Qwest Communications International, Inc. Q4 2008 Earnings Call Transcript

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Qwest Communications International, Inc. (NYSE:Q)

Q4 2008 Earnings Call

February 10, 2009 9:00 am ET


Kurt Fawkes – Senior Vice President, Investor Relations

Edward A. Mueller – Chief Executive Officer

Thomas E. Richards - Chief Operating Officer

Joseph J. Euteneuer - Chief Financial Officer


David Barden - Banc of America

John Hodulik - UBS

Frank Louthan - Raymond James

Jason Armstrong - Goldman Sachs

Simon Flannery - Morgan Stanley

Tom Seitz – Barclays Capital

Michael Rollins - Citigroup

Peter Rhamey – BMO Capital Markets


Welcome to the Qwest fourth quarter 2008 earnings conference call. (Operator Instructions).

I would now like to introduce your host for today's conference, Mr. Kurt Fawkes. Mr. Fawkes you may now begin your conference.

Kurt Fawkes

Good morning everyone and thank you for joining us on our call this morning. For the agenda of the call, Ed Mueller, our Chairman and CEO, is going to begin our discussion with some high-level observations on our fourth quarter performance and progress on strategic initiatives in 2008. Then Ed’s going to be followed by Tom Richards, our COO, who will discuss operating unit performance. Tom will be followed by Joe Euteneuer, our CFO, who will review consolidated results, discuss the balance sheet and provide our outlook for 2009.

On Slide 3, we have our forward-looking statements. I want to remind everyone we will be providing forward-looking statements this morning which will contain risks and uncertainties that could cause our actual results to differ materially from those expressed or implied during the presentation. These risks and uncertainties are on file with the SEC and of course I strongly encourage you to review them. Also, let me mention that in order to supplement the reporting of our consolidated financial information, we will discuss certain non-GAAP financial measures including adjusted EBITDA, normalized operating income, free cash flow and net debt and a full reconciliation of these measures are available on our website.

Moving on to Slide 4, we summarize our earnings results for the quarter along with adjusted EBITDA and free cash flow. In the fourth quarter our pre-tax income was up 17% from the year-ago period. We reported net income of $185.0 million in the quarter. That’s $0.11 per diluted share. This compares with $366 million or $.20 per diluted share a year ago. Net income this quarter reflects full book tax rates while the year-ago period results included net tax benefit of $106 million. If we had used normal tax rates in the fourth quarter 2007 earnings would have been reduced by $0.11 per share. Additionally, a lower share count and $0.01 per share charge for severance affected our earnings per share results in the current quarter.

Adjusted EBITDA for the quarter was $1.18 billion which is an increase of $42 million from the same period in 2007. During the quarter $19 million in severance related costs was normalized out of our EBITDA results. Finally, adjusted free cash flow for the quarter was $593 million which is a decrease of $47 million from the same period in 2007. Adjusted free cash flow in the period excludes $46 million in one-time payments and those are principally due to a legal settlement.

With that, I am going to turn it over to Ed.

Edward Mueller

Good morning everyone. Thank you for joining us on our call today. My focus this morning will be to recap our operating performance and key strategic accomplishments in 2008. I will conclude my remarks with some thoughts on our areas of focus for 2009. I will then hand it over to Tom and Joe who will discuss the details of our operating results and the specifics on our plans for 2009.

On slide six we provide a recap of the fourth quarter and full-year performance for our key financial metrics. Our results were strong in the fourth quarter and we achieved improved profitability across all business units. Revenue in the quarter was slightly ahead of our expectations. For the full year, revenues of $13.5 billion reflect growth in data and Internet services revenue that was offset by declines in voice and wireless revenue.

Adjusted EBITDA was also ahead of our expectations as we did an excellent job of delivering on the profitability initiatives we outlined in the third quarter. This was particularly noteworthy given the rapidly deteriorating economic climate. We improved our product mix, achieved employee reductions and streamlined operations resulting in strong sequential improvement in margins for all segments.

For the full year adjusted EBITDA declined 1% compared to 2007. We ended the year with adjusted free cash flow of more than $1.4 billion and capital expenditures were just under $1.8 billion for the year.

Now turning to slide seven, I would like to review our progress on the five key strategic initiatives we set out at the beginning of 2008. Over the course of the year we made substantial progress in enhancing our market position by delivering simplified integrated solutions, improving partnerships and expanding broadband capabilities.

