Verizon Communications Annual Report 2006

Verizon Communications Annual Report 2006
Verizon Communications
2006 Annual Report
Financial Highlights
(as of December 31, 2006)
Consolidated
Revenues
Cash Flow
from Continuing
Operations
(billions)
Dividends per
Share
Reported Diluted
Earnings per Share
(non-GAAP)
(billions)
$88.1
$65.8
$69.5
04
05
$20.2
$20.4
$23.0
Adjusted Diluted
Earnings per Share
$1.54
$1.62
$1.62
$2.79
$2.51
$2.65
$2.56
$2.54
05
06
$2.12
06
04
05
06
04
05
06
04
05
06
04
Verizon Wireless
Verizon Telecom
Verizon Business
> 2006 revenue of $38.0 billion
> 2006 revenue of $33.3 billion
> 2006 revenue of $20.5 billion
> Most reliable wireless network > Advanced fiber network serves 59.1 million customers
> Network reaches more than 255 million Americans
> Highest customer loyalty in
passes 6.2 million homes and businesses
> 7 million broadband
subscribers
> Serves 94 percent of Fortune 500
> Connections to 2,700 cities in 150 countries
> Global IP network large the industry: only 1.17 percent > FiOS TV service available to enough to circle the world churn per month
18 times
2.4 million homes in 10 states
> Largest U.S. wireless provider
(based on revenue)
> Largest communications
provider to the U.S. federal
government
Note: Prior-period amounts have been reclassified to reflect comparable results. See www.verizon.com/investor for reconciliations to generally accepted accounting principles
(GAAP) for the non-GAAP financial measures included in this annual report. Verizon’s 2006 reported results include revenues and expenses from the former MCI, Inc., subsequent
to the close of the merger in January 2006. Information provided in this annual report on a pro-forma (non-GAAP) basis presents the combined operating results of Verizon and
the former MCI on a comparable basis. Discontinued operations include Verizon’s former directory publishing unit, which was spun-off to shareholders in the fourth quarter 2006,
and the operations of Verizon Dominicana C. por A. and Telecomunicaciones de Puerto Rico Inc. following second quarter 2006 agreements to sell the businesses. The Verizon
Dominicana sale closed in the fourth quarter 2006. Intra- and inter-segment transactions have not been eliminated from the business group revenue totals cited above.
In keeping with Verizon’s commitment to protecting the environment, this annual report is printed on recycled paper.
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
Verizon is creating new opportunities for growth through strategic investments in technology and innovation. Our advanced networks set Verizon apart in the marketplace by delivering great communications experiences to customers wherever, whenever and however they choose.
Over 100 million people around the world connect to our networks every day.
>Verizon customers enjoy ultra-fast Internet connections and a vast selection of high-quality television
programming over our advanced fiber-optic network.
>Wireless customers talk, share text and photo messages, access the Internet and email, download
music, and watch videos using the nation’s most reliable wireless network.
>Business customers trust Verizon’s expansive global IP (Internet Protocol) network to securely manage
and deliver their crucial business data around the world.
Verizon is a leader in delivering broadband and other wireline and wireless communication innovations
to mass market, business, government and wholesale customers. Around the block and around the
globe, our superior high-tech networks give us a competitive edge in the growth markets of the future.
Verizon operates America’s most reliable wireless network, as well as one of the most expansive wholly-owned global IP networks. In addition, we are deploying the nation’s most advanced fiber-optic
network to deliver the benefits of converged communications, information and entertainment services to customers.
Verizon at a glance:
>Dow 30 company
>59 million wireless customers
>45 million wireline access lines
>Serving 94 percent of Fortune 500 companies
>242,000 employees
>Over 2,200 Verizon Wireless retail stores across the country
>Employees in over 300 Verizon Business offices in 75 countries across six continents
>First company to provide fiber-based digital TV to the mass market
>First company to provide wide-area wireless broadband service
>First commercial provider of Internet access
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
Chairman’s Letter to Shareowners
Ivan Seidenberg Chairman and Chief Executive Officer
What we do.
Verizon serves customers by building great networks. It’s what we do. We design
networks, invest in technology to deploy them to customers’ homes and businesses,
maintain them, and upgrade them for the future. Our networks give us a platform
for innovating and delivering the great products, services, applications and content that customers want. This differentiates us from competitors and allows us to
marry communications, data and entertainment for customers in ways few other
companies can. As we unleash our increasingly powerful high-speed broadband,
global IP and mobile technologies, we accelerate our growth and drive our industry
forward, which in turn creates value for shareowners and customers.
This is what we believe – the conviction that guides our investment, drives
our strategy and motivates our people. This belief unites our leadership team,
employees and Board of Directors in our determination to be the industry’s premier
network company and the leader in delivering the benefits of advanced communications technologies to the marketplace.
By transforming our networks for the Internet age, we are defining Verizon as
a growth company. We made meaningful progress toward this goal in 2006.
Our growth businesses are gaining scale and reach. In wireless, we were the
first to deploy a national broadband network, which now reaches more than 200
million people. In telecom, we are upgrading our traditional copper network with
the most comprehensive high-speed fiber network in the country, which will
reach 18 million homes and businesses by the end of the decade. By combining
our large-business organization with MCI to form Verizon Business, we now have
Total Broadband
Connections
FiOS Internet Subscribers
FiOS TV Subscribers
(thousands)
(thousands)
(millions)
5.7
6.1
6.6
687
7.0
207
522
118
375
264
55
20
1Q06
2Q06
3Q06
4Q06
1Q06
2Q06
3Q06
4Q06
1Q06
2Q06
3Q06
4Q06
What We Do: FiOS
Americans are rapidly embracing high-bandwidth services
such as video downloads and photo sharing. As demand
for these new applications continues to rise, Verizon’s fiberoptic broadband network is uniquely positioned to meet
customers’ growing bandwidth needs for years to come.
Verizon’s fiber-based FiOS Internet service offers customers
ultra-fast broadband connections with current download
speeds up to 50 Mbps (megabits per second) – the fastest
in the market today. In addition, FiOS provides the fastest
available upload speeds, allowing customers to send
photos, videos and other large files.
Our FiOS TV service is a superior alternative to cable
and satellite, offering a broad collection of all-digital
programming, more than 25 high-definition (HD) channels,
and access to more than 8,000 video-on-demand titles. And because FiOS TV is delivered over Verizon's fiber
network, it provides customers with industry-leading quality
and reliability. The vast bandwidth of fiber allows Verizon's
video network to deliver true high-definition picture and
sound clarity. Greater bandwidth also means that FiOS TV
provides more entertainment options, new revenue growth
opportunities and a superior customer experience.
The Verizon FiOS Internet Advantage:
> Faster download speeds – up to 50 Mbps – means less time waiting
> Verizon’s fiber-optic network provides superior reliability
> Superior upstream speeds allow faster sharing of pictures,
videos and other content
> A wide range of broadband speeds and pricing plans to meet
everyone’s needs
The Verizon FiOS TV Advantage:
> Faster speed and improved reliability of an all-fiber network
> Wide selection of HD channels and video-on-demand titles
> High bandwidth allows households to watch several HD
programs at the same time
> Multi-room Digital Video Recorder lets viewers watch recorded
programs in different rooms
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
a high-speed backbone network that gives us unsurpassed global reach and the
ability to offer advanced Internet Protocol solutions to business customers around
the world. And we continue to differentiate our platforms with applications
U.S. Broadband Households
and services that make them work better, faster, more securely and more reliably
(millions)
for customers.
Actual
By executing a strategy based on investment and innovation, we have built
80
world-class networks that serve millions of customers at home, at work and on the
60
move. What makes this a breakthrough moment for Verizon is the powerful inter-
40
section of our network strengths with the trends that are creating new markets
20
and transforming the world of business, entertainment and communications.
Forecast
81.5
0
00 01 02 03 04 05 06 07 08 09 10 11
2006 will go down as the year that users took over the Internet.
YEAR
Blogs. Podcasts. YouTube. Wikipedia. MySpace. Open-source software. People
Source: Forrester Research, Inc., June, 2006
creating a shared chronicle of daily life by swapping photos, music, opinions, experiences with friends, families, even strangers. Businesses in constant dialogue with
customers, employees and partners – worldwide, 24x7.
U.S. Multi-PC Households
(millions)
This kind of user-generated, interactive, multimedia content is increasingly
dominating the marketplace – a sweeping trend known as “Web 2.0.” The Internet
Actual
is rapidly evolving from a text-based to a visual medium, which requires networks
80
that deliver much higher bandwidth both upstream and downstream. Providing
60
millions of customers the high-speed communications tools they need to par-
40
ticipate in this global conversation is one of the great business opportunities of
20
a generation.
Verizon builds the real networks on which these social networks depend.
Together, our broadband, mobile and global IP networks comprise a powerful
delivery system for the media-rich, interactive content that is transforming tele-
Forecast
73.8
0
00 01 02 03 04 05 06 07 08 09 10 11
YEAR
Source: Forrester Research, Inc., June, 2006
vision, the Internet, commerce, medicine and education as we know them today.
Verizon is at the heart of this creative, disruptive, market-making shift – delivering
high-definition content, helping people and businesses collaborate, and making
it all work together for customers, on any screen, wherever they are. Not only
does this create value for us, it also pushes the industry forward by fueling innovation in consumer electronics, equipment manufacturing, content, software and
search – all along the value chain.
Verizon’s leadership in these transformational technologies gives us an engine
for growth and makes us an indispensable driver of the 21st century economy.
How we’re performing.
Our 2006 results demonstrate that we are executing our strategy and turning
opportunity into profitable growth and value creation for shareowners.
Operating revenues for 2006 were $88.1 billion, a 26.8 percent increase over
2005. On a pro forma basis – that is, as if Verizon and MCI had been a single company
since 2005 – revenues grew by 3.3 percent on the year, with an increasing share
coming from growth businesses, and operating income margins were 16.1 percent,
also up year-over-year. We strengthened our balance sheet by reducing debt by
$1.9 billion, even while absorbing $6 billion of debt in the MCI transaction. We
focused on our core network businesses by disposing of non-network assets, such
as Verizon Information Services – now trading on the New York Stock Exchange as
Idearc – and our investment in the Dominican Republic. We also paid $4.7 billion in
dividends and repurchased approximately $1.7 billion in Verizon shares.
