investing Activities***.*

 

Net cash used in continuinginvesting activities was $18,591 and $140,727 during the six-month periodsended June 30, 2009 and 2008, respectively. Net cash used during the prioryear period was primarily attributable to the acquisition of Everest for$180,133, net of cash acquired.

 

*Capital Expenditures*

 

Capital expenditurescontinue to be our primary recurring investing activity and were $29,522 and$43,635 in the six-month periods ended June 30, 2009 and 2008,respectively. We invest a significant portion of our capital spending in ourBroadband segment as a result of business growth, the introduction of newproducts and services and the expansion of the network.

 

*Proceeds from Sale of Discontinued Operations*

 

In February 2009, wesold our fifty-two Tower Assets owned by our subsidiary West Coast PCS toGlobal Tower Partners. The sale was completed for an aggregate cash purchaseprice of $9,222, based on the tower cash flow generated by commenced tenantleases. Proceeds from the sale of the Tower Assets were used to repay a portionof outstanding long-term debt.

 

In May 2008, we soldthe operating assets of our Wireless business, SureWest Wireless, to Verizonfor an aggregate cash purchase price of $69,746. A portion of the purchaseprice equal to $3,450 was placed in escrow, half of which was received duringthe quarter ended June 30, 2009 and the balance of which will be availableduring the second quarter of 2010. See Note 3 for more information regardingthe escrow. Proceeds from the sale of the Wireless business were used in partto repay a portion of the Credit Agreement, as described below.

 

**CashFlows Provided By Financing Activities**

 

Net cash provided byfinancing activities consists primarily of our proceeds from short andlong-term borrowings offset by cash payments for dividends, principal paymentson long-term debt and planned repurchases of our common stock.

 

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*Long-term Debt*

 

In February 2008, weentered into a Second Amended and Restated Credit Agreement (“Credit Agreement”)to restate and replace a May 2007 credit agreement. The Credit Agreementterms, among other things (i) revised the amount available under the TermLoan A facility from $40,000 to $120,000, (ii) issued a 1-year $60,000Term Loan B facility and (iii) modified certain financial covenants. Nosignificant changes were made to the existing $60,000 Revolving Loan facility.The credit facilities were used in part to acquire Everest and were availablefor general corporate purposes. The Term Loan A facility and the Revolving Loanfacility are due and payable on May 1, 2012.

 

The Term Loan A facility,prior to the Credit Agreement, which had $40,000 outstanding, was extinguishedresulting in a loss on extinguishment of debt of $607, which was recorded as acomponent of interest expense in the first quarter of 2008. $40,000 of theCredit Agreement borrowings bore interest at a fixed rate. The remaining$80,000 of the Credit Agreement borrowings bore interest based, at ourelection, on the London Interbank Offered Rate (“LIBOR”) or the bank’s PrimeRate, in either case, plus an applicable margin. The Term Loan B facility wasdue and payable on February 12, 2009 and included automatic increases tothe applicable interest margins. On May 14, 2008, we repaid $30,000 of theTerm Loan B and $16,000 of the Revolving facility with proceeds from the saleof SureWest Wireless.

 

In September 2008,we entered into a Third Amended and Restated Credit Agreement (“New Agreement”)to restate and replace the Credit Agreement. The New Agreement terms, amongother things (i) reflected the repayment of $30,000 of the Term Loan Bfacility under the Credit Agreement to reduce the principal balance from$60,000 to $30,000, (ii) modified interest margins and (iii) extendedthe maturity date of the Term Loan B facility to May 1, 2012.

 

As of June 30,2009, $120,000, $30,000 and $20,500 were outstanding on the Term Loan A, TermLoan B and Revolving Loan facilities, respectively.

