Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Fisher College of Business – Student Investment Management (SIM)
NYSE:Q   Current   Price:   4.02
Target   Price: 3.50
Recommendation:   SELL
Investment   Thesis   Analyst   Information:
Qwest   Communications   has   several   key   factors
which   will   limit   its   growth   potential   and   ultimately   its   future   price   performance.
Current   price   trends   and
continued   poor   performance   will   bring   the   price   of   this   stock   down.
Summary
The   telecommunications   industry   has   had   recent   poor   performance   and   shows   little   signs   of   a
turnaround   in   the   near   future.
Within   this   sector,
Qwest   is   not   strategically   positioned   to   compete
amidst   fierce   competition.
Recent   performance   by
Qwest   shows   revenue   decline   and   slow   earnings   growth.
Additionally,   the   Company   has   substantial
debt   which   will   limit   its   flexibility   and   may   lead   to   financial   distress   in   the   near   future.
The   company’s
high   dividend   yield   is   in   jeopardy   as   a   significant   portion   of   long ‐ term   debt   is   coming   due   within   the   next   three   years.
Analyst:
Contact:
Fund:
Manager:
Alex
Fisher
The rinaldi.16@osu.edu
OSU
Royce
Stock   Information:
Rinaldi
College
Ohio
SIM
(Finance
West
440.382.0639
State
of
Business,
University
724)
Sector:
Industry:
Telecommunications
Fixed ‐ Line
Market   Capitalization:   6.92B
Shares   Outstanding:   1.73B
Average   Volume:   26.66M
52 ‐ Week   High:
52 ‐ Week   Low:
YTD   Return:
Dividend   Yield:
$9.58
$3.39
‐ 52.39%
7.98%
1

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Table   of   Contents
Analyst   Information
Stock   Information
Investment   Rationale
Summary
Table   of   Contents
Company   Overview
Business   Structure
Sector   and   Industry   Analysis
Recent   Performance
Macroeconomic   Factors
Sector   and   Industry   Outlook
Company   Analysis
Strengths   and   Strategies
Weaknesses   and   Threats
Risks   and   Considerations
Financial
Statements
Growth   Analysis
Profitability
Analysis
Analysis
Management   Effectiveness
Efficiency   Analysis
Debt   Analysis
Valuation   Analysis
Recent   Performance
Valuation   Relative   to   Sector
Equity   Valuation:   Discounted   Cash   Flow   (DCF)   Method
Summary
Appendix
Income   Statement
Balance   Sheet
DCF   Analysis
14
14
14
15
16
11
12
13
13
13
13
2
3
3
1
1
1
1
9
9
9
10
5
5
6
6
17
18
19 ‐ 20
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Stock   Report   |   Qwest   Communications   |   NYSE:   Q
1
Qwest   was   incorporated   under   the   laws   of   the   State   of   Delaware   in   1997.
The   company’s   principal   executive   offices   are   located   at   1801   California   Street,
Denver,   Colorado   80202.
Qwest   Communications   provides   voice,
data,   internet   and   video   services   nationwide   and   globally.
It   operates   most   of   its   business   within   the   14 ‐ state   region   of   Arizona,   Colorado,   Idaho,   Iowa,   Minnesota,   Montana,   Nebraska,   New
Mexico,   North   Dakota,   Oregon,   South   Dakota,   Utah,   Washington   and   Wyoming.
Business   Structure
The   company   has   identified   and   organized   its   customers   into   three   distinct   groups
which   include   (1)   Mass   Markets,   (2)   Business   Markets,   and   (3)   Wholesale.
Mass   market   customers   include   consumers   and   small   businesses.
Business   customers   include   local,   national,   and   global   businesses.
Wholesale   customers   are   other   telecommunications   providers   that   purchase   Qwest’s   products   and   services
to   sell   to   their   customers  ‐ or ‐  that   purchase   access   services   that   allow   them   to   connect   their   customers   and   their   networks   to   Qwest’s   network.
Qwest   currently   operates   in   the   following   three   segments:   (1)   Wireline   Services,
(2)   Wireless   Services,   and   (3)   Other   Services.
Wireline   Services
Qwest’s   wireline   services   include:
•
Voice   Services   –   these   include   local   services,   long ‐ distance   services   and   access   services.
Local   voice   services   include   basic   local   exchange,   switching
1
Adapted   from   Qwest   2007   Annual   Report
3

