SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C. 20549
                                 ------------

                                  FORM 10-Q

(Mark One)

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

For the quarterly period ended June 30, 1999

                           OR

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

For the transition period from ------------ to --------------

COMMISSION FILE NUMBER:  333-50475

                          KMC TELECOM HOLDINGS, INC.
            (Exact name of registrant as specified in its charter)

              DELAWARE                                 22-3545325
(State or other jurisdiction of         (I.R.S. Employer Identification No.)
incorporation or organization)


                          1545 ROUTE 206, SUITE 300
                         BEDMINSTER, NEW JERSEY 07921
        (Address, including zip code, of principal executive offices)

                                (908) 470-2100
             (Registrant's telephone number, including area code)

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

      Indicate the number of shares  outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.

          Class                                         Outstanding
          -----                                         -----------
      Common Stock, par value $0.01                     852,676 shares,
      per share.                                        as of  August 10, 1999




<PAGE>




                          KMC TELECOM HOLDINGS, INC.

                                    INDEX


PART I.  FINANCIAL INFORMATION                                       PAGE NO.

ITEM 1. Financial Statements

        Unaudited Condensed Consolidated Balance Sheets,
         December 31, 1998 and June 30, 1999.   ............................   2

        Unaudited Condensed Consolidated Statements of Operations,
         Three Months Ended June 30, 1998 and 1999 and Six Months
         Ended June 30, 1998 and 1999 ......................................   3

        Unaudited Condensed Consolidated Statements of Cash Flows, Six
         Months Ended June 30, 1998 and 1999................................   4

        Notes to Unaudited Condensed Consolidated Financial Statements......   5

ITEM 2. Management's Discussion and Analysis of Financial Condition
         and Results of Operations..........................................  12

ITEM 3. Quantitative and Qualitative Disclosures About Market Risk..........  17



PART II.  OTHER INFORMATION

ITEM 1. Legal Proceedings...................................................  18

ITEM 2. Changes in Securities and Use of Proceeds...........................  18

ITEM 3. Defaults Upon Senior Securities.....................................  18

ITEM 4. Submission of Matters to a Vote of Security Holders.................  18

ITEM 5. Other Information...................................................  20

ITEM 6. Exhibits and Reports on Form 8-K....................................  20

SIGNATURES..................................................................  23






<PAGE>




                        PART I - FINANCIAL INFORMATION

                          KMC TELECOM HOLDINGS, INC.
               UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
                                (IN THOUSANDS)
                                                         DECEMBER     JUNE 30,
                                                            31,         1999
                                                            1998
                                                         ----------- -----------

ASSETS
Current assets:
  Cash and cash equivalents...........................   $   21,181     $187,992
  Restricted investments..............................            -       37,125
  Accounts receivable, net of allowance for doubtful          7,539       19,489
    accounts..........................................
  Prepaid expenses and other current assets...........        1,315        1,543
                                                         -----------  ----------
Total current assets..................................       30,035      246,149
Investments held for future capital expenditures......       27,920       64,000
Long term restricted investments......................            -       67,430
Networks and equipment, net...........................      224,890      386,426
Intangible assets, net................................        2,829        2,142
Deferred financing costs, net.........................       20,903       41,076
Due from affiliate....................................            -          207
Other assets..........................................        4,733        1,322
                                                         ----------  -----------
                                                         $  311,310  $   808,752
                                                         =========== ===========

LIABILITIES, REDEEMABLE AND NONREDEEMABLE EQUITY (DEFICIENCY)
Current liabilities:
  Accounts payable....................................   $   21,052  $   112,637
  Accrued expenses....................................       10,374       33,609
                                                         ----------  -----------
Total current liabilities.............................       31,426      146,246
Notes payable.........................................       41,414      125,000
Senior discount notes payable.........................      267,811      283,472
Senior notes payable..................................            -      275,000
                                                         ----------  -----------
Total liabilities.....................................      340,651      829,718
Commitments and contingencies
Redeemable equity:
   Senior  redeemable,  exchangeable,  PIK preferred
     stock,  par value $.01 per share; authorized:
     -0- shares in 1998, 630 shares in 1999; shares issued and
     outstanding:
       Series E, - 0 - shares in 1998 and 61 shares in
        1999 ($60,695 liquidation preference).........            -       45,827
       Series F, - 0 - shares in 1998 and 41 shares in
        1999 ($41,112 liquidation preference).........            -       37,009
  Redeemable  cumulative  convertible  preferred stock,
    par value $.01 per share 499 shares authorized;
    shares issued and outstanding:
      Series A, 124 shares in 1998 and 1999 ($12,380
       liquidation preference).........................      30,390       55,721
      Series C, 175 shares in 1998 and 1999 ($17,500
       liquidation preference).........................      21,643       32,524
  Redeemable common stock, 224 shares issued and
    outstanding.......................................       22,305       29,223
  Redeemable common stock warrants....................          674       11,964
                                                         ----------  -----------
Total redeemable equity...............................       75,012      212,268
                                                         ----------  -----------
Nonredeemable equity (deficiency):
  Common stock, par value  $.01 per share; 3,000
    shares authorized, 614 shares and 629 shares
    issued and outstanding in 1998 and 1999,
    respectively......................................            6            6
  Additional paid-in capital..........................       13,750            -
  Unearned compensation...............................       (5,824)    (10,796)
  Accumulated deficit.................................     (112,285)   (222,444)
                                                         ----------- -----------
Total nonredeemable equity (deficiency)...............     (104,353)   (233,234)
                                                         ----------- -----------
                                                         $  311,310  $   808,752
                                                         =========== ===========

                           See accompanying notes.

                                       2
<PAGE>


                          KMC TELECOM HOLDINGS, INC.

          UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
               (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

<TABLE>
<CAPTION>

                                         THREE MONTHS ENDED       SIX MONTHS ENDED
                                              JUNE 30,                JUNE 30,
                                       ----------------------- -----------------------
<S>                                       <C>         <C>         <C>         <C>
                                          1998        1999        1998        1999
                                       ----------- ----------- ----------- -----------
Revenue.............................   $   4,545   $   15,634  $   7,338   $   26,712

Operating expenses:
  Network operating costs...........       8,103       24,385     13,919       44,055
  Selling, general and                     5,747       14,734      9,220       26,724
    administrative..................
  Stock option compensation expense.       5,097       16,332      6,196       20,201
  Depreciation and amortization.....       1,063        6,113      2,056       11,636
                                       ----------  ----------- ----------  ----------
    Total operating expenses........      20,010       61,564     31,391      102,616
                                       ----------  ----------- ----------  ----------
Loss from operations................     (15,465)     (45,930)   (24,053)     (75,904)
Other expense.......................           -       (4,297)         -       (4,297)
Interest income.....................
                                           2,166        2,113      5,019        3,055
Interest expense....................      (7,334)     (15,687)   (14,563)     (26,014)
                                       ----------  ----------- ----------- -----------
Net loss............................     (20,633)     (63,801)   (33,597)    (103,160)

Dividends and accretion on
  redeemable preferred stock........      (6,687)     (31,971)   (10,040)     (43,415)
                                       ----------- ----------- ----------- -----------
Net loss applicable to common
  shareholders......................   $  (27,320) $  (95,772)    (43,637)   (146,575)
                                       =========== =========== =========== ===========

Net loss per common share...........   $   (32.61) $  (112.32) $   (52.71) $  (172.31)
                                       =========== =========== =========== ===========

Weighted average number of common
  shares outstanding................      837,876     852,676     827,827     850,632
                                       =========== =========== =========== ===========
</TABLE>


                           See accompanying notes.



                                       3
<PAGE>







                          KMC TELECOM HOLDINGS, INC.

          UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                            SIX MONTHS ENDED
                                                                JUNE 30,
                                                         -----------------------
                                                            1998        1999
                                                         ----------- -----------
<S>                                                      <C>         <C>
OPERATING ACTIVITIES
Net loss..............................................   $  (33,597) $ (103,160)

Adjustments to reconcile net loss to net cash
 used in operating activities:
  Depreciation and amortization.......................        2,056      11,636
  Non-cash interest expense...........................       14,142      22,834
  Non-cash stock option compensation expense..........        6,196      20,201
 Changes in assets and liabilities:
    Accounts receivable...............................      (2,120)     (11,950)
    Prepaid expenses and other current assets.........        (407)        (228)
    Other assets......................................        (292)         860
    Accounts payable..................................      (3,889)       6,888
    Accrued expenses..................................         697        7,921
    Due from affiliate................................         (47)        (207)
                                                         ----------  -----------
Net cash used in operating activities.................     (17,261)     (45,205)
                                                         ----------  -----------

INVESTING ACTIVITIES
Construction of networks and purchases of equipment...     (22,081)     (83,725)
Acquisitions of franchises, authorizations and              (1,212)        (230)
  related assets......................................
Deposit on purchases of equipment.....................      (5,000)           -
Purchases of investments, net.........................    (153,500)     (36,080)
                                                         ----------  -----------
Net cash used in investing activities.................    (181,793)    (120,035)
                                                         ----------  -----------

FINANCING ACTIVITIES
Repayment of notes payable............................     (20,801)           -
Proceeds from issuance of preferred stock and related
  warrants, net of issuance costs.....................           -       91,235
Proceeds from issuance of common stock and warrants,
  net of issuance costs ..............................       20,451           -
Proceeds from exercise of stock options...............            -         333
Proceeds from issuance of senior discount notes, net
  of issuance costs...................................      226,056           -
Proceeds from issuance of senior notes, net of
  issuance costs and purchase of portfolio of
  restricted investments..............................            -     159,942
Proceeds from senior secured credit facility, net of
  issuance costs......................................            -      82,770
Issuance costs of Lucent facility.....................            -      (2,229)
Dividends on preferred stock of subsidiary............        (592)           -
                                                         ----------  -----------

Net cash provided by financing activities.............     225,114      332,051
                                                         ----------  -----------

Net increase in cash and cash equivalents.............      26,060      166,811
Cash and cash equivalents, beginning of period........      15,553       21,181
                                                         ----------  -----------

Cash and cash equivalents, end of period..............   $  41,613   $  187,992
                                                         ==========  ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for interest, net of
  amounts capitalized.................................  $    2,200   $    3,180
                                                         ==========  ===========
</TABLE>

                           See accompanying notes.