 

*Debt Covenants*

 

Our Series Aand Series B Senior Notes and the New Agreement contain financial andoperating covenants that may restrict, among other things, the repurchase ofthe Company’s capital stock, the making of certain other restricted paymentsand the incurrence of additional indebtedness. The covenants also require us tomaintain certain financial ratios and minimum levels of tangible net worth. At June 30,2009 and December 31, 2008, retained earnings of $104,761 and $101,345,respectively, were available for the payments described above. As of June 30,2009, we were in compliance with all of our debt covenants.

 

*Share Repurchase Program and Dividends*

 

Our Board of Directorshas authorized the repurchase of up to 2.5 million shares of our commonstock. Shares are purchased from time to time in the open market or throughprivately negotiated transactions, subject to overall financial and marketconditions. Starting in the first quarter of 2000 through June 30, 2009,approximately 1.9 million shares of common stock had been repurchased. As of June 30,2009, we had remaining authorization from the Board of Directors to repurchaseapproximately 611 thousand additional outstanding shares. We repurchasedapproximately 108 thousand shares during the quarter and six-month period endedJune 30, 2009 and approximately 236 thousand and 505 thousand sharesduring the quarter and six-month period ended June 30, 2008,respectively.  The purchase of commonshares did not have a substantive effect on the average number of common sharesoutstanding or the calculation of basic and diluted earnings per share for thequarters or six-month periods ended June 30, 2009 or 2008.

 

In April 2008, ourBoard of Directors announced the decision to discontinue dividend payments forthe foreseeable future in an effort to foster our growth strategy byreinvesting the approximate $14,500 of annual dividend distributions back intothe Company.  The cash dividend of $0.25per share, paid on June 16, 2008 to shareholders of record at the close ofbusiness on May 15, 2008, was the last dividend paid to shareholders forthe foreseeable future.  Thereinstatement of future dividend payments is at the discretion of our Board ofDirectors.

 

**Sufficiency of Cash Resources**

 

We had cash, cashequivalents and short-term investments at June 30, 2009 of $14,076.  We believe, given our financial position anddebt-to-equity position, that we have substantial additional long-termborrowing capacity of approximately $39,500 available to us through ourRevolving Loan facility.  The RevolvingLoan facility is subject to mandatory reductions of $7,500 on December 31,2009 and December 31, 2010, less all voluntary reductions of the RevolvingCredit facility and voluntary prepayments or mandatory repayments of the TermLoan A or the Term Loan B facilities.  We believe our operating cash flowsand our borrowing capacity are sufficient to satisfy our liquidity requirementsfor the next twelve months, while maintaining adequate cash and cashequivalents.

 

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Our most significant useof funds in the remainder of 2009 is expected to be for (i) budgetedcapital expenditures of $25,000 to $30,000, (ii) scheduled payments oflong-term debt of $3,636 and (iii) anticipated interest payments of$5,871. As discussed above, throughout the year we may repurchase shares of theCompany’s common stock in the open market at the prevailing market price up toan amount authorized by the Board of Directors.

 

A portion of the 2009budgeted capital expenditures is at our discretion and dependent upon ourworking capital position, operating cash flows and ability to borrow. We canmodify our planned construction and commitments if the results of operations oravailable capital so require. A significant portion of our 2009 budgetedcapital expenditures are success based and is partially dependent on ourability to manage our growth and expansion. We are required to comply with ourcable franchise agreements to continue our build-out in the franchise areas.

 

*Defined Benefit Pension Plan*

 

As required, wecontribute to the Pension and Other Benefits Plans, which provide retirementbenefits to certain eligible employees. Contributions are intended to providefor benefits attributed to service to date. Our funding policy is to contributeannually an actuarially determined amount consistent with applicable federalincome tax regulations. As discussed in the Consolidated Overview sectionabove, we stopped accruing benefits for active participants effective April 1,2007 and we anticipate that future funding requirements will decreasesignificantly as a result of the freeze of the Plans.  However, the significant decline in theequity markets precipitated by the recent credit crisis and financial systeminstability has negatively affected the value of our pension plan assets.  Our minimum funding requirement for 2009related to the Pension Plan was $2,590; however, due to a carryover creditbalance of $3,790 no cash contribution will be required.  It is possible that we will be required tofund the Plan assets of up to approximately $1,300 during 2010.  We will continue to evaluate the futurefunding requirements of the Plans and fund them as deemed necessary. SeeNote 7 for a more detailed discussion regarding our Pension and OtherBenefits Plans.