Reported earnings for 2006 were $6.2 billion, or $2.12 per share. Before special
items, earnings were $7.4 billion, or $2.54 per share. Our total return for 2006 was
34.6 percent. This performance is especially significant since we sold or spun off
assets that, while no longer strategic to our network focus, generated substantial
earnings and cash. Idearc has also appreciated in value since the spin-off, so investors who own both stocks have enjoyed an even higher total return. It was also
good to see that the overall industry – wireless, telecommunications, cable and online services – was healthier in 2006 than it has been in some time.
We invested $17.1 billion in our networks to differentiate our products and services, deliver quality growth and expand our relationships with customers.
With its emphasis on network quality and a record of innovation, Verizon
Wireless continued to post the best results in the industry in 2006: the highest
revenue growth, at 17.8 percent; the highest operating margins, at 25.2 percent;
the highest number of new customers, at 7.7 million; the most retail customers, at
56.8 million; and the most loyal customers, as indicated by our industry-leading
customer turnover of 1.17 percent.
2006 Total Return
Verizon
S&P 500
40%
34.6%
30%
20%
15.8%
10%
0%
-10%
12/31/05
03/31/06
06/30/06
Return of 34.6% excludes the Idearc spin-off and includes dividends.
09/30/06
12/31/06
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
What We Do:
Wireless
The wireless industry continues to be
one of the most dynamic growth sectors
in the global economy. In nearly every
measure – from market share to network
reliability to customer loyalty – Verizon
Wireless delivered another year of
superior results in 2006.
Wireless
Customers
Wireless
Revenues
(millions)
(billions)
59.1
$38.0
51.3
43.8
04
$27.7
05
06
04
$32.3
05
06
Last year Verizon Wireless added 7.7 million customers – the most in
our history – to bring our total wireless
Data Customers
Customer Turnover
customer base
to 59.1 million. This
(millions)
(percent)
represents a 15 percent increase in total
customers from the end of 2005. Verizon
Wireless continues to set industry
records for low
churn, a measure of
$34.3
1.43%
customer loyalty, with
only 1.17 percent
1.22%
1.14%
turnover.
And
in
the
fourth
quarter
$23.8
of 2006, Verizon Wireless quarterly
$16.6
revenues topped $10 billion for the first
time. Full-year 2006 revenues were
$38.0 billion, making Verizon Wireless
the largest wireless provider in the
country based on total revenues.
04
05
06
04
05
06
The Verizon Wireless Advantage:
> Most reliable wireless voice and data
network in the nation
> Recognized by publications and industry
organizations for the best customer
service
> Highest customer loyalty in the industry
> Over 2,200 Verizon Wireless retail stores
across the country
> Portfolio of innovative wireless devices
for consumers and businesses
> Industry-leading operating income
margins
The Verizon Wireless “Cherry Chocolate” music phone
Much of this growth comes from our leadership in wireless data, which in 2006
accounted for $4.5 billion in revenues. We ended the year with 34.3 million retail
data customers. With V CAST services and other high-speed applications, Verizon
Wireless is transforming the cell phone into a multimedia device capable of delivering music, Internet access, video and locator services. This gives us enormous room
for growth as we market these services to our loyal customer base.
We closed our merger with MCI in January 2006 to form Verizon Business. In
its first year of operation, Verizon Business staked out a strong competitive position among multinational customers. The superior global IP capabilities that MCI
brought to the table give us a particularly strong position in the high-growth end
of the large-business market.
Verizon Business was the only U.S.-based large business carrier to show
quarter-over-quarter revenue growth, fueled by 27.3 percent growth in strategic services such as advanced IP services, virtual private networks and managed
network services. Our industry-leading global network allows us to offer ultra-longhaul, converged packet access and other advanced capabilities demanded by these
sophisticated customers. We also achieved $600 million in merger synergies, which
exceeded our target, and raised our objective for 2007 to $900 million.
Our principal goal in Verizon Telecom is to transform our telecom franchise
U.S. HDTV Households
(millions)
into a broadband and entertainment business. To do that, we are investing in a
Actual
fiber network capable of delivering two-way, high-definition broadband and video
services at speeds currently up to 50 megabits per second, all the way to homes and
businesses – the fastest broadband service available in the market today.
70
60
50
This historic project – launched in July 2004 – began to bear fruit in 2006. Our
40
advanced fiber-optic network passed a total of 6.2 million homes and businesses
20
by the end of the year. We expanded our FiOS brand of high-speed data services,
which when combined with DSL gave us 7 million broadband customers for the
year, up 35.7 percent. We also introduced FiOS TV in September 2005 and now offer
video to customers in hundreds of communities across the country in competition
with cable providers. Essentially, we created a complex new business from scratch
in less than two years and ended 2006 with 207,000 video customers. We expect
video to gain even more momentum in 2007.
So 2006 was another year of solid operating performance and steady progress
in transforming our company. We completed a major merger, streamlined our structure, took market share, and put telecom and global business on a path to growth.
Forecast
64.0
30
10
0
00 01 02 03 04 05 06 07 08 09 10 11
YEAR
Source: Forrester Research, Inc., June, 2006
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
What We Do: Wireless Data
From text messaging and music downloads to GPS
navigation and Internet access, Verizon Wireless had
another strong year of growth in data services. For the third
consecutive year, wireless data revenues doubled over the
previous year, contributing $4.5 billion in revenues in 2006.
Verizon Wireless had 34.3 million retail data customers in
December 2006, a 44 percent increase over fourth quarter
2005. Nearly 19 million of those customers have high-speed
broadband-capable devices, including phones, PDAs,
Blackberries and laptop PC cards.
Verizon Wireless launched V CAST Music in early 2006, and now has 18 music-enabled phones that allow customers
to browse and download songs. In March 2007, Verizon
Wireless launched V CAST Mobile TV, the first true mobile TV
service in the nation. To continue providing the best customer
experience, Verizon is increasing wireless broadband speeds in markets throughout the country. This enhanced
broadband service gives customers the ability to upload files
up to six times faster than before.
The Verizon Wireless Data Advantage:
> V CAST – the nation’s first consumer wireless broadband
multimedia service
> V CAST Music – the world’s most comprehensive mobile
music service, with over 1.5 million songs available from the V CAST Music store
> BroadbandAccess – wireless Internet access at broadband speeds
> V CAST Navigator – an advanced navigation system for mobile phones
> TXT Messaging – 17.7 billion messages sent over the
network during 4Q 2006
> Picture Messaging – 353 million picture/video messages
shared during 4Q 2006
> Get It Now – downloadable games, ring tones, and other
exclusive applications and content
Wireless
Wireless
DataData
Customers
Customers
Wireless
Wireless
DataData
Revenues
Revenues
(millions)
(millions)
(billions)
(billions)
$4.5 $4.5
34.3 34.3
23.8 23.8
16.6 16.6
$2.2 $2.2
$1.1 $1.1
04 04 05 05 06 06
04 0405 05 06 06
What We Do: Business Services
Verizon Business, created in 2006 following the merger with MCI, offers large business customers advanced IP services, virtual private networks and managed network
services. Verizon provides local-to-global reach over its secure
global IP network to 94 percent of Fortune 500 companies. We also provide managed network services to nearly every
U.S. federal government agency from the civilian and defense
communities. Verizon Business’ broad and deep product portfolio has been recognized by leading industry analysts.
10
The Verizon Business Advantage:
> One of the most expansive IP backbone networks in the world
> Employees in over 300 offices in 75 countries across six continents
> Global IP footprint serving 2,700 cities in 150 countries
> More than 200 state-of-the-art data centers in 22 countries
> The Verizon Business network includes high-capacity lines
that allow data transfer up to 10 gigabits per second, the fastest commercially available today
> Strength in financial services, retail, high-tech, health care,
federal/state/local government and education
Business Revenues
Strategic Services
(billions)
(millions)
$5.0
$5.1
$5.2
1Q06
2Q06
3Q06
$5.3
$941
4Q06
1Q06
$1,006 $1,052
2Q06
3Q06
$1,132
4Q06
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
Where we’re headed.
Going forward, we’re focused on using the unique Verizon model to change our
growth profile and drive value for customers and shareowners.
We continue to restructure our assets to focus on broadband, wireless and
entertainment. We have announced our plan to divest or spin off our investments in Puerto Rico and Venezuela, as well as access lines in Maine, Vermont
and New Hampshire. These transactions will generate cash and strengthen our
strategic focus.
We expect to invest between $17.5 billion and $17.9 billion in 2007 to increase
the coverage, reliability and speed of our wireless, broadband and global IP networks. Our center of gravity will continue to shift to growth products and new
markets. As one of the few companies that can address customer needs across
all environments and all networks – what technologists call the customer’s entire
“ecosystem” – we are in a great position to use our capabilities to solve customer
problems and deliver the total digital experience they are coming to expect.
This is an area of real opportunity for us. Verizon’s products and services get
excellent grades from customers and industry analysts, but we know we can and
should be better, particularly in integrating the customer’s experience across different media, networks and devices.
We are committed to using our capabilities to deliver superior customer experiences. We are introducing bundled services that give customers the convenience
of a single source and single bill for all their Verizon services. We have the “firstmover” advantage in introducing services that marry content and communications
and deliver them to any screen the customer wants – video over wireless, Internet
on television screens, whole-house networking and more. We will continue to add
to the vertical capabilities of our networks, making them faster, more reliable and
more interactive. By capitalizing on the breadth of our company, we can deliver
integrated solutions and create the kind of compelling, differentiated customer
experiences that build loyalty and competitive advantage. And we are working
with a wide variety of partners to deliver their content across our three broadband
networks, with the highest possible quality, safety and security.
We are using our scale and structure to drive profits as well as revenues. We
have shown in Verizon Wireless that a business model based on superior networks,
customer loyalty and efficiency leads to year after year of margin leadership. That’s
our objective for Verizon, across all our operations. To assist in that effort, we cre-
11
ated Verizon Services Operations to help us drive a competitive cost structure and
take advantage of our scale efficiencies.