                                       4
<PAGE>




                          KMC TELECOM HOLDINGS, INC.

        NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

                                JUNE 30, 1999

1. BASIS OF PRESENTATION AND ORGANIZATION

      KMC Telecom  Holdings,  Inc. and its  subsidiaries,  KMC Telecom Inc., KMC
Telecom II, Inc., KMC Telecom III, Inc., KMC Telecom of Virginia,  Inc., and KMC
Investments,  Inc.  are  collectively  referred  to herein as the  Company.  All
significant  intercompany  accounts and  transactions  have been  eliminated  in
consolidation.

      The  unaudited  condensed  consolidated  financial  statements  have  been
prepared in accordance with generally accepted accounting principles for interim
financial  reporting.  Accordingly,  they do not include certain information and
note disclosures required by generally accepted accounting principles for annual
financial  reporting  and  should  be read in  conjunction  with  the  financial
statements and notes thereto of KMC Telecom Holdings, Inc.
as of and for the year ended December 31, 1998.

      The unaudited interim financial  statements  reflect all adjustments which
management  considers  necessary  for a  fair  presentation  of the  results  of
operations for these periods.  The results of operations for the interim periods
are not necessarily indicative of the results for the full year.

      The balance sheet of KMC Telecom  Holdings,  Inc. at December 31, 1998 was
derived from the audited consolidated balance sheet at that date.


2.  INVESTMENTS HELD FOR FUTURE CAPITAL EXPENDITURES

      The Company has designated  certain amounts as investments held for future
capital  expenditures.  As of June 30, 1999, the Company's  investments held for
future capital  expenditures  consisted of cash equivalents  (bank term deposits
and commercial  paper with maturities of less than 90 days) of $58.7 million and
debt  securities (US government  obligations  and commercial  bonds due within 1
year) of $5.3 million.  All debt  securities have been designated by the Company
as   held-to-maturity.   Accordingly,   such  securities  are  recorded  in  the
accompanying  financial  statements  at amortized  cost.  At June 30, 1999,  the
carrying value of such held-to-maturity debt securities  approximated their fair
value.


3. NETWORKS AND EQUIPMENT

      Networks and equipment are comprised of the following (in thousands):

                                                    DECEMBER 31,     JUNE 30,
                                                       1998            1999
                                                   -----------    ------------
Fiber optic systems..............................     $99,502        $114,623
Telecommunications equipment.....................     115,769         134,276
Furniture and other..............................       7,340          19,947
Leasehold improvements...........................       1,177           1,441
Construction-in-progress.........................      11,770         135,969
                                                   -----------     -----------
                                                      235,558         406,256
Less accumulated depreciation....................     (10,668)       (19,830)
                                                   -----------     -----------
                                                     $224,890        $386,426
                                                   ===========     ===========

                                       5
<PAGE>

     Costs capitalized  during the development of the Company's networks include
amounts  incurred  related to network  engineering,  design and construction and
capitalized  interest.  Capitalized  interest related to the construction of the
networks  for the six  months  ended  June 30,  1998 and 1999  amounted  to $1.4
million and $1.3 million, respectively.


4. INTANGIBLE ASSETS

      Intangible assets are comprised of the following (in thousands):

                                                       DECEMBER 31,   JUNE 30,
                                                           1998         1999
                                                       ----------    ---------
Franchise costs....................................       $1,690       $1,281
Authorizations and rights-of-way...................        1,455        1,326
Building access agreements and other...............        1,062          736
                                                       ----------    ---------
                                                           4,207        3,343
Less accumulated amortization......................       (1,378)      (1,201)
                                                       ----------    ---------
                                                          $2,829       $2,142
                                                       ==========    =========


5.    DUE FROM AFFILIATE

     On July 1, 1999, the Company  acquired all of the  membership  interests of
KMC Services LLC from Harold N. Kamine,  the Chairman of our Board of Directors,
for nominal  consideration.  KMC Services LLC was formed to provide  services to
the  Company  and its  customers,  initially  offering  a  leasing  program  for
equipment  physically  installed at a customer's  premises.  The acquisition was
accounted for as a combination of entities under common control,  and no changes
were  made  to  the  historical   cost  basis  of  KMC  Services  LLC's  assets.
Accordingly, during the second quarter of 1999, the Company reduced the carrying
value of its $709,000 loan  receivable  from KMC Services LLC to an amount equal
to the value of KMC Services LLC's net assets at the acquisition date.


6.    ACCRUED EXPENSES

     Accrued expenses are comprised of the following (in thousands):

                                            DECEMBER 31,     JUNE 30,
                                                1998          1999
                                            ------------   -----------

Accrued compensation.....................   $  4,138       $   6,387
Deferred revenue.........................      1,187           4,109
Accrued costs related to financing
  activities.............................        380           9,210
Accrued interest payable.................        162           6,719
Accrued cost of sales....................        565           2,232
Other accrued expenses...................      3,942           4,952
                                            ---------      ----------
                                            $ 10,374       $  33,609
                                            =========      ==========


                                       6
<PAGE>

7.  LUCENT LOAN AND SECURITY AGREEMENT

      KMC Telecom III entered  into a Loan and Security  Agreement  (the "Lucent
Facility") dated February 4, 1999 with Lucent Technologies Inc. ("Lucent") which
provides  for  borrowings  to  be  used  to  fund  the  acquisition  of  certain
telecommunications  equipment and related expenses. The Lucent Facility provides
for an  aggregate  commitment  of up to $600  million,  of which $250 million is
currently  available to purchase Lucent products.  Further,  up to an additional
$350 million will be available upon (a) additional lenders  participating in the
Lucent Facility and making  commitments to make loans so that Lucent's aggregate
commitment does not exceed $250 million and (b) the Company  satisfying  certain
other  requirements,  the most  significant of which is KMC Holdings raising and
contributing  at least $300  million in high  yield debt or equity  (other  than
disqualified  stock) to KMC Telecom  III.  The Lucent  Facility  places  certain
restrictions  upon KMC Telecom  III's ability to purchase  non-Lucent  equipment
with proceeds from such facility. At June 30, 1999, no amounts had been borrowed
under the Lucent Facility.

      Interest on borrowings under the Lucent Facility is charged, at the option
of KMC  Telecom  III,  at a floating  rate of LIBOR plus the  "Applicable  LIBOR
Margin",  or at an alternative  base rate plus the "Applicable Base Rate Margin"
(as defined).  Such margins will be increased by 0.25% until KMC Telecom III and
its subsidiaries have completed systems in fourteen markets.  If KMC Telecom III
defaults on any payment due under the Lucent  Facility,  the interest  rate will
increase by four percentage  points.  If any other event of default shall occur,
the interest rate will be increased by two percentage  points.  Interest on each
LIBOR  loan is  payable  on each LIBOR  interest  payment  date in  arrears  and
interest on each base rate loan is payable quarterly in arrears. KMC Telecom III
must pay an annual  commitment fee on the unused portion of the Lucent  Facility
of 1.25%.

      Loans  borrowed under the Lucent  Facility  amortize in amounts based upon
the following  percentages of the aggregate  amount of the loans drawn under the
Lucent Facility:

                  PAYMENT DATES                      AMORTIZATION
          -------------------------------           ---------------

          May 1, 2002 - February 1, 2003            2.5% per quarter
          May 1, 2003 - February 1, 2006            5.0% per quarter
          May 1, 2006 - February 1, 2007            7.5% per quarter

      KMC Holdings has  unconditionally  guaranteed  the repayment of up to $250
million  under the  Lucent  Facility  when such  repayment  is due,  whether  at
maturity, upon acceleration, or otherwise. KMC Telecom III Holdings, Inc., which
owns the shares of KMC  Telecom III and is  wholly-owned  by KMC  Holdings,  has
pledged the shares of KMC Telecom III to Lucent to collateralize its obligations
under the guaranty.  In addition,  KMC Telecom III has pledged all of its assets
to Lucent.