 

**RegulatoryMatters**

 

As discussed more fullyin the Regulatory Matterssection above, the CPUC issued a final decision which phases down our $11,500current annual CHCF interim draw by approximately $2,000 annually, over a5-year period ending on January 1, 2012.

 

**CriticalAccounting Estimates**

 

Our condensedconsolidated financial statements and accompanying notes are prepared inaccordance with accounting principles generally accepted in the United States (“U.S.GAAP” or “GAAP”). Preparing financial statements requires management to makeestimates and assumptions that affect the reported amounts of assets,liabilities, revenue, and expenses. These estimates and assumptions areaffected by management’s application of accounting policies. Our judgments arebased on historical experience and on various other assumptions that arebelieved to be reasonable under the circumstances, the results of which formthe basis for making estimates about the carrying values of assets andliabilities that are not readily apparent from other sources. For a fulldiscussion of our accounting estimates and assumptions that we have identifiedas critical in the preparation of our condensed consolidated financialstatements, refer to our 2008 Annual Report on Form 10-K.

 

**Recent Accounting Pronouncements**

 

**Recently IssuedAccounting Pronouncements**

** **

InJune 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial AccountingStandards (“SFAS”) No. 168,*The FASB Accounting Standards Codification**TM** and the Hierarchy of Generally AcceptedAccounting Principles — a replacement of FASB Statement No. 162 (“SFAS 168”).*SFAS 168 replaces FASB Statement No. 162, *TheHierarchy of Generally Accepted Accounting Principles* (“SFAS 162”)and establishes only two levels of GAAP, authoritative andnonauthoritative.  The FASB AccountingStandards Codification (the “Codification”) will become the source ofauthoritative nongovernmental GAAP, except for rules and interpretivereleases of the SEC, which are sources of authoritative GAAP for SECregistrants.  All other nongrandfathered,non-SEC accounting literature not included in the Codification will becomenonauthoritative.  SFAS 168 is effectivefor financial statements for interim or annual reporting periods ending after September 15,2009.  We will begin to use the newguidelines and numbering system prescribed by the Codification when referringto GAAP in the third quarter of 2009.  Asthe Codification was not intended to change or alter existing GAAP, it is notexpected to have any impact on our condensed consolidated financial statements.

 

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In December 2008,the FASB issued Staff Position (“FSP”) FAS No. 132(R)-1, *Employers’ Disclosures about Postretirement Benefit Plan Assets*(“FSP FAS 132(R)-1”). FSP FAS 132(R)-1 amends FASB Statement No. 132(revised 2003), *Employers’ Disclosures about Pensions andOther Postretirement Benefits,*to require disclosure of additionalinformation about assets held in a defined benefit pension or otherpostretirement plan. Specifically, FSP FAS 132(R)-1 requires an employer todisclose (i) investment policies and strategies including targetallocation percentages, (ii) major categories of plan assets, (iii) inputsand valuation techniques used to measure the fair value of plan assets and (iv) significantconcentration of risk within plan assets. The additional disclosurerequirements of FSP FAS 132(R)-1 are effective for fiscal years ending after December 15,2009, with earlier application permitted. We are currently evaluating theimpact this statement will have on our condensed consolidated financialstatements.