Revenues from managed services offered through the Business Market segment increased more than 50% in 2008. In mass markets we [built] the infrastructure for reshaping the customer experience with Qwest. Those efforts include revamping our advertising message, improving back office call center operations and new product developments.

On the partnership front we made significant progress on our best of brand strategy. We continued to have good success in selling DirecTV services and we reached 13% penetration of our residential primary access lines at year-end. In August we launched our Verizon Wireless partnership which provides our customers access to one of the leading wireless platforms in the country. Our migration efforts ramped up during the fourth quarter with the development of bundled billing capabilities.

At the end of the quarter we had transferred approximately 1/3 of our NVNO customers to Verizon Wireless. Finally, investments in our broadband capabilities over the past year are providing the infrastructure to offer dramatically higher speeds and a richer customer experience. Fiber to the node build out reached over 1.9 million potential customers at year-end. We also augmented broadband capabilities in the long-haul network including expansion of our Ethernet footprint in completion of the first phase of our wavelength upgrade to 40 GHz.

As we enhanced our offerings we remained focused on our financial performance. Slide eight summarizes some of the actions resulting from our commitment to improving productivity, disciplined cost management and delivering a balance of investments and growth of returns to stakeholders.

Throughout 2008 we stepped up to operating expense challenges and we reduced our network costs and administrative overheads. We also took actions to match workforce to workload and reduced employees by 11% for the year. With regard to shareholder returns we reinstituted the quarterly dividend and coupled with share repurchases returned approximately $1 billion for the year. We also paid down debt over the course of the year.

Finally, I believe that the positive impact from changes to the leadership team during 2008 should not be overlooked. I continue to be encouraged by their energy and dedication as they remain focused on the execution of our strategic vision. The groundwork laid in 2008 will support our efforts to gain value for our shareholders in the years ahead even in a challenging economic landscape. Our vision is validated by our progress over the past couple of quarters in executing against our plan.

We are pivoting the focus of our bundle strategy to emphasize broadband as the anchor product. Our migration of Verizon Wireless will be completed in 2009 and we will continue our aggressive build out of broadband capabilities including fiber to the node. Responsible cost control, as always, remains a focus for the company. In fact, during the fourth quarter we exceeded our goal in achieving employee reductions that will give us a leg up on this year’s profitability objectives.

Finally, we remain committed to our balanced strategy for investment in growth returns. Now I will turn it over to Tom.

Thomas Richards

Thanks Ed. Good morning everyone. I am pleased to give you an update on what I hope you will agree was a pretty strong quarter especially in light of recent market conditions. In my comments I will give you more detail on our business unit results for the fourth quarter and I will touch on some of our key plans for 2009.

Operationally, as Ed stated, we finished the year on a high note with profitability gains across all business units. Let me start with the Business Market segment on slide 11.

Our Business Market segment out performed the industry in the quarter delivering total revenues of $1.05 billion, an increase of 4% year-over-year and 1% sequentially. In the quarter monthly recurring revenue grew by 2% year-over-year, the seventh consecutive quarter of growth. Demand for strategic products remains strong as the market place continues to migrate to IP base data solutions. CPE revenue was also strong during the quarter. We continued to have good success within the Federal Government space in the quarter and we are pleased with our share of business awarded under the Networks Contract.

As we moved through the fourth quarter we did notice a slow down in the pace of enterprise bidding activity that went beyond the typical seasonal slow down. The slower pace of activity carried into January. While the overall pipeline has not deteriorated the pace of decision making appears to have slowed. Should this continue we would expect some impact on our reported top line beginning in the second quarter?

At the product level we continue to see good migration to IP based data solutions. Business Markets data and Internet revenue improved by 9% while voice revenue declined by 4%. Data and Internet revenue is now roughly 2/3 of total Business revenue. In strategic products which includes our NPLS offering and hosting product suite we continue to achieve strong growth of 30% year-over-year.

Shifting to profitability, Business Market segment income of $394 million improved 9% year-over-year and 7% sequentially. Segment expenses declined from the third quarter due to lower bad debt, lower equipment expense and reduced network costs. For 2009 our plans in Business Markets are to build on our success from this past year. Slide 12 summarizes these plans.

We believe Qwest is differentiated in the marketplace by our commitment to the customer experience. We provide flexible product offerings, place a personal emphasis on engaging with our customers and we keep our focus on market opportunities that align with our core strengths. In 2009 we will continue to target growth and retention of our revenue base and improving the profitability of our product mix. We expect to continue to improve CPE margins and other cost efficiencies within the channel.