      The  Lucent  Facility  contains  a  number  of  affirmative  and  negative
covenants  including,  among others,  covenants  restricting  the ability of KMC
Telecom III to consolidate or merge with any person, sell or lease assets not in
the ordinary course of business, sell or enter into any long term leases of dark
fiber,  redeem  stock,  pay  dividends  or make any  other  payments  (including
payments  of   principal  or  interest  on  loans)  to  KMC   Holdings,   create
subsidiaries, transfer any permits or licenses, or incur additional indebtedness
or act as  guarantor  for the  debt of any  other  person,  subject  to  certain
conditions.

      KMC Telecom III is required  to comply with  certain  financial  tests and
maintain certain  financial  ratios,  including,  among others, a ratio of total
debt to contributed capital, certain minimum revenues, maximum EBITDA losses and
minimum EBITDA, maximum capital expenditures and minimum access lines, a maximum
total  leverage  ratio, a minimum debt service  coverage  ratio, a minimum fixed
charge coverage ratio and a maximum  consolidated  leverage ratio. The covenants

                                       7
<PAGE>

become more  restrictive upon the earlier of (i) July 1, 2002 and (ii) after KMC
Telecom III achieves positive EBITDA for two consecutive fiscal quarters.

      Failure to satisfy any of the financial covenants will constitute an event
of default under the Lucent  Facility,  permitting  the lenders to terminate the
commitment and/or  accelerate  payment of outstanding  indebtedness.  The Lucent
Facility also includes other  customary  events of default,  including,  without
limitation,   a   cross-default   to  other  material   indebtedness,   material
undischarged  judgments,  bankruptcy,  loss of a material  franchise or material
license,  breach of representations  and warranties,  a material adverse change,
and the occurrence of a change of control.


8.  PREFERRED STOCK AND WARRANT ISSUANCES

SERIES E PREFERRED STOCK

      On February 4, 1999,  the Company  issued 25,000 shares of Series E Senior
Redeemable,  Exchangeable,  PIK Preferred Stock (the "Series E Preferred Stock")
to Newcourt  Commercial Finance  Corporation  ("Newcourt  Finance"),  generating
aggregate gross proceeds of $22.9 million. On April 30, 1999, the Company issued
an  additional  35,000 of Series E Preferred  Stock for gross  proceeds of $25.9
million. The Series E Preferred Stock has a liquidation preference of $1,000 per
share  and an  annual  dividend  equal to 14.5% of the  liquidation  preference,
payable quarterly.  On or before January 15, 2004, the Company may pay dividends
in cash or in  additional  fully  paid  and  nonassessable  shares  of  Series E
Preferred Stock. After January 15, 2004, dividends must be paid in cash, subject
to certain  conditions.  Unpaid  dividends  accrue at the  dividend  rate of the
Series E Preferred Stock,  compounded quarterly.  On April 15, 1999, the Company
issued 695 shares of Series E Preferred  Stock to pay the dividends due for such
period.

      The Series E Preferred Stock must be redeemed on February 1, 2011, subject
to the legal availability of funds therefor,  at a redemption price,  payable in
cash, equal to the liquidation  preference  thereof on the redemption date, plus
all accumulated and unpaid dividends to the date of redemption.  After April 15,
2004, the Series E Preferred Stock may be redeemed,  in whole or in part, at the
option of the Company,  at a redemption  price equal to 110% of the  liquidation
preference of the Series E Preferred Stock plus all accrued and unpaid dividends
to the date of redemption.  The redemption  price declines to an amount equal to
100% of the liquidation preference as of April 15, 2007.

      In  addition,  on or prior to April 15,  2002,  the  Company  may,  at its
option,  redeem up to 35% of the  aggregate  liquidation  preference of Series E
Preferred  Stock with the proceeds of sales of its capital stock at a redemption
price equal to 110% of the  liquidation  preference on the redemption  date plus
accrued and unpaid dividends.

      The  holders of Series E  Preferred  Stock have  voting  rights in certain
circumstances.  Upon the occurrence of a change of control,  the Company will be
required to make an offer to repurchase the Series E Preferred Stock for cash at
a purchase price of 101% of the liquidation  preference  thereof,  together with
all accumulated and unpaid dividends to the date of purchase.

      The Series E Preferred Stock is not  convertible.  The Company may, at the
sole option of the Board of Directors (out of funds legally available), exchange
all,  but not less than all, of the Series E Preferred  Stock then  outstanding,
including  any  shares  of  Series E  Preferred  Stock  issued  as  payment  for
dividends,   for  a  new  series  of  subordinated   debentures  (the  "Exchange
Debentures") issued pursuant to an exchange debenture indenture.  The holders of
Series  E  Preferred  Stock  are  entitled  to  receive  on the date of any such
exchange,  Exchange Debentures having an aggregate principal amount equal to (i)


                                       8
<PAGE>

the total of the  liquidation  preference  for each share of Series E  Preferred
Stock  exchanged,  plus (ii) an amount equal to all accrued but unpaid dividends
payable on such share.

SERIES F PREFERRED STOCK

      On February 4, 1999,  the Company  issued 40,000 shares of Series F Senior
Redeemable,  Exchangeable,  PIK Preferred Stock (the "Series F Preferred Stock")
to Lucent and Newcourt  Finance,  generating  aggregate  gross proceeds of $38.9
million. The Series F Preferred Stock has a liquidation preference of $1,000 per
share  and an  annual  dividend  equal to 14.5% of the  liquidation  preference,
payable quarterly.  The Company may pay dividends in cash or in additional fully
paid and  nonassessable  shares of Series F Preferred  Stock. On April 15, 1999,
the Company issued 1,112 shares of Series F Preferred Stock to pay the dividends
due for such period.

      The Series F Preferred  Stock may be redeemed at any time,  in whole or in
part, at the option of the Company,  at a redemption  price equal to 110% of the
liquidation  preference on the  redemption  date plus an amount in cash equal to
all  accrued  and unpaid  dividends  thereon to the  redemption  date.  Upon the
occurrence of a change of control, the Company will be required to make an offer
to purchase the Series F Preferred Stock for cash at a purchase price of 101% of
the  liquidation  preference  thereof,  together with all accumulated and unpaid
dividends to the date of purchase.

      The holders of Series F Preferred  Stock have voting  rights under certain
circumstances.

                Upon the  earlier  of (i) the date that is sixty  days after the
date on which the Company closes an  underwritten  primary  offering of at least
$200  million  of  its  Common  Stock,  pursuant  to an  effective  registration
statement  under the Securities  Act or (ii) February 4, 2001,  any  outstanding
Series F  Preferred  Stock will  automatically  convert  into Series E Preferred
Stock, on a one for one basis.

      The  Company  may, at the sole  option of the Board of  Directors  (out of
funds legally  available),  exchange all, but not less than all, of the Series F
Preferred  Stock then  outstanding,  including  any shares of Series F Preferred
Stock issued as payment for dividends,  for Exchange Debentures.  The holders of
Series  F  Preferred  Stock  are  entitled  to  receive  on the date of any such
exchange,  Exchange Debentures having an aggregate principal amount equal to (i)
the total of the  liquidation  preference  for each share of Series F  Preferred
Stock  exchanged,  plus (ii) an amount equal to all accrued but unpaid dividends
payable on such share.

WARRANTS

      In  connection  with  the  February  4,  1999  issuances  of the  Series E
Preferred  Stock and the Series F  Preferred  Stock,  warrants  to  purchase  an
aggregate  of 24,660  shares of Common  Stock were sold to Newcourt  Finance and
Lucent.  The  aggregate  gross  proceeds  from the sale of  these  warrants  was
approximately  $3.2 million.  These  warrants,  at an exercise price of $.01 per
share, are exercisable from February 4, 2000 through February 1, 2009.

      In addition,  the Company also delivered to the Warrant Agent certificates
representing  warrants to purchase an aggregate of an additional  107,228 shares
of  Common  Stock  at an  exercise  price  of $.01  per  share  (the  "Springing
Warrants").  The Springing  Warrants may become issuable under the circumstances
described in the following paragraph.

      If the  Company  fails to redeem  all shares of Series F  Preferred  Stock
prior to the date (the "Springing Warrant Date") which is the earlier of (i) the
date  that is  sixty  days  after  the  date on  which  the  Company  closes  an
underwritten  primary  offering  of at least $200  million  of its Common  Stock
pursuant to an effective registration statement under the Securities Act or (ii)


                                       9
<PAGE>

February  4,  2001,  the  Warrant  Agent is  authorized  to issue the  Springing
Warrants to the Eligible  Holders (as defined in the warrant  agreement)  of the
Series E and Series F Preferred Stock. In the event the Company has redeemed all
outstanding  shares of Series F Preferred  Stock prior to the Springing  Warrant
Date,  the  Springing  Warrants  will not be issued and the  Warrant  Agent will
return the certificates to the Company.  To the extent the Company exercises its
option to exchange all of the Series F Preferred  Stock for Exchange  Debentures
prior to the  Springing  Warrant Date,  the  Springing  Warrants will not become
issuable.  Therefore,  as the  future  issuance  of the  Springing  Warrants  is
entirely  within the control of the Company and the likelihood of their issuance
is deemed to be remote, no value has been ascribed to the Springing Warrants.

