Recent
Price:
Safety:
$31.49
Target
(1 yr):
$36.31
Analyst Information:
Name: Timothy M. Hanley
E-Mail: hanley_43@cob.osu.edu
Phone: 614-336-8523
Advisor: Royce West, CFA
Course: Finance 824
Date: May 17 th , 2006
Value Line Rankings (
(1 = best)
Timeliness:
Technical: as of 3/31/06
3
2
2
)
P/E
Ratio:
12.22
Year
EPS Estimates
Consensus Estimates
High
Low
Div’d
Yield:
5.10%
HOLD
2005 2006E 2007E 2008E
$2.52 $2.14 $2.51 $2.54
$2.55
$2.68
$2.75
$2.68
$3.01
$3.10
$2.45
$2.51
$2.50
Recommendation Summary
Verizon is undervalued using almost every valuation measure, but feel this is warranted given fundamental risks outlined below:

2006 seems set for flat year-over-year earnings vs. 2005.

Earnings declines in Wireline unit, which now includes
MCI, continue to offset strong results in Wireless unit.

MCI acquisition will take 3+ years to breakeven, according to company estimates.

Domestic Telecom unit is making risky $11B network upgrade to enable FTTP-based broadband and video offerings.

High profit Directory and International assets are being sold or divested to improve short-term liquidity.

Negotiations proceed with Vodafone Group, Plc to purchase
45% of Wireless segment Verizon does not own. Offer is currently at $48B, well above our $35B valuation.
2
Beta: .95
Source: Value Line Inc.
1

1
Verizon Communications Inc. (Verizon) is one of the world’s leading providers of communications services. Verizon was formerly known as Bell Atlantic Corporation, which was incorporated in 1983 under the laws of the State of Delaware. It began doing business as Verizon on June 30, 2000, when Bell Atlantic Corporation merged with GTE Corporation. Its principal executive offices are located at 140 West Street, New York, New York 10007.
Verizon is organized into four reportable segments, which operate as strategic business units and are organized by products and services. The four segments and their principal activities consist of the following:
Domestic
Telecom
Domestic
Wireless
Information
Services
International
Domestic Telecom provides local telephone services, including voice,
DSL, data transport, enhanced and custom calling features, network access, directory assistance, private lines and public telephones in 28 states and Washington, D.C. This segment also provides long distance services, customer premises equipment distribution, video services, data solutions and systems integration, billing and collections and inventory management services.
Domestic wireless products and services include wireless voice and data services and equipment sales across the United States.
Information Services’ multi-platform business comprises yellow and white pages directories, SuperPages.com, our online directory and search services, and SuperPages On the Go, a directory and information services on wireless telephones. This segment’s operations are principally in the
United States.
International wireline and wireless communications operations and investments in the Americas and Europe.
Domestic Telecom
Verizon’s Domestic Telecom segment, principally representing its wireline local and long distance telephone operations, presently serves a territory consisting of 48.8 million access lines in 28 states and Washington, D.C. and is not dependent on any single customer. The Domestic
Telecom segment Verizon’s ability to offer local telephone services historically has been subjected to regulation by state regulatory commissions. However, the Telecommunications Act of 1996 has significantly increased the level of competition in Verizon’s local exchange markets.
1 Verizon Communications, Inc. 2005 Annual Report 2

Current and potential competitors in this segment include long distance companies, other local telephone companies, cable companies, wireless service providers (incl. its own wireless segment), foreign telecommunications providers, electric utilities, and Internet service providers.
Many of these companies have a strong market presence, brand recognition and existing customer relationships, all of which contribute to intensifying price competition and continued access line losses in this segment.
Verizon’s current strategy in this segment is to expand its service packages to offer the publicized “triple play” packages of voice (both local and long distance), wireless, and broadband services to its existing customer base. The company has begun installing fiber to the premises (FTTP) beginning with the new technology's first trials in Keller, TX. This initiative, which will cost approximately $11B to complete, replaces traditional copper network with fiber optics. This will allow Verizon to offer faster broadband services and make the phone company more competitive against cable operators. The FTTP technology, called FiOS TV, will also support digital video programming over its network, as well as digital music programming and high-definition TV.
2
The acquisition of MCI, Inc. has also given the Domestic Telecom segment a significant presence in the “enterprise” (i.e. large business and government) long distance and data markets, which historically have shown slower attrition rates than smaller business and consumer access lines.
Domestic Wireless
Verizon Wireless was formed in April 2000 as a joint venture of the U.S. wireless operations of
Verizon and Vodafone Group Plc (Vodafone). Verizon owns a controlling 55% interest in
Verizon Wireless and Vodafone owns the remaining 45%.
Verizon Wireless is the industry-leading wireless communications provider in the United States in terms of profitability, as measured by operating income. Verizon Wireless has the second largest customer base of any U.S. wireless provider, with 51.3 million wireless subscribers as of
December 31, 2005, representing a 20.8% market share. Verizon competes primarily against three other national wireless service providers: Cingular Wireless, Sprint Nextel and T-Mobile
USA. Competition is expected to intensify in this segment as a result of the high penetration levels (70%) of the industry, ongoing industry consolidation, the deployment of new technologies, products and services, the availability of additional wireless spectrum, and regulatory changes. In addition, resellers such as Qwest and the cable companies that buy bulk wholesale service from facilities-based carriers for resale provide another set of differentiated competitors in the marketplace.
Currently, Verizon enjoys competitive advantages by providing services across one of the most extensive networks in the United States. Approximately 282 million people reside in areas of the
U.S. where Verizon has FCC licenses to offer services and approximately 250 million people reside in areas covered by Verizon service. This coverage includes approximately 90% of the population and 98 of the 100 most populated U.S. metropolitan areas. However, as wireless data
2 Hoover’s Online 3

and internet services proliferate, content is becoming an increasingly significant factor in the appeal of these services. Verizon’s future ability (or failure) to compete on content may provide
Verizon opportunities for increased wireless data revenues.
Information Services
Verizon Information Services is a world leader in print and online directory publishing and a content provider for electronic communications products and services. Information Services main product is the sale and publishing of the Verizon yellow and white page directories, as well as the advanced online directory, SuperPages.com. The segment produces approximately 1,726 directory titles in 44 states, Washington, D.C., 4 countries, and a U.S. Commonwealth. This includes over 1,200 Verizon specific directory titles with a circulation of approximately
121 million copies in the U.S. and 8 million copies internationally.
The Information Services segment competes within with five major U.S.-based directory publishers (AT&T Inc., BellSouth Corporation, R.H. Donnelley Corporation, Dex Media, Inc, and Yellow Book USA) in nearly all of its domestic print markets. It also competes against alternative advertising media, including radio, TV, newspapers, magazines, Internet, direct mail and others for a share of the total U.S. advertising media market. SuperPages.com competitors include national directory and local Internet search engines including Yahoo! and Google.
In December 2005, Verizon announced that it is exploring divesting Information Services through a spin-off, sale or other strategic transaction. This follows a 2003 sale of its directory operations in Europe and a 2004 sale of its directory operations in Canada.
International
Verizon’s International segment includes consolidated and unconsolidated international wireline and wireless communications operations and investments in the Americas and Europe. As of
December 31, 2005, the International segment managed approximately 5 million access lines and provided wireless services to approximately 31 million customers.
On April 3, 2006, Verizon announced it was selling all of its consolidated operations in the
Americas in two separate deals to America Movil, SA and a joint venture between America
Movil and Telefonos de Mexicos, SA (TelMex) for $3.7B
. This sale included Verizon
Dominicana, the principal telecommunications provider in the Dominican Republic, its 52% interest in TELPRI, which owns Puerto Rico Telephone Company (PRTC), Puerto Rico’s principal wireline company, and its 28.5% interest in Compañia Anónima Nacional Teléfonos de
Venezuela (CANTV), Venezuela’s largest full-service telecommunications provider.
Verizon’s remaining consolidated European operations are a 23.1% interest in Vodafone Omnitel
N.V. (Vodafone Omnitel), an Italian digital cellular telecommunications company and a 50% interest in Gibraltar NYNEX Communications Limited, the full-service provider of wireline, wireless, and Internet access services to the country of Gibraltar. Vodafone Omnitel is the second largest wireless provider in Italy, serving 23.7 million subscribers. It operates in an intensely competitive and highly penetrated market. Should Verizon be successful in acquiring
4