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
and   enhanced   voice   services.
Long ‐ distance   voice   services   include   domestic   and   international   long ‐ distance   services.
Access   services   include   fees   charged   to   other   telecommunications   providers   to   connect   their   customers   and   their   networks   to   the   company’s   network.
•
Data,   Video,   and   Internet   Services   include:
o Broadband   access   for   mass   markets   and   business   customers   o Advanced   data   and   internet   services   such   as   data   integration,   private   line,   MPLS,   web   hosting   and   VoIP   which   is   offered   to   business   and   wholesale   customers   o Traditional   data   and   internet   services   such   as   ATM,   frame   relay,   DIA,
VPN,   ISDN   and   internet   dial ‐ up   access   o Video   services,   including   resold   satellite   digital   television   and   traditional   cable ‐ based   video   services   to   mass   market   consumers
Wireless   Services
Qwest   resells   Verizon   wireless   products   and   services   to   mass   markets   and   business   customers,   primarily   within   their   local   service   area.
Additionally,   the   company   offers   an   integrated   services   which   enables   customers   to   use   their   same   telephone   number   and   voice   mailbox   for   their   wireless   phone   as   for   their   home   or   business   phone.
These   services   are   primarily   marketed   to   consumers   as   part   of
bundled   offerings.
Other   Services
These   services   include   the   subleasing   of   space   in   office   buildings,   warehouse   and   other   properties.
The   following   table   summarizes   revenue   contribution   from   each   segment:
$   in   Thousands   2007   %   of   Total   Revenues 2006   %   of   Total   Revenues
Wireline   Services   Revenue   13,328 95.7%   13,335 95.9%
Wireless   Services   Revenue   557
Other   Services   Revenue   38
Total   operating   revenue   13,923
4.0%
0.3%
527
41
13,903
3.8%
0.3%
4

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Qwest   Communications   is   a   fixed ‐ line   telecommunications   company   operating   in   the   Integrated   Telecommunications   Industry,   within   the
Telecommunications   Services   sector.
The   Telecommunications   Services   economic   sector   (SP ‐ 50)   consists   of   companies   engaged   in   fixed ‐ line   and   wireless   telecommunication   networks   for   voice,   data   and   high ‐ density   data.
Recent   Performance
Telecommunications   Services   have   long   been   regarded   as   a   defensive   sector   in   an   economic   downturn,   but   recent   performance   would   indicate   otherwise.
Recent   absolute   returns   for   the   sector   and   the   S&P   500
2
:
MTD   QTD   YTD
S&P   500   2.28% 1.28%   ‐ 11.72%
Telecommunications 1.47% ‐ 5.44% ‐ 23.31%
The   following   table   summarizes   the   price   of   the   Telecommunications   Services   sector   relative   to   the   S&P   500   and   average   values
3
:
Telecommunications   Sector   Performance
Relative   to   S&P   500 High Low Mean Current   +   /  ‐
P/   Forward   E
P/S
1.5
1.7
0.67
0.89
1
1.13
0.83
0.99
‐
‐
0.17
0.14
P/B
P/EBITDA
P/CF
P/E/G   Ratio
ROE
1.68 0.56
1.34 0.53
0.77 0.34
3.88 0.15
1.65 0.59
0.82
0.78
0.54
0.87
0.9
0.75
0.91
0.45
1
0.81
‐
‐
‐
0.07
0.13
0.09
0.13
0.09
*Past   10 ‐ year   performance
2
http://www.standardandpoors.com
3
Stockval   data
5