In addition, as we build out our fiber network, the new businesses enabled by
this investment are growing both in revenue contribution and operating efficiency,
which means our earnings and investment returns will improve over the long term,
as well.
How we work.
Verizon is a network company, in human as well as technological terms. In fact,
with our direct relationships with millions of customers, we’re different from other
companies in the Internet economy.
Our relationship to customers isn’t just virtual, it’s real. Our customers don’t
relate to us just through the click of a mouse. They come into our stores. They see
our trucks. They talk to our service reps. They invite our technicians into their
homes. They know that – with more than 240,000 employees in communities all
over the country and the world – we have a vested interest in good schools, safe
neighborhoods and strong local economies.
That’s why the human dimension of business – customer service, ethics, values,
reputation and community investment – is so deeply embedded in our culture and
so profoundly important to our success. Our people have a strong record of giving
back to communities through matching gifts, volunteer hours and other activities,
and our commitment to corporate social responsibility is visible in all our operations. We publish an annual report on our corporate responsibility initiatives, which
is available on our website. (For more, see page 13.)
Building trust with our stakeholders is not only the right thing to do, it’s vital
to the relationships we have with our partners and customers.
That human dimension also shapes the way we lead and manage our people.
Our strategy is only as good as the people who carry it out, our reputation only
as strong as the employees who embody it for customers. We have taken a number of steps to raise standards, increase our competitive focus and put more tools
for decision-making in the hands of our employees. For example, we devoted more
than 8 million hours of training and $110 million in tuition assistance in 2006 to
equip our employees to deploy new technologies and address the needs of sophisticated clients. We also have a rigorous and comprehensive Code of Business Conduct
that applies to all employees worldwide. We train and certify all employees in the
12
The Verizon Foundation at a glance:
$69,400,000
Total funds given by the Verizon
Foundation in 2006
11,280
Number of nonprofit organizations
that received time/money from
Verizon Volunteers last year
600,000
Hours of community service by
Verizon Volunteers in 2006
3,300
Nonprofit organizations that
received grants directly from the
Verizon Foundation
Verizon Thinkfinity at a glance:
47,000
Free online educational plans
and other resources available to
educators
90,200
Schools using Verizon Thinkfinity
resources
2,700,000
User sessions on Thinkfinity web site
each month in 2006
Verizon Wireless HopeLine
at a glance:
$1,300,000
Verizon Wireless HopeLine grants
in 2006
910,000
Phones collected in 2006 by
HopeLine to support domestic
violence prevention programs
300
Domestic violence prevention
organizations funded in 2006
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
What We Do: Corporate Responsibility
Verizon uses the power of networks to enrich people’s lives. We believe
deeply in the ability of communications to empower, teach, entertain and connect. That’s why Verizon is committed to improving literacy in
America and preparing students for success in the 21st century workplace.
We also put our technologies to work by helping victims of domestic
violence, improving the quality of health care in the U.S., and educating
children and parents about online safety. In addition, Verizon employees
have deep roots in their communities, and feel a responsibility to make a positive impact through volunteerism and charitable contributions. For more information on Verizon’s commitment to corporate responsibility,
please visit our web site at www.verizon.com/responsibility.
Verizon Thinkfinity
Thinkfinity is the Verizon Foundation's leading-edge resource for educators and the literacy community. This online education platform, which contains more than 47,000 educational resources such as lesson
plans and student activities, creates endless possibilities for learning. In partnership with eight of the nation's leading education organizations,
Thinkfinity is commercial-free and accessible anytime from anywhere at no cost. The homepage can be found at www.thinkfinity.org. Verizon will continue to expand this treasure chest of ideas and is working to make it available on other technologies to support learning in the 21st century.
13
What We Do: Business Transformation
Verizon’s strategic investments and focus on new growth opportunities have
transformed our company and strengthened our position in the growth segments of the communications, information and entertainment industry.
These charts show Verizon’s improving revenue mix from 2004 to 2006. Revenues
grew from $70.7 billion in 2004 to $88.1 billion in 2006. During this same period,
wireless and global businesses became a much larger percentage of total revenues.
This means we’re less dependent on the traditional telephone business and better positioned in the growth areas of broadband, wireless and global IP that are driving the world’s economy forward.
Business Transformation Drives Revenue Growth
2004
$70.7 Billion
2006
Global Business
Global Business
Broadband
and Video
Broadband
and Video
Wireless
Wireless
$88.1 Billion
Consumer Voice
Consumer Voice
Wholesale
Other
Wireline
International and
Information Services
Other
Wireline
Wholesale
Adjusted revenues in 2004 include those related to our former Information Services segment and our
Caribbean and Latin American properties which are classified as discontinued operations, and excludes revenues related to MCI which was acquired on January 6, 2006.
14
v e r i z o n c o m m u n i c at i o n s i n c . 2 0 0 6 a n n u a l r e p o rt
code, and we have established standards of conduct for our suppliers to ensure that
they conduct business in accordance with our standards of integrity and respect.
We have seen some significant changes in our senior leadership team this year.
Our vice chairman and longstanding technology guru, Larry Babbio, has decided
to retire after more than 40 years in the communications industry. We will feel the
influence of his passionate belief in superior networks as the basis of competitive
advantage and value creation for years to come. In January, we created three new
senior positions at the corporate level, naming Denny Strigl as president and chief
operating officer, John Stratton as chief marketing officer, and Shaygan Kheradpir
as chief information officer.
Shareowners look to the board of directors to use good corporate governance in
overseeing management’s performance and results. The board’s oversight focuses
on three principal areas: strategy development and execution, risk management,
and management development. Verizon’s board of directors has been instrumental
in leading our company through a period of historic technological and competitive transformation, balancing long-term investment with rigorous performance
standards that drive management to build shareowner value. Board members are
active and vigorous advocates for shareowner interests, reviewing strategic plans
Verizon Core Values
Respect
Integrity
Performance Excellence
Accountability
and holding management accountable for the successful execution of annual operating plans. Our full board met 12 times and there were a total of 21 committee
meetings in 2006. Independent board members meet regularly in executive session and annually elect an independent director to serve as the presiding director
and act as a liaison with the chairman.
During the past year, the board elected two new directors – Fran Keeth and John
Snow – who bring to us tremendous expertise in global operations and finance. Over
the past three years, five new independent directors have been added to the board.
We believe that our audit and finance committee, led by Thomas O’Brien, is one
of the strongest in all of corporate America. Our corporate governance and policy
committee, led by Sandra Moose, continues to develop rigorous corporate governance standards that govern the board and its committees. Our human resources
committee, led by Walter Shipley, has helped put in place a team of senior executives with proven track records, a deep knowledge of technology and markets, and
a demonstrated ability to lead us forward at critical junctures in our history.
Creating an aligned, accountable company is the work of leaders. To achieve
the superb execution we require across our big, diverse and complex company,
Verizon leaders must act on a few simple rules.
15
Our leaders are visible. They communicate goals, measure progress and reward
results. They are required to meet challenges head-on and own their results. They
are rewarded for creating value, not managing budgets. They rally their people
around sales and service, and motivate them to come to work every day with a passion to compete and win.
They challenge, communicate, take down barriers and do the work.
They intervene in the lives of their organizations to drive performance and
help Verizon win.
Our people understand the challenges ahead. The degree of complexity in the
Internet marketplace continues to amaze, as does the intensity of the competition
we face from a widening circle of companies. Keeping on top of these challenges
will require us to be in a constant mode of learning, innovating, growing and
transforming.
Of all our accomplishments, what I’m most proud of is that we are a team with
the confidence to change our company – and ourselves – to conform to the dynamics of the world around us. Every year, Verizon is a different company than we were
the year before: more innovative, more global, more competitive and more hightech. As we move forward, we are more focused on our core strategies and unified
in how we approach our customers. And with each passing day, we believe even
more deeply in the capabilities we bring to the marketplace and the vital role we
play in delivering all the new experiences of the Web 2.0 world.
We’re excited about creating a great future for our customers, employees and
shareowners. We’re motivated by the possibilities of advanced communications
technologies that are as transformational as any we have seen in the history of our
industry. Most of all, we are guided by the values that have shaped our history and
inspired by the legacy of technology leadership that has made us the company we
are today.
Serving customers with great networks is our heritage, our future and our
daily challenge.
It’s what we do.
Ivan G. Seidenberg
Chairman and Chief Executive Officer
16
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Selected Financial Data
(dollars in millions, except per share amounts)
Results of Operations
Operating revenues
Operating income
Income before discontinued operations and cumulative
effect of accounting change
Per common share – basic
Per common share – diluted
Net income
Net income available to common shareowners
Per common share – basic
Per common share – diluted
Cash dividends declared per common share
Financial Position
Total assets
Long-term debt
Employee benefit obligations
Minority interest
Shareowners’ investment
2006
2005
2004
2003
2002
$ 88,144
13,373
$ 69,518
12,581
$ 65,751
10,870
$ 61,754
5,312
$ 60,907
12,386
5,480
1.88
1.88
6,197
6,197
2.13
2.12
1.62
6,027
2.18
2.16
7,397
7,397
2.67
2.65
1.62
5,899
2.13
2.11
7,831
7,831
2.83
2.79
1.54
2,168
.79
.79
3,077
3,077
1.12
1.12
1.54
3,016
1.11
1.11
4,079
4,079
1.49
1.49
1.54
$188,804
28,646
30,779
28,337
48,535
$168,130
31,569
17,693
26,433
39,680
$165,958
34,970
16,796
24,709
37,560
$165,968
38,609
15,726
24,023
33,466
$167,468
43,066
14,484
23,749
32,616
• Significant events affecting our historical earnings trends in 2004 through 2006 are described in Management’s Discussion and Analysis of Results
of Operations and Financial Condition.
• 2003 data includes severance, pension and benefit charges and other special and/or non-recurring items.
• 2002 data includes gains on investments and sales of businesses and other special and/or non-recurring items.