Vodafone’s stake in Verizon Wireless, it is likely that the stake in Vodafone Omnitel will be sold back to Vodafone to offset acquisition costs.
GDP
First quarter 2006 GDP grew at 4.8%, the second-highest growth in any quarter in the last 5 years. This growth confirms the US economy has not finished expanding. What is particularly interesting is that the Q1 growth occurred despite continued high oil prices, rising interest rates, and growing record U.S. current account deficit. This indicates a structurally sound U.S. economy that barring any shocks will continue expanding for the rest of 2006. While high energy and commodities prices, a troubled housing market, a weak U.S. dollar, and the large current account deficit remain concerns, they will likely serve to moderate growth at this time rather than reverse the expansionary trends.
Interest Rates
The Fed voted on May 10 th
to increase the federal funds rate 25 basis points to 5.00%. This is the 16 th
increase in the last two years and continues the monetary policy tightening that began in
2004 ( see Figure 1 ). The big question is whether the Fed will continue with their now automatic
25 basis point increase at their June meeting or take the long speculated “pause” and hold the rate at 5.00%. The data is mixed, with high economic growth and high energy prices being offset by unspectacular employment figures, a flattening of leading economic indicators and up until now, moderate inflation ( see Figure 1 ). While predictions about a pause are speculative, it is reasonable to expect that as long as energy prices remain high and growth robust, any pause will be brief. The key to avoiding further increases may be continued productivity gains, which have until now offset higher labor and production costs.
U.S. Dollar
The U.S. dollar has sunk in 2006 to at or near 10-year lows against major currencies ( see Figure
2 ). A recent article in Futures Magazine predicts continued weakness to $.774/E and 110
¥
/$, citing lower participation by foreigners in U.S. treasury auctions and an expected expansion of the U.S. trade deficit to $68.8B (vs. $65.7B previously).
3
The continued economic weakness in parts of Western Europe is keeping rates low, meaning dollar denominated investments will continue to be more attractive to European investors. This should act as a buffer/floor against the Euro, but growing trade deficits with China, Japan, and other Pacific Rim countries, this should continue to put downward pressure on the dollar vs. these currencies as dollars are exported out of the country.
3 www.futuresmag.com
“Dollar slumps ahead of further trade deficit swelling,” May 12, 2006 5

Figure 1: Economic Data
Figure 2: US Dollar values in Foreign Currencies
What to expect?
Given the snapshot above, the future economic environment will be most conducive to sectors and stocks that fare best during moderate domestic growth, moderately increasing interest rates, and a weak and/or declining dollar.
6

Fundamentals
The S&P 500 has grown 2.4% through May 25 th
, but is down 2.6% since May 1 st
. What was shaping up to be a solid year of growth has ground to a halt over fears of continuing interest rate hikes stalling the economy. Rising interest rates also increase the attractiveness of Treasuries and other fixed income securities. In addition, rising interest rates may finally deflate the real estate “bubble.” While a deflation is not necessarily bad equity markets, it could spur a sell-off as housing starts are an indicator of economic health. The key moment for the rest of the year is likely the June 2006 Fed meeting. If the Fed does not increase interest rates, we likely will see a rally that will recover at least the 2.6% lost this month. Another 25bp rate increase, however, likely will spark a broader and deeper sell-off than seen after the May 19 th
increase.
Outside of interest rates, the weakness of the US dollar means that the bull market for foreign stocks (and US firms with major overseas revenues) should continue for the third straight year.
Investors will need to be wary of rich valuations, particularly Chinese and other Emerging
Market firms, as higher interest rates may cool interest in those markets. High energy prices should continue to pump up profits and stock prices in the Energy sector for the remainder of the year, although the cooling of other commodities markets means metals such as gold, copper, and iron may not have as robust a 2006 as 2005.
Technicals
For the S&P 500, long and short-term charts are now bearish; as the pullback sparked by the
May 19 th Fed increase broke the $1,300 50-day moving average and threatened the roughly
$1,250 200-day moving average (and possible resistance line) before rally last week. The index’s MACD has also sunk to a late October 2005 low, exhibiting further bearish signals.
Figure 3: 52-wk Trend chart for the S&P 500
7

Structure
The Telecom Services sector is a bi-polar sector. One half is the defensive Wireline Services industry, primarily local exchange and long distance services. This industry is dominated by 4 large firms (AT&T, Verizon, Bell South, and Qwest) that operate as regulated monopolies in separate geographic regions. The other half is the fast-growing, technology savvy Wireless
Services industry. This industry is dominated by 4 large national providers (Cingular, Verizon,
Sprint-Nextel, and T-Mobile USA); although there is a “second tier” of regional operators
(Alltel, Qwest, US Cellular) that command significant market share in their respective regions.
With the exception of data services, the Wireline industry is clearly in a decline state. 2005 marked the 5 th
straight year of decline in active landlines in the U.S., with local exchange revenues declining 1.8% and long distance revenues declining 0.7%. These trends showed no signs of reversal during the first quarter of 2006. To counter these declines, firms in this industry have expanded into complementary products, specifically Wireless, Broadband Internet (DSL), and most recently Satellite TV offerings. While these expansions have helped slow the decline of customers, broadband internet access grew 20.8% in 2005 for example; they have not yet achieved the revenue base necessary to completely offset the losses suffered since 2001 in their core businesses.
4
In contrast, the Wireless industry is in a mid-to-late stage growth state, having grown revenues
14.8% in 2005 vs. 2004 and Minutes-of-Use (MOUs) 34%. Almost all of the large wireless firms reported robust customer base growth in the first quarter of 2006, with revenues being driven by various content services (i.e. internet access and text messaging). What concerns some investors, however, is the now 70% market penetration rate and consistently declining average revenues per customer. Another concern is the heavy technology investments (up to $7B in
2005) needed to continue upgrading networks to enable more sophisticated features and content.
4
Analysis
The Telecom Sector is slightly cyclical in nature and has tended to outperform the market during high market growth and underperform during lackluster growth. However, as we can see from
Figure 4 , since the 2002 crash the sector has underperformed the market by about 800bp per year. This is a result of weak financial performance and a loss of favor with growth investors.
As the Fed tightening continues, higher interest rates will further affect firms with high debt levels. However, if this sector reverts to prior form, continued economic expansion should lead to revenues and earnings that slightly outperform the market. In addition, value investors and contrarians will find this sector attractive as earnings and other fundamentals showed improvement in 2005 ( see Figure 5 ).
4 Telecommunications Industry Association, 2005 Annual Report 8

Figure 4: Price Comparison of Telecom Sector to S&P 500
Figure 5: Key Sector Ratios
2005 2004
EBITDA
EBIT
Net Profit Margin
2003 2002
34.78% 34.08% 34.72% 27.89%
16.53% 15.31% 15.22% 7.94%
9.63% 9.17% 9.40% 10.34%
LT Debt/Equity 64.97% 93.47% 97.97% 123.93%
Source: StockVal
Trends
Since the Telecom sector’s stock crash in 2002, there has been an emergence of 3 distinct trends:
1) Industry consolidation; 2) Increased market entry; and 3) Industry convergence .
Since the Telecommunications Act of 1996 was passed, Wireline industry leaders have been acquiring smaller, lagging firms to build scope and scale for two main reasons: 1) Compete against market interlopers; and 2) Acquire prized assets to improve their strategic positioning.
The culmination of this consolidation was likely reached in March 2006 with the proposed $64B acquisition of Bell South by AT&T, Inc (formerly SBC). If successful, the merged AT&T-Bell
South entity will have re-united approximately 70% of the former AT&T monopoly (aka “Ma
Bell”) broken up by the U.S. government in 1983. It will also unite the ownership of Cingular
Wireless, the largest wireless provider in terms of customer base and revenue, under one
9

management team. On the Wireless side, the acquisition of AT&T Wireless by Cingular and
Nextel Corporation by Sprint in 2005 has reduced the number of national wireless providers from 6 to 4.
Despite this consolidation, new market entry has continued in this sector. The most aggressive interlopers have been cable firms like Comcast Corporation and Time Warner’s Cable division and new start-ups offering Voice over Internet Protocol telephony services (or VoIP). These firms are already offering low-priced wireline services that in many cases substantially undercut previous market prices. Additionally, through a partnership with Sprint-Nextel, cable firms will add wireless services to those packages by the end of the year. To counter, the major wireline telecom firms have formed partnerships with either DIRECTV or Echostar to offer satellite TV services in their product bundles. Additionally, the two largest firms in this sector, Verizon and
AT&T, have begun expensive broadband network upgrades to add improved broadband internet and video/TV offerings to their local customer packages.
On the wireless side, technological improvements in wireless handheld device and investment in network upgrades have allowed Wireless firms to offer increasingly sophisticated broadband internet, messaging, and other content services. This trend is expected to continue, with wireless providers forming joint ventures with leading content and/or software firms to enable more advanced features and another expensive network upgrade (from 2G to 3G technology) is likely to complete in the next 1-2 years. In addition, the increasing quality and capability of wireless services has contributed to wireline losses, as customers are cancelling traditional services as they utilize wireless phones more in their daily activities.
The net of these trends is an industry convergence of the entire Telecom Sector with the Cable
TV industry (Consumer Discretionary Sector), and the Internet Service industry (Technology
Sector). Successful firms (regardless of their original sector) will offer “one-stop shopping” packages of TV, internet, wireline and wireless services to consumers at prices well below current market rates for stand-alone services. This will benefit consumers, but it is unclear at this point if it benefits these industries, as price/margin pressure will only increase.
Bottom Line
Looking forward, increased competition will put pressure on wireline, wireless, and cable TV margins. A price war is not out of the question as margins compress and firms attempt to maintain customer growth/scale. Look for further sector consolidation to be the end result of these trends.
Both Verizon and AT&T have the size to acquire any telecom or cable firm they want. Cable firms and national Wireless firms will make strategic acquisitions of wireless spectrum and mid-tier/regional wireless firms to expand network coverage and market share in key markets. Additionally, the migration of customers from wireline telecom and internet services to their wireless equivalents will accelerate as wireless technologies improves.
This will ensure increasing demand for add-on services even if customer acquisition stagnates. While fundamentals of the sector, particularly for Verizon and AT&T, may weaken in the shortterm, the Telecom sector, and the Wireless industry in particular, will exhibit superior 3-5 year growth.
10