 

**Recently AdoptedAccounting Pronouncements**

 

In May 2009, theFASB issued SFAS No. 165, *Subsequent Events*(“SFAS 165”), which establishes general standards of accounting for anddisclosure of events that occur after the balance sheet date but beforefinancial statements are issued or available to be issued. SFAS 165 requiresdisclosure of the date through which subsequent events have been evaluated, aswell as whether that date is the date the financial statements were issued orthe date the financial statements were available to be issued. SFAS 165 waseffective for interim or annual financial periods ending after June 15, 2009.  Our adoption of SFAS 165 did not have amaterial impact on our condensed consolidated financial position and results ofoperations.

 

In April 2009, theFASB issued three FSPs that are intended to provide additional applicationguidance and enhance disclosures about fair value measurements and impairmentsof securities. FSP FAS No. 157-4, *Determining Fair ValueWhen the Volume and Level of Activity for the Asset or Liability HaveSignificantly Decreased and Identifying Transactions That Are Not Orderly,*clarifiesthe objective and method of fair value measurement even when there has been asignificant decrease in market activity for the asset being measured. FSP FAS No. 115-2and FSP FAS No. 124-2, *Recognition ofOther-Than-Temporary Impairments* establishes a new model formeasuring other-than-temporary impairments for debt securities, includingestablishing criteria for when to recognize a write-down through earningsversus other comprehensive income. FAS No. 107-1 and APB 28-1, *Interim Disclosures about Fair Value of Financial Instruments*expands the fair value disclosures required for all financial instrumentswithin the scope of SFAS No. 107, *Disclosures about FairValue of Financial Instruments*, to interim periods. Our adoption ofthe provisions of these FSPs as of April 1, 2009 did not have a materialimpact on our condensed consolidated financial position and results ofoperations.

 

In November 2008,the Emerging Issues Task Force (“EITF”) reached a consensus on EITF No. 08-7,*Accounting for Defensive Intangible Assets*(“EITF08-7”)*.*EITF 08-7 requires the acquirer of adefensive intangible asset to account for a defensive intangible asset as aseparate unit of accounting and assign a useful life for a defensive intangibleasset according to the entity’s consumption of the expected benefits related tothat asset. Our adoption of EITF No. 08-7 on January 1, 2009 did nothave a material impact on our condensedconsolidated financial position and results of operations.

 

In June 2008, theFASB issued FSP EITF 03-6-1, *Determining WhetherInstruments Granted in Share-Based Payment Transactions Are ParticipatingSecurities* (“FSP EITF 03-6-1”). FSP EITF 03-6-1 addresses whetherinstruments granted in share-based payment transactions are participatingsecurities prior to vesting and, therefore, need to be included in the earningsallocation in computing earnings per share under the two-class method asdescribed in SFAS No. 128, *Earnings per Share*.Under the guidance in FSP EITF 03-6-1, unvested share-based payment awards thatcontain non-forfeitable rights to dividends or dividend equivalents (whetherpaid or unpaid) are participating securities and shall be included in thecomputation of earnings per share pursuant to the two-class method. EITF 03-6-1was effective for us on January 1, 2009. Our adoption of EITF 03-6-1 did not have a material impact on our condensed consolidated financial position andresults of operations.

 

In April 2008, theFASB issued FSP No. FAS 142-3,*Determination of the Useful Life of Intangible Assets* (“FSP FAS142-3”). FSP FAS 142-3 amends the factors that should be considered indeveloping renewal or extension assumptions used for purposes of determiningthe useful life of a recognized intangible asset under SFAS No. 142, *Goodwill and Other Intangible Assets*(“SFAS 142”).  FSPFAS 142-3 is intended to improve the consistency between the useful life of arecognized intangible asset under SFAS 142 and the period of expected cashflows used to measure the fair value of the asset under SFAS 141(R),*Business Combinations*, and other U.S. GAAP.  FSP FAS142-3 was effective for us on January 1, 2009.  Our adoption of FSP FAS 142-3 did not have a material impact on our condensed consolidatedfinancial position and results of operations.