      In connection with the April 30, 1999 issuance of additional shares of the
Series E Preferred Stock,  warrants to purchase an aggregate of 60,353 shares of
Common  Stock were issued to Newcourt  Finance and First  Union.  The  aggregate
gross proceeds from the sale of these warrants was  approximately  $9.1 million.
These warrants,  at an exercise price of $.01 per share,  are  exercisable  from
February 4, 2000 through February 1, 2009.


9. COMMITMENTS AND CONTINGENCIES

PURCHASE COMMITMENTS

      As of June 30, 1999, the Company has outstanding  commitments  aggregating
approximately   $114.0  million  related  to  purchases  of   telecommunications
equipment and fiber optic cable and its  obligations  under its agreements  with
certain suppliers.

REDEMPTION RIGHTS

      Pursuant  to  a   stockholders   agreement,   certain  of  the   Company's
stockholders  and warrant  holders have "put rights"  entitling them to have the
Company repurchase their preferred and common shares and redeemable common stock
warrants for the fair value of such securities if no Liquidity Event (defined as
(i) an initial public offering with gross proceeds of at least $40 million, (ii)
the sale of substantially all of the stock or assets of the Company or (iii) the
merger or consolidation of the Company with one or more other  corporations) has
taken  place by the later of (x) October 22, 2003 or (y) 90 days after the final
maturity date of the Senior  Discount Notes.  The  restrictive  covenants of the
Senior Discount Notes limit the Company's ability to repurchase such securities.
All of the  securities  subject to such "put rights" are presented as redeemable
equity in the accompanying balance sheets.

      The redeemable  preferred  stock,  redeemable  common stock and redeemable
common stock warrants which are subject to the stockholders  agreement are being
accreted up to their fair market values from their respective  issuance dates to
their earliest  potential  redemption date (October 22, 2003). At June 30, 1999,
the aggregate  redemption value of the redeemable equity was approximately  $280
million,  reflecting  per share  redemption  amounts  of $1,090 for the Series A
Preferred  Stock,  $429  for the  Series  C  Preferred  Stock  and  $225 for the
redeemable common stock and redeemable common stock warrants.

ARBITRATION AWARD

      During the second  quarter of 1999,  the Company  recorded a $4.3  million
charge to other expense in connection with an unfavorable arbitration award. The
net amount due under the terms of the award was paid in full in June 1999.


                                       10
<PAGE>





10. NET LOSS PER COMMON SHARE

      The  following  table  sets forth the  computation  of net loss per common
share-basic (in thousands, except share and per share amounts):

<TABLE>
<CAPTION>
                                         THREE MONTHS ENDED            SIX MONTHS ENDED
                                              JUNE 30,                     JUNE 30,
                                       -----------------------     -----------------------
                                          1998        1999            1998        1999
                                       ----------- -----------     ----------- -----------
<S>                                    <C>         <C>             <C>         <C>
Numerator:
  Net loss..........................   $ (20,633)  $ (63,801)      $ (33,597)  $ (103,160)

Dividends and accretion on
    redeemable preferred stock......      (6,687)    (31,971)        (10,040)     (43,415)
                                       ----------- -----------     ----------- -----------
  Numerator for net loss per common
    share - basic...................   $ (27,320)  $  (95,772)      $ (43,637)  $(146,575)
                                       =========== ===========     =========== ===========

Denominator:
  Denominator for net loss per
   common share - weighted average
   number of common shares
   outstanding......................      837,876     852,676         827,827     850,632
                                        ========== ===========     =========== ===========

Net loss per common share - basic...   $   (32.61) $  (112.32)     $   (52.71) $  (172.31)
                                       =========== ===========     =========== ===========
</TABLE>


     Options and warrants to purchase an aggregate of 251,885 and 483,273 shares
of common stock were outstanding as of June 30, 1998 and 1999, respectively, but
a computation  of diluted net loss per common share has not been  presented,  as
the effect would be anti-dilutive.

                                       11
<PAGE>


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
        CONDITION AND RESULTS OF OPERATIONS
        -----------------------------------

      THIS FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS WHICH INVOLVE RISKS AND
UNCERTAINTIES.  THE COMPANY'S ACTUAL RESULTS MAY DIFFER  SIGNIFICANTLY  FROM THE
RESULTS DISCUSSED IN THE FORWARD-LOOKING  STATEMENTS.  THE FOLLOWING  DISCUSSION
SHOULD  BE  READ  IN  CONJUNCTION  WITH  THE  UNAUDITED  CONDENSED  CONSOLIDATED
FINANCIAL  STATEMENTS,  INCLUDING THE NOTES THERETO,  INCLUDED ELSEWHERE IN THIS
FORM 10-Q.


RESULTS OF OPERATIONS

As a result of the development and rapid growth of the Company's business during
the periods presented, the period-to-period comparisons of the Company's results
of operations are not necessarily meaningful and should not be relied upon as an
indication of future performance.

                 THREE MONTHS ENDED JUNE 30, 1999 COMPARED TO
                       THREE MONTHS ENDED JUNE 30, 1998

      REVENUE.  Revenue  increased  from $4.5 million for the three months ended
June 30, 1998 (the "1998 Second  Quarter") to $15.6 million for the three months
ended June 30, 1999 (the "1999  Second  Quarter").  This  increase is  primarily
attributable  to the fact that we derived  revenues  from 23 markets  during the
1999 Second  Quarter  compared to 8 markets during the 1998 Second  Quarter.  In
addition,  each of our systems  that  generated  revenue  during the 1998 Second
Quarter generated higher revenue during the 1999 Second Quarter. Revenue for the
1998 Second  Quarter  and 1999 Second  Quarter  included  $3.1  million and $6.3
million,  respectively,  of revenue derived from resale of switched services and
an aggregate of $1.4 million and $9.3 million (including $2.8 million of revenue
related  to   reciprocal   compensation   during  the  1999   Second   Quarter),
respectively,  of revenue derived from on-net special  access,  private line and
switched  services.   Although  incumbent  local  exchange  carriers,   such  as
BellSouth,  have  generally  withheld  payments  of amounts  due for  reciprocal
compensation  to  competitive  local  exchange  carriers such as the Company for
calls to internet service  providers and disputed the entitlement of competitive
local  exchange  carriers to  reciprocal  compensation  for such calls,  we have
determined to recognize  amounts due to us for reciprocal  compensation for such
calls because we have concluded,  based upon all of the facts and circumstances,
including  numerous state public service  commission and state and federal court
decisions  upholding   competitive  local  exchange  carriers'   entitlement  to
reciprocal  compensation  for such calls,  that  realization  of such amounts is
reasonably assured.

      NETWORK  OPERATING  COSTS.  Network  operating  costs  increased from $8.1
million in the 1998 Second Quarter to $24.4 million in the 1999 Second  Quarter.
This  increase of $16.3  million was due primarily to the increase in the number
of markets in which we  operated  in the 1999  Second  Quarter  and the  related
increases of $4.6 million in costs associated with providing resale services and
leasing  unbundled  network element  services,  $4.5 million in personnel costs,
$1.9 million in contracted network support costs, $1.7 million in consultant and
professional  services  related  costs,  $1.0  million  in  reciprocal  expense,
$600,000 in facility costs, and $2.0 million in other direct operating costs.

      Costs associated with providing on-net switched services were greater than
revenue  generated from on-net switched  services because we hired personnel and
staffed  local offices  prior to  generating  revenue and  obtaining  sufficient
revenue volume to cover such fixed operating costs.

      Costs  associated  with  providing  resale  services  are greater than the
revenues  generated from these services because of narrow discounts  provided by


                                       12
<PAGE>

the incumbent local exchange carriers and because initial  installation  charges
by the incumbent local exchange  carrier to us are greater than our installation
charges to our customers. Initially, resale has been used as an interim strategy
for us to  create a  backlog  of  customers  to be  transitioned  to our  on-net
switched facilities as our own switches become commercially operational.  We now
have  switches in commercial  operation in 23 markets.  We are in the process of
transitioning the majority of our resale customers to on-net switched  services,
but this can be a time-consuming task.

      SELLING,  GENERAL  AND  ADMINISTRATIVE  EXPENSES.   Selling,  general  and
administrative  expenses increased from $5.7 million for the 1998 Second Quarter
to $14.7  million for the 1999 Second  Quarter.  This  increase of $9.0  million
resulted  primarily  from  increases of $5.5 million in  personnel  costs,  $1.3
million in professional costs (consisting primarily of legal costs), $200,000 in
advertising  costs,  and $1.0  million in travel  related  expenses,  along with
increases in other marketing and general and  administrative  costs  aggregating
approximately $1.0 million.

      STOCK OPTION COMPENSATION  EXPENSE.  Stock option compensation  expense, a
non-cash  charge,  increased  from $5.1  million for the 1998 Second  Quarter to
$16.3 million for the 1999 Second Quarter. This increase primarily resulted from
an increase in the estimated fair value of the Company's Common Stock as well as
the grant of additional stock options during the period.

      DEPRECIATION  AND  AMORTIZATION.  Depreciation  and  amortization  expense
increased  from $1.1 million for the 1998 Second Quarter to $6.1 million for the
1999 Second Quarter  primarily as a result of  depreciation  expense  associated
with the  greater  number of networks in  commercial  operation  during the 1999
Second Quarter.