Verizon Communications, Inc. is the 2 nd
largest telecommunications company in the world. The company accounts for 16% of U.S.
Figure 6: Sales by Division
Year 2005
Sales ($Mill)
% Change
2004 2003
$75,112 $71,283 $67,752
5.4% 5.2% 1.8% telecom revenues and 6.5% of Domestic Telecom $37,616 $38,021 $39,055 world revenues. In 2005, Verizon achieved record revenues of $75.1B
% Change
Wireless
-1.1% -2.6% -4.4%
$32,301 $27,662 $22,489
% Change 16.8% 23.0% 15.5% up 5.4% from record 2004 levels.
Earnings declined by 5.5%, largely due to a one-time gain reported in
2004. All of these figures exclude
MCI, which was acquired in early
Information Services
% Change
International
% Change
$3,452
-2.7%
$2,193
8.9%
$3,549
-5.7%
$2,014
3.3%
$3,763
-6.8%
$1,949
-12.2%
2006. A brief overview of the company’s individual segment performance will shed light on
Verizon’s revenue success and earnings challenges.
Domestic Telecom
In 2005, Domestic Telecom accounted for approximately 50% of 2005 total operating revenues and 30% of 2005 total net income , making it Verizon’s largest segment. With the acquisition of MCI, these percentages will change to approximately 55% of total operating revenues and 21% of total net income in 2006 . This segment is showing a slow decline, 2.6% annually over the last 3 years, as the company loses wireline customers to competition. After combining MCI with this segment, the rate of decline will increase from 1.1% to 12-15% in
2006, as the MCI business is showing significant customer and revenue losses compared to the existing business. Customer losses will only be partially offset by additional long distance and
DSL revenues, meaning for at least 2006 this acquisition will be dilutive to overall earnings.
The one bright spot in this segment is that market penetration in FL, TX, and VA of its new
FiOS broadband service has already achieved 9-12% market share and is showing significantly reduced churn rates and higher revenues per customer than the DSL offering it replaces.
Segment Analysis:
With the exception of broadband, where price premiums based upon speed/performance exist, products are considered undifferentiated. As a result, both buyer power and rivalry are high, with price the primary driver of sales. As a regulated monopoly, any price change (even decreases) is subject to regulatory approval, hindering Verizon’s ability to compete effectively on price. Supplier power is low, with the Communications Workers of America (CWA) union being the only supplier with any bargaining power. Barriers to entry in this segment, once considered high due to high costs to build/maintain a network, have become low as wireless, internet, and cable technologies now match traditional networks in sound quality and, with the exception of cable, are available through resellers. The threat of substitution is high, as both cable and wireless offer competitive offerings on both price and quality.
11

Risks:
The primary risks for large players in a declining industry are loss of market share and loss of market size. Verizon cannot do anything about the latter, and substitution is increasing.
Verizon, like its peers, is betting that attractively priced packages of TV, internet, wireline, and wireless services will slow the market share losses, but these only redefine price competition, not end it, as cable companies have shown an ability to counter these offers. Therefore, managing costs will be key to maintaining margins and competitive stance.
Wireless
In 2005, Wireless accounted for approximately 43% of 2005 total operating revenues and
35% of total net income.
Results were strong, as revenues grew 16.8%, customers grew 17.2%, and earnings grew 34.8%. This followed equally strong growth in 2003 and 2004. Decreases in average revenue per customer shaved 0.4% off top-line revenues. Verizon Wireless is recognized as the industry leader in customer loyalty, network coverage, network reliability, profitability, and customer growth. These leadership positions allow it to compete effectively for customers outside of Verizon’s core Wireline markets while enjoying the advantages of being able to market to the embedded base.
Segment Analysis:
Product differentiation is possible in this segment, with network coverage, quality, features (ex.
Push-to-Talk) and wireless content being the major differentiators. The presence of 4 viable competitors for the same customer has increased both Buyer Power and Rivalry, which have put downward pressure on prices. Due to the high costs of establishing a network and performing technology upgrades, barriers to entry are high. However, the recent decision by Sprint-Nextel to sell access its network to cable firms threatens to erode these barriers. Supplier power is moderate to low. The CWA has not yet gotten a foothold in Wireless and industry leaders like
Verizon have been able to consistently lock-in access to new wireless equipment products like the Motorola Q and Razor.
Risks:
There are two major risks for this segment. First, that investor concerns about growth stagnating come true, which would increase price competition in an already competitive market. Second, that cable firms are able to successfully steal significant market share from the incumbent firms, or worse yet, start a price war to try and hurt Telecom’s biggest growth market.
Information Services
In 2005, Information Services accounted for approximately 5% of 2005 total operating revenues and 16% of total net income. Revenues declined 2.7% in 2005, with earnings increasing 7.8%. Like Domestic Telecom, this business is in slow decline, with average annual revenue losses of 4.6%. The main reason for the decline is a continued shift from traditional
12

yellow page advertising to online directory services. This segments SuperPages.com online directory showed an 18% increase in revenues for the same period. As mentioned earlier, this segment has been put up for sale by Verizon management, so the likely go forward strategy is to squeeze as much profit out of this unit in order to make it a more attractive acquisition.
Segment Analysis:
This is another declining industry that is under increasing substitution pressure from online directory services. This segment once enjoyed the same monopoly status as the Domestic
Telecom segment, but given the proliferation of information on the internet, we see no reason why this barrier won’t erode completely. Replacing it will be the competition for online advertising revenues, which ownership of SuperPages.com won’t guarantee capture of every $1 lost from the print side.
Risks:
The main risk to Verizon is that it cannot find a buyer for this segment or, cannot get a fair market price for it. The revenues from this sale have likely been tagged to fund the FiOS build out, retire debt, or fund the acquisition of Vodafone’s 45% stake in Verizon Wireless, so any delays could create some short-term liquidity problems for Verizon management.
International
In 2005, this segment contributed approximately 3% of 2005 total operating revenues and
20% of total net income
, making it Verizon’s smallest segment. The high income/sales ratio is attributable to several unconsolidated businesses in this segment, which contribute profits but no revenues or expenses. The profits of these businesses grew 21.7% in 2005. The primary driver for the 8.9% revenue growth in 2005 was favorable foreign exchange rates in the Domincan
Republic, an asset that was recently sold.
Segment Analysis:
Given the recent sale of all of Verizon’s Latin American assets, as well as the likely divestiture of more assets in the year ahead, it is difficult to analyze the future of this segment or its risks.
The only remaining consolidated asset is the 23% stake in Italian wireless provider Vodafone
Omnitel (“Omnitel”). Given that Omnitel competes against the Italian state-run telecom company and a number of pan-European competitors (ex. Orange), competition for market share is likely intense. Finally, unlike the U.S., there is a common network standard which makes customer migration from one provider to another easier and reduces differentiation of products/services.
Risks:
Given this segment’s small size and Verizon’s need for short-term cash, it is likely that this segment will be completely sold off in the next 1-2 years. For as long as it continues, this segment carries foreign exchange rate risk. For the moment, a weak U.S. dollar helps the
13

earnings of this sector. However, a significant strengthening vs. the euro could change that quite quickly. Focusing on the Omnitel stake, the other remaining risks are continued economic weakness in Europe dragging down performance, increasing competition based on price, as well as the usual EU regulatory risks.
A full set of income statements and balance sheets for Verizon are provided at the end of this paper (pages 22-23 ). What follows is an analytical overview:
Figure 7 summarizes key ratios for Verizon for the past four years. These ratios exclude the recently acquired MCI business.
This figure shows steady decreases in liquidity, decreased leverage, and increased efficiency in the use of assets. Verizon clearly has made an effort to reduce its debt load, and
Figure 7:
Year
Current Ratio
Quick Ratio
2005
0.5
0.66
Asset Turnover 0.45
LT Debt/Equity % 80.3%
2004
0.62
0.84
0.43
95.0%
2003
0.48
0.71
2002
0.57
0.79
0.4
0.4
117.8% 134.9% this along with acquisitions has strained its cash position. Gross margins are eroding, and if the MCI business were added in, would erode further to approximately 61%. This likely is the result of pricing
Gross Margin %
SG&A/Sales
EBITDA %
Net Profit Margin
66.1%
28.4%
35.7%
9.4%
67.5%
29.6%
37.0%
9.8%
67.8%
36.9%
31.2%
10.7%
70.4%
32.5%
33.6%
12.5% pressure and the increased use of low-priced packages to attract
ROA %
EPS Basic
4.2%
$2.52
4.2%
$2.49
4.3%
$2.62
5.0%
$3.03
and retain customers. SG&A on the other hand, has decreased sharply from its 2003 high, and
EBITDA % has increased, indicating that management’s efforts in downsizing its workforce and other cost savings measures have offset the gross margin gains. What is most troubling, however, is the 25% erosion in Net Profit Margins. This is explained by a combination of higher depreciation expense and higher tax rate. What is not seen is that if MCI 2005 results were added in, EPS would drop to $2.08/share, which indicates that there is work ahead to even match the last 4 years results.
A comparison of Verizon to its competitors and the industry ( Figure 8 ) reveals the following: 1)
Verizon’s liquidity is above its closest peers, but mixed vs. deficit to the sector as a whole; 2)
Verizon’s debt is well above its peers and industry norms; 3) Gross margins are the among the best in the industry, but EBITDA and Net Profit margins are at or below comparables, indicating room for improvement on the SG&A side. The lack of liquidity and high debt is problematic, as they should move inversely to each other. What it means is that Verizon has/had too much debt compared to its peers and has reduced liquidity in an attempt to “catch up.” The other interesting comparison is that its biggest cable competitor, Comcast Corp, is below Verizon on almost every metric. This is a good news/bad news situation. The good news is that Verizon will be more able to withstand the increased competition in its core sectors. The bad news is
Comcast’s performance may be a leading indicator that entry into the cable business by Verizon will not be as lucrative as originally thought.
14