On the product front we are focused on enhancing our IP services product portfolio. Building on the success of the past two years we will deploy additional wavelength capacity to key markets. We will also continue to broaden our Ethernet footprint and expand managed service offerings as demand for end-to-end turnkey solutions evolve.

Finally, we will deploy fiber range to six new markets during the year to improve our out of [range] cost structure and competitive position.

Moving on to slide 13 we will discuss Mass Market performance. Excluding the impact of wireless, total revenue in Mass Markets declined 2% sequentially and 5% year-over-year. Data, Internet and video revenue was up 9% year-over-year while voice revenue was lower by access line losses. Expense reductions outpaced revenue trends in the quarter resulting in substantial improvement in profitability. Margins expanded by more than 620 basis points sequentially and 660 basis points year-over-year.

Cost savings came from workforce reductions, lower network operating expense and reduced wireless cost associated with the NVNO platform. In the quarter we did not incur any measurable handset subsidy and other acquisition costs associated with our NVNO platform as we began the transition to Verizon Wireless. As a result the margins associated with the NVNO business were temporarily elevated in the quarter. Mass Market segment income was up by 6% year-over-year and 9% sequentially.

The cost management by our Mass Market group with our network team throughout 2008 is noteworthy. If we looked at this segment’s full year income it was essentially flat even in the face of a 4% decline in full year revenues.

On slide 14 you continue to see we saw good demand in our broadband and video offerings in the quarter. Net broadband subscribers were 54,000 for the quarter and we ended the year with 2.8 million subscribers or just under 50% penetration of our primary access lines. Fourth quarter results were aided by successful promotion activities centered on our $14.99 broadband offer. The modest decline in total DSL adds was due to the wind down of our VDSN platform in Phoenix and Denver. We expect this project to end by the middle of next year.

This personally masked an excellent quarter for FTTN in which we had over 61,000 new subscribers. We grew our video subscriber base by a net 37,000 in the quarter and ended the year with nearly 800,000 subscribers. Finally, though our access line loss rate increased to 10.5% year-over-year absolute access line loss fell sequentially for the first time since the third quarter of 2007. Consumer ARPU improved in the quarter to nearly $57 up 6% compared to the fourth quarter of 2007.

Now I will turn to slide 15 to discuss some of our key areas of focus and desired outcomes within the mass market group for 2009. First, as I discussed last quarter broadband services will be the anchor of all of our consumer based offerings. We have been aggressively promoting broadband over the past couple of quarters and you should expect us to continue to do so.

The second key outcome we want to achieve in 2009 is to drive our decision making closer to our customers. This will entail many facets including how we organize, how we drive accountability and how we tailor our offers to meet distinct competitive threats and market opportunities across our 14 state footprint.

Our third area of focus is to maximize customer value through an improved customer experience. It is essential that we refine our product bundles in a way that moves Qwest’s customer value proposition beyond price.

Our fourth initiative is of course to continue with the fiber to the node build out. We are pleased with our success with fiber to the node to date including 140,000 total subscribers at the end of the year. The pace of our build out in 2008 was structured to match our marketing and operational capabilities and we are targeting a similar investment in 2009.

The final area of focus is to comprehensively expand retention efforts. This includes our new Save and Loyalty offers, proactive customer engagement in high churn wire centers and improving penetration of broadband, our stickiest product.

The results for our Wholesale segment are summarized on slide 16. Wholesale results for the quarter reflect strong progress and our efforts to improve segment profitability. Segment income improved by 6% sequentially and was roughly flat with the fourth quarter of 2007 after removing the effects of a one-time benefit recognized a year ago. Our revenue for the quarter of $789 million was down 3% sequentially and 7% year-over-year with a margin of 61.7% was 120 basis point improvement compared to the year ago period and 530 basis point improvement sequentially.

This year we will continue to target a profitable revenue mix including emphasis on data IP services. In fact, our sales reps in Wholesale will be incented primarily on data and IP results. We will also continue our efforts to bring our legacy services to market with enhanced efficiency and effectiveness. This year we believe there will be opportunities for Wholesale to leverage our strategic network investment and include fiber to the node where we could potentially extend fiber to wireless carrier cell sites.

Finally I want to discuss workforce reductions during the quarter. While the decision to reduce staffing is always difficult it was necessary to take steps to match workforce to workload. Total employees declined 1,700 in the fourth quarter which was higher than the 1,200 we had announced in October. These reductions occurred fairly evenly throughout the quarter. In 2008 we demonstrated there are significant variable costs in our structure that can be managed in line with volume. We will remain keenly focused on this in 2009.