 

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In May 2008, theFASB issued SFAS No. 162,*The Hierarchyof Generally Accepted Accounting Principles* (“SFAS 162”). SFAS 162identifies a consistent framework, or hierarchy, for selecting accountingprinciples to be used in preparing financial statements that are presented inconformity with GAAP for nongovernmental entities (the “Hierarchy”). TheHierarchy within SFAS 162 is consistent with that previously defined in theAICPA Statement on Auditing Standards No. 69, *The Meaning of Present Fairly in Conformity With Generally AcceptedAccounting Principles*. SFAS 162 was effective 60 days following theSEC’s approval of the Public Company Accounting Oversight Board amendments toAU Section 411,*The Meaning of PresentFairly in Conformity With Generally Accepted Accounting Principles*.The SEC approved the amendments in September 2008, establishing theeffective date of November 2008.  Our adoption of SFAS 162 did not have amaterial effect on our condensed consolidated financial position and results ofoperations.

 

In December 2007,the FASB issued SFAS No. 141(R) which establishes principles andrequirements for how the acquirer recognizes and measures in its financialstatements the identifiable assets acquired, the liabilities assumed and anynoncontrolling interest in the acquiree in a business combination.  SFAS 141(R) also establishes principlesaround how goodwill acquired in a business combination or gain from a bargainpurchase should be recognized and measured, as well as provides guidelines onthe disclosure requirements on the nature and financial impact of the businesscombination. SFAS 141(R) also requires acquisition-related transaction andrestructuring costs to be expensed rather than treated as part of the cost ofthe acquisition.  In April 2009, theFASB issued FSP FAS 141(R)-1, *Accounting for AssetsAcquired and Liabilities Assumed in a Business Combination That Arise fromContingencies*(“FSP FAS 141(R)-1”*)*. FSP FAS141(R)-1 amends SFAS 141(R) by establishing a model to account for certainpre-acquisition contingencies.  Under FSPFAS 141(R)-1, an acquirer is required to recognize at fair value an assetacquired or a liability assumed in a business combination that arises from acontingency if the acquisition-date fair value of that asset or liability canbe determined during the measurement period. If the acquisition-date fair value cannot be determined, then theacquirer should follow the recognition criteria in SFAS No. 5, *Accounting for Contingencies*, and FASB Interpretation No. 14,*Reasonable Estimation of the Amount of a Loss - aninterpretation of FASB Statement No. 5*.  Our adoption of SFAS 141(R) and FSP FAS141(R)-1, effective January 1, 2009, did not have a material impact on our condensed consolidatedfinancial position and results of operations.

 

In February 2008,the FASB issued FSP No. FAS 157-2, *Effective Date of FASBStatement No. 157*(“FSP FAS 157-2”) which amended SFAS 157 todelay the effective date until January 1, 2009 for nonfinancial assets andnonfinancial liabilities, except for items that are recognized or disclosed atfair value in the financial statements on a recurring basis, at least annually.  SFAS 157, as amended, was effective forfinancial statements issued for fiscal years beginning after November 15,2008 and for interim periods within those fiscal years.  Our adoption of the provisions of FSP FAS157-2 did not have a material impact onour condensed consolidated financial position and results of operations.

 

**Regulatory and Legal Matters**

 

Significant portions ofSureWest Telephone’s rates and charges are subject to regulation by the FCC andthe CPUC.  Rates and charges are based onvarious tariffs filed by SureWest and others, including those filed by the NECAfor CL charges.  Pending and futureregulatory actions, with respect to these and other matters and the filing ofnew or amended tariffs, may have a material impact on our consolidatedfinancial position and results of operations. In addition, the emergence of a range of products and services thatoperate partially or entirely outside traditional regulatory frameworks butthat compete with regulated service offerings has created new challenges forboth us and the regulators.