Figure 8: Key Comparables
Ratio VZ
Current Ratio
Quick Ratio
Asset Turnover
LT Debt/Equity %
0.66
0.5
0.45
80.3%
T
0.58
0.42
0.34
47.5%
Gross Margin %
SG&A/Sales
EBITDA %
Net Profit Margin
66.1%
28.4%
35.7%
9.4%
56.3%
24.4%
33.8%
13.5%
BLS
0.49
0.34
0.35
55.6%
60.7%
18.8%
44.2%
15.4%
Q
0.75
0.58
0.61
NEG
58.0%
29.8%
27.3%
-3.2%
CMCSA
0.41
0.3
0.21
53.9%
64.9%
26.0%
38.1%
5.0%
Sector
0.78
0.55
0.42
65.0%
61.6%
26.5%
34.8%
9.6%
ROA %
EPS Basic
4.2%
$2.52
Note: Figures in Bold indicate the best for each ratio
The DuPont analysis below confirms that Verizon’s management has successfully increased asset utilization and margins, but neither is back to pre-2002 levels. In addition, despite the margin improvements, like ROA above, ROE continues to erode and is now 7.36% below 2002 levels. Given Verizon’s need for cash, these are all points of concern for the short-term.
Figure 9: DuPont Analysis
4.6%
$1.75
5.5%
$1.73
-1.9%
($0.24)
1.1%
$0.50
4.0%
$1.54
Analysis of Verizon’s cash flows ( see Figure 10 ) shows consistent and significant decreases in
FCF, both before and after dividends. The surprising observation is the spread between the % change and % change after dividends is widening. What this indicates is that Verizon’s current
15

cash burn rate is unsustainable. Based on the current rate of decline, without improvements in cash flows, Verizon will be forced to cut its dividend in the next 2-3 fiscal years.
Figure 10: Analysis of Cash Flows
Year 2005 2004 2003 2002
FCF before Dividends
% Change
3-Year Mean
FCF after Dividends
% Change
3-Year Mean
$6,688
-21.9%
-7.9%
$2,125
-49.4%
-16.6%
$8,561
-19.2%
$4,201
-33.3%
$10,593
17.3%
$6,298
33.0%
$9,030
$4,735
Net Cash Position
% Change
3-Year Mean
$3,274
-28.0%
4.7%
$4,547
60.0%
$2,841
-18.0%
$3,464
All numbers in Millions $
What is also alarming is that Verizon is currently spending 2.5X ($15.3Bin 2005 vs. $6.2B) the sector average on capital expenditures, with another increase to $17.0B planned in 2006. In addition, despite having 2X the Net Cash from Operations than the sector average, Verizon in
2005 reported lower FCF than the sector, largely driven by the increased capital expenditures and early debt retirement. The extra funds are being used for the FiOS build-out as well as improvements in Verizon’s wireless network. While growing investment by a company in its business is normally good, this sort of difference in expenditures may signal an overinvestment issue and sub-par returns to shareholders.
Forecasted Earnings
See the Income Stmt. on page 21 for a complete earnings forecast. The highlights are below:
Figure 11: Earnings Forecast
Year 2005 2006E 2007E 2008E
EPS Estimates
Consensus Estimates
$2.52
$2.14 $2.51
$2.54
$2.55
$2.68
$2.75
High $2.68
$3.01
$3.10
Low $2.45
$2.51
$2.50
Figure 11 above shows that my estimates are on the lower end of analyst estimates, with the
2006 estimate actually being below. This reflects the anticipated dilution impact of MCI to short-term earnings along with more modest assumptions than analysts about Verizon’s ability to grow Wireless and FiOS revenues in the medium to long-term. Despite this conservatism (or pessimism, take your pick), my target price is still within the consensus analyst forecast range
($40 High, $32 Low, $38 Median) reported by Thomson/First Call.
16

In pulling the information apart, my revenue growth rate is actually flat in 2006-2008, reflecting the flat Q1 2006 vs. the combined VZ-MCI results in Q1 2005 growing to a peak of
2.87% in 2011 before settling back to the 2.45% range. Consensus growth estimates are more aggressive, averaging 5.2% for the next 10 years. My model estimates growth in the Wireless segment to be 15% in 2006, which is reasonable given recent trends, but this declines to just 5% by 2009 as scale is achieved. I am also expecting earnings growth of 3.1%, which is stronger than the 1.5% expected over the next 10 years by analysts. Complicating my analysis is the inlimbo status of the Information Services and International segments. I included them, leading to the stronger EPS growth, but sale of these assets (excl. any one time gains) would negatively impact earnings in the short term, given they represented almost 36% of 2005 net income and expected FiOS margins cannot be substantially more than the 5% calculated for Comcast above.
This indicates that analysts are more optimistic in the short-term about Verizon’s ability to continue to grow Wireless and turn the Domestic Telecom business around, while I am more bullish in the long-term.
Given the recent margin and revenue trends and the current competitive environment, I would rather be conservative than aggressive.
Based on every measure in Figure 12 below, Verizon is cheap on a 5-year absolute basis.
Price/EBITDA and Price/Sales are approaching 5-year lows. Ten-year absolute measures tell the same story, although the record prices achieved prior to the 2001-2002 stock market crash distort both range and mean calculations, making Verizon look even cheaper.
Figure 12: Verizon Absolute Valuation Measures
17

Figure 13 below and my income statement and cash flow projections were used to estimate
Verizon’s target price. The notable statistic is the projected decline in the Price/Cash Flow position. This was made due to the declining historical FCF trends noted earlier and the negative impact MCI will have on Verizon’s FCF. Even with this low multiple, the target price if achieved would represent a nice return to investors.
Figure 13: Valuation using Multiples
Figures 14 and 15 show Verizon’s valuation relative to the entire Telecom Sector and the S&P
500. Both show Verizon to be cheap compared to both its sector and the market, with the only exception being Price/1-Yr. EPS, where it is trading in line with its mean.
Figure 14: Verizon vs. Telecom Sector
18

Figure 15: Verizon vs. S&P 500
Discounted Cash Flow Model
A complete DCF for each of Verizon’s segments may be found on pages 24-27. Figures 16 and 17 shows the sensitivity output generated by these models.
The blended average discount rate for
Figure 16: Stock Price Calculations
VZ Stock Price Sensitivity Analysis
Verizon is 8.1%, Discount Rate which matches closely
6.0% 7.0% 8.1% 9.0% 10.0% to the 8.8% used by
1.0% $42.48
$35.16
$29.77
$26.65
$24.05
several states as
2.0% $49.98
$39.68
$32.56
$28.62
$25.44
Verizon’s cost of
3.0% $62.50
$46.45
$36.45
$31.26
$27.22
capital. A conservative terminal
4.0% $87.53
$57.74
$42.23
$34.94
$29.60
growth rate
5.0% $162.62
$80.31
$51.74
$40.46
$32.93
of 3% was used, as history has shown how quickly businesses can transition from growth to mature to decline in this industry. It is also important to note that these calculations do not include the current 5.1% dividend yield of Verizon . What is also clear is the knife edge that these valuation stand upon. A change of 1% or 2% in either the terminal growth rate or the discount rate can mean the difference between a buy and sell recommendation for this stock.
Based upon this, it is crucial for Verizon to execute its current strategy effectively.
19

Figure 17: Stock Price Returns
VZ Stock Price Sensitivity Analysis
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
Discount Rate
7.0%
34.9% 11.7%
58.7% 26.0%
8.1%
-5.5%
3.4%
98.5% 47.5% 15.8%
9.0%
-15.4%
-9.1%
-0.7%
10.0%
-23.6%
-19.2%
-13.6%
178.0% 83.4% 34.1% 11.0%
416.4% 155.0% 64.3% 28.5%
-6.0%
4.6%
Figure 18: Equity Value per SBU
SBU
Value per Share
$10.83
$14.67
$3.52
$7.43
$36.45
Deconstructing the DCF valuation into its separate segment components ( see Figure 18 ), we see that Wireless will soon surpass Domestic Telecom as this largest and most valuable segment for
Verizon, despite the fact that 45% of earnings are being paid to Vodafone. Should the long rumored buyout of Vodafone occur, that would add $12/share to the equity value of Verizon without any premiums or dilution effects. What is also significant is that despite their small size, the Information Services and International segments contribute 30% of Verizon’s equity value.
This is the end product of high net income margins coupled with little to no capital expenditures, depreciation, or net working capital changes.
Simple Factor Model
Multiple regression analysis comparing changes in Verizon’s stock price to the following variables was performed. The regression tables for each can be found on pages 28-30
1.
Changes in GDP (R
2
= 0.56%)
2.
Changes in Consumer Confidence (R 2 = 6.5%)
3.
Changes in CPI – Services (R
2
= 6.5%)
4.
Changes in the Fed Funds Rate (R
2
= 3.5%)
5.
Changes in the S&P 500 (R 2 = 9.2%)
6.
Changes in all 5 factors combined (R
2
= 23.9%)
20