      OTHER EXPENSE. During the 1999 Second Quarter, the Company recorded a $4.3
million charge to other expense in connection  with an  unfavorable  arbitration
award.  The net amount due under the terms of the award was paid in full in June
1999.

      INTEREST EXPENSE. Interest expense increased from $7.3 million in the 1998
Second  Quarter  to $15.7  million  in the 1999  Second  Quarter.  The  increase
resulted  primarily from the issuance of the Senior Notes during the 1999 Second
Quarter,  additional  accretion  on the Senior  Discount  Notes,  and  increased
interest  charges related to higher  borrowings  under the Senior Secured Credit
Facility.  The  Company  capitalized  interest  related to network  construction
projects of $800,000 during the 1998 Second Quarter and $700,000 during the 1999
Second Quarter.

      NET LOSS.  For the reasons  stated above,  net loss  increased  from $20.6
million  for the 1998  Second  Quarter  to  $63.8  million  for the 1999  Second
Quarter.

                  SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO
                        SIX MONTHS ENDED JUNE 30, 1998

      REVENUE. Revenue increased from $7.3 million for the six months ended June
30, 1998 (the "1998 Six Months") to $26.7  million for the six months ended June
30, 1999 (the "1999 Six Months"). This increase is primarily attributable to the
fact that we derived revenue from 23 markets during the 1999 Six Months compared
to 8 markets during the 1998 Six Months.  In addition,  each of our systems that
generated revenue during the 1998 Six Months generated higher revenue during the
1999 Six Months.  Revenue  for the 1998 Six Months and 1999 Six Months  included
$5.2 million and $12.5 million,  respectively, of revenue derived from resale of
switched services and an aggregate of $2.1 million and $14.2 million  (including
$4.6 million of revenue related to reciprocal  compensation  during the 1999 Six
Months),  respectively,  of revenue derived from on-net special access,  private
line and switched services.  Although incumbent local exchange carriers, such as
BellSouth,  have  generally  withheld  payments  of amounts  due for  reciprocal
compensation  to  competitive  local  exchange  carriers such as the Company for


                                       13
<PAGE>

calls to internet service  providers and disputed the entitlement of competitive
local  exchange  carriers to  reciprocal  compensation  for such calls,  we have
determined to recognize  amounts due to us for reciprocal  compensation for such
calls because we have concluded,  based upon all of the facts and circumstances,
including  numerous state public service  commission and state and federal court
decisions  upholding   competitive  local  exchange  carriers'   entitlement  to
reciprocal  compensation  for such calls,  that  realization  of such amounts is
reasonably assured.

      NETWORK  OPERATING  COSTS.  Network  operating  costs increased from $13.9
million in the 1998 Six Months to $44.1  million  in the 1999 Six  Months.  This
increase of $30.2  million was due  primarily  to the  increase in the number of
markets in which we operated in the 1999 Six Months and the related increases of
$9.0 million in costs  associated  with  providing  resale  services and leasing
unbundled  network  element  services,  $8.6  million in personnel  costs,  $3.5
million in contracted  network  support  costs,  $2.6 million in consultant  and
professional  services related costs, $1.3 million in reciprocal  expense,  $1.1
million in facility costs, and $4.1 million in other direct operating costs.

      SELLING,   GENERAL  AND  ADMINISTRATIVE  EXPENSES  Selling,   general  and
administrative  expenses  increased from $9.2 million for the 1998 Six Months to
$26.7 million for the 1999 Six Months.  This increase of $17.5 million  resulted
primarily  from  increases of $9.3 million in personnel  costs,  $2.8 million in
professional  costs  (consisting  primarily  of legal  costs),  $2.3  million in
advertising  costs,  and $1.6  million in travel  related  expenses,  along with
increases in other marketing and general and  administrative  costs  aggregating
approximately $1.5 million.

      STOCK OPTION COMPENSATION  EXPENSE.  Stock option compensation  expense, a
non-cash  charge,  increased  from $6.2 million for the 1998 Six Months to $20.2
million  for the 1999 Six  Months.  This  increase  primarily  resulted  from an
increase in the estimated  fair value of the  Company's  Common Stock as well as
the grant of additional stock options during the period.

      DEPRECIATION  AND  AMORTIZATION.  Depreciation  and  amortization  expense
increased  from $2.1  million  for the 1998 Six Months to $11.6  million for the
1999 Six Months  primarily as a result of depreciation  expense  associated with
the  greater  number of  networks in  commercial  operation  during the 1999 Six
Months.

      OTHER EXPENSE. During the 1999 Second Quarter, the Company recorded a $4.3
million charge to other expense in connection  with an  unfavorable  arbitration
award.  The net amount due under the terms of the award was paid in full in June
1999.

      INTEREST  EXPENSE.  Interest  expense  increased from $14.6 million in the
1998 Six Months to $26.0 million in the 1999 Six Months.  The increase  resulted
primarily from the issuance of the Senior Notes during the 1999 Second  Quarter,
additional  accretion  on the Senior  Discount  Notes,  and  increased  interest
charges related to higher  borrowings  under the Senior Secured Credit Facility.
The Company  capitalized  interest related to network  construction  projects of
$1.4 million during the 1998 Six Months and $1.3 during the 1999 Six Months.

      NET LOSS.  For the reasons  stated above,  net loss  increased  from $33.6
million for the 1998 Six Months to $103.2 million for the 1999 Six Months.

LIQUIDITY AND CAPITAL RESOURCES

      We have incurred  significant  operating and net losses as a result of the
development  and  operation  of our  networks.  We expect  that such losses will
continue as we emphasize  the  development,  construction  and  expansion of our
networks and build our customer  base.  As a result,  there will not be any cash
provided by operations in the near future and we will need to fund the expansion


                                       14
<PAGE>

of our networks.  We have financed our operating losses and capital expenditures
with  equity  invested  by our  founders,  preferred  stock  placements,  credit
facility  borrowings  and the 12 1/2% Senior  Discount  Notes and 13 1/2% Senior
Notes.

      In February  1999, we issued PIK Preferred  Stock and warrants to purchase
common stock for aggregate gross proceeds of $65.0 million to two purchasers. In
April 1999, we issued  additional  shares of PIK Preferred Stock and warrants to
purchase  common stock to one additional  purchaser for aggregate gross proceeds
of $35.0 million.

      In February  1999, our  subsidiary  which owns the 14 additional  networks
currently under  development,  entered into a secured vendor financing  facility
with Lucent Technologies Inc. Under this Lucent Facility, our subsidiary will be
permitted to borrow, subject to certain conditions, up to an aggregate of $600.0
million,   primarily  for  the  purchase  from  Lucent  of  switches  and  other
telecommunications equipment.  Currently, $250.0 million is available under this
facility.  The balance of $350.0  million  will become  available  only upon (a)
additional  lenders agreeing to participate in the facility so that Lucent's own
aggregate  commitment  does  not  exceed  $250.0  million  and (b)  the  Company
satisfying  certain other  requirements,  the most  significant  of which is the
Company  raising,  and  contributing to the subsidiary,  at least $300.0 million
from the sale of high yield debt or equity.  As of June 30, 1999 the Company had
no borrowings outstanding under this facility.

      On May 24, 1999, we issued $275.0 million in aggregate principal amount of
13 1/2% Senior Notes due 2009.  Approximately $104.1 million of the net proceeds
of this offering were used to purchase a portfolio of U.S.  treasury  securities
that have been pledged to secure the first six  scheduled  interest  payments on
these notes.

      At  June  30,  1999,  the  Company  had  $125.0  million  of  indebtedness
outstanding under the Senior Secured Credit Facility,  and had $125.0 million in
borrowing capacity  available under the Senior Secured Credit Facility,  subject
to certain conditions.

      Net cash  provided by  financing  activities  from  borrowings  and equity
issuances  was $332.1  million for the six months ended June 30,  1999.  Our net
cash used in operating and investing  activities  was $165.2 million for the six
months ended June 30, 1999.

      We made  capital  expenditures  of $170.7  million in the six months ended
June 30, 1999. We currently  plan to make  additional  capital  expenditures  of
approximately $153.0 million during the remainder of 1999. Continued significant
capital  expenditures are expected to be made thereafter.  The majority of these
expenditures is expected to be made for network construction and the purchase of
switches and related  equipment to facilitate  the offering of our services.  In
addition,  we expect to continue to incur  operating  losses while we expand our
business and build our customer base. Actual capital  expenditures and operating
losses will depend on numerous factors, including the nature of future expansion
and acquisition opportunities and factors beyond our control, including economic
conditions,   competition,  regulatory  developments  and  the  availability  of
capital.

      At June 30,  1999,  the Company had  outstanding  commitments  aggregating
approximately  $114.0  million  related to the purchase of fiber optic cable and
telecommunications equipment as well as engineering services,  principally under
the Company's agreements with Lucent Technologies Inc.