Stock Performance Graph
Comparison of Five-Year Total Return Among Verizon, S&P 500 Telecom Services Index and S&P 500 Stock Index
$140.0
$120.0
Dollars
$100.0
$80.0
$60.0
$40.0
$20.0
$0.0
2001
2002
Verizon
2003
S&P 500
2004
2005
2006
S&P 500 Telecom Services
At December 31,
Data Points in Dollars*
Verizon
S&P 500
S&P 500 Telecom Services
*
2001
2002
2003
2004
2005
2006
100.0
100.0
100.0
84.9
77.9
65.9
80.3
100.2
70.7
96.5
111.1
84.7
75.2
116.6
80.2
101.1
135.0
109.5
Assumes $100 invested on December 31, 2001
The graph compares the cumulative total returns of Verizon, the S&P 500 Telecommunications Services Index, and the S&P 500 Stock Index over a five-year period.
It assumes $100 was invested on December 31, 2001, with dividends reinvested.
17
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Management’s Discussion and Analysis
of Results of Operations and Financial Condition
OVERVIEW
Verizon Communications Inc. (Verizon) is one of the world’s leading
providers of communications services. Verizon’s wireline business,
which includes the operations of the former MCI, provides telephone
services, including voice, broadband data and video services, network access, nationwide long-distance and other communications
products and services, and also owns and operates one of the most
expansive end-to-end global Internet Protocol (IP) networks.
Verizon’s domestic wireless business, operating as Verizon Wireless,
provides wireless voice and data products and services across the
United States using one of the most extensive and reliable wireless
networks. Stressing diversity and commitment to the communities in
which we operate, Verizon has a highly diverse workforce of approximately 242,000 employees.
The sections that follow provide information about the important
aspects of our operations and investments, both at the consolidated
and segment levels, and include discussions of our results of operations, financial position and sources and uses of cash. In addition, we
have highlighted key trends and uncertainties to the extent practicable. The content and organization of the financial and non-financial
data presented in these sections are consistent with information used
by our chief operating decision makers for, among other purposes,
evaluating performance and allocating resources. We also monitor
several key economic indicators as well as the state of the economy
in general, primarily in the United States where the majority of our
operations are located, in evaluating our operating results and analyzing and understanding business trends. While most key economic
indicators, including gross domestic product, impact our operations
to some degree, we have noted higher correlations to housing starts,
non-farm employment, personal consumption expenditures and capital spending, as well as more general economic indicators such as
inflation and unemployment rates.
Our results of operations, financial position and sources and uses of
cash in the current and future periods reflect Verizon management’s
focus on the following four key areas:
• Revenue Growth – Our emphasis is on revenue growth, devoting
more resources to higher growth markets such as wireless,
including wireless data, wireline broadband connections,
including fiber optics to the premises (Verizon’s FiOS data and TV
services), digital subscriber lines (DSL) and other data services,
long distance, as well as expanded strategic services to business
markets, rather than to the traditional wireline voice market,
where we have been experiencing access line losses. Verizon
reported consolidated revenue growth of 26.8% in 2006 compared to 2005, primarily driven by the merger with MCI and
17.8% higher revenue at Domestic Wireless. Verizon added
7,715,000 wireless customers and 1,838,000 broadband connections in 2006.
• Operational Efficiency – While focusing resources on growth, we
are continually challenging our management team to lower
expenses, particularly through technology-assisted productivity
improvements including self-service initiatives. The effect of
these and other efforts, such as real estate consolidations, call
center routing improvements and the formation of Verizon
Services Organization, has been to change the company’s cost
structure and maintain stable operating income margins. Real
estate consolidations include the establishment of the Verizon
Center. The Verizon Services Organization provides centralized
services across our business, including procurement, finance
operations and real estate services. With our deployment of the
18
FiOS network, we expect to realize savings in annual, ongoing
operating expenses as a result of efficiencies gained from fiber
network facilities. As the deployment of the FiOS network gains
scale and installation automation improvements occur, costs per
home connected are expected to decline. Since the merger with
MCI, we have gained operational benefits from sales force and
product and systems integration initiatives. While workforce
levels in 2006 increased to 242,000 from 206,000 primarily as a
result of the acquisition of MCI, productivity improvements and
merger synergy savings led to headcount reductions of about
9,200 in our wireline business.
• Capital Allocation – Our capital spending continues to be directed
toward growth markets. High-speed wireless data (EvolutionData Optimized, or EV-DO) services, replacement of copper
access lines with fiber optics to the premises, as well as
expanded services to business markets are examples of areas of
capital spending in support of these growth markets. Excluding
discontinued operations, in 2006, capital expenditures were
$17,101 million compared to 2005 capital expenditures of
$14,964 million. Of the increase, $1,602 million was primarily
attributable to capital spending related to the former MCI, with
the remainder in support of growth initiatives. In 2007, Verizon
management expects capital expenditures to be in the range of
$17.5 billion to $17.9 billion. In addition to capital expenditures,
Verizon Wireless continues to participate in the Federal
Communications Commission’s (FCC) wireless spectrum auctions and continues to evaluate spectrum acquisitions in support
of expanding data applications and its growing customer base. In
2006, this included participation in the FCC Auction 66 of
Advanced Wireless Services spectrum (AWS auction) in which
Verizon Wireless was the high bidder on thirteen 20 MHz licenses
covering a population of nearly 200 million.
• Cash Flow Generation and Shareowner Value Creation – The
financial statements reflect the emphasis of management on not
only directing resources to growth markets, but also creating
value for shareowners through the use of cash provided by our
operating and investing activities for the repayment of debt, share
repurchases and providing a stable dividend to our shareowners,
in addition to returning value to shareowners through spin-off and
other strategic transactions. Verizon’s total debt decreased to
$36,361 million as of December 31, 2006 from $38,257 million as
of December 31, 2005, primarily as a result of the debt reduction
resulting from the spin-off of Idearc Inc. (Idearc), formerly our U.S.
print and Internet yellow pages directories business, and the use
of cash acquired in the MCI merger and generated through
strategic asset sales (see “Other Factors That May Affect Future
Results – Recent Developments”), partially offset by debt
acquired in connection with the MCI merger. Strategic asset sales
included the sale of Verizon Dominicana C. por A. (Verizon
Dominicana), which closed on December 1, 2006. Verizon’s ratio
of debt to debt combined with shareowners’ equity was 42.8% as
of December 31, 2006 compared with 49.1% as of December 31,
2005. Management has recommended to the Board of Directors
that our dividend be maintained at a level no less than that immediately preceding the Idearc spin-off. In addition, we repurchased
$1,700 million of our common stock as part of our previously
announced program during 2006, and we plan to continue our
share buyback program at similar levels in 2007. Additionally,
Verizon’s balance of cash and cash equivalents at December 31,
2006 of $3,219 million increased by $2,459 million from $760 million at December 31, 2005.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Supporting these key focus areas are continuing initiatives to
enhance the value of our products and services through well-managed deployment of proven advanced technology and through
competitive products and services packaging. At Wireline, as of
December 31, 2006, we met our goal of passing six million premises
with our high-capacity fiber network (FiOS), doubling the number of
premises passed compared to year-end 2005. We added 517,000
new FiOS data connections in 2006. In 2005, Verizon began offering
video on the FiOS network in three markets. By the end of 2006,
Verizon had obtained over 600 video franchises covering 7.3 million
households with service available for sale to 2.4 million premises.
We had 207,000 FiOS TV customers by the end of 2006. We are also
developing and marketing innovative product bundles to include
local wireline, long distance, wireless and broadband services for
consumer and general business retail customers. These efforts will
also help counter the effects of competition and technology substitution that have resulted in access line losses, and will enable us to
grow revenues by becoming a leading video provider.
Also at Wireline, we will continue to focus investments in strategic
areas by rolling-out next generation global IP networks to meet the
ongoing global enterprise market shift to IP-based products and
services. Deployment of new strategic service offerings, including
expansion of our voice over IP (VoIP) and international Ethernet
capabilities, introduction of cutting edge video and web-based conferencing capabilities and enhancements to our virtual private
network portfolio, will allow us to continue to gain share in the enterprise market. Additionally, we will continue to integrate the business
of the former MCI to drive continued growth in synergy, supporting a
focus on operational efficiency and continued creation of shareowner value.
CONSOLIDATED RESULTS OF OPERATIONS
In this section, we discuss our overall results of operations and highlight special and non-recurring items. As a result of the spin-off of
our U.S. print and Internet yellow pages directories business, which
was included in the Information Services segment, as well as
reaching definitive agreements to sell our interests in
Telecomunicaciones de Puerto Rico, Inc. (TELPRI) and Verizon
Dominicana, each of which was included in the International segment, the operations of our former U.S. print and Internet yellow
pages directories business, Verizon Dominicana and TELPRI are
reported as discontinued operations and assets held for sale.
Accordingly, we now have two reportable segments – Wireline and
Domestic Wireless. Prior period amounts and discussions are
revised to reflect this change. We include in our results of operations
the results of the former MCI business subsequent to the close of
the merger on January 6, 2006.
This section on consolidated results of operations carries forward
the segment results, which exclude the special and non-recurring
items, and highlights and describes those items separately to ensure
consistency of presentation in this section and the “Segment
Results of Operations” section. In the following section, we review
the performance of our two reportable segments. We exclude the
effects of the special and non-recurring items from the segments’
results of operations since management does not consider them in
assessing segment performance, due primarily to their non-recurring
and/or non-operational nature. We believe that this presentation will
assist readers in better understanding our results of operations and
trends from period to period.
At Verizon Wireless, we will continue to execute on the fundamentals
of our network superiority and value proposition to deliver growth for
the business and provide new and innovative products and services
for our customers such as Broadband Access, our EV-DO service.
To accomplish our goal of being the acknowledged market leader in
providing wireless voice and data communication services in the
U.S., we will continue to implement the following key elements of
our business strategy: provide the highest network reliability through
our code division multiple access (CDMA) 1XRTT technology and
EV-DO (Revision A) infrastructure, which significantly increases data
transmission rates; profitably acquire, satisfy and retain our customers; and increase the value of our service offerings to customers
while achieving revenue and net income growth. We also continue to
expand our wireless data, messaging and multi-media offerings for
both consumer and business customers and take advantage of the
growing demand for wireless data services and focus on operating
margins and capital efficiency by driving down costs and leveraging
our scale.