 

Our consolidatedfinancial condition and results of operations have been and will be affected byrecent and future proceedings before the CPUC and FCC. Pending before the FCCand CPUC are proceedings that, among other things, are considering:

 

·                              additional rules governing the opening of marketsto competition and the regulation of the competing telecommunicationsproviders;

·                              the nature and extent of the compensation, if any, tobe paid by carriers and other providers to one another for network use, and thesums to be recovered through end users and other sources;

·                              the goals and definition of universal telephoneservice in a changing environment, including examination of subsidy supportmechanisms for subscribers of different carriers (including incumbent carriers)and in various geographic areas;

·                              rules that will provide non-discriminatory accessby competing service providers to the network capabilities of local exchangecarriers; and

·                              the regulated rates and earnings ofSureWest Telephone.

 

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There are a number ofpending and anticipated other regulatory proceedings occurring at the federaland state levels that may have a material impact on SureWest Telephone and alsoon subsidiaries in the Broadband segment. These regulatory proceedings alsoinclude newer issues, such as consideration of broadband deployment and regulationof IP-enabled services. The outcomes and impact of these proceedings andrelated court matters on the Telecom segment, the Broadband segment and theCompany as a whole cannot be determined at this time.

 

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**ITEM3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.**

 

Our 2008 Annual Report onForm 10-K contains certain disclosures about our limited exposure tomarket risk for changes in interest rates.  There have been no materialchanges to the information provided which would require additional disclosuresas of the date of this filing.

 

**ITEM 4.  CONTROLS AND PROCEDURES.**

 

**Evaluation of disclosure controls and procedures**

 

Our management, with theparticipation of our Chief Executive Officer and Chief Financial Officer,evaluated the effectiveness of the design and operation of our disclosurecontrols and procedures (as defined in Rule 13a-15(e) under the SecuritiesExchange Act of 1934, as amended) as of the end of the period covered by thisQuarterly Report on Form 10-Q. Based upon, and as of the date of thisevaluation, the Chief Executive Officer and Chief Financial Officer haveconcluded that, our disclosure controls and procedures were effective, at thereasonable assurance level, to ensure that information required to be disclosedby us in reports that we file or submit under the Securities Exchange Act isauthorized, recorded, processed, summarized and reported within the timeperiods specified in the Securities and Exchange Commission rules andforms.

 

**Changein internal control over financial reporting**

 

There has been no changein our internal control over financial reporting during the quarter and six-monthperiod ended June 30, 2009.

 

**Limitations on the effectiveness of controls**

 

Our management isresponsible for establishing and maintaining adequate internal control overfinancial reporting. Our internal control system was designed to providereasonable assurance to our management, Board of Directors and Audit Committeeregarding the reliability of financial reporting and the preparation ofpublished financial statements in accordance with generally accepted accountingprinciples.

 

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**PART II —OTHERINFORMATION**

 

**ITEM 1**.      **LEGAL PROCEEDINGS.**

 

Refer to Notes 5 and 8 toour condensed consolidated financial statements of the Quarterly Report on Form 10-Qfor a discussion of recent developments related to our regulatory and legalproceedings.

 

**ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES ANDUSE OF PROCEEDS.**

 
| **Period**                                | ** ** | **(a) Total Number   of Shares   Purchased** | ** ** | **(b) Average   Price Paid   per Share** | ** ** | **(c) Total Number of   Shares Purchased as   Part of Publicly   Announced Plan** | ** ** | **(d) Shares   Available for   Repurchase under   the Plan** | ** ** |
|-------------------------------------------|------------|---------------------------------------------------|------------|-----------------------------------------------|------------|---------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------|------------|
| April 1,  2009 - April 30, 2009 |       | —                                            |       | $                                             | —     |                                                                                        | 1,781,167  |                                                              | 718,833    |   |
| May 1,  2009 - May 31, 2009     |       | 51,100                                            |       | $                                             | 8.36       |                                                                                        | 1,832,267  |                                                              | 667,733    |   |
| June 1,  2009 - June 30, 2009   |       | 56,500                                            |       | $                                             | 8.76       |                                                                                        | 1,888,767  |                                                              | 611,233    |   |

 

**ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS.**

 

On May 13, 2009, we held our AnnualMeeting of Shareholders.  The mattersthat were voted upon at the meeting, and the number of votes cast for, againstor withheld, as well as the number of abstentions and broker non-votes, asapplicable, are set forth below.