      We believe that our cash, investments held for future capital expenditures
and borrowings available under our Senior Secured Credit Facility and the Lucent
Facility, together with the net proceeds from our April 1999 issuance of our PIK
Preferred  Stock and the May 1999  offering of our 13 1/2% Senior  Notes will be
sufficient  to meet our  liquidity  needs for our initial 23 networks and the 14
additional  networks currently under development and anticipated to be completed
over the next 12  months,  although  we can give no  assurance  in this  regard.
Thereafter we will require additional financing.  However, in the event that our
plans change,  the assumptions upon which our plans are based prove  inaccurate,
we  expand  or  accelerate  our  business  plan or we  determine  to  consummate


                                       15
<PAGE>

acquisitions,  the foregoing sources of funds may prove insufficient to complete
all of the networks,  and we may be required to seek additional financing sooner
than we currently expect.  Additional sources of financing may include public or
private equity or debt financings by the Company,  capitalized  leases and other
financing arrangements.

      We can give no assurance that additional financing will be available to us
or, if  available,  that it can be obtained on a timely basis and on  acceptable
terms. Failure to obtain such financing could result in the delay or abandonment
of some or all of our development and expansion plans and  expenditures.  Such a
failure could also limit our ability to make principal and interest  payments on
our indebtedness  and meet our dividend and redemption  obligations with respect
to our  preferred  stock.  The  Company has no working  capital or other  credit
facility  under  which it may  borrow  for  working  capital  and other  general
purposes.  We can give no assurance that such financing will be available to the
Company in the future or that, if such  financing  were  available,  it would be
available on terms and conditions acceptable to the Company.



YEAR 2000 COMPLIANCE

               Similar to all businesses, we may be affected by the inability of
certain computer software to distinguish  between the years 1900 and 2000 due to
a  commonly-used  programming  convention.  Unless such programs are modified or
replaced  prior to January 1, 2000,  calculations  based on date  arithmetic  or
logical operations performed by such programs may be incorrect. In addition, the
Senior Secured Credit  Facility and the Lucent Facility impose certain Year 2000
compliance obligations on the Company.

      Management's  plan to address the effect of the Year 2000 issue focuses on
the following  areas:  applications  systems  (including  our billing system and
financial  software),  infrastructure  (including personal computers and servers
used throughout the Company),  and other third party business partners,  vendors
and  suppliers.  Management's  analysis  and review of these areas is  comprised
primarily of the following phases: developing an inventory of hardware, software
and  embedded  chips;  assessing  the  degree to which  each  area is  currently
compliant  with Year 2000  requirements;  performing  renovations,  repairs  and
replacements as needed to attain compliance;  testing to ensure compliance; and,
developing  a  contingency  plan for each area if our initial  efforts to attain
compliance are either unsuccessful or untimely.

      Management  completed the inventory and  assessment  phases of the project
during the fourth quarter of 1998. The renovation,  repair and replacement phase
and the testing  phase have  commenced;  however,  we expect to  continue  these
phases throughout 1999.

      Further,  we are  currently  in the  process of  implementing  new billing
software  systems,  operational  software  systems and  financial  and personnel
software  systems.  Although  these  implementations  were made necessary by the
expansion of our  business  and were not  directly  related to Year 2000 issues,
they have  enabled us to  utilize  new  software  for these  purposes  which the
respective suppliers have certified as Year 2000 compliant.

      Costs  incurred  to date  have  primarily  consisted  of  labor  from  the
redeployment  of existing  information  services and operational  resources.  We
expect to spend  approximately  $150,000 for these Year 2000 compliance  efforts
which will be  expensed as  incurred.  This amount does not include the costs of
the new billing  software,  operational  software and  financial  and  personnel
software  systems which we are  implementing as a result of the expansion of our
business.

      If the software applications of the local exchange carriers, long distance
carriers  or  others on whose  services  we  depend  or with  which our  systems


                                       16
<PAGE>

interact are not Year 2000  compliant,  it could affect our systems  which could
have a material adverse effect on our business,  financial condition and results
of operations.

      We have formed a contingency team to develop a work plan in the event that
certain  programs and hardware are not fully  compliant and  operational  before
January 1, 2000.  The costs  associated  with this  effort are  currently  being
evaluated and cannot yet be  determined.  In the event that certain,  or all, of
the contingency plans are deployed,  we will incur additional costs; however, as
contingency  plans are not yet  developed,  we cannot  determine  these costs at
present.

      Although we do not presently  anticipate a material business  interruption
as a result of the Year 2000 issue,  the worst case  scenario if all of our Year
2000  efforts  fail would  result in a daily loss of revenues  of  approximately
$200,000 calculated based upon our current revenues.


ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
        ----------------------------------------------------------

      Market risks relating to the Company's  operations  result  primarily from
changes in interest rates. The substantial  majority of the Company's  long-term
debt bears interest at a fixed rate. However, the fair market value of the fixed
rate debt is sensitive to changes in interest  rates.  The Company is subject to
the risk that market  interest  rates will decline and the interest  expense due
under the fixed rate debt will exceed the  amounts  due based on current  market
rates.  Under its current  policies,  the Company  does not utilize any interest
rate derivative instruments to manage its exposure to interest rate changes.

      The following table provides  information about the Company's  significant
financial  instruments  that are  sensitive  to  changes in  interest  rates (in
millions):

<TABLE>
<CAPTION>

                                  Fair Value on                Future Principal Payments
                                  June 30, 1999    1999    2000    2001   2002   2003   Thereafter   Total
                                 -------------------------------------------------------------------------
<S>                                <C>              <C>    <C>     <C>   <C>    <C>      <C>      <C>
Long-Term Debt

Fixed Rate:

Senior Discount Notes,
  interest payable at 12 1/2%,     $   271.8        --      --      --     --     --     $ 292.3   $292.3
  maturing 2008

Senior Notes,
  interest payable at
  13 1/2%, maturing 2009               275.0        --      --      --     --     --       275.0    275.0


Variable rate:

Senior Secured Credit Facility,
  interest variable at LIBOR plus 3
  3/4 % (8.81% at June 30,
  1999) (a)                            125.0        --      --      --    0.6    0.8       123.6    125.0
                                   ----------------------------------------------------------------------

Total                              $   671.8        --      --      --    $.6    0.8      $690.9   $692.3
                                   ======================================================================
</TABLE>

(a) Interest rate is based on a variable rate, which at the Company's option, is
determined  by either a base rate or LIBOR,  plus,  in each  case,  a  specified
margin.


                                       17
<PAGE>


                         PART II - OTHER INFORMATION


ITEM 1. LEGAL PROCEEDINGS.
        -----------------

      In ITEM 3 - LEGAL  PROCEEDINGS  of its Annual Report to the  Commission on
Form  10-K  for the year  ended  December  31,  1998,  the  Company  included  a
description  of an  arbitration  proceeding  between its  subsidiary KMC Telecom
Inc., and Wang Laboratories, Inc. (as successor to I-NET, Inc.). On June 1, 1999
the  American  Arbitration  Association  transmitted  to the parties an Award of
Arbitration  in the  proceeding.  The award provides that KMC Telecom Inc. shall
pay to Wang  Laboratories,  Inc. the sum of  approximately  $4.8 million  (which
amount  includes  pre-award  interest)  with  interest  thereon from the date of
service of the award to the date of payment.  KMC Telecom  Inc.'s  counterclaims
were dismissed. The Company paid the award in full during June 1999.

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
        -----------------------------------------

     (a)  Not Applicable.

     (b)  Not Applicable.

     (c) On April 30,  1999,  we issued  units (the  "Units")  consisting  of an
aggregate  of  35,000  shares of Series E Senior  Redeemable,  Exchangeable  PIK
Preferred Stock,  par value $.01 per share (the "Series E Preferred  Stock") and
an aggregate of 127,932  warrants (the  "Warrants"),  each to purchase  0.471756
shares of our  Common  Stock,  par value  $.01 per  share,  to an  institutional
investor for aggregate gross proceeds of $35.0 million.

      The  sale  of the  Units  was  made  in  reliance  on the  exemption  from
registration  provided by Section 4(2) of the Securities  Act, on the basis that
the transaction did not involve a public  offering.  The offer and sale was made
to  only  one  institutional  investor.  In the  Securities  Purchase  Agreement
applicable to the transaction,  such institutional investor made representations
as  to  its  investment  intent.   The  Securities   Purchase  Agreement  places
substantial  restrictions  upon transfer of the securities and the  certificates
representing  the  securities  have been  legended to that effect.  The Warrants
issued as part of the Units  entitle the holders of the  Warrants to purchase an
aggregate of 60,353 shares of Common Stock and are exercisable  from February 4,
2000 through February 1, 2009 at a price of $.01 per share.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
        -------------------------------

      Not Applicable.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
        ---------------------------------------------------

      (a) By unanimous written consent,  dated as of April 30, 1999, the holders
of the  Registrant's  Common Stock,  Series A Cumulative  Convertible  Preferred
Stock (the  "Series A  Preferred  Stock")  and Series C  Cumulative  Convertible
Preferred  Stock (the  "Series C Preferred  Stock"),  voting as a single  class,
approved  and  adopted  an  amendment  to the  Company's  Amended  and  Restated
Certificate of  Incorporation  to effect an increase in the aggregate  number of
authorized shares of the Registrant's  capital stock from 3,748,800 to 4,128,800
shares,  composed of an increase in the aggregate number of authorized shares of
the Registrant's preferred stock from 748,800 to 1,128,800.