In January 2007, Verizon announced a definitive agreement with
FairPoint Communications, Inc. (FairPoint) that will result in Verizon
establishing a separate entity for its local exchange access lines and
related business assets in Maine, New Hampshire and Vermont,
spinning off that new entity to Verizon’s shareowners, and immediately merging it with and into FairPoint. The total value to be
received by Verizon and its shareowners in exchange for these operations will be approximately $2,715 million.
19
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Consolidated Revenues
(dollars in millions)
Years Ended December 31,
Wireline
Verizon Telecom
Verizon Business
Intrasegment eliminations
Domestic Wireless
Corporate & Other
Revenues of Hawaii operations sold
Consolidated Revenues
2006
$
$
33,259
20,490
(2,955)
50,794
38,043
(693)
–
88,144
2005
$
$
32,114
7,394
(1,892)
37,616
32,301
(579)
180
69,518
2006 Compared to 2005
Consolidated revenues in 2006 were higher by $18,626 million, or
26.8% compared to 2005 revenues. This increase was primarily the
result of significantly higher revenues at Wireline and Domestic
Wireless.
Wireline’s revenues in 2006 increased by $13,178 million, or 35.0%
compared to 2005 due to the acquisition of MCI and growth from
broadband and long distance services. We added 1.8 million new
broadband connections, for a total of 7.0 million lines in service at
December 31, 2006, an increase of 35.7% compared to 5.1 million
lines in service at December 31, 2005. The number of Freedom
service plans continue to stimulate growth in long distance services,
as the number of packages reached 7.9 million as of December 31,
2006, representing a 44.1% increase from December 31, 2005.
These increases were partially offset by declines in wholesale revenues at Verizon Telecom due to subscriber losses resulting from
technology substitution, including wireless and VoIP. Wholesale revenues at Verizon Telecom declined by $752 million, or 8.3% in 2006
compared to similar periods in 2005 primarily due to the exclusion of
affiliated access revenues billed to the former MCI mass market entities in 2006. Revenues at Verizon Business increased primarily due
to the acquisition of MCI.
Domestic Wireless’s revenues increased by $5,742 million, or 17.8%
compared to 2005 due to increases in service revenues, including
data revenues, and equipment and other revenues. Data revenues
increased by $2,232 million or 99.5% compared to 2005. Domestic
Wireless ended 2006 with 59.1 million customers, an increase of
15.0% over 2005. Domestic Wireless’s retail customer base as of
December 31, 2006 was approximately 56.8 million, a 15.9%
increase over December 31, 2005, and comprised approximately
96.1% of our total customer base. Average service revenue per customer (ARPU) increased by 0.6% to $49.80 in 2006 compared to
2005, primarily attributable to increases in data revenue per customer driven by increased use of our messaging and other data
services. Retail ARPU increased by 0.7% to $50.44 for 2006 compared to 2005. Increases in wireless devices sold and revenue per
unit sold drove increases in equipment and other revenue in 2006
compared to 2005.
Lower revenue of Hawaii operations sold of $180 million, or 100% in
2006 compared to 2005 was the result of their sale during the
second quarter of 2005.
20
% Change
2005
$
35.0%
17.8
19.7
(100.0)
26.8
$
32,114
7,394
(1,892)
37,616
32,301
(579)
180
69,518
2004
$
$
32,261
7,414
(1,654)
38,021
27,662
(461)
529
65,751
% Change
(1.1)%
16.8
25.6
(66.0)
5.7
2005 Compared to 2004
Consolidated revenues in 2005 were higher by $3,767 million, or
5.7% compared to 2004 revenues. This increase was primarily the
result of significantly higher revenues at Domestic Wireless, partially
offset by lower revenues at Wireline and the sale of our Hawaii wireline operations in the second quarter of 2005.
Wireline’s revenues in 2005 were lower than 2004 by $405 million, or
1.1% primarily due to lower revenues from local services, partially
offset by higher network access and long distance services revenues. We added 1.7 million new broadband connections, for a total
of 5.1 million lines in service at December 31, 2005, an increase of
47.6% compared to 3.5 million lines in service at December 31,
2004. The introduction of our Freedom service plans stimulated
growth in long distance services. As of December 31, 2005, approximately 53% of our local wireline customers chose Verizon as their
long distance carrier. These increases were offset by declines in
wholesale revenues at Verizon Telecom due to subscriber losses
resulting from technology substitution, including wireless and VoIP.
Domestic Wireless’s revenues increased by $4,639 million, or 16.8%
in 2005 compared to 2004 due to increases in service revenues,
including data revenues, and equipment and other revenues. Data
revenues increased by $1,127 million or 101.0% compared to 2004.
Domestic Wireless ended 2005 with 51.3 million customers, an
increase of 17.2% over 2004. Domestic Wireless’s retail customer
base as of December 31, 2005 was approximately 49.0 million, a
17.2% increase over December 31, 2004, and comprised approximately 95.5% of our total customer base. ARPU decreased 1.5% to
$49.49 in 2005 compared to 2004, primarily due to pricing changes
in early 2005, partially offset by a 71.7% increase in data revenue
per customer in 2005 compared to 2004, driven by increased use of
our messaging and other data services. Increases in wireless
devices sold and revenue per unit sold drove increases in equipment
and other revenue in 2005 compared to 2004.
Lower revenue of Hawaii operations sold of $349 million, or 66.0% in
2005 compared to 2004 was the result of the sale during the second
quarter of 2005 of our wireline and directory operations in Hawaii.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Consolidated Operating Expenses
(dollars in millions)
Years Ended December 31,
Cost of services and sales
Selling, general and administrative expense
Depreciation and amortization expense
Sales of businesses, net
Consolidated Operating Expenses
2006
$
$
34,994
25,232
14,545
–
74,771
2005
$
$
% Change
24,200
19,652
13,615
(530)
56,937
44.6%
28.4
6.8
(100.0)
31.3
2005
$
$
24,200
19,652
13,615
(530)
56,937
2004
$
$
22,032
19,346
13,503
–
54,881
% Change
9.8%
1.6
0.8
nm
3.7
nm – Not meaningful
2006 Compared to 2005
Cost of Services and Sales
Cost of services and sales increased by $10,794 million, or 44.6% in
2006 compared to 2005. This increase was driven by the inclusion of
the former MCI operations, higher wireless network costs, increases
in wireless equipment costs and increases in pension and other
postretirement benefit costs, partially offset by the net impact of
productivity improvement initiatives.
The higher wireless network costs were caused by increased network
usage relating to both voice and data services in 2006 compared to
2005, partially offset by decreased roaming, local interconnection
and long distance rates. Cost of wireless equipment sales increased
in 2006 compared to 2005 primarily as a result of an increase in wireless devices sold due to an increase in gross activations and
equipment upgrades, together with an increase in cost per unit.
Costs in these periods were also impacted by increased pension and
other postretirement benefit costs. The overall impact of the 2006
assumptions, combined with the impact of lower than expected actual
asset returns over the past several years, resulted in pension and
other postretirement benefit expense of approximately $1,377 million
in 2006 compared to net pension and postretirement benefit expense
of $1,231 million in 2005. Special and non-recurring items recorded
during 2006 included $25 million of merger integration costs.
Selling, General and Administrative Expense
Selling, general and administrative expense includes salaries and
wages and benefits not directly attributable to a service or product,
bad debt charges, taxes other than income, advertising and
sales commission costs, customer billing, call center and information technology costs, professional service fees and rent for
administrative space.
Selling, general and administrative expense increased by $5,580 million, or 28.4% in 2006 compared to 2005. This increase was driven
by the inclusion of the former MCI operations, increases in the
Domestic Wireless segment primarily related to increased salary and
benefits expenses, and special and non-recurring charges. Special
and non-recurring items in selling, general and administrative
expenses in 2006 were $816 million compared to special and nonrecurring items in 2005 of $311 million.
Special and non-recurring items in 2006 included $56 million related
to pension settlement losses incurred in connection with our benefit
plans, a net pretax charge of $369 million for employee severance
and severance-related activities in connection with the involuntary
separation of approximately 4,100 employees, who were separated in
2006. Special and non-recurring charges in 2006 also included $207
million of merger integration costs, primarily for advertising and other
costs related to re-branding initiatives and systems integration activities, and a net pretax charge of $184 million for Verizon Center
relocation costs. Special and non-recurring items in 2005 included a
pretax impairment charge of $125 million pertaining to our leasing
operations for aircraft leased to airlines experiencing financial difficulties, a net pretax charge of $98 million related to the restructuring of
the Verizon management retirement benefit plans and a pretax charge
of $59 million associated with employee severance costs and severance-related activities in connection with the voluntary separation
program for surplus union-represented employees.
Depreciation and Amortization Expense
Depreciation and amortization expense increased by $930 million, or
6.8% in 2006 compared to 2005. This increase was primarily due to
higher depreciable and amortizable asset bases as a result of the
MCI merger and, to a lesser extent, increased capital expenditures.
2005 Compared to 2004
Cost of Services and Sales
Cost of services and sales increased by $2,168 million, or 9.8% in
2005 compared to 2004. This increase was principally due to
increases in pension and other postretirement benefit costs, higher
direct wireless network costs, increases in wireless equipment costs
and higher costs associated with our wireline growth businesses.
The overall impact of pension and other postretirement benefit plan
assumption changes, combined with lower asset returns over the
last several years, increased net pension and postretirement benefit
expenses by $407 million in 2005 (primarily in cost of services and
sales) compared to 2004. Higher direct wireless network charges
resulted from increased network usage in 2005 compared to 2004,
partially offset by lower roaming, local interconnection and long distance rates. Cost of equipment sales was higher in 2005 due
primarily to an increase in wireless devices sold together with an
increase in cost per unit sold, driven by growth in customer additions and an increase in equipment upgrades in 2005. Higher costs
associated with our wireline growth businesses, long distance and
broadband connections, included a 2,400, or 1.7% increase in the
number of Wireline employees as of December 31, 2005 compared
to December 31, 2004. Costs in 2004 were impacted by lower interconnection expense charged by competitive local exchange carriers
(CLECs) and settlements with carriers, including the MCI settlement
recorded in 2004.