In closing I hope your key take away from the fourth quarter is the execution of our team both in day-to-day operations and in plotting the course for 2009. I look forward to reporting on our performance and sharing the results of our initiatives with you throughout the year.

Now we will turn it over to Joe.

Joseph Euteneuer

Thanks Tom. Good morning everybody and thank you for joining us this morning. As Ed and Tom noted we are pleased with our fourth quarter results and I hope you are encouraged that our execution is trending in the right direction. Of course we have many challenges ahead of us and our enthusiasm is tempered by the current economic climate. With this in mind we continue to be very cautious and disciplined on spending and investments.

However, I do think our results provide some evidence of our potential. In my remarks this morning I will give you a consolidated review on the business unit efforts driving improved profitability in the quarter and then I will discuss the balance sheet, free cash flow and our guidance for 2009.

We will kick it off on slide 20 which addresses the strong profit improvement in the quarter. As Tom mentioned cost reductions contributed to the improved margins in each of our segments. Total consolidated operating expenses declined by over 5% sequentially and year-over-year. The major contributor to margin improvement was in the cost of sales due to a better revenue mix in Wholesale, the transition of wireless customers to Verizon, the margin improvement from the NVNO that Tom discussed and lower employee related expenses.

Collectively, favorable network settlements and a lift in NVNO contribution added approximately $35 million to EBITDA in the quarter. I would also point out that the fourth quarter is a seasonally low period for overtime. Offsetting some of these savings were higher incentive compensation and a decrease in the capitalized labor mix.

After adjusting for severance and restructuring costs, our consolidated operating income of $578 million in the quarter was a 10% improvement from the year ago period and a 19% improvement sequentially. The normalized operating income margin of 17.4% in the quarter compares to 15.3% in the fourth quarter of 2007 and 14.3% in the third quarter.

Now we will turn to slide 21 for a discussion of the balance sheet. Qwest finished the year with a total of $675 million in cash and investments. We had negative working capital at the end of the period of $883 million. At quarter end our day’s payable outstanding were three days lower than they were at the end of 2007 and this caused a gap between our reported free cash flow and our guidance of $1.5 billion. Our day sales outstanding improved from 41 days in the year-ago quarter to a slightly better than expected 40 days at year-end 2008.

We continue to very closely monitor collection efforts and have been pleasantly surprised to date with our results in the current economy. At the end of the year total gross debt was $13.7 billion and net debt was $13 billion. The company’s leverage ratio improved to 2.9 times in the quarter.

Now we will turn to slide 22 and give you our current thoughts on the credit markets. In the fourth quarter Qwest retired outstanding debt of approximately $420 million including $320 million in regulated debt and $100 million of unregulated debt. While we retired regulated debt in the fourth quarter we continue to pursue our goal of investment grade financial metrics by reducing parent debt and refinancing regulated debt. While credit markets were dysfunctional for most of the fourth quarter they have improved recently and we are evaluating our options.

In early January we called an additional $230 million in unregulated debt which is scheduled to mature in February. As a result, remaining debt maturities for 2009 are modest, consisting of only $560 million of parent debt. I want to point out that in 2009 we will be reporting additional interest expense related to our 3.5% convertible notes due to the adoption of FSP APB 14-1. This will result in non-cash interest expense of approximately $50 million annually or a drag of $0.02 per diluted share. This change will also result in the reduction of $100 million of reported debt associated with this convertible note as of January 1.

On slide 23 we have some details on capital expenditures. Capital expenditures for the full year were slightly below plan at $1.78 billion. In 2008 we invested approximately $250 million in FTTN and extended the footprint to reach 1.9 million potential customers. Other significant strategic investments in 2008 included our Ethernet expansion and our 40 GHz deployment in the backlog.

Now we will turn to slide 24 and I will give you an update on our current expectations with regards to pension funding and pension and OPEB accounting expenses. As we told you in the third quarter there will be no cash funding requirement for the pension plan in 2009. We currently expect funding requirements of between zero and $300 million in 2010 relative to our previous estimate of $130 million to $300 million.

On the expense component we expect to recognize additional non-cash pension and OPEB expense of approximately $200 million in 2009 compared to levels we recognized in 2008.