 

(a)          Electionof a Board of seven Directors;

 

Theseven nominees to serve as directors, which constituted the entire Board ofDirectors as of the meeting date, were all reelected to serve as directors bythe following votes:

 
| ** **           | ** ** | **Votes**  | ** ** | **Broker Non-Votes** | ** ** |
|----------------------|------------|------------|------------|----------------------|------------|
| **Director**         | ** ** | **For**    | ** ** | **Withheld**         | ** ** | **and Abstentions** | ** ** |
| Kirk  C. Doyle       |       | 10,086,102 |       | 1,069,780            |       | 3,125,599 |   |
| Steven  C. Oldham    |       | 9,645,459  |       | 1,510,423            |       | 3,125,599 |   |
| John  R. Roberts III |       | 9,724,958  |       | 1,430,924            |       | 3,125,599 |   |
| Timothy  D. Taron    |       | 9,789,905  |       | 1,365,977            |       | 3,125,599 |   |
| Guy  R.Gibson        |       | 9,769,522  |       | 1,386,360            |       | 3,125,599 |   |
| Roger  J. Valine     |       | 9,702,559  |       | 1,453,323            |       | 3,125,599 |   |
| Robert  D. Kittredge |       | 9,792,053  |       | 1,363,829            |       | 3,125,599 |   |

 

(b)         Theratification of the appointment of Ernst &Young LLP as our independentregistered public accounting firm for 2009.

 
| **Votes**  | ** ** |
|------------|------------|
| **For**    | ** ** | **Withheld** | ** ** | **Against** | ** ** | **Broker Non-Votes  and Abstentions** | ** ** |
| 10,384,179 |       | NA |   | 602,456 |   | 3,294,846 |   |

 

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**ITEM 6.  EXHIBITS.**

 

(a)          Index to Exhibits.

 
| **Exhibit  No.** | ** ** | **Description**                                                                                                                                                                                  | ** ** | **Method  of Filing** |
|------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|
|             |       |                                                                                                                                                                                             |       |                  |
| 31.1             |       | Certification of Steven C. Oldham, President and  Chief Executive Officer, as adopted pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002                                            |       | Filed herewith        |
|             |       |                                                                                                                                                                                             |       |                  |
| 31.2             |       | Certification of Dan T. Bessey, Vice President and  Chief Financial Officer, as adopted pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002                                          |       | Filed herewith        |
|             |       |                                                                                                                                                                                             |       |                  |
| 32.1             |       | Certification of Steven C. Oldham, President and  Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002   |       | Filed herewith        |
|             |       |                                                                                                                                                                                             |       |                  |
| 32.2             |       | Certification of Dan T. Bessey, Vice President and  Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |       | Filed herewith        |

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has duly causedthis report to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 
|                      |   | SUREWEST COMMUNICATIONS  |
|---------------------------|--------|--------------------------|
|                      |   | (Registrant)             |
|                      |   |                     |
|                      |   |                     |
|                      | By:    | /s/ STEVEN C.  OLDHAM    |
|                      |   | Steven C.  Oldham,       |
|                      |   | President and  Chief     |
|                      |   | Executive  Officer       |
|                      |   |                     |
|                      |   |                     |
|                      | By:    | /s/ DAN T.  BESSEY       |
|                      |   | Dan T. Bessey,           |
|                      |   | Vice President  and      |
|                      |   | Chief Financial  Officer |
|                      |   |                     |
| Date: August 6, 2009 |   |                     |

 

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