Selling, General and Administrative Expense
Selling, general and administrative expense increased by $306 million,
or 1.6% in 2005 compared to 2004. This increase was driven by
increases in salary, pension and benefits costs, including an increase
in the customer care and sales channel work force and sales commissions, partially offset by gains on real estate sales in 2005 and lower
21
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
bad debt costs. Special and non-recurring items in selling, general
and administrative expenses in 2005 were $311 million compared to
special and non-recurring items in 2004 of $971 million.
Special and non-recurring items in 2005 included a pretax impairment charge of $125 million pertaining to our leasing operations for
aircraft leased to airlines experiencing financial difficulties, a net
pretax charge of $98 million related to the restructuring of the
Verizon management retirement benefit plans and a pretax charge of
$59 million associated with employee severance costs and severance-related activities in connection with the voluntary separation
program to surplus union-represented employees. Special and nonrecurring items recorded in 2004 included $805 million related to
pension settlement losses incurred in connection with the voluntary
separation of approximately 21,000 employees in the fourth quarter
of 2003 who received lump-sum distributions during 2004. Special
charges in 2004 also include an expense credit of $204 million
resulting from the favorable resolution of pre-bankruptcy amounts
due from MCI, partially offset by a charge of $113 million related to
operating asset losses.
Depreciation and Amortization Expense
Depreciation and amortization expense increased by $112 million, or
0.8% in 2005 compared to 2004. This increase was primarily due to
the increase in depreciable assets and software, partially offset by
lower rates of depreciation on telephone plant.
Sales of Businesses, Net
During the second quarter of 2005, we sold our wireline and directory
businesses in Hawaii and recorded a net pretax gain of $530 million.
Pension and Other Postretirement Benefits
For 2006 pension and other postretirement benefit costs, the discount rate assumption remained at 5.75%, consistent with interest
rate levels at the end of 2005. The expected rate of return on pension plan assets remained 8.50%, while the expected rate of return
on postretirement benefit plan assets was increased to 8.25% from
7.75% in 2005. The medical cost trend rate was 10% for 2006. For
2005 pension and other postretirement benefit costs, the discount
rate assumption was lowered to 5.75% from 6.25% in 2004, consistent with interest rate levels at the end of 2004. The medical cost
trend rate assumption was 10% in 2005. The expected rate of return
on pension and postretirement benefit plan assets for 2004 was
maintained at 8.50%.
For 2007 pension and other postretirement benefit costs, we evaluated our key employee benefit plan assumptions in response to
current conditions in the securities markets and medical and prescription drug cost trends. The discount rate assumption will be
increased to 6.00%, consistent with interest rate levels at the end of
2006. The medical cost trend rate will be 10% for 2007. The
expected rate of return on pension plan assets will remain at 8.50%
and the expected rate of return on postretirement benefit plan
assets will remain at 8.25% in 2007.
During 2006, we recorded net pension and postretirement benefit
expense of $1,377 million compared to net pension and postretirement benefit expense of $1,231 million in 2005 and net pension and
postretirement benefit expense of $824 million in 2004.
22
Other Consolidated Results
Equity in Earnings of Unconsolidated Businesses
Equity in earnings of unconsolidated businesses increased by $87
million, or 12.7% in 2006 compared to 2005. The increase is primarily
due to additional pension liabilities that Campañia Anónima Nacional
Teléfonos de Venezuela (CANTV) recognized in 2005, as well as the
effect of favorable operating results and lower taxes in 2006. In addition, the increase reflects our proportionate share, or $85 million, of a
tax benefit at Vodafone Omnitel N.V. (Vodafone Omnitel) in the third
quarter of 2006. A similar benefit was recorded in the third quarter of
2005 of $76 million.
Equity in earnings of unconsolidated businesses decreased by
$1,004 million, or 59.4% in 2005 compared to 2004. The decrease is
primarily due to a pretax gain of $787 million recorded on the sale of
our 20.5% interest in TELUS Corporation (TELUS) in the fourth
quarter of 2004 and the sale of another investment in 2004, lower
equity income resulting from the sale of TELUS and estimated additional pension liabilities at CANTV, partially offset by higher tax
benefits and operational results at Vodafone Omnitel.
Other Income and (Expense), Net
Years Ended December 31,
Interest income
Foreign exchange gains (losses), net
Other, net
Total
(dollars in millions)
2006
$
$
2005
201 $
(3)
197
395 $
103
11
197
311
2004
$
$
97
(7)
(8)
82
Other Income and (Expense), Net in 2006 increased $84 million, or
27% compared to 2005. The increase was primarily due to increased
interest income as a result of higher average cash balances coupled
with higher interest rates in 2006 compared to 2005, partially offset
by foreign exchange losses. Other, net in 2006 includes pretax gains
on sales of investments and marketable securities, as well as leased
asset gains.
Other, net in 2005 includes a pretax gain on the sale of a small international business and investment gains. Other Income and
(Expense), Net in 2005 and 2004 include expenses of $14 million
and $55 million, respectively, related to the early retirement of debt.
Interest Expense
Years Ended December 31,
(dollars in millions)
2006
2005
2004
Interest expense
Capitalized interest costs
Total interest costs on debt balances
$ 2,349
462
$ 2,811
$ 2,129
352
$ 2,481
$ 2,336
177
$ 2,513
Weighted average debt outstanding
Effective interest rate
$ 41,500
6.8%
$ 39,152
6.3%
$ 41,781
6.0%
In 2006, interest costs increased $330 million compared to 2005 primarily due to an increase in average debt level of $2,348 million and
increased interest rates compared to 2005. Higher capital expenditures in 2006 contributed to higher capitalized interest costs.
In 2005, the decrease in interest costs was primarily due to a reduction in average debt level of $2,629 million compared to 2004,
partially offset by higher average interest rates. Higher capital expenditures in 2005 contributed to higher capitalized interest costs.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Minority Interest
Years Ended December 31,
Minority interest
(dollars in millions)
2006
2005
2004
$ 4,038
$ 3,001
$ 2,329
The increase in minority interest expense in 2006 compared to 2005,
and in 2005 compared to 2004 was attributable to higher earnings at
Domestic Wireless, which is 45% owned by Vodafone Group Plc
(Vodafone).
Provision for Income Taxes
Years Ended December 31,
Provision for income taxes
Effective income tax rate
(dollars in millions)
2006
2005
2004
$ 2,674
32.8%
$ 2,421
28.7%
$ 2,078
26.1%
The effective income tax rate is the provision for income taxes as a
percentage of income from continuing operations before the provision for income taxes. Our effective income tax rate in 2006 was
higher than 2005 primarily as a result of favorable tax settlements
and the recognition of capital loss carryforwards in 2005. These
increases were partially offset by tax benefits from foreign operations and lower state taxes in 2006 compared to 2005.
Our effective income tax rate in 2005 was higher than 2004 due to
taxes on overseas earnings repatriated during the year, lower foreign-related tax benefits and lower favorable deferred tax
reconciliation adjustments. Included in the provision of income taxes
in 2005 are capital gains realized in connection with the sale of our
Hawaii business, which resulted in the realization of tax benefits of
$336 million primarily related to capital loss carryforwards. This was
largely offset by a tax provision of $206 million related to the repatriation of foreign earnings under the provisions of the American Jobs
Creation Act of 2004. The effective income tax rate in 2004 was
favorably impacted by the reversal of a valuation allowance relating
to investments, tax benefits related to deferred tax balance adjustments and expense credits that are not taxable.
A reconciliation of the statutory federal income tax rate to the effective rate for each period is included in Note 16 to the consolidated
financial statements.
Discontinued Operations
Discontinued operations represents the results of operations of
TELPRI for all years presented in the consolidated statements of
income and Verizon Dominicana, Verizon Information Services and
Verizon Information Services Canada Inc. prior to their sale or spinoff in December 2006, November 2006 and the fourth quarter of
2004, respectively.
In the second quarter of 2006, we announced our decision to sell
Verizon Dominicana and TELPRI and, in accordance with Statement
of Financial Accounting Standards (SFAS) No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, (SFAS No. 144) we
have classified the results of operations of Verizon Dominicana and
TELPRI as discontinued operations. The sale of Dominicana closed
in December 2006 and, primarily due to taxes on previously
unremitted earnings, a pretax gain of $30 million resulted in an aftertax loss of $541 million (or $.18 per diluted share).
Income from discontinued operations, net of tax decreased by $611
million, or 44.6% in 2006 compared to 2005. This decrease was primarily due to the after-tax loss recorded in 2006 on the sale of Verizon
Dominicana, partially offset by cessation of depreciation on fixed
assets held for sale. Income from discontinued operations, net of tax
decreased by $562 million, or 29.1% in 2005 compared to 2004. The
decrease was primarily driven by the after-tax gain recorded on the
sale of Verizon Information Services Canada Inc. in 2004.
Cumulative Effect of Accounting Change
In December 2004, the Financial Accounting Standards Board
(FASB) issued SFAS No. 123(R), Share-Based Payment, (SFAS No.
123(R)) which revises SFAS No. 123, Accounting for Stock-Based
Compensation (SFAS No. 123). SFAS No. 123(R) requires all sharebased payments to employees, including grants of employee stock
options, to be recognized as compensation expense based on their
fair value. Effective January 1, 2003, we adopted the fair value
recognition provisions of SFAS No. 123, using the prospective
method (as permitted under SFAS No. 148, Accounting for StockBased Compensation – Transition and Disclosure (SFAS No. 148)) for
all new awards granted, modified or settled after January 1, 2003.
Under the prospective method, employee compensation expense in
the first year is recognized for new awards granted, modified, or settled. The options generally vest over a term of three years, therefore,
the expenses related to stock-based employee compensation
included in the determination of net income for 2006, 2005 and 2004
are less than what would have been recorded if the fair value method
had been applied to previously issued awards.