Given the low R
2
for all of these analyses, no effective single or multi-factor model can be developed to predict Verizon’s performance. This is particularly surprising, as Verizon itself listed interest rate changes as a key risk factor in its 2005 Annual Report.
The following table outlines the key arguments for and against owning Verizon stock:
Pros
1.
Market leader in Wireline and Wireless industries
2.
Has successfully build size and scope to fend off competition
3.
Stock looks cheap using both absolute
Multiples and DCF valuations
4.
High dividend yield will buttress any short-term downside investor risk
5.
Earnings results prior to MCI acquisition were starting to rebound
Cons
1.
Bottom line feeling impact of weak demand for its traditional Wireline offerings. 2006 earnings appear set for, at best, flat growth vs. 2005.
2.
MCI acquisition is diluting results.
3.
Financial position is slowing eroding and below peers, particularly liquidity and ability to generate positive FCF.
4.
Investment in FiOS expansion risky, particularly since highly profitable assets are being sold to help fund.
5.
Shareholder dilution is likely should
Vodafone’s 45% stake in Verizon
Wireless be purchased.
6.
Poor stock performance
Verizon is a market leader in one declining industry (Wireline) and one growing industry
(Wireless). Its size and scope will clearly allow it to survive any prolonged competitive struggle for customers and market share. However, the net of its leadership positions is a mediocre growth company whose financial performance has lagged its sector and the market. Questions linger about its return on the MCI acquisition, its FiOS build-out, and the possible share dilution of an acquisition of Vodafone’s stake in its Wireless business segment. Therefore, I believe that its current cheap valuation is less a mispricing of the stock than an adjustment to its required returns by the market given the current risk profile.
Given these concerns, which will likely take the balance of the year to resolve, it is likely that
Verizon’s share price will not be moving anywhere quickly in the next 6 to 12 months, giving less risk tolerant investors ample opportunity to pick these shares up at a reasonable entry price.
Should most or all of these issues be resolved favorably, Verizon’s future performance offers attractive 3-5 year appreciation potential.
Final Recommendation: HOLD
Sector Recommendation: Increase to EQUAL WEIGHT
21

Verizon Communications Inc. (includes MCI, Inc.)
Pro Forma Income Statement
Actual
($ Millions)
Revenues
Cost of services and sales
Gross Margin
2003
$ 91,734
36,469
55,265
2004
36,393
55,580
2005E
$ 93,699
37,877
55,822
2006
$ 93,645
35,241
58,404
Projected
2007
$ 93,625
34,391
59,233
2008
$ 93,767
33,818
59,949
Operating Expenses
Selling, general & administrative expense
Depreciation and amortization expense
Total Operating Expenses
EBITDA
Minority interest
Other income and (expense), net
EBIT
Interest expense
Earnings Before Income Taxes, Discontinued
Operations and Effect of Accounting Change
Provision for income taxes
Income Before Discontinued Operations
and Accounting Changes
31,373
15,923
47,296
26,308
15,834
42,142
25,839
15,324
41,163
7,969
(1,583)
22,260
28,646
(2,902)
13,438
(2,409)
107
11,136
(2,786)
14,659
(3,045)
237
11,851
(2,640)
25,851
15,798
41,649
26,365
14,867
41,232
26,762
14,763
41,526
16,755
(3,920)
432
13,267
(3,124)
18,001
(4,390)
1,132
14,744
(3,000)
18,423
(4,719)
1,132
14,836
(2,918)
25,744 8,350 9,211 10,144 11,744 11,918
(1,522) (3,371) (3,115) (4,004) (4,551) (4,641)
24,222 4,979 6,095 6,140 7,193 7,277
Discontinued Operations
Income (loss) from operations
Provision for income taxes
Income (loss) on discontinued operations
Effect of Accounting Changes, Net
(912)
(17)
(929)
288
1,142
(546)
596
-
82
-
82
-
-
-
-
-
-
-
-
-
-
-
-
-
Net Income
Wtd Avg # of common shares (in millions)
Basic EPS
Analyst Consensus EPS
$ 23,581
3,077
$7.66
3,091
$1.80
2,963
$2.08
$ 6,140 $ 7,193 $ 7,277
2,863
$2.14
$2.55
2,863
$2.51
$2.68
2,863
$2.54
22

($ Millions) 2003 2004 2005
Assets
Cash and cash equivalents
Short-term investments
Accounts receivable, net
Inventories
Assets of discontinued operations
Assets held for sale
Prepaid expenses
Other current assets
Total current assets
$ 6,847
2,187
14,202
1,262
705
176
4,610
1,434
31,423
$ 6,739
3,312
12,656
1,535
-
960
2,933
437
28,572
$ 1,249
2,678
10,617
1,647
-
-
2,438
-
18,629
Net PP&E
Investments in unconsolidated businesses
Wireless licenses
Goodwill
Other intangible assets, net
Other assets
Total non-current assets
Total Assets
Liabilities and Shareowners' Investment
Current Portion of long-term debt
Accounts payable and accrued liabilities
Liabilities of discontinued operations
Liabilities related to assets held for sale
Other
Total current liabilities
Long-term debt
Employee benefit obligations
Deferred income taxes
Other liabilities
Minority interest
Total non-current liabilities
Common stock
Contributed capital
Retained Earnings
Accumulated other comprehensive loss
Common stock in treasury, at cost
Total shareowners' investment
Total Liabilities and Shareowners' Investment
86,840 80,383 82,270
6,027
40,907
835
6,787
20,619
75,175
4,865
42,090
837
5,512
19,197
72,501
3,918
48,221
5,740
5,497
18,539
81,915
$ 193,438 $ 181,456 $ 182,814
$ 6,297
18,748
76
23
10,246
35,390
46,530
16,754
22,911
4,417
25,498
116,110
$ 3,617
15,545
-
540
9,630
29,332
-
41,583
17,941
22,550
4,769
25,053
111,896
$ 8,436
14,442
-
-
8,034
30,912
34,614
19,669
20,926
4,544
27,378
107,131
277
33,835
9,409
(1,250)
(115)
(218)
41,938
277
32,210
8,982
(1,075)
(142)
(24)
40,228
294
30,379
16,290
(1,655)
(677)
140
44,771
$ 193,438 $ 181,456 $ 182,814
23