Now I will conclude my remarks with a discussion of our 2009 guidance on slide 25. You have just heard Ed, Tom and I talk about a solid fourth quarter performance. In addition we believe our recent operational moves will provide benefits throughout 2009 so we are cautiously optimistic about our performance in the coming year. However, we like every other business face the challenge of trying to provide guidance in the midst of uncertain global economy, turmoil in the financial markets, rising unemployment and low consumer confidence.

As a result of these current market conditions our priority is to generate cash from operations to invest in our business, continue our common dividend and meet maturing debt obligations. For 2009 we are forecasting that we can produce adjusted free cash flow of approximately $1.5 billion to $1.4 billion. Although we remain sharply focused on improving our revenues we are not providing a revenue forecast due to reduced visibility in customer demand particularly in light of the recent employment trends.

However, we do believe we have the operating levers and flexibility to adjust operating expenses and capital spending across a range of revenue outcomes to reach our adjusted free cash flow expectations for 2009. Our normalized fourth quarter adjusted EBITDA result equates to an annualized run rate of approximately $4.6 billion. After taking into account our $200 million of incremental, non-cash pension and OPEB expense for 2009 it will result in a run rate EBITDA of $4.4 billion which forms the upper end of our guidance.

With the more difficult economy we estimate adjusted EBITDA could be as low as $4.2 billion. Some of the key factors we considered in our forecast include the following: One, consumer and small business access line losses at around absolute levels experienced in 2008. Two, the completion of our wireless migration to Verizon during 2009. Three, a cautious outlook in the direction of enterprise spending. However, we expect Business Markets to continue to out perform the industry in the first quarter while Mass Markets and Wholesale continue to face top line pressure.

We have previously guided that we will spend $1.8 billion in capital expenditures in 2009 but with our commitment to achieve $1.5 billion to $1.4 billion in free cash flow in 2009 we will continue to monitor business trends and our EBITDA performance and adjust capital spending as necessary. While we will maintain this controlled approach to capital spending we remain committed to projects related to our future growth such as fiber to the node, our Ethernet expansion and backbone capacity as well as infrastructure maintenance and regulatory mandates.

Finally, in 2009 we expect to have networking capital requirements in part due to our annual reimbursement of retiree healthcare expenses of approximately $150 million.

In closing, I believe we exited 2008 with a good operational momentum on strong execution. This will provide a solid underpinning as we face uncertain market conditions in the days ahead.

With that we will be happy to take your questions.

Question-and-Answer Session


(Operator Instructions) The first question comes from the line of David Barden - Banc of America.

David Barden - Banc of America

Joe, again just going back to the guidance numbers, in 2008 Qwest kind of started out with one picture for growth and then kind of cut it back and cut it back again and cut it back again. I appreciate you giving us some of the factors that went into this guidance setting process. I guess it would help for you to give us some color as to how conservative you feel you are being and what it would take to drive EBITDA numbers to the low end of this guidance range from either and economic or execution standpoint and what incremental cost initiatives you have beyond what you have already done in 2008? The second piece would be to your point about re-levering regulated entities there has been very strong demand for investment grade rated debt. AT&T upsized a big transaction. You said you refinanced $320 million at that level. If there was more demand than $320 million how far do you think you can go to raise new money at that entity?

Joseph Euteneuer

Let me take the last questions first. You are exactly right. We did repay $320 million of regulated debt in the fourth quarter. Markets are starting to open up a little bit. We are actively looking at those markets. We will have our 10K filed some time beginning of next week. As far as upsizing an opportunity that would be a great problem to have and as you realize in 2010 we have another half [billion] dollars of regulated debt coming due so I think we have some flexibility as far as the size of what we would go out and get done.

In thinking about our guidance we have put a lot of work and effort into one developing a budget for our Board and then trying to get our arms around sort of what is the state of the economy. It is hard to do that when every day the press lines read more and more people are losing their jobs. Although we are cautiously optimistic about our performance we have been very fortunate to have very consistent bad debt collections. We took opportunities here in the fourth quarter of 2008 to get ourselves positioned to be ahead of 2009. We look to prepare ourselves even more as we get into the year and I think those are the things you need to consider and we’ll just cautiously watch what will happen in the economy.


The next question comes from John Hodulik – UBS.

John Hodulik - UBS

On the business side just following up on some of the commentary, do you think this is a business line that can continue to grow given what you are seeing now in sort of January and February? You sort of out paced the market this quarter with some nice growth and a lot of other carriers are seeing a decline. Is that something given what you are seeing now and as you look out?