Effective January 1, 2006, we adopted SFAS No. 123(R) utilizing the
modified prospective method. SFAS No. 123(R) requires the measurement of stock-based compensation expense based on the fair
value of the award on the date of grant. Under the modified prospective method, the provisions of SFAS No. 123(R) apply to all awards
granted or modified after the date of adoption. SFAS No. 123(R) is
supplemented by Staff Accounting Bulletin (SAB) No. 107, “ShareBased Payments” (SAB No. 107). This SAB, which was issued by the
Securities and Exchange Commission (SEC) in March 2005,
expresses the views of the SEC staff regarding the relationship
between SFAS No. 123(R) and certain SEC rules and regulations. In
particular, this SAB provides guidance related to valuation methods,
the classification of compensation expense, non-GAAP financial
measures, the accounting for income tax effects of share-based
payment arrangements, disclosures in Management’s Discussion
and Analysis subsequent to adoption of SFAS No. 123(R), and interpretations of other share-based payment arrangements. We also
adopted SAB No. 107 on January 1, 2006.
We recorded a $42 million cumulative effect of accounting change
as of January 1, 2006, net of taxes and after minority interest, to recognize the effect of initially measuring the outstanding liability
awards (VARs) of the Verizon Wireless joint venture at fair value utilizing a Black-Scholes model. We do not expect SFAS No. 123(R) to
have a material effect on our consolidated financial statements in
future periods.
We completed the spin-off of Idearc to our shareholders on
November 17, 2006, which resulted in an $8,695 million increase to
contributed capital in shareowners’ investment.
Discontinued operations also include the results of operations of
Verizon Information Services Canada Inc. prior to its sale in the fourth
quarter of 2004. The sale resulted in a pretax gain of $1,017 million
($516 million after-tax, or $.18 per diluted share).
23
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
SEGMENT RESULTS OF OPERATIONS
On November 17, 2006, we completed the spin-off to our shareowners
of our U.S. print and Internet yellow pages directories, which was
included in the Information Services segment. The spin-off resulted in
a new company, named Idearc Inc. In addition, on April 2, 2006, we
reached definitive agreements to sell our interests in TELPRI and
Verizon Dominicana, each of which was included in the International
segment. In accordance with SFAS No. 144, we have classified the
results of operations for our U.S. print and Internet yellow pages directories business, Verizon Dominicana and TELPRI as discontinued
operations and assets held for sale. Accordingly, we now have two
reportable segments and prior period amounts and discussions are
revised to reflect this change. Our segments are Wireline and Domestic
Wireless. You can find additional information about our segments in
Note 17 to the consolidated financial statements.
We measure and evaluate our reportable segments based on segment
income. Corporate, eliminations and other includes unallocated corporate expenses, intersegment eliminations recorded in consolidation,
the results of other businesses such as our investments in unconsolidated businesses, primarily Omnitel and CANTV, lease financing, and
asset impairments and expenses that are not allocated in assessing
segment performance due to their non-recurring nature. These adjustments include transactions that the chief operating decision makers
exclude in assessing business unit performance due primarily to their
non-recurring and/or non-operational nature. Although such transactions are excluded from the business segment results, they are
included in reported consolidated earnings. Gains and losses that are
not individually significant are included in all segment results, since
these items are included in the chief operating decision makers’
assessment of unit performance.
Wireline
The Wireline segment, which includes the operations of the former
MCI, consists of the operations of Verizon Telecom, a provider of
telephone services, including voice, broadband video and data, network access, long distance, and other services to consumer and
small business customers and carriers, and Verizon Business, a
provider of next-generation IP network services globally to medium
and large businesses and government customers. As discussed earlier under “Consolidated Results of Operations,” in the second
quarter of 2005, we sold wireline properties in Hawaii representing
approximately 700,000 access lines or 1% of the total Verizon
Telecom switched access lines in service. For comparability purposes, the results of operations shown in the tables below exclude
the Hawaii properties that have been sold.
Operating Revenues
Years Ended December 31,
Verizon Telecom
Mass Markets
Wholesale
Other
Verizon Business
Enterprise Business
Wholesale
International and Other
Intrasegment Eliminations
Total Wireline Operating Revenues
24
(dollars in millions)
2006
2005
2004
$ 22,528
8,323
2,408
$ 20,446
9,075
2,593
$ 20,447
9,128
2,686
13,999
3,381
3,110
(2,955)
$ 50,794 $
6,018
1,376
–
(1,892)
37,616 $
6,196
1,218
–
(1,654)
38,021
In connection with the completion of the MCI merger, our product
lines were realigned to be reflective of the Line of Business structure
in which the product lines are currently being managed. Prior period
amounts and discussions were reclassified to conform to the current
presentation.
Verizon Telecom
Mass Markets
Verizon Telecom’s Mass Markets revenue includes local exchange
(basic service and end-user access), value-added services, long distance, broadband services for residential and certain small business
accounts and FiOS TV services. Value-added services are a family of
services that expand the utilization of the network, including products
such as Caller ID, Call Waiting, Home Voicemail and Return Call.
Long distance includes both regional toll services and long distance
services. Broadband services include DSL and FiOS.
Our Mass Market revenues increased by $2,082 million, or 10.2% in
2006, and decreased by $1 million, or 0.0% in 2005. The increase in
2006 was principally due to the inclusion of revenues from the
former MCI and, in 2006 and 2005, growth from broadband and long
distance. In both years revenue increases were offset by lower
demand and usage of our basic local exchange and accompanying
services attributable to subscriber losses due to technology substitution, including wireless and VoIP.
We added 1,838,000 new broadband connections, including
517,000 for FiOS in 2006, for a total of 6,982,000 lines at December
31, 2006, an increase of 35.7% compared to 5,144,000 lines in
service at December 31, 2005. We have achieved a FiOS data penetration rate of 14% across all markets where we have been selling
this service. Our Freedom service plans continue to stimulate growth
in long distance services, as the number of plans reached 7.9 million
as of December 31, 2006, representing a 44.1% increase from
December 31, 2005. As of December 31, 2006, approximately 58%
of our legacy Verizon wireline customers have chosen Verizon as
their long distance carrier.
Declines in switched access lines in service of 7.6% in 2006 and 6.7%
in 2005 were mainly driven by the effects of competition and technology substitution. Demand for legacy Verizon residential access
lines declined 7.1% in 2006 and 6.3% in 2005, as customers substituted wireless, broadband and cable services for traditional landline
services. At the same time, legacy Verizon business access lines
declined 3.2% in 2006, and 4.2% in 2005, primarily reflecting competition and a shift to high-speed, high-volume special access lines.
We continue to seek opportunities to retain and win back customers.
Our Freedom service plans offer local services with various combinations of long distance and Internet access services in a
discounted bundle available on one bill. We have introduced our
Freedom service plans in nearly all of our key markets.
Wholesale
Wholesale revenues are earned from long distance and other competing carriers who use our local exchange facilities to provide
usage services to their customers. Switched access revenues are
derived from fixed and usage-based charges paid by carriers for
access to our local network. Special access revenues originate from
carriers that buy dedicated local exchange capacity to support their
private networks. Wholesale services also include local wholesale
revenues from unbundled network elements (UNEs), interconnection
revenues from CLECs and wireless carriers, and some data transport revenues.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Wholesale revenues decreased by $752 million, or 8.3% in 2006 and
by $53 million, or 0.6% in 2005, due to the exclusion, in 2006, of
affiliated access revenues billed to the former MCI mass market
entities, and, in 2006 and 2005, to declines in legacy Verizon
switched access revenues and local wholesale revenues, offset by
increases in special access revenues.
Switched minutes of use declined in 2006 and 2005, reflecting the
impact of access line loss and technology substitution. Wholesale lines
decreased by 17.1% in 2006 due to the impact of a decision by a
major competitor to deemphasize their local market initiatives in 2005.
Special access revenue growth reflects continuing demand in the business market for high-capacity, high-speed digital services, partially
offset by lessening demand for older, low-speed data products and
services. As of December 31, 2006, customer demand for high
capacity and digital data services increased 8.9% compared to 2005.
The FCC regulates the rates that we charge customers for interstate
access services. See “Other Factors That May Affect Future Results
– Regulatory and Competitive Trends – FCC Regulation” for additional information on FCC rulemaking concerning federal access
rates, universal service and certain broadband services.
Other
Other revenues include services such as operator services (including
deaf relay services), public (coin) telephone, card services and supply
sales, as well as former MCI dial-around services including 10-10987, 10-10-220, 1-800-COLLECT and Prepaid Cards.
Verizon Telecom’s revenues from other services decreased by $185
million, or 7.1% in 2006, and by $93 million, or 3.5% in 2005. These
revenue decreases were mainly due to the discontinuation of nonstrategic businesses, including the termination of a large commercial
inventory management contract in 2005, and reduced business volumes, which were partially offset by the inclusion of revenues from
the former MCI in 2006.
Verizon Business
Enterprise Business
Our Enterprise Business market provides voice, data and internet
communications services to medium and large business customers,
multi-national corporations, and state and federal government customers. In addition, the Enterprise Business market also provides
value-added services that make communications more secure, reliable and efficient managed network services for customers that
outsource all or portions of their communications and information
processing operations. Traditional local and long distance services
comprise $6,551 million, or 47% of revenue in 2006, $4,110 million,
or 68% of revenue in 2005, and $4,447 million, or 72% of total
Enterprise Business revenue in 2004. Enterprise Business also provides data services such as Private Line, Frame Relay and ATM
services, both domestically and internationally, as well as managed
network services to its customers.
Enterprise Business 2006 revenues of $13,999 million, increased
$7,981 million, or 132.6% compared to 2005 primarily due to the
acquisition of MCI, and declined $178 million, or 2.9% in 2005 compared to 2004. Data services revenue was $5,430, or 39% of
Enterprise Business’ revenue stream in 2006, $1,908 million, or 32%
in 2005, and $1,749 million, or 28% in 2004. Internet services revenue was $2,018 million in 2006, or 14% of Enterprise Business’s
revenues, the first year Enterprise Business offered Internet services.