Verizon Communications Inc. (includes MCI, Inc.)
Domestic Telecom DCF
Profit and Loss
Total Operating Revenues
Annual growth %
COGS
Annual growth %
% of Sales
Gross Margin
% of Sales
SG&A
% of Sales
EBITDA
Depreciation & Amortization
% of Sales
EBIT
Interest Expense
% of Sales
Taxes
Effective Tax Rate
Other Income (Expense)
Net Income
Cashflow
NWC - Total Firm
Segment NWC Allocation
Allocation %
Change in NWC (%)
Net Income
Add: Depreciation/Amortiz.
Change in NWC
CAPX
Cash Flow
2003
$63,321.0
($29,280.0)
-46.2%
$34,041.0
53.76%
($14,842.0)
-23.4%
$19,199.0
($11,423.0)
-18.0%
$7,776.0
($1,753.0)
-2.8%
($1,854.0)
-30.8%
$22,264.0
$26,433.0
Actual
2004
$59,745.0
-5.6%
($27,737.0)
-5.3%
-46.4%
$32,008.0
53.57%
($13,583.0)
-22.7%
$18,425.0
($11,031.0)
-18.5%
$7,394.0
($2,050.0)
-3.4%
($1,647.0)
-30.8%
$126.0
$3,823.0
-14.8%
2005
$57,641.7
2006
$48,687.6
-3.5% -15.53%
($26,920.0) ($22,883.2)
-2.9%
-46.7%
3.7%
-47.00%
$30,721.7
53.30%
$25,804.4
53.00%
($12,889.7) ($10,954.7)
-22.4% -22.50%
$17,832.0
($10,384.3)
-18.0%
$7,447.7
($2,108.0)
-3.7%
($2,072.3)
-38.8%
$297.0
$3,564.3
$14,849.7
($9,524.0)
-18.02%
$5,325.7
($2,190.9)
-4.5%
($1,253.9)
-40%
($700.0)
$1,180.9
2003
-$4,517.0
-$3,117.9
69.0%
2004
-$3,882.0
-$2,521.7
65.0%
-14.1%
$3,823.0
$11,031.0
$596.2
($7,118.0)
$8,332.2
2005
-$5,096.0
-$3,135.0
61.5%
31.3%
$3,564.3
$10,384.3
($613.2)
($8,267.0)
$5,068.4
2006
-$4,331.6
-$2,252.1
52.0%
-15.0%
$1,180.9
$9,524.0
$882.9
($8,759.8)
$2,828.0
2007
$43,818.8
-10.00%
($20,594.9)
-5.3%
-47.00%
$23,224.0
53.00%
($9,859.2)
-22.50%
$13,364.7
($7,894.1)
-18.02%
$5,470.6
($1,971.8)
-4.5%
($1,399.5)
-40%
$0.0
$2,099.3
2008
$40,532.4
-7.50%
($19,050.2)
1.0%
-47.00%
$21,482.2
53.00%
($9,119.8)
-22.50%
$12,362.4
($7,302.0)
-18.02%
$5,060.3
($1,824.0)
-4.5%
($1,294.6)
-40%
$0.0
$1,941.8
2007
-$3,681.9
-$1,723.2
46.8%
-15.0%
$2,099.3
$7,894.1
$528.9
($8,759.8)
$1,762.4
2008
-$3,129.6
-$1,352.8
43.2%
-15.0%
$1,941.8
$7,302.0
$370.4
($8,759.8)
$854.5
2009
$38,505.8
-5.00%
($18,097.7)
1.0%
-47.00%
$20,408.1
53.00%
($8,663.8)
-22.50%
$11,744.3
($6,936.9)
-18.02%
$4,807.3
($1,732.8)
-4.5%
($1,229.8)
-40%
$0.0
$1,844.7
2009
-$2,660.1
-$1,118.0
42.0%
-15.0%
$1,844.7
$6,936.9
$234.8
($8,759.8)
$256.7
Projected
2010 2011 2012 2013
$37,543.2
$37,543.2
$37,543.2
$37,543.2
-2.50% 0.00% 0.00% 0.00%
($17,645.3) ($17,645.3) ($17,645.3) ($17,645.3)
0.0%
-47.00%
0.0%
-47.00%
0.0%
-47.00%
0.0%
-47.00%
$19,897.9
$19,897.9
$19,897.9
$19,897.9
53.00% 53.00% 53.00% 53.00%
($8,447.2) ($8,447.2) ($8,447.2) ($8,447.2)
-22.50% -22.50% -22.50% -22.50%
$11,450.7
$11,450.7
$11,450.7
$11,450.7
($6,763.5) ($6,763.5) ($6,763.5) ($6,763.5)
-18.02%
$4,687.1
-18.02%
$4,687.1
-18.02%
$4,687.1
-18.02%
$4,687.1
($1,689.4) ($1,689.4) ($1,689.4) ($1,689.4)
-4.5% -4.5% -4.5% -4.5%
($1,199.1) ($1,199.1) ($1,199.1) ($1,199.1)
-40%
$0.0
$1,798.6
-40%
$0.0
$1,798.6
-40%
$0.0
$1,798.6
-40%
$0.0
$1,798.6
2010
-$2,261.1
-$923.1
40.8%
-15.0%
Projected
2011
-$1,922.0
-$761.6
39.6%
-15.0%
2012
-$1,633.7
-$627.8
38.4%
-15.0%
2013
-$1,388.6
-$516.9
37.2%
-15.0%
$1,798.6
$6,763.5
$194.8
$1,798.6
$6,763.5
$161.5
$1,798.6
$6,763.5
$133.8
$1,798.6
$6,763.5
$110.8
($8,759.8) ($8,759.8) ($6,763.5) ($6,763.5)
($2.8) ($36.1) $1,932.5
$1,909.4
Terminal Discount Rate =
Terminal FCF Growth =
2014
$37,543.2
0.00%
($17,645.3)
0.0%
-47.00%
$19,897.9
53.00%
($8,447.2)
-22.50%
$11,450.7
($6,763.5)
-18.02%
$4,687.1
($1,689.4)
-4.5%
($1,199.1)
-40%
$0.0
$1,798.6
2014
-$1,180.3
-$425.2
36.0%
-15.0%
$1,798.6
$6,763.5
$91.7
($6,763.5)
$1,890.3
5.0%
0.0%
2015
$37,543.2
0.00%
($17,645.3)
0.0%
-47.00%
$19,897.9
53.00%
($8,447.2)
-22.50%
$11,450.7
($6,763.5)
-18.02%
$4,687.1
($1,689.4)
-4.5%
($1,199.1)
-40%
$0.0
$1,798.6
2015
-$1,003.3
-$349.4
34.8%
-15.0%
Terminal
$1,798.6
$6,763.5
$75.8
($6,763.5)
$1,874.4
$37,508.9
NPV $33,274.26
$93,645.1
0.519916152
$6,140.3
0.192313553
24

Verizon Communications Inc. (includes MCI, Inc.)
Wireless DCF
Terminal Discount Rate =
Terminal FCF Growth =
10.0%
3.0%
Profit and Loss
Total Operating Revenues
Annual growth %
COGS
Annual growth %
% of Sales
Gross Margin
% of Sales
SG&A
% of Sales
EBITDA
Depreciation & Amortization
% of Sales
EBIT
Interest Expense
% of Sales
Taxes
Effective Tax Rate
Other Income (Expense)
Net Income
Cashflow
NWC - Total Firm
Segment NWC Allocation
Allocation %
Change in NWC (%)
Net Income
Add: Depreciation/Amortiz.
Change in NWC
CAPX
Cash Flow
NPV
2003
$22,489.0
15.5%
($6,460.0)
18.4%
-28.7%
$16,029.0
71.27%
($8,057.0)
-35.8%
$7,972.0
($3,888.0)
-17.3%
$4,084.0
($626.0)
-2.8%
($848.0)
-24.5%
($1,527.0)
$1,083.0
Actual
2004
$27,662.0
23.0%
($7,747.0)
19.9%
-28.0%
$19,915.0
71.99%
($9,591.0)
-34.7%
$10,324.0
($4,486.0)
-16.2%
$5,838.0
($661.0)
-2.4%
($1,265.0)
-24.4%
($2,267.0)
$1,645.0
2005
$32,301.0
16.8%
($9,393.0)
21.2%
-29.1%
$22,908.0
70.92%
($10,768.0)
-33.3%
$12,140.0
($4,760.0)
-14.7%
$7,380.0
($601.0)
-1.9%
($1,598.0)
-23.6%
($2,962.0)
$2,219.0
2003
-$4,517.0
-$1,107.4
24.5%
2004
-$3,882.0
-$1,167.6
30.1%
-14.1%
$1,645.0
$4,486.0
($60.2)
($5,633.0)
$437.8
2005
-$5,096.0
-$1,756.8
34.5%
31.3%
$2,219.0
$4,760.0
($589.2)
($6,484.0)
($94.2)
Total DCF Value Verizon Stake Vodafone Stake
$79,815.46
$43,898.50
$35,916.96
2006
$39,658.5
15.00%
($11,104.4)
18.2%
-28.0%
$28,554.1
72.00%
($13,206.3)
-33.30%
$15,347.8
($5,844.2)
-14.74%
$9,503.6
($793.2)
-2.0%
($2,090.5)
-24%
($3,919.7)
$2,700.2
2006
-$4,331.6
-$1,834.4
42.3%
-15.0%
$2,700.2
$5,844.2
($77.7)
($7,000.0)
$1,466.8
2007
$44,417.5
2008
$47,748.8
2009
$50,136.3
2010 2011
Projected
$52,643.1
$55,275.2
2012
$57,486.3
2013
$59,785.7
2014
$62,177.1
2015
$64,042.4
12.00% 7.50% 5.00% 5.00% 5.00% 4.00% 4.00% 4.00% 3.00%
($12,436.9) ($13,369.7) ($14,038.2) ($14,740.1) ($15,477.1) ($16,096.2) ($16,740.0) ($17,409.6) ($17,931.9)
12.0%
-28.00%
$31,980.6
7.5%
-28.00%
$34,379.2
5.0%
-28.00%
5.0%
-28.00%
$36,098.1
$37,903.0
5.0%
-28.00%
$39,798.2
4.0%
-28.00%
$41,390.1
4.0%
-28.00%
$43,045.7
4.0%
-28.00%
$44,767.5
3.0%
-28.00%
$46,110.6
72.00% 72.00% 72.00% 72.00% 72.00% 72.00% 72.00% 72.00% 72.00%
($14,791.0) ($15,900.4) ($16,695.4) ($17,530.1) ($18,406.7) ($19,142.9) ($19,908.6) ($20,705.0) ($21,326.1)
-33.30%
$17,189.6
-33.30%
$18,478.8
-33.30%
$19,402.7
-33.30%
$20,372.9
-33.30%
$21,391.5
-33.30%
$22,247.2
-33.30%
$23,137.1
-33.30%
$24,062.6
-33.30%
$24,784.4
($6,545.5)
-14.74%
$10,644.0
($888.4)
-2.0%
($2,341.4)
-24%
($4,390.1)
$3,024.3
($7,036.5)
-14.74%
$11,442.3
($955.0)
-2.0%
($2,517.0)
-24%
($4,719.3)
$3,251.1
($7,388.3) ($7,757.7) ($8,145.6) ($8,471.4)
-14.74%
$12,014.5
-14.74%
$13,245.9
-14.74%
$13,775.8
($1,002.7) ($1,052.9) ($1,105.5) ($1,149.7)
-2.0%
($2,642.8)
-24%
($4,955.3)
$3,413.6
-14.74%
$12,615.2
-2.0%
($2,775.0)
-24%
($5,203.0)
$3,584.3
-2.0%
($2,913.7)
-24%
($5,463.2)
$3,763.5
-2.0%
($3,030.3)
-24%
($5,681.7)
$3,914.1
($8,810.3) ($9,162.7) ($9,437.5)
-14.74%
$14,326.8
-2.0%
($3,151.5)
-24%
($5,909.0)
$4,070.6
-14.74%
$14,899.9
($1,195.7) ($1,243.5) ($1,280.8)
-2.0%
($3,277.5)
-24%
($6,145.4)
$4,233.5
-14.74%
$15,346.9
-2.0%
($3,375.8)
-24%
($6,329.7)
$4,360.5
2007
-$3,681.9
-$1,746.8
47.4%
-15.0%
$3,024.3
$6,545.5
$87.7
($7,270.8)
$2,386.6
2008
-$3,129.6
-$1,593.7
50.9%
-15.0%
$3,251.1
$7,036.5
$153.1
($7,541.7)
$2,898.9
2009
-$2,660.1
-$1,380.9
51.9%
-15.0%
$3,413.6
$7,388.3
$212.7
($7,812.5) ($8,083.4) ($8,354.2) ($8,625.0)
$3,202.1
2010
-$2,261.1
-$1,196.4
52.9%
-15.0%
Projected
2011
-$1,922.0
-$1,036.2
53.9%
-15.0%
$3,584.3
$7,757.7
$184.5
$3,443.2
$3,763.5
$8,145.6
$160.2
$3,715.2
2012
-$1,633.7
-$897.1
54.9%
-15.0%
$3,914.1
$8,471.4
$139.1
$3,899.5
2013
-$1,388.6
-$776.4
55.9%
-15.0%
$4,070.6
$8,810.3
$120.7
($8,895.9) ($9,166.7) ($9,437.5)
$4,105.7
2014
-$1,180.3
-$671.7
56.9%
-15.0%
$4,233.5
$9,162.7
$104.7
$4,334.1
2015
-$1,003.3
-$581.0
57.9%
-15.0%
$4,360.5
$9,437.5
$90.7
$4,451.2
Terminal
$63,603.3
25