                                       18
<PAGE>

      (b) By unanimous written consent,  dated as of April 30, 1999, the holders
of the Registrant's Series A Preferred Stock, voting as a class,  approved (A) a
Certificate  of  Amendment  to  the  Certificate  of the  Powers,  Designations,
Preferences and Rights of the Series A Cumulative  Convertible  Preferred Stock,
par value $.01 per share, providing that the Series A Preferred Stock would rank
junior  to  the  Registrant's  Series  E  Senior  Redeemable,  Exchangeable  PIK
Preferred Stock (the "Series E Preferred  Stock") and the Registrant's  Series F
Senior  Redeemable,  Exchangeable  PIK Preferred  Stock (the "Series F Preferred
Stock"),  (B) a Certificate  of Amendment to the  Certificate  of Voting Powers,
Designations,  Preferences and Relative Participating, Optional or Other Special
Rights and Qualifications,  Limitations and Restrictions Thereof of the Series E
Preferred Stock providing that the Series E Preferred Stock would rank senior to
the Series A Preferred Stock and the Series C Preferred Stock and increasing the
number  of  authorized  shares of the  Registrant's  preferred  stock  which are
designated  as Series E  Preferred  Stock from  175,000 to 575,000  shares  (the
"Series E Certificate of Amendment"),  and (C) a Certificate of Amendment to the
Certificate   of  Voting   Powers,   Designations,   Preferences   and  Relative
Participating, Optional or Other Special Rights and Qualifications,  Limitations
and  Restrictions  Thereof of the Series F Preferred  Stock  providing  that the
Series F Preferred  Stock would rank senior to the Series A Preferred  Stock and
the Series C Preferred Stock (the "Series F Certificate of Amendment"),  each as
required by the  Certificate of Designation  governing the rights of the holders
of the Series A Preferred Stock.

      (c) By unanimous written consent,  dated as of April 30, 1999, the holders
of the Registrant's Series C Preferred Stock, voting as a class,  approved (a) a
Certificate  of  Amendment  to  the  Certificate  of the  Powers,  Designations,
Preferences and Rights of the Series C Cumulative  Convertible  Preferred Stock,
par value $.01 per share, providing that the Series C Preferred Stock would rank
junior to the Series E Preferred Stock and the Series F Preferred Stock, (B) the
Series E Certificate of Amendment and (C) the Series F Certificate of Amendment,
each as required by the  Certificate of Designation  governing the rights of the
holders of the Series C Preferred Stock.

      (d) By unanimous written consent,  dated as of April 30, 1999, the holders
of the Registrant's  Series E Preferred Stock,  voting as a class,  approved (A)
the  Series  E  Certificate  of  Amendment,  (B) the  Series  F  Certificate  of
Amendment, and (C) the issuance of 35,000 shares of the Series E Preferred Stock
to an institutional investor, each as required by the Certificate of Designation
governing the rights of the holders of the Series E Preferred Stock.

      (e) By unanimous written consent,  dated as of April 30, 1999, the holders
of the Registrant's  Series F Preferred Stock,  voting as a class,  approved (A)
the Series E Certificate of Amendment, (B) the Series F Certificate of Amendment
and (C) the  issuance  of 35,000  shares of the Series E  Preferred  Stock to an
institutional  investor,  each as required  by the  Certificate  of  Designation
governing the rights of the holders of the Series F Preferred Stock.

      (f) The Annual Meeting of  Stockholders of the Registrant was held on June
7, 1999. At the Annual Meeting, the following actions were taken:

      (i) The existing  board of seven  directors was re-elected in its entirety
to hold office  until the next Annual  Meeting of  Stockholders,  or until their
respective  successors shall be elected and qualified,  by a vote of the holders
of the  Registrant's  Common  Stock,  Series  A  Preferred  Stock  and  Series C
Preferred  Stock,  voting as a single  class.  In this vote each share of Common
Stock had one vote and each  share of  Series A  Preferred  Stock  and  Series C
Preferred  Stock had a number of votes  equal to the  number of shares of Common
Stock into which it is convertible. The persons elected as directors were:

                  Harold N. Kamine
                  Michael A. Sternberg
                  William H. Stewart
                  John G. Quigley
                  Randall A. Hack
                  Richard H. Patterson
                  Gary E. Lasher

                                       19
<PAGE>

      The vote was as follows:

                       FOR        AGAINST        ABSTAINING
                    1,690,771        0             95,238

      (ii) The  holders of the  Registrant's  Common  Stock,  Series A Preferred
Stock and  Series C  Preferred  Stock,  voting as a single  class,  approved  an
amendment to the 1998 Stock  Purchase  and Option Plan for Key  Employees of KMC
Telecom  Holdings,  Inc. and  Affiliates  (the "KMC Holdings Stock Option Plan")
previously  approved and recommended by the board of directors,  to increase the
number of  shares  of  Common  Stock of the  Company  authorized  to be  granted
pursuant to the KMC Holdings Stock Option Plan from 262,750 to 600,000.  In this
vote  each  share of  Common  Stock  had one vote  and  each  share of  Series A
Preferred  Stock and Series C Preferred Stock had a number of votes equal to the
number of shares of Common Stock into which it is convertible.

      The vote was as follows:

                      FOR          AGAINST        ABSTAINING
                    1,690,771         0             95,238

      (iii) The holders of the  Registrant's  Common  Stock,  Series A Preferred
Stock and Series C  Preferred  Stock,  voting as a single  class,  ratified  the
retention of Ernst & Young LLP as independent auditors of the Registrant for the
fiscal year ending  December 31,  1999.  In this vote each share of common stock
had one vote and each share of Series A  Preferred  Stock and Series C Preferred
Stock had a number of votes  equal to the number of shares of Common  Stock into
which it is convertible.

      The vote was as follows:

                      FOR          AGAINST        ABSTAINING
                    1,690,771         0             95,238

      (iv) The  holders of the  Registrant's  Common  Stock,  Series A Preferred
Stock and Series C Preferred  Stock,  voting as a single class,  ratified all of
the actions  taken by the board of  directors of the  Registrant  for the fiscal
year beginning  January 1, 1998 and ending  December 31, 1998. In this vote each
share of Common  Stock had one vote and each share of Series A  Preferred  Stock
and Series C Preferred Stock had a number of votes equal to the number of shares
of Common Stock into which it is convertible.

      The vote was as follows:

                     FOR           AGAINST        ABSTAINING
                  1,499,377.5        0             292,631.5



ITEM 5. OTHER INFORMATION.
        -----------------

      Not Applicable.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
        ---------------------------------

      (a)   Exhibits
            --------

      3.1   Certificate  of  Incorporation  of KMC Telecom  Holdings,  Inc.,  as
            amended, dated as of April 30, 1999.



                                       20
<PAGE>

      3.2   Certificate of the Powers,  Designations,  Preferences and Rights of
            the Series A Cumulative  Convertible Preferred Stock, Par Value $.01
            Per Share, as amended, dated as of April 30, 1999.

      3.3   Certificate of the Powers,  Designations,  Preferences and Rights of
            the Series C Cumulative  Convertible Preferred Stock, Par Value $.01
            Per Share, as amended, dated as of April 30, 1999.

      3.4   Certificate of the Powers, Designations, Preferences and Rights of
            the Series D Cumulative  Convertible  Preferred  Stock, Par Value
            $.01 Per Share, as amended, dated as of April 30, 1999.

      3.5   Certificate of Voting Powers, Designations, Preferences and Relative
            Participating,  Optional or Other Special Rights and Qualifications,
            Limitations  and  Restrictions   Thereof  of  the  Series  E  Senior
            Redeemable,  Exchangeable PIK Preferred Stock, as amended,  dated as
            of April 30, 1999.

      3.6   Certificate of Voting Powers, Designations, Preferences and Relative
            Participating,  Optional or Other Special Rights and Qualifications,
            Limitations  and  Restrictions   Thereof  of  the  Series  F  Senior
            Redeemable,  Exchangeable PIK Preferred Stock, as amended,  dated as
            of June 1, 1999.

      4.1   First  Supplemental  Indenture dated as of May 24, 1999 by and among
            KMC Telecom  Holdings,  Inc.,  KMC Telecom  Financing,  Inc. and The
            Chase Manhattan Bank, as Trustee.

      4.2   Securities Purchase Agreement dated as of April 30, 1999 between
            KMC Telecom Holdings, Inc. and First Union Investors, Inc.

      4.3   Amendment  No. 1 dated as of June 1, 1999,  to  Securities  Purchase
            Agreement among KMC Telecom  Holdings,  Inc., First Union Investors,
            Inc.,   Newcourt   Commercial   Finance   Corporation   and   Lucent
            Technologies Inc.

      4.4   Warrant  Agreement  dated as of April 30,  1999  among  KMC  Telecom
            Holdings,  Inc., The Chase Manhattan  Bank, as Warrant Agent,  First
            Union  Investors,  Inc, Harold N. Kamine and Nassau Capital Partners
            L.P.

      4.5   Warrant Registration Rights Agreement dated as of April 30, 1999
            between KMC Telecom Holdings, Inc. and First Union Investors, Inc.

      4.6   Amendment  No. 1 dated as of April 30, 1999 to Warrant  Registration
            Rights  Agreement  among  KMC  Telecom  Holdings,   Inc.,   Newcourt
            Commercial Finance Corporation and Lucent Technologies Inc.