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
The   sector   currently   appears   to   be   cheap   relative   to   its   ten ‐ year   historical   average.
This   is   attributed   to   several   factors   including   recent   weak   financial   performance   and   a   loss   of   favor   with   growth   investors   as   the   market   matures   and   becomes   saturated.
Macroeconomic   Factors
The   Telecommunications
Services   sector   is   influenced   by   several   key   economic   factors   including:
GDP
GDP   is   a   broad   measure   of   a   country’s   overall   economic   activity.
Like   many   industries,   the   Telecommunications   sector   is   affected   by   the   economy’s   overall   strength,   and   for   regional   providers   this   pertains   specifically   to   their   service   regions.
U.S.
GDP   growth   for   the   first   two   quarters   of   this   year   was   low,   but   positive   with   a   little   boost   from   the   government’s   economic   stimulus   package.
Many   economists   believe   that   GDP   growth   will   remain   low   through   the   end   of   the   year.
New   Housing   Starts
An   important   factor   affecting   demand   for   new   access   line   subscriptions   is   growth   in   housing,   one   of   the   poorest   performing   areas   in   the   nation’s   economy.
Housing   starts   are   down   nationwide   23.9%   in   June   2008   from   June   2007.
This   slowdown   will   make   customer   growth   difficult.
Sector   and   Industry   Outlook
Increased   Competition   from   Substitutes
The   traditional   wireline   telecommunications   industry   is   in   a   state   of   decline.
Access   lines   for   the   three   largest   local   phone   carriers   (AT&T,   Verizon,   and   Qwest)
6

Stock   Report   |   Qwest   Communications   |   NYSE:   Q    were   all   down   at   least   6.5%   for   the   twelve   month   period   ending   September
2007
4
.
The   reasons   for   this   sharp   decline   in   the   number   of   subscribers   are   primarily   a   result   of   technological   improvement   and   innovation:
•
Improvements   in   the   quality,   affordability,   and   availability   of   wireless   services   have   made   them   the   preferred   means   of   communication.
•
Internet   and   Cable   providers   have   launched   Voice   over   Internet   Protocol
(VoIP)   communications   services.
They   have   been   attracting   a   growing   number   of   subscribers   with   flat ‐ rate   subscriptions   and   bundled   offerings.
•
A   second   phone   line   used   to   be   the   most   affordable   way   to   connect   to   the   internet.
The   alternatives   to   a   dial ‐ up   connection,   cable   and   DSL   (digital   subscriber   line),   are   a   faster   and   more   affordable   choice.
Wireless   Services
The   key   area   for   growth   in   the   telecommunications   industry   is   in   wireless   communications   and   data   services.
While   this   industry   has   seen   double   digit   subscriber   growth   over   the   last   decade,   this   is   expected   to   slow   considerably   as   US   domestic   market   penetration   has   reached   84%.
While   subscriber   growth   is   slowing,   the   industry   continues   to   see   revenue   opportunities   with   other   data   services,   such   as   music,   search,   games,   ringtones,   text,   and   photo   messaging.
The   future   of   the   wireless   industry   is   bandwidth.
Current   networks   can   handle   modest   data   transfer,   but   the   upcoming   4G   (Fourth ‐ Generation)   network   promises   higher   user   capacity   and   broadband   speed.
The   upcoming   transition   to   digital   television   has   opened   up   a   wide   spectrum   of   frequencies   which   will   allow   for   this   network   to   exist.
Current   wireless   broadband   already   exists   in   some   markets   in   the   form   of   WiMAX,   which   employs   microwave   spectrum   emissions   to   transmit   signals   over   distances   a   far   as   26   miles.
The   international
4
S&P   Industry   Survey:   Wireline   Telecommunications
7

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
telecommunications   regulatory   and   standardization   bodies   are   working   for   commercial   deployment   of   4G   networks   somewhere   in   2012 ‐ 2015.
Broadband   Services
Another   key   area   for   revenue   growth   is   in   broadband   internet   services,   in   which   the   telecoms   compete   with   their   DSL   service.
Competition   for   high ‐ speed   internet   connections   is   fierce   between   the   telecoms   and   the   cable   companies,   with   the   cable   companies   accounting   for   54%   of   connections   as   of   September   2007.
Analysts   are   beginning   to   question   how   competitive   DSL   services   will   remain   as   Cable   companies   offer   higher   bandwidth   services.
While   they   are   more   expensive,   they   allow   for   faster   data   transfer   for   video   applications,   which   are   becoming   more   and   more   popular.
In   the   last   quarter,   Time   Warner   and   Comcast   gained   208,000   and   278,000   new   broadband   subscribers   respectively.
This   compares   to   46,000   and   54,000   new   customers   for   AT&T   and   Verizon.
5
Bottom   Line
Product   offerings   from   cable   companies   now   allow   them   to   compete   with   traditional   telecommunication   companies   for   customers.
The   increase   in   market   participants   and   product   substitutes   will   lead   to   ever ‐ increasing   competition.
A   popular   and   growing   trend   in   these   industries   is   the   bundling   of   multiple   services
on   a   single   bill,   leading   to   price   competition   which   will   affect   margins.
Look   for   wireless   technologies   to   revolutionize   the   industry   in   the   near   future.
As   the   technology   advances   networks   will   become   more   capable,   available,   and   affordable.
Wireless   threatens   to   redefine   the   industry   and   the   way   we   live   our   lives.
5
Time   Warner   Cable   Surges   Ahead;   Broadband   Gains   Surpass   Increases   of   Telephone   Rivals
Vishesh   Fumar,   Wall   Street   Journal.
07   August,   2008
8