Verizon Communications Inc. (includes MCI, Inc.)
Information Services DCF
Terminal Discount Rate =
Terminal FCF Growth =
5.0%
-2.0%
Profit and Loss
Total Operating Revenues
Annual growth %
COGS
Annual growth %
% of Sales
Gross Margin
% of Sales
SG&A
% of Sales
EBITDA
Depreciation & Amortization
% of Sales
EBIT
Interest Expense
% of Sales
Taxes
Effective Tax Rate
Other Income (Expense)
Net Income
Cashflow
NWC - Total Firm
Segment NWC Allocation
Allocation %
Change in NWC (%)
Net Income
Add: Depreciation/Amortiz.
Change in NWC
CAPX
Cash Flow
2003
$3,763.0
-6.8%
($554.0)
-14.6%
-14.7%
$3,209.0
85.28%
($1,387.0)
-36.9%
$1,822.0
($79.0)
-2.1%
$1,743.0
($38.0)
-1.0%
($716.0)
-42.0%
($2.0)
$987.0
Actual
2004
$3,549.0
-5.7%
($542.0)
-2.2%
-15.3%
$3,007.0
84.73%
($1,319.0)
-37.2%
$1,688.0
($87.0)
-2.5%
$1,601.0
($33.0)
-0.9%
($609.0)
-38.8%
$9.0
$968.0
2003
-$4,517.0
-$185.3
4.1%
2004
-$3,882.0
-$149.8
3.9%
-14.1%
$968.0
$87.0
$35.5
($87.0)
$1,003.5
2005
$3,452.0
-2.7%
($593.0)
9.4%
-17.2%
$2,859.0
82.82%
($1,107.0)
-32.1%
$1,752.0
($92.0)
-2.7%
$1,660.0
$0.0
0.0%
($626.0)
-37.7%
$10.0
$1,044.0
2006
$2,511.0
-27.26%
($431.4)
-27.3%
-17.2%
$2,079.6
82.82%
($853.7)
-34.00%
$1,225.9
($90.8)
-3.62%
$1,135.1
$0.0
-4.5%
($431.3)
-38%
$10.0
$713.8
2005
-$5,096.0
-$187.7
3.7%
31.3%
$1,044.0
$92.0
($37.9)
($80.0)
$1,018.1
2006
-$4,331.6
-$116.1
2.7%
-15.0%
$713.8
$90.8
$71.6
($80.0)
$796.2
2007
$2,460.8
-2.00%
($422.7)
-2.0%
-17.18%
$2,038.1
82.82%
($836.7)
-34.00%
$1,201.4
($89.6)
-3.62%
$1,111.8
$0.0
-4.5%
($422.5)
-38%
$10.0
$699.3
2007
-$3,681.9
-$96.8
2.6%
-15.0%
$699.3
$89.6
$19.4
($80.0)
$728.3
2008
$2,411.6
-2.00%
($414.3)
-2.0%
-17.18%
$1,997.3
82.82%
($819.9)
-34.00%
$1,177.4
($88.4)
-3.62%
$1,089.0
$0.0
-4.5%
($413.8)
-38%
$10.0
$685.2
2008
-$3,129.6
-$80.5
2.6%
-15.0%
$685.2
$88.4
$16.3
($80.0)
$709.8
2009
$2,363.3
-2.00%
($406.0)
-2.0%
-17.18%
$1,957.3
82.82%
($803.5)
-34.00%
$1,153.8
($87.2)
-3.62%
$1,066.6
$0.0
-4.5%
($405.3)
-38%
$10.0
$671.3
2009
-$2,660.1
-$65.1
2.4%
-15.0%
$671.3
$87.2
$15.4
($80.0)
$693.9
2010
$2,316.1
-2.00%
($397.9)
-2.0%
-17.18%
$1,918.2
82.82%
($787.5)
-34.00%
$1,130.7
($86.0)
-3.62%
$1,044.7
$0.0
-4.5%
($397.0)
-38%
$10.0
$657.7
2010
-$2,261.1
-$77.9
3.4%
-15.0%
$657.7
$86.0
($12.8)
($80.0)
$650.9
Projected
2011
-$1,922.0
-$85.5
4.4%
-15.0%
$644.5
$84.8
($7.5)
($80.0)
$641.7
Projected
2011
$2,269.7
2012
$2,224.4
-2.00%
($389.9)
-2.0%
-17.18%
$1,879.8
82.82%
-2.00%
($382.1)
-2.0%
-17.18%
$1,842.2
82.82%
($771.7)
-34.00%
$1,108.1
($84.8)
-3.62%
$1,023.3
$0.0
-4.5%
($388.9)
-38%
$10.0
$644.5
($756.3)
-34.00%
$1,086.0
($83.6)
-3.62%
$1,002.4
$0.0
-4.5%
($380.9)
-38%
$10.0
$631.5
2012
-$1,633.7
-$89.0
5.4%
-15.0%
$631.5
$83.6
($3.5)
($80.0)
$631.5
2013
$2,179.9
-2.00%
($374.5)
-2.0%
-17.18%
$1,805.4
82.82%
($741.2)
-34.00%
$1,064.2
($82.4)
-3.62%
$981.8
$0.0
-4.5%
($373.1)
-38%
$10.0
$618.7
2013
-$1,388.6
-$89.5
6.4%
-15.0%
$618.7
$82.4
($0.5)
($80.0)
$620.6
2014
-$1,180.3
-$87.9
7.4%
-15.0%
$606.3
$81.2
$1.6
($80.0)
$609.1
2014
$2,136.3
-2.00%
($367.0)
-2.0%
-17.18%
$1,769.3
82.82%
($726.3)
-34.00%
$1,043.0
($81.2)
-3.62%
$961.8
$0.0
-4.5%
($365.5)
-38%
$10.0
$606.3
2015
$2,093.5
-2.00%
($359.6)
-2.0%
-17.18%
$1,733.9
82.82%
($711.8)
-34.00%
$1,022.1
($80.0)
-3.62%
$942.1
$0.0
-4.5%
($358.0)
-38%
$10.0
$594.1
2015
-$1,003.3
-$84.7
8.4%
-15.0%
$594.1
$80.0
$3.2
($80.0)
$597.3
Terminal
$8,546.2
NPV $10,466.55
26