Then switching gears to the broadband side can you give us some detail on how much pressure you are seeing from the Phoenix/Denver wind down of the VS DSL markets? Just talk about your plans for FTTN deployment in 2009.

Thomas Richards

In the business market segment as I alluded we did see some softening in the decision making process. We still feel confident that the group can continue to have kind of the modest growth that we have seen in the past although we are all, as I said on the last call, every time I go somewhere someone is asking about when is it going to hit the enterprise market. So we are trying to be cautious but we do see opportunities for us to grow and if you think about it we are a relatively small share player on a national scale and that gives us opportunities even in this kind of economy to our revenue stream.

On the case of DSL, the VDSL business for us kind of impacted us in the neighborhood of 10,000 to 12,000 lines. You can do the math. If you look at 61,000 FTTN adds this quarter which we are really excited about we expect it will take us through the middle part of next year to kind of get through that VDSL base in those two markets.

John Hodulik - UBS

What is the build out plan for FTTN in 2009?

Thomas Richards

It is going to be about the same that we had this year. We passed 1.5 million homes this year which got us to about 1.9 and we are anticipating about the same build out for next year.


The next question comes from Frank Louthan - Raymond James.

Frank Louthan - Raymond James

Following up on the FTTN what is sort of the ultimate target for the number of homes you are looking at there? Can you give us an idea of what the percentage was in the past and what time frame? Then looking at the talks in Washington what are your thoughts on the broadband stimulus plan as it appears to be written? Do you think that is something that can be helpful to you? Do the current terms look attractive to you? Then lastly, can you give us an idea you said you saw some lower equipment sales and obviously lower margin. What percentage of your better price sales are tied with equipment sales? Is that going to change and is that going to be a part of the margin improvement story for 2009?

Thomas Richards

Let me try to hang with you here and take those one at a time. If we look at the FTTN build out we would ultimately look at getting to the area of about 50% market penetration although if we continue to have success in the marketplace the way we have been there is nothing that says we can’t go beyond that. But you can probably read between the lines and get the level of excitement we have for kind of what that has done for us in the marketplace.

I think the second question talked about the broadband stimulus. Maybe what I will do is let Ed answer that one and I will jump to the last one which talked about enterprise and particularly CPE. I think the first thing to note is the Business Markets team did an excellent job this year improving profitability of CPE over the year. We are very confident we can continue to do that. To say what percent of our total, it ranges. If you look at our sales it is somewhere around 40% of sales but on a limited perspective it is a relatively small percentage, maybe 10-15% of total BMG revenues. It tends to get a lot of focus because of profitability but the one thing we remain committed to is if you are going to be a total solution provider and you are really going to be in the managed services space in the Business Markets segment it has to be part of your portfolio.

Again, I think as long as we stay focused on continuing to enhance profitability the overall solution we deliver to customers is going to be beneficial.

I’ll turn it over to Ed now and he can talk about the stuff in Washington.

Edward Mueller

The stimulus, our position has always been that we need the money to be turned over to the states and we would vie for that if it was economic for us. Whether it was unserved or underserved we would vie for that and use the money that would be available to make a return. As it turns out we have two different kinds of proposals. One in the House and one in the Senate. We obviously like the Senate bill better but time will tell. I think the key for us will be who gets to implement the money and which agency gets to implement the money and then what would be the bid and/or award criteria. You can be sure that there is some upside for us. I wouldn’t put it, $6 billion or $8 billion for an entire country is a small number. We would take in our 14 states what would be applicable to us but I would say we will be very, very cautious and disciplined on picking and bidding so it is not just if you build it they will come.

If you follow our FTTN very much it will be in line with that and we will look for complementary builds with our current FTTN strategy.


The next question comes from Jason Armstrong - Goldman Sachs.

Jason Armstrong - Goldman Sachs

First on the pension, Joe can you just walk us through how you get to the $200 million hit? That either implies you are accelerating some of the pressure similar to what we saw at both AT&T and can you talk about or you drop the discount rates which would be tough to imagine in this type of environment. Can you just talk about how you get to $200 million? Second, on wireless a decent turnaround here obviously on your expense side. You mentioned $35 million in benefit from settlement on wireless. Can you step us through what exactly was the wireless and what was the settlement? Are we at sort of a run rate on the wireless side or are there further cost structure benefits we should expect in the near term?