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Qwest   Communications   generates   more   than   95%   of   their   revenue   from   their   wireline   telecommunications   services.
These   revenues   are   generated   primarily   from   local   and   long   distance   phone   services   and   broadband.
Bundled   Service   Offerings   –   Qwest   has   seen   a   positive   response   to   service   bundling,   which   allows   customers   to   pay   for   their   cable,   phone,   broadband,   and   even   wireless   accounts   all   on   one   bill.
An   incentive   for   customers   is   that   they   will   often   pay   less   for   the   bundle   than   they   would   for   each   individual   service.
Infrastructure   Investment   and   Improvement   –   Qwest   is   working   to   upgrade   its   broadband   offerings   by   investing   in   infrastructure.
With   more   capable   networks   Qwest   will   be   able   to   compete   more   effectively   with   other   companies   which   offer   faster   connection   rates.
High   Customer   Satisfaction   –   the   Company   recently   won   the   J.D
Power   and
Associates   customer   satisfaction   survey   for   large   businesses.
The   survey   asked   customers   to   rank   providers   in   performance   and   reliability,   sales   representatives   and   account   executives,   billing,   cost   of   service,   offerings   and   promotions,   and   customer   service.
6
Qwest   did   however   rank   last   in   the   small   business   survey,   which   includes   businesses   of   less   than   500   employees.
Capital Structure and Debt Burden – Qwest currently has a substantial amount of long-term debt on its balance sheet. Carrying substantial debt makes the Company more vulnerable to an economic downturn and limits their ability to secure additional financing. There is a more specific analysis of Qwest’s debt in the next section.
6
Qwest at Top and Bottom of Customer Satisfaction Survey. Denver Business Journal. 19 June 2008. Greg Avery
9

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Access Line Losses – The core of
Qwest’s business is wireline services, which generated 95% of their revenue last year. In the last three years Qwest has had a 6.5% YOY (year-over-year) decline in the total number of access lines. Consequentially, over this same period revenues for Qwest have had a
1.5% YOY decline.
Reseller of Wireless Service – Qwest does not have its own wireless business, but instead is a reseller of wireless services offered by Sprint. While this allows them to offer wireless services to their customers under their brand name, the prices and margins they will realize are ultimately determined by another company. In this important area of growth wireless revenues only accounted for 5% of revenues for last year.
The agreement with Sprint will expire in 2009, and Qwest has signed a new contract with Verizon wireless to offer their service. Under this new agreement there is a change in accounting policy which will result in lower revenue as well as lower expenses
7
.
Reseller of Video Service – Similar to their wireless services, Qwest resells satellite television services offered by DirecTV. Again, this allows them to offer these services to their customers but limits there control on these offerings.
Competition from Cable – Cable companies are currently offering similar services, and do not fall under the same federal regulation as traditional telecommunications companies like Qwest. This allows them more flexibility in their offerings and pricing.
Debt   Burden   and   Liquidity   –   The   Company   currently   carries   a   large   amount   of   debt   on   its   balance   sheet.
This   makes   the   company   more   vulnerable   to   an   economic   downturn,   limits   their   flexibility,   and   impairs   their   ability   to   secure
additional   financing   for   investment   in   technology.
Increasing   Competition   –   The   telecommunications   industry   is   mature   and   saturated   industry.
There   has   been   a   recent   trend   in   acquisition   and   consolidation
7
Qwest   10 ‐ Q:   06   August   2008
10