Verizon Communications Inc. (includes MCI, Inc.)
International DCF
Terminal Discount Rate =
Terminal FCF Growth =
10.0%
5.0%
Profit and Loss
Total Operating Revenues
Annual growth %
COGS
Annual growth %
% of Sales
Gross Margin
% of Sales
SG&A
% of Sales
EBITDA
Depreciation & Amortization
% of Sales
EBIT
Interest Expense
% of Sales
Taxes
Effective Tax Rate
Other Income (Expense)
Net Income
Cashflow
NWC - Total Firm
Segment NWC Allocation
Allocation %
Change in NWC (%)
Net Income
Add: Depreciation/Amortiz.
Change in NWC
CAPX
Cash Flow
2003
$1,949.0
-12.2%
($574.0)
-2.0%
-29.5%
$1,375.0
70.55%
($691.0)
-35.5%
$684.0
($346.0)
-17.8%
$338.0
($160.0)
-8.2%
($58.0)
-32.6%
$1,272.0
$1,392.0
2003
-$4,517.0
-$96.0
2.1%
Actual
2004
$2,014.0
3.3%
($626.0)
9.1%
-31.1%
$1,388.0
68.92%
($471.0)
-23.4%
$917.0
($324.0)
-16.1%
$593.0
($85.0)
-4.2%
($300.0)
-59.1%
$1,017.0
$1,225.0
2004
-$3,882.0
-$85.0
2.2%
-14.1%
$1,225.0
$324.0
$11.0
($382.0)
$1,178.0
2005
$2,193.0
8.9%
($707.0)
12.9%
-32.2%
$1,486.0
67.76%
($675.0)
-30.8%
$811.0
($340.0)
-15.5%
$471.0
($127.0)
-5.8%
($171.0)
-49.7%
$1,078.0
$1,251.0
2006
$2,788.0
5.00%
($822.5)
16.3%
-29.5%
$1,965.5
70.50%
($836.4)
-30.00%
$1,129.1
($338.8)
-16.00%
$790.3
($139.4)
-5.0%
($227.8)
-35%
$1,122.3
$1,545.4
2005
-$5,096.0
-$119.3
2.3%
31.3%
$1,251.0
$340.0
($34.3)
($283.0)
$1,273.7
2006
-$4,331.6
-$129.0
3.0%
-15.0%
$1,545.4
$338.8
($9.7)
($287.5)
$1,587.1
2007
$2,927.4
5.00%
($936.8)
13.9%
-32.00%
$1,990.6
68.00%
($878.2)
-30.00%
$1,112.4
($337.6)
-16.00%
$774.8
($139.4)
-5.0%
($387.4)
-50%
$1,122.3
$1,370.3
2007
-$3,681.9
-$115.1
3.1%
-15.0%
$1,370.3
$337.6
$13.8
($292.0)
$1,429.8
2008
$3,073.8
5.00%
($983.6)
5.0%
-32.00%
$2,090.2
68.00%
($922.1)
-30.00%
$1,168.0
($336.4)
-16.00%
$831.6
($139.4)
-5.0%
($415.8)
-50%
$1,122.3
$1,398.7
2008
-$3,129.6
-$102.6
3.3%
-15.0%
$1,398.7
$336.4
$12.5
($296.5)
$1,451.2
2009
$3,227.5
2010
$3,388.8
2011
Projected
2012
$3,558.3
$3,736.2
5.00% 5.00% 5.00% 5.00%
($1,032.8) ($1,084.4) ($1,138.6) ($1,195.6)
5.0%
-32.00%
$2,194.7
68.00%
($968.2)
-30.00%
$1,226.4
5.0%
-32.00%
$2,304.4
68.00%
-30.00%
$1,287.8
5.0%
-32.00%
$2,419.6
68.00%
($1,016.6) ($1,067.5) ($1,120.9)
-30.00%
$1,352.1
5.0%
-32.00%
$2,540.6
68.00%
-30.00%
$1,419.8
($335.2)
-16.00%
$891.2
($139.4)
-5.0%
($445.6)
-50%
$1,122.3
$1,428.6
($334.0)
-16.00%
$953.8
($139.4)
-5.0%
($476.9)
-50%
$1,122.3
$1,459.8
($332.8)
-16.00%
$1,019.3
($139.4)
-5.0%
($509.7)
-50%
$1,122.3
$1,492.6
($331.6)
-16.00%
$1,088.2
($139.4)
-5.0%
($544.1)
-50%
$1,122.3
$1,527.0
2013
$3,923.0
2014
$4,119.1
2015
$4,325.1
5.00% 5.00% 5.00%
($1,255.4) ($1,318.1) ($1,384.0)
5.0%
-32.00%
$2,667.6
5.0%
-32.00%
$2,801.0
5.0%
-32.00%
$2,941.1
68.00% 68.00% 68.00%
($1,176.9) ($1,235.7) ($1,297.5)
-30.00%
$1,490.7
-30.00%
$1,565.3
-30.00%
$1,643.5
($330.4)
-16.00%
$1,160.3
($139.4)
-5.0%
($580.2)
-50%
$1,122.3
$1,563.1
($329.2)
-16.00%
$1,236.1
($139.4)
-5.0%
($618.0)
-50%
$1,122.3
$1,601.0
($328.0)
-16.00%
$1,315.5
($139.4)
-5.0%
($657.8)
-50%
$1,122.3
$1,640.7
2009
-$2,660.1
-$88.9
3.3%
-15.0%
$1,428.6
$335.2
$13.7
($301.0)
$1,476.4
2010
-$2,261.1
-$98.2
4.3%
-15.0%
$1,459.8
$334.0
($9.3)
($305.5)
$1,479.0
Projected
2011
-$1,922.0
-$102.7
5.3%
-15.0%
$1,492.6
$332.8
($4.5)
($310.0)
$1,510.9
2012
-$1,633.7
-$103.6
6.3%
-15.0%
$1,527.0
$331.6
($0.9)
($314.5)
$1,543.2
2013
-$1,388.6
-$101.9
7.3%
-15.0%
$1,563.1
$330.4
$1.7
($319.0)
$1,576.2
2014
-$1,180.3
-$98.5
8.3%
-15.0%
$1,601.0
$329.2
$3.5
($323.5)
$1,610.2
2015
-$1,003.3
-$93.7
9.3%
-15.0%
$1,640.7
$328.0
$4.7
($328.0)
$1,645.4
Terminal
$32,929.8
NPV $22,034.66
27

Change in GDP
Regression Statistics
Multiple R
R Square
0.074797566
0.56%
Adjusted R Square
Standard Error
Observations
-0.021281144
5.174183308
39
ANOVA
Regression
Residual
Total df SS MS F Significance F
1 5.573099949
5.573099949 0.208168
0.650874358
37 990.5703975
26.77217291
38 996.1434974
Intercept
Change in GDP
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
0.58232575
1.614202066
0.360751459 0.720337
-2.688358285 3.853009785 -2.688358285
3.853009785
-0.008005815
0.017546841 -0.456253916 0.650874
-0.043559091 0.027547461 -0.043559091
0.027547461
Change in Fed Funds Rate
Regression Statistics
Multiple R 0.185779984
R Square
Adjusted R Square
3.45%
0.009106681
Standard Error
Observations
5.069897844
40
ANOVA
Regression
Residual
Total df SS MS F
1 34.91676223
34.91676223 1.358425
38 976.7468378
25.70386415
39 1011.6636
Significance F
0.25107464
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 0.04205228
0.801650238
0.052457141 0.958439
-1.580803769 1.664908328 -1.580803769
1.664908328
Change in Fed Funds -1.673204312
1.435592567
-1.16551475 0.251075
-4.579409502 1.233000878 -4.579409502
1.233000878
Regression Statistics
Regression Statistics
28

Change in CPI - Services
Regression Statistics
Multiple R 0.255347933
R Square
Adjusted R Square
Standard Error
Observations
6.5%
0.040602635
4.988672791
40
ANOVA
Regression
Residual
Total df SS MS F Significance F
1 65.96306373
65.96306373 2.650518
0.111780428
38 945.7005363
24.88685622
39 1011.6636
Intercept
X Variable 1
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
2.17241927
1.523716557
1.425737129 0.162108
-0.91218361 5.257022149
-0.91218361
5.257022149
-1.328587962
0.816065322 -1.628041196
0.11178
-2.980625823 0.323449898 -2.980625823
0.323449898
Change in Consumer Confidence
Regression Statistics
Multiple R 0.255347933
R Square
Adjusted R Square
0.065202567
0.040602635
Standard Error
Observations
4.988672791
40
ANOVA
Regression
Residual
Total df SS MS F Significance F
1 65.96306373
65.96306373 2.650518
0.111780428
38 945.7005363
24.88685622
39 1011.6636
Intercept
X Variable 1
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
2.17241927
1.523716557
1.425737129 0.162108
-0.91218361 5.257022149
-0.91218361
5.257022149
-1.328587962
0.816065322 -1.628041196
0.11178
-2.980625823 0.323449898 -2.980625823
0.323449898
Regression Statistics
Regression Statistics
29

Change in S&P 500
Regression Statistics
Multiple R 0.304032093
R Square
Adjusted R Square
9.24%
0.068552238
Standard Error
Observations
4.915469553
40
ANOVA
Regression
Residual
Total df SS MS F
1 93.51364466
93.51364466 3.870303
38 918.1499553
24.16184093
39 1011.6636
Significance F
0.05647933
Intercept
X Variable 1
Multi-Factor Model
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
-0.202769188
0.787752727 -0.257402077 0.798257
-1.797491198 1.391952822 -1.797491198
1.391952822
0.016136178
0.008202159
1.967308559 0.056479
-0.000468225
0.03274058 -0.000468225
0.03274058
Multiple R
Regression Statistics
0.488950017
R Square
Adjusted R Square
23.91%
0.123537504
Standard Error
Observations
4.689815834
40
ANOVA df
Regression
Residual
Total
5
35
40
Intercept
GDP - Real
Fed Funds Rate
CPI - Services
Cons. Confidence
S&P 500 Index
SS MS F Significance F
241.8605606
48.37211212
2.749118666
0.034373235
769.8030394
21.99437255
1011.6636
Coefficients Standard Error
0.515351857
2.347128051
t Stat
0.219566997
P-value
0.827483943
Lower 95%
-4.249571378
Upper 95% Lower 95.0%
5.280275093 -4.249571378
Upper 95.0%
5.280275093
-0.006879235
-3.515942187
0.01863886
-0.36908023
1.74799915 -2.011409552
0.714291398
0.052032398
-0.044718132
-7.064569098
0.030959662 -0.044718132
0.032684723 -7.064569098
0.030959662
0.032684723
0
-0.217137529
0.026636976
0 65535 #NUM!
0 0 0 0
0.883486506 -0.245773452
0.807293179
-2.010710477
1.57643542 -2.010710477
1.57643542
0.010234735
2.602605215
0.013475993
0.005859358
0.047414593
0.005859358
0.047414593
Regression Statistics
30