      4.7   Amendment  No. 1 dated as of April  30,  1999 to  Warrant  Agreement
            dated as of April 30, 1999 among KMC  Telecom  Holdings,  Inc.,  The
            Chase  Manhattan  Bank,  Newcourt  Commercial  Finance  Corporation,
            Lucent Technologies Inc. and First Union Investors, Inc.

      4.8   Amendment No. 2 dated as of June 1, 1999 to Warrant  Agreement among
            KMC Telecom  Holdings,  Inc.,  The Chase  Manhattan  Bank,  Newcourt
            Commercial Finance Corporation,  Lucent Technologies Inc., Harold N.
            Kamine and Nassau Capital Partners L.P.

      4.9   Preferred Stock Registration Rights Agreement dated as of
            April 30, 1999 between KMC Telecom Holdings, Inc. and First Union
            Investors, Inc.

                                       21
<PAGE>

      4.10  Amendment  No.  1  dated  as of  June 1,  1999  to  Preferred  Stock
            Registration  Rights  Agreement  among KMC Telecom  Holdings,  Inc.,
            First Union Investors, Inc., Newcourt Commercial Finance Corporation
            and Lucent Technologies, Inc.

      4.11  Amendment  No. 5 dated  as of  April  30,  1999 to the  Amended  and
            Restated  Stockholders  Agreement among KMC Telecom Holdings,  Inc.,
            Nassau  Capital  Partners  L.P.,  NAS  Partners I L.L.C.,  Harold N.
            Kamine,  Newcourt Commercial Finance  Corporation,  General Electric
            Capital Corporation, First Union National Bank, CoreStates Holdings,
            Inc. and KMC Telecommunications L.P.

      4.12  Amendment No. 6 dated as of June 1, 1999 to the Amended and Restated
            Stockholders  Agreement  among KMC Telecom  Holdings,  Inc.,  Nassau
            Capital  Partners  L.P.,  NAS  Partners I L.L.C.,  Harold N. Kamine,
            Newcourt  Commercial Finance  Corporation,  General Electric Capital
            Corporation,  First Union National Bank, KMC Telecommunications L.P.
            and CoreStates Holdings, Inc.

      10.1  Amendment  No. 1 made as of June 7, 1999 to 1998 Stock  Purchase and
            Option Plan for Key Employees of KMC Telecom Holdings, Inc.
            and Affiliates.

      27.1  Financial Data Schedule.

      (b)   Reports on Form 8-K
            -------------------

      (b)(i) A report on Form 8-K was filed by the  Registrant on April 28, 1999
pursuant to Item 5 thereof  reporting  its unaudited  financial  results for the
three month period ended March 31, 1999.  Such financial  results were disclosed
in a Press Release, dated April 28, 1999, filed as an exhibit to such report.

      (b)(ii)  A report on Form 8-K was filed by the  Company  on June 10,  1999
pursuant to Item 5 thereof  reporting the results of an  arbitration  proceeding
previously disclosed in Item 3 - "Legal Proceedings" of its Annual Report to the
Securities and Exchange  Commission on Form 10-K for the year ended December 31,
1998.



                                       22
<PAGE>





                                  SIGNATURES

      Pursuant to the  requirements of the Securities  Exchange Act of 1934, the
Registrant  has duly  caused  this  report  to be  signed  on its  behalf by the
undersigned thereunto duly authorized.

DATED: August  13, 1999



                                      KMC TELECOM HOLDINGS, INC.
                                             (Registrant)



                                      By: /s/     Michael A. Sternberg
                                         ------------------------------
                                      Michael A. Sternberg
                                      President and Chief Executive Officer
                                      (Principal Executive Officer)



                                      By: /s/    James D. Grenfell
                                         -------------------------------
                                      James D. Grenfell
                                      Executive Vice President, Chief
                                      Financial Officer and Secretary
                                      (Principal Financial Officer)




                                       23
<PAGE>


EXHIBIT INDEX

    NO.   DESCRIPTION
    --    -----------

    3.1   Certificate  of  Incorporation  of KMC Telecom  Holdings,  Inc.,  as
          amended, dated as of April 30, 1999.

    3.2   Certificate of the Powers,  Designations,  Preferences and Rights of
          the Series A Cumulative  Convertible Preferred Stock, Par Value $.01
          Per Share, as amended, dated as of April 30, 1999.

    3.3   Certificate of the Powers,  Designations,  Preferences and Rights of
          the Series C Cumulative  Convertible Preferred Stock, Par Value $.01
          Per Share, as amended, dated as of April 30, 1999.

    3.4   Certificate of the Powers, Designations, Preferences and Rights of the
          Series D Cumulative  Convertible  Preferred  Stock, Par Value $.01 Per
          Share, as amended, dated as of April 30, 1999.

    3.5   Certificate of Voting Powers, Designations, Preferences and Relative
          Participating,  Optional or Other Special Rights and Qualifications,
          Limitations  and  Restrictions   Thereof  of  the  Series  E  Senior
          Redeemable,  Exchangeable PIK Preferred Stock, as amended,  dated as
          of April 30, 1999.

    3.6   Certificate  of  Amendment  of the  Certificate  of  Voting  Powers,
          Designations,  Preferences and Relative  Participating,  Optional or
          Other   Special   Rights   and   Qualifications,   Limitations   and
          Restrictions Thereof of the Series F Senior Redeemable, Exchangeable
          PIK Preferred Stock, as amended, dated as of June 1, 1999.

    4.1   First  Supplemental  Indenture dated as of May 24, 1999 by and among
          KMC Telecom  Holdings,  Inc.,  KMC Telecom  Financing,  Inc. and The
          Chase Manhattan Bank, as Trustee.

    4.2   Securities Purchase Agreement dated as of April 30, 1999 between
          KMC Telecom Holdings, Inc. and First Union Investors, Inc.

    4.3   Amendment  No. 1 dated as of June 1, 1999,  to  Securities  Purchase
          Agreement among KMC Telecom  Holdings,  Inc., First Union Investors,
          Inc.,   Newcourt   Commercial   Finance   Corporation   and   Lucent
          Technologies Inc.

    4.4   Warrant  Agreement  dated as of April 30,  1999  among  KMC  Telecom
          Holdings,  Inc., The Chase Manhattan  Bank, as Warrant Agent,  First
          Union  Investors,  Inc, Harold N. Kamine and Nassau Capital Partners
          L.P.

    4.5   Warrant Registration Rights Agreement dated as of April 30, 1999
          between KMC Telecom Holdings, Inc. and First Union Investors, Inc.

    4.6   Amendment  No. 1 dated as of April 30, 1999 to Warrant  Registration
          Rights  Agreement  among  KMC  Telecom  Holdings,   Inc.,   Newcourt
          Commercial Finance Corporation and Lucent Technologies Inc.

    4.7   Amendment  No. 1 dated as of April  30,  1999 to  Warrant  Agreement
          dated as of April 30, 1999 among KMC  Telecom  Holdings,  Inc.,  The
          Chase  Manhattan  Bank,  Newcourt  Commercial  Finance  Corporation,
          Lucent Technologies Inc. and First Union Investors, Inc.

                                       24
<PAGE>

    4.8   Amendment No. 2 dated as of June 1, 1999 to Warrant  Agreement among
          KMC Telecom  Holdings,  Inc.,  The Chase  Manhattan  Bank,  Newcourt
          Commercial Finance Corporation,  Lucent Technologies Inc., Harold N.
          Kamine and Nassau Capital Partners L.P.

    4.9   Preferred Stock Registration Rights Agreement dated as of
          April 30, 1999 between KMC Telecom Holdings, Inc. and First Union
          Investors, Inc.

    4.10  Amendment  No.  1  dated  as of  June 1,  1999  to  Preferred  Stock
          Registration  Rights  Agreement  among KMC Telecom  Holdings,  Inc.,
          First Union Investors, Inc., Newcourt Commercial Finance Corporation
          and Lucent Technologies, Inc.

    4.11  Amendment  No. 5 dated  as of  April  30,  1999 to the  Amended  and
          Restated  Stockholders  Agreement among KMC Telecom Holdings,  Inc.,
          Nassau  Capital  Partners  L.P.,  NAS  Partners I L.L.C.,  Harold N.
          Kamine,  Newcourt Commercial Finance  Corporation,  General Electric
          Capital Corporation, First Union National Bank, CoreStates Holdings,
          Inc. and KMC Telecommunications L.P.

    4.12  Amendment No. 6 dated as of June 1, 1999 to the Amended and Restated
          Stockholders  Agreement  among KMC Telecom  Holdings,  Inc.,  Nassau
          Capital  Partners  L.P.,  NAS  Partners I L.L.C.,  Harold N. Kamine,
          Newcourt  Commercial Finance  Corporation,  General Electric Capital
          Corporation,  First Union National Bank, KMC Telecommunications L.P.
          and CoreStates Holdings, Inc.

    10.1  Amendment  No. 1 made as of June 7, 1999 to 1998 Stock  Purchase and
          Option Plan for Key Employees of KMC Telecom Holdings, Inc.
          and Affiliates.

    27.1  Financial Data Schedule.