Stock   Report   |   Qwest   Communications   |   NYSE:   Q    of   providers.
Additionally,   cable   companies   and   smaller   internet   providers   are   offering   comparable   services.
The   end   result   is   an   ever ‐ increasing   competitive   environment.
Technological   Advancement   –   The   pace   at   which   technology   advances   is   ever   increasing.
Investing   and   deploying   technology   requires   a   significant   amount   of   capital,   and   there   is   no   guarantee   that   expensive   investments   won’t   become   obsolete   in   the   near   future.
Federal   Regulation  ‐  The   primary   regulator   of   communications   in   the
United   States   is   the   Federal   Communications   Commission   (FCC).
Specifically,   the
Wireline   Competition   Bureau   develops   policy   that   affects   competition,   inter ‐ carrier   compensation,   mergers,   and   the   availability   of   rural   telecommunications   service.
8
This   high   level   of   oversight   creates   substantial   regulatory   risk,   as   a   change   in   laws   or   regulations   could   materially   affect   the   industry.
At   the   same   time,   cable   companies   and   internet   providers   which   offer   telephony   services   in   the   form   of   VoIP   do   not   fall   under   the   restriction   of   the   FCC.
This   allows   them   more   flexibility   to   operate   under   very   little   regulation   and   supervision.
Analyzing   performance   with   financial   ratio   analysis   illustrates   Qwest’s   growth,   profitability,   management   effectiveness,   and   leverage.
The   table   on   the   following   page   summarizes   key   financial   ratios*   for   Qwest
Communications   and   three   of   the   company’s   peers;   AT&T   (T),   Verizon   (VZ),   and
Sprint   (S)
9
.
These   companies   in   aggregate   represent   90%   of   the   sector.
Copies   of   the   Income   Statement   and   Balance   Sheet   from   the   2007   10 ‐ K   submitted   by   Qwest   are   attached   in   the   Appendix.
T   Q   VZ   S
8
http://www.fcc.gov
9
Standard   and   Poor’s   Market   Insight   Research   Database
11

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Quarterly   Sales   Growth
Quarterly   Earnings   per   Share   Growth
Operating   Margin   before   Depreciation
Net   Profit   Margin
Return   on   Assets   %
Return   on   Equity   %
Current   Ratio
Debt ‐ to ‐ Equity   Ratio
Interest   Coverage   Before   Tax
1.16%
8.07%
37.339
12.221
4.721
0.515
‐ 0.59%
1.65%
30.810
5.559
0.828
12.944
0.91%
7.45%
7.801
2.924
0.602
33.850
‐
‐ 2.83%
23.147
(3.799)
1.250
56.885 2,658.052 66.378 (0.565)
12917%
(47.566)
12.000 563.419 11.529 (139.546)
7.888 2.169 8.177 104.438
*Quarterly   Data   Used   –   Last   Four   Quarters   to   Determine   Growth   Rates
Growth   Analysis
Qwest   has   had   negative   revenue   growth   of  ‐ .59%   over   the   past   four   quarters.
This   compares   to   positive   growth   of   about   1%   for   both   AT&T   and   Verizon,   the   industry’s   top   tier   companies.
Sprint’s   performance   has   been   extremely   poor   in   recent   quarters.
Though   Qwest   has   seen   declining   revenues,   they   have   been   able   to   sustain   positive   EPS   growth   by   increasing   margins.
However,   this   performance   does   not   compare   to   the   EPS   growth   rates   of
AT&T   and   Verizon.
Again,   Sprint’s   performance   is   poor,   exacerbated   by   a   significant   loss   in   the   fourth   quarter   of   2007.
Qwest   will   continue   to   post   low   growth   in   Earnings   relative   to   its   competition   if   revenues   sustain   their   decline.
Profitability   Analysis
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Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Qwest   has   a   comparable   operating   margin,   but   a   significantly   lower   net   profit   margin   relative   to   AT&T   and   Verizon.
Qwest’s   ability   to   grow   its   margins   allows   it   to   show   positive   growth   in   earnings   with   declining   revenues.
In   this   category
Sprint   is   in   last   place   with   the   lowest   operating   margin   and   negative   profit   margin.
Management   Effectiveness
Return   on   Equity   (ROE)   and   Return   on   Assets   are   typically   good   measures   of   how   effectively   management   is   able   to   use   its   resources   to   generate   profits.
In   both   these   measures   Qwest   looks   to   be   significantly   outperforming   competitors.
The   higher   ROA   is   likely   a   consequence   of   scale.
For   example   AT&T   has   assets   of   roughly   $284   Billion   compared   to   the   $22   Billion   of   Qwest.
The   reason   for   Qwest’s   extremely   high   ROE   is   also   a   consequence   of   scale.
Qwest   has   a   very   small   amount   of   Stockholder’s   Equity   on   their   balance   sheet   ($563
Million).
Debt   Analysis
One   of   the   most   critical   elements   on   Qwest’s   balance   sheet   is   the   enormous   amount   of   long ‐ term   debt   the   company   has   relative   to   its   peers.
The   most   alarming   ratio   is   the   times ‐ interest ‐ covered   before   taxes,   which   is   measure   of
how   flexible   a   company   is   in   servicing   its   debt   obligations.
Last   quarter   Qwest   only   generated   enough   income   before   taxes   to   service   its   interest   2.17
times ,   which   puts   the   company   at   considerable   risk   of   defaulting   on   its   debt.
This   measure   is   far   below   Qwest’s   peer   group.
Qwest’s   current   ratio   is   better   than   that   of   AT&T   and   Verizon,   but   it   is   still   below
1.0
which   gives   the   company   liquidity   risk.
I   would   even   suggest   that   AT&T   and
Verizon   have   larger,   more   stable   cash   flows   which   allow   them   to   remain   less
liquid.
13