Joseph Euteneuer

On your first question in regard to the pension it is actually pension and OPEB and what I would ask you to do is when we give you the 10K you will see all of the details as far as the change in the access value and the liabilities and discount rates, etc. So I think if you can be patient a day you will get all that in more detail than you care to have.

In regards to the wireless, the $35 million is a pretty small number so I don’t think I need to break up the component pieces because it is divided between two items. Then your last question was…

Jason Armstrong - Goldman Sachs

Tied into wireless for settlement. Are we sort of at a run rate on the wireless expense structure or does that get better and better from here?

Thomas Richards

I would say that we got a bump in the quarter as Joe alluded to on some of our facilities costs and we would expect that to continue. However, it is on a declining basis. So you have to kind of keep that in mind as we migrate over to the Verizon Wireless platform.

Jason Armstrong - Goldman Sachs

Joe if I can just go back to the first question on pension can you at least tell us whether you are sticking to traditional [smoothing] mechanisms which you had done in the past or whether there is an acceleration there?

Joseph Euteneuer

Remember from an accounting standpoint the bookkeeping expense of the $200 million is exactly identical year-over-year. There is really no changes. What you are referring to is on a cash basis based on the new law there will be some options we need to look at but those don’t happen until the later part of this year.


The next question comes from Simon Flannery - Morgan Stanley.

Simon Flannery - Morgan Stanley

I wanted to just come back to a comment made on the guidance about line loss being basically flat in absolute terms and also referring to the Q4 Mass Markets line loss being better than the last couple of quarters. Perhaps you could just talk around some of the drivers on that. Is that FTTN retention? Is that cable VOIP slowing down? Other trends you see there and might we actually get if things turn out well some actual improvement in absolute line loss? Then following up on the wireless I just wanted to understand you had wireless subscribers down about 13%. Am I to assume that of that 717 1/3 of those are now part of Verizon so things like our calculations and that will be off or is that just still the NVNO number?

Thomas Richards

Let me take the first one which was a little bit on line loss in the consumer space. What we did see in the fourth quarter was an improvement in the absolute number of lines lost. I would suggest that is a combination of things that Dan and his team have been doing. Everything from the increase in FTTN deployment to retention. We talked about this on the last call about the increased focus on developing retention programs that are beyond just the initial breakage period but over the life of the customer. I think we actually became a lot more aggressive in how we went to market and how we have people assigned to territories which creates an increased level of accountability. So you kind of take all three of those things and they all contribute to that improvement.

Having said that one trend in my mind is one quarter does not a trend make. We are pleased about some of that progress but the wild card for me is the economy and what goes on with unemployment and jobs. While we are pleased with that one quarter I don’t know yet that I could feel confident to say yes that is going to be a consistent item.

On the wireless subs you are right it is about 1/3 of our base now we have migrated over there. We are going to continue through the rest of this year. Our target is to have that completed sometime during 2009. Probably after the middle of the year.

Was there something else you had about wireless?

Simon Flannery - Morgan Stanley

Just the clarification on the Verizon numbers on that 717. How would you characterize the transition and the Verizon offer and the customer acceptance versus the NVNO?

Thomas Richards

We started to pick up pace in the fourth quarter especially when we got, if you remember, billing on behalf of. That was an important part and we had to wait until the middle of October to have that capability so we really didn’t see the full impact of that and we believe that the momentum will continue to accelerate here as we move into the first quarter because we will have a full quarter of being able to market billing on behalf of our customers.


The next question comes from Tom Seitz – Barclays Capital.

Tom Seitz – Barclays Capital

You noted that you were going to build six fiber rings out of region. Are these builds basically built on current customers in those locations that make the pay back from reduced access a lay up or should we view this as a bit of a more offensive to take advantage of some of the momentum you have seen in this segment? Can you comment at all about the aggressive pricing you did on higher speed DSL late in the fourth quarter? Just talk about how those offers are going half way through this quarter.

Thomas Richards

On the fiber rings I would say it is a little bit of both offense and defense. We look at two things. We look at market opportunity and existing customers. So in some cases it will be an opportunity to reduce costs on an existing basis and also make us more competitive. We have talked a lot on these calls about the cost structure out of our 14 state footprint so we are just moving aggressively to kind of help the BMG group be more competitive and continue on the momentum.

Tom Seitz – Barclays Capital

You talked about the fact that you monitor business conditions with respect to Capex. Are these going to get built or are these sort of the first on the chopping list if enterprise starts to slow down meaningfully?