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
As   of   December   31,   2007,   Qwest’s   consolidated   debt   was   approximately   $14.3
billion.
Approximately   $3.6
billion   of   our   debt   obligations   comes   due   over   the   next   three   years.
Recent   Performance
Qwest’s   recent   price   performance   has   been   very   poor,   with   the   company’s   stock   losing   half   of   its   value   over   the   last   year.
The   following   summarizes   absolute   returns   for   the   Company   and   its   sector:
MTD   QTD   YTD
Telecommunications   1.47%   ‐ 5.44% ‐ 23.31%
Qwest   Communications   6.37%   ‐ 16.11% ‐ 52.09%
Valuation   Relative   to   Sector
Relative   to   the   Telecommunications   Services   sector   (SP ‐ 50)   of   the   S&P   500,   Qwest
Communications   appears   to   be   relatively   cheap;
Qwest   Communications
Relative   to   SP ‐ 50   High   Low Mean Current   +   /  ‐
P/   Forward   E   99.99 0.63
1   0.81
‐ 0.19
P/S
P/B
P/EBITDA
P/CF
1.63
5.02
2.22
0.1
99.99 0.04
0.14
0.14
0.55
3.72
0.53
0.65
0.4
7.24
0.28
0.45
‐
‐
‐
0.15
3.52
0.25
0.2
P/E/G   Ratio   99.99 0.92
2.08
2.61
0.53
ROE   99.99 NEG 4.38
14.41
10.03
Past   10 ‐ year   Performance
The   stock   is   currently   trading   below   historical   averages,   but   I   believe   this   valuation   to   be   justified.
The   many   risks   specific   to   this   company   as   well   as   the
14

Stock   Report   |   Qwest   Communications   |   NYSE:   Q    lack   of   competitiveness   of   their   operations   justifies   a   lower   stock   price   looking   forward.
As   mentioned   earlier,   return   on   equity   is   inflated   because   the   company   has   a   significant   amount   of   accumulated   deficit   and   stockholder’s   equity   of   only   $563   million.
Up   until   last   year,   Qwest   had   a   stockholder’s   deficit.
Price   to   book   is   also   affected.
Dividend
Qwest   is   currently   trading   with   a   dividend   yield   of   7.98%,   which   makes   it   attractive.
However,   Qwest   only   started   paying   the   dividend   last   year   and   I   have   doubt   that   they   will   be   able   to   maintain   this   payout   policy.
Equity   Valuation:   Discounted   Cash   Flow
Attached   in   the   appendix   is   a   discounted   cash   flow   (DCF)   model   for   Qwest
Communications.
In   my   model   I   have   made   the   following   assumptions:
•
12%   Discount   Rate
•
0%   Terminal   Growth   Rate
•
1%   Revenue   Decline   Until   2014
•
Declining   Operating   Margin
•
5%   Annual   Debt   Reduction
Sensitivity   Analysis
A   sensitivity   analysis   gives   a   DCF   price   interval   of   ($3.24
–   $3.78),   centered   at
$3.46
Sensitivity Analysis
12.5% 13.0% 13.5%
-1.5% 3.64 3.56 3.49 3.42 3.36 3.30 3.24
-1.0% 3.66 3.58 3.5 3.43 3.37 3.31 3.25
-0.5% 3.68 3.59 3.52 3.45 3.38 3.32 3.26
0.0% 3.70 3.61 3.54 3.46 3.39 3.33 3.27
0.5% 3.72 3.63 3.55 3.48 3.41 3.34 3.28
1.0% 3.75 3.66 3.57 3.49 3.42 3.35 3.29
1.5% 3.78 3.68 3.59 3.51 3.44 3.37 3.30
15

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
The   company’s   stock   price   appears   slightly   undervalued   using   several   relative   valuation   metrics   and   historical   averages,   but   has   a   DCF   target   price   of   $3.46.
I   feel   the   company’s   stock   requires   a   discount   relative   to   the   sector   because   of   its   operational   and   financial   risks.
The   following   summarizes   the   highlights   of   my   report:
Positives
•
Low   P/E   Ratio   and   other   Multiples   Relative   to   Industry
•
High   Dividend   Yield   (7.89%)
Negatives
•
Unattractive   Industry
•
Declining   Revenues
•
Low   Earnings   Growth
•
Access   Line   Losses
•
Competition   from   Cable   and   Wireless
•
Lack   of   In ‐ house   Wireless   and   Video   Services
•
Highly   Leveraged
•
Low   Book   Value   of   Equity
3.50
4.02
SELL
16

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Appendix   1:   Income   Statement
(Qwest   Communications   SEC   Form   10 ‐ K,   period:   December   31,   2007)
(Dollars   in   millions   except   per   share   amounts,   shares   in   thousands)
Years   Ended   December   31,
Operating
Operating
Cost
Selling, General,
Depreciation
Total
Other
of
expenses:
Sales operating
Income   (Loss)   before   Income   Taxes   and   Changes   in   Accounting   Principles
Income   Tax   Benefit   earnings
and
and
and
Services
Administrative
Amortization expenses
Costs
Interest   Expense   on   Long ‐ Term   Borrowings   and   Capital   Leases
Loss   on   early   retirement   of   debt   net
Total
Net
Other income earnings
Diluted
Gain
Income
Basic
Basic
Other
on
earnings
Diluted
revenue expense
Sale
Net
Expense
(Loss)
of
(loss)
(loss)
(Income) per
(loss)
(loss) earnings
(income)
Assets before
per per
(loss)
net:
Changes
Net share share: per
share:
in
Accounting
Cumulative   effect   of   changes   in   accounting   principles   net   of   taxes
share
Weighted   average   shares   outstanding:
Basic
Diluted
Principles
2005   2006   2007
$13,903   $13,923   $13,778
5,836
4,147
3,065
13,048
5,608
3,990
2,770
12,368
5,257
4,306
2,459
12,022
1,483
462
(263)
(67)
1,615
(760)
3
(757)
1,169
5
(68)
(108)
998
557
36
593
1,095
26
(7)
(22)
1,092
664
2,253
2,917
(22)
0
0
($779)
($0.42)
($0.42)
$593
$0.31
$0.30
1,836,374   1,889,857   1,829,244
1,836,374   1,971,545   1,920,766
$2,917
$1.59
$1.52
17