Thomas Richards

I don’t know I can sit here today and I will tell you they are in the plan that we have. Just like we did this year, we look at this business on a pretty disciplined basis and I wouldn’t say they are first on the chopping block. There are lots of opportunities on a capital budget our size to remove capital and again we want to give the BMG organization the opportunity to continue to be successful. It has done such a good job of growing. So I know that is not maybe the direct answer but that is actually how we will manage it.

On the promos we had, we had a very good December when it came to HSI and that helped a lot on the quarter. A lot of it had to do with the aggressive promos that are in the marketplace. Everybody is playing the same game so to speak which is why I alluded to it is important for us to continue to introduce capabilities beyond price that give customers incremental value for doing business with Qwest and you are going to see that more and more as we go throughout the year.


The next question comes from Michael Rollins – Citigroup.

Michael Rollins - Citigroup

Following up on carrier consolidation and how it has impacted your Wholesale business over the last couple of years with some of the regional wireless deals getting done is there anything significant we should be thinking about in terms of impact to the Wholesale segment? Secondly if you could talk a little bit more about the cost cutting. You highlighted some of the job cuts were maybe a little bit bigger and maybe a little bit accelerated from what you expected. Did any of that impact the fourth quarter and how should we think about that activity and possible other cost cutting activities over the course of 2009?

Thomas Richards

Let me take the first thing. Your characterization of the consolidation in the carrier segment is very much and was very much behind our strategy to focus that unit on improving profitability both on a product basis and a customer basis. We feel like the last couple of quarters that organization has a good rhythm to it when it comes to profitability and that will be the way we will try to manage through any additional consolidations that might happen. I think we have demonstrated a good ability to focus on taking costs out.

Related to costs, as you said when we went through the fourth quarter there were a number of factors that improved our costs. We had an improvement in facilities costs and that has been something that we have done the last couple of years and we continue to see opportunities to improve that in the business. Second, we did get the benefit of a higher workforce reduction than we had planned. That gives us a little bit of runway as Joe alluded to as we go into the first quarter. We will continue to follow the philosophy of matching workforce to workload when it comes to costs. The third thing is there were a number of other areas of operational improvement that our network team delivered. Center consolidation and those kinds of things you are familiar with that we have on the plate for this year as we look forward just to kind of keep thinking about ways, if in fact we have to, our hope is that we won’t get into a situation to do that but you have to have the flexibility to do it.

Kurt Fawkes

Your question about did the job cuts affect the fourth quarter, they were proportionately achieved throughout the fourth quarter so think about it as roughly you have about ½ quarter’s worth of benefit from the 1,700 headcount reduction in the fourth quarter.


The final question comes from Peter Rhamey – BMO Capital Markets.

Peter Rhamey – BMO Capital Markets

Joe, with regards to free cash flow outlook for the company I am just trying to square the circle here. Relative to my numbers you are coming in better than expected for free cash flow in 2009 and I did note you had a working capital adjustment, I guess a payable adjustment that worked against you this quarter. Is that included as a reversal in your guidance in 2009?

Joseph Euteneuer

Yes you will get the benefit of the pay down in payables going into the first quarter and then over the year we talked to you about the negative impact of working capital associated with the OPEB additional cash that will have to go out the door.

Peter Rhamey – BMO Capital Markets

As a follow-up, looking at your EBITDA guidance would it be fair to say with your Capex at $1.8 billion but adjustable if you were to achieve the lower end of that range should we assume you are looking at maybe $1.6 billion in capital spending?

Joseph Euteneuer

There are a lot of levers we can pull to get to our ultimate free cash flow number. I think that was the whole point of the exercise to say we are going to monitor our performance and our EBITDA and look at capital as another potential way to get to the free cash flow number we have targeted.

Peter Rhamey – BMO Capital Markets

In response to another question you had you did talk about how you did have a lot of levers. Could you perhaps just give us some examples of the number one or two projects you would either chop this year in 2009 or delay to 2010?

Joseph Euteneuer

From Tom’s comments you heard a number of things operationally that he is doing for EBITDA whether it is being churn control, managing workforce to workload so I think if you review some of the comments you’ll see we tried to lay out a number of levers that we have operationally. Then on the capital side though we are trying to be committed to things like FTTN, etc. we have a $1.8 billion capital expense so there is a lot of room.

Kurt Fawkes

Thanks everybody for joining us again this morning. Feel free to give us a call at Investor Relations today if you have some follow-on’s.


Ladies and gentlemen this does conclude today’s conference call. You may now disconnect.

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