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Appendix   2:   Balance   Sheet
(Qwest   Communications   SEC   Form   10 ‐ K,   period:   December   31,   2007)
(Dollars   in   millions,   shares   in   thousands)
Current   Assets
Cash   and   Cash   Equivalents
Short ‐ Term   Investments
Accounts   Receivable   (Net   of   Allowance   $145   and   $146)
Deferred   Income   Taxes
Prepaid   Expenses   (and   Other)
Total   Current   Assets
Assets
Property,   Plant,   and   Equipment   Net
Capitalized   Software   Net
Deferred   Income   Taxes
Prepaid   Pension
Other   Long ‐ Term   Assets
Total   Assets
Liabilities   and   Stockholders’   Equity   or   Deficit
Current   Liabilities:
Current   Portion   of   Long ‐ Term   Borrowings
Accounts   Payable
Accrued   Expenses   and   Other
Deferred   Revenue   and   Advanced   Billings
Total   Current   Liabilities
Long ‐ Term   Borrowings
Post   Retirement   Benefit   Obligations
Deferred   Revenue
Other   Long ‐ Term   Liabilities
Total   Liabilities
Stockholder's   Equity   or   Deficit
200   Million   Shares   of   Preferred   Stock   Authorized,   None   Issued   or   Outstanding
Common   Stock   $.01
Par   Value,   5   Billion   Shares   Authorized;
1,792,598   and   1,902,642   Shares   Issued,   Respectively
Additional   Paid ‐ In   Capital
Treasury   Stock   (5,221   and   1993   Shares)
Accumulated   Deficit
Accumulated   Other   Comprehensive   Income
Total   Stockholder's   Equity   (Deficit)
2007   2006
13,671
853
1,584
1,672
1,179
$22,532
$902
79
1,576
654
362
3,573
14,579
818
1,311
877
$21,239
$1,241
248
1,600
187
378
3,654
$601
1,008
1,999
601
4,209
13,650
2,188
538
1,384
21,969
‐
18
42,344
(18)
(43,084)
1,303
563
$1,686
992
1,861
621
5,160
13,206
2,366
506
1,446
22,684
‐
19
43,384
(24)
(45,907)
1,083
(1,445)
18

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Total   Liabilities   and   Stockholder's   Equity   $22,532   $21,239
19

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Appendix   3:   Discounted   Cash   Flow   Analysis   (1   of   2)
Year
Revenue
% Growth
Operating Income
Operating Margin
Interest - net
Interest % of Sales
2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E 2016E 2017E 2018E Value
13,485 13,332 13,239 13,107 12,976 12,846 12,718 12,718 12,718 12,718 12,718
949 1,051 1,191 1,114 1,103 1,028 954 954 954 954 954
7.04% 7.88% 8.99% 8.50% 8.50% 8.00% 7.50% 7.50% 7.50% 7.50% 7.50%
751 787 817 840
5.57%
-1.14%
5.90%
-1.00%
6.17%
-1.00% -1.00%
798
Forecast
-1.00%
758
-1.00%
720
0.00%
684
0.00%
650
0.00%
617
0.00%
587
6.41% 6.15% 5.90% 5.66% 5.38% 5.11% 4.86% 4.61%
Terminal
Taxes 500 541 667 82 91 81 70 81 91 101 110
Tax Rate
Minority Interest
32.0% 31.0% 31.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0% 30.0%
- - - - - - - - - - -
Net Income
% Growth
698 805 1,040 192 213 189 164 189 213 235 257
15% 29% -82% 11% -12% -13% 15% 13% 11% 9%
Add Depreciation/Amort
% of Sales
2,427 2,366 2,303 2,228 1,946 1,927 1,780 1,780 1,780 1,653 1,653
18.00% 18.00% 18.00% 17.00% 15.00% 15.00% 14.00% 14.00% 14.00% 13.00% 13.00%
Plus/(minus) Changes WC (126) (139) (158) (131) (130) (128) (127) (127) (127) (127) (127)
% of Sales
Subtract Cap Ex
-0.93% -1.05% -1.19% -1.00% -1.00% -1.00% -1.00% -1.00% -1.00% -1.00% -1.00%
1,144 1,191 1,144 1,311 1,298 1,413 1,399 1,399 1,526 1,526 1,526
Capex % of sales 8.48% 8.94% 9.00% 10.00% 10.00% 11.00% 11.00% 11.00% 12.00% 12.00% 12.00%
-1% 11% -52% -25% -22% -27% 6% -23% -31% 9%
YOY growth
20

Stock   Report   |   Qwest   Communications   |   NYSE:   Q
Appendix   3:   Discounted   Cash   Flow   Analysis   (2   of   2)
Terminal Value
NPV of free cash flows
NPV of terminal value
Projected Equity Value
Free Cash Flow Yield
Shares Outstanding
2,142
5,474
6,024
30.80%
1,740.0
Current Price $ 4.03
Implied equity value/share $ 3.46
91%
550 9%
Terminal Discount Rate =
Terminal FCF Growth =
12.00%
0.0%
Terminal 2,142.1
P/E 8.3
EV/EBITDA 0.82
Free Cash Yield 12.00%
Upside/(Downside) to DCF -14.09%
21