The Internet suite of products is Enterprise Business’ fastest
growing and includes Private IP, IP VPN, Web Hosting and VoIP.
Enterprise Business 2005 revenues of $6,018 million declined $178
million compared to 2004, primarily due to a 3.5% decline in business access lines, reflecting competition and a shift to high-speed,
high volume special access lines.
Wholesale
Our Wholesale revenues relate to domestic wholesale services,
which include all wholesale traffic sold in the United States, as well
as international traffic that originates in the United States.
In the year ended December 31, 2006, our Verizon Business
Wholesale revenues of $3,381 million, increased $2,005 million, or
145.7%, compared to 2005, primarily due to the MCI acquisition.
Local and long distance voice products, including transport, represented $1,601 million or 47% of the market’s total revenue in 2006,
the first year the Wholesale business group has offered voice products. Wholesale revenue is influenced by aggressive competitive
pricing, in particular long distance voice services. Wholesale data
and Internet revenues were $1,780 million, or 52% of total
Wholesale revenue for the year ended December 31, 2006, $1,376
million, or 100% of total Wholesale revenue in 2005 and $1,218 million, or 100% of total Wholesale revenues in 2004.
International and Other
Our International operations serve businesses, government entities
and telecommunication carriers outside of the United States. Other
operations include our Skytel paging business.
Our revenues from International and Other in the year ended
December 31, 2006 were $3,110 million. This market represents a
new revenue stream to Verizon resulting from the MCI acquisition.
International and Other had voice revenue of $1,822 million in the
year ended December 31, 2006, or 58% of the total International
and Other revenues. Internet revenue represented $894 million, or
29% of total revenue in the period. Data revenue was $394 million,
or 13% of total International and Other revenue in the year ended
December 31, 2006.
Operating Expenses
Years Ended December 31,
Cost of services and sales
$
Selling, general and administrative expense
Depreciation and amortization expense
$
(dollars in millions)
2006
2005
2004
24,522
12,116
9,590
46,228
$ 15,604
8,419
8,801
$ 32,824
$ 14,830
8,621
8,910
$ 32,361
Cost of Services and Sales
Cost of services and sales includes the following costs directly
attributable to a service or product: salaries and wages, benefits,
materials and supplies, contracted services, network access and
transport costs, customer provisioning costs, computer systems
support, costs to support our outsourcing contracts and technical
facilities, contributions to the universal service fund, customer provisioning costs and cost of products sold. Aggregate customer care
costs, which include billing and service provisioning, are allocated
between cost of services and sales and selling, general and administrative expense.
Cost of services and sales increased by $8,918 million, or 57.2% in
2006 compared to 2005. These increases were primarily due to the
MCI merger in 2006 partially offset by the net impact of other cost
changes. Higher costs associated with our growth businesses and
annual wage increases were partially offset by productivity improvement initiatives, which reduced cost of services and sales expenses
in 2006. Expenses were also impacted by increased net pension and
other postretirement benefit costs. The overall impact of the 2006
25
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
assumption changes combined with the impact of lower than
expected actual asset returns over the past several years, resulted in
pension and other postretirement benefit expense of $1,408 million
(primarily in cost of services and sales) in 2006 compared to net
pension and postretirement benefit expense of $1,248 million in
2005. Further, expenses decreased in both years due to the discontinuation of non-strategic businesses, including the termination of a
large commercial inventory management contract in 2005.
In 2005, our cost of services and sales increased by $774 million, or
5.2% compared to 2004. Costs in 2005 were impacted by increased
pension and other postretirement benefit costs. At December 31,
2004, in connection with an evaluation of key employee benefit plan
assumptions, the discount rate assumption was lowered from 6.25%
in 2004 to 5.75% in 2005, consistent with interest rate levels at the
end of 2004. Further, there was an increase in the retiree health care
cost trend rates. The overall impact of these assumption changes,
combined with the impact of lower than expected actual asset
returns over the last several years, resulted in net pension and other
postretirement benefit expense (primarily in cost of services and
sales) of $1,248 million in 2005, compared to net pension and
postretirement benefit expense of $803 million in 2004. Also contributing to expense increases in cost of services and sales were
higher costs associated with our growth businesses. Further, the
expense increase was impacted by favorable adjustments to our
interconnection expense in 2004, as a result of our ongoing reviews
of local interconnection expense charged by CLECs and settlements
with carriers.
Selling, General and Administrative Expense
Selling, general and administrative expenses in 2006 increased by
$3,697 million or 43.9% compared to 2005. These increases were
primarily due to the inclusion of expenses from the former MCI in
2006 partially offset by synergy savings resulting from our merger
integration efforts, the impact of gains from real estate sales and
lower bad debt costs.
In 2005, our selling, general and administrative expense decreased
by $202 million, or 2.3% compared to 2004. This decrease was
attributable to gains on the sale of real estate in 2005, lower property
and gross receipts taxes and reduced bad debt costs, partially offset
by higher net pension and benefit costs, as described above, and a
prior year gain on the sale of two small business units.
Depreciation and Amortization Expense
The increase in depreciation and amortization expense of $789 million, or 9.0% in 2006 was mainly driven by the acquisition of MCI’s
depreciable property and equipment and finite-lived intangibles,
including its customer lists and capitalized non-network software,
measured at fair value and by growth in depreciable telephone plant
and non-network software assets. The decrease in depreciation and
amortization expense of $109 million or 1.2%, in 2005 compared to
2004 was mainly driven by lower rates of depreciation, partially
offset by higher plant, property and equipment balances and software amortization costs.
Segment Income
Years Ended December 31,
Segment Income
Domestic Wireless
Our Domestic Wireless segment provides wireless voice and data
services and equipment sales across the United States. This segment primarily represents the operations of the Verizon Wireless joint
venture with Vodafone. Verizon owns a 55% interest in the joint venture and Vodafone owns the remaining 45%. All financial results
included in the tables below reflect the consolidated results of
Verizon Wireless.
Operating Revenues
Years Ended December 31,
2006
2005
2004
Wireless sales and services
$ 38,043
$ 32,301
$ 27,662
(dollars in millions)
Domestic Wireless’s total revenues of $38,043 million were $5,742
million, or 17.8% higher in 2006 compared to 2005. Service revenues of $32,796 million were $4,665 million, or 16.6% higher than
2005. The service revenue increase was primarily due to a 15.0%
increase in customers as of December 31, 2006 compared to
December 31, 2005, and increased average revenue per customer.
Equipment and other revenue increased $1,077 million, or 25.8% in
2006 compared to 2005 principally as a result of increases in the
number and price of wireless devices sold. Other revenue also
increased due to increases in regulatory fees, primarily the universal
service fund, and cost recovery surcharges.
Our Domestic Wireless segment ended 2006 with 59.1 million customers, an increase of 7.7 million net new customers, or 15.0%
compared to December 31, 2005. Substantially all of the net customers added during 2006 were retail customers. The overall
composition of our Domestic Wireless customer base as of
December 31, 2006 was 92.6% retail postpaid, 3.6% retail prepaid
and 3.8% resellers. Total average monthly churn, the rate at which
customers disconnect service, decreased to 1.17% in 2006 compared to 1.26% in 2005. Retail postpaid churn decreased to 0.9% in
2006 compared to 1.1% in 2005.
(dollars in millions)
2006
2005
2004
$ 1,634
$ 1,906
$ 2,652
Segment income decreased by $272 million, or 14.3% in 2006 and
by $746 million, or 28.1% in 2005, due to the after-tax impact of
operating revenues and operating expenses described above, along
with the impact of favorable income tax adjustments in 2005.
26
Special and non-recurring items not included in Verizon Wireline’s
segment income totaled $407 million, ($168) million and $346 million
in 2006, 2005, and 2004 respectively. Special and non-recurring
items in 2006 included costs associated with severance activity,
pension settlement losses, Verizon Center relocation-related costs,
and merger integration costs. Merger integration costs primarily
included costs related to advertising and re-branding initiatives, and
labor and contractor costs related to information technology integration initiatives. Special and non-recurring items in 2005 related to the
Hawaii results of operations and gain on the sale of the Hawaii wireline operations, the net gain on the sale of a New York City office
building, changes to management retirement benefit plans, severance costs, and Verizon Center relocation-related costs. Special and
non-recurring items in 2004 primarily included pension settlement
losses, operating asset losses, and costs associated with the early
retirement of debt, partially offset by an expense credit resulting
from the favorable resolution of pre-bankruptcy amounts due from
MCI as well as a gain on the sale of an investment.
Average revenue per customer per month increased 0.6% to $49.80
in 2006 compared to 2005. Average service revenue per customer
reflected a 72% increase in data revenue per customer in 2006,
compared to 2005, driven by increased use of our messaging,
VZAccess and other data services. Retail service revenue per retail
customer of $50.44 also grew in 2006, compared to 2005. However,
Domestic Wireless continued to experience an increase in the proportion of customers on its Family Share price plans, which put
downward pressure on average service revenue per customer during
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
2006. Data revenues were $4,475 million and accounted for 13.6%
of service revenue in 2006, compared to $2,243 million and 8.0% of
service revenue in 2005.
Domestic Wireless’s total revenues of $32,301 million were $4,639
million, or 16.8% higher in 2005 compared to 2004. Service revenues of $28,131 million were $3,731 million, or 15.3% higher than
2004. This revenue growth was primarily due to increased customers, partially offset by a decrease in average revenue per
customer per month, and increases in equipment and other revenue,
principally as a result of an increase in wireless devices sold
together with an increase in revenue per unit sold. At December 31,
2005, customers totaled 51.3 million, an increase of 17.2% compared to December 31, 2004. Retail net additions accounted for 7.2
million, or 95.8% of the total net additions. Total churn decreased to
1.3% in 2005, compared to 1.5% in 2004. Retail postpaid churn
decreased to 1.1% in 2005 compared to 1.3% in 2004.
Average revenue per customer per month decreased 1.5% to $49.49
in 2005 compared to 2004, primarily due to pricing changes to our
America’s Choice and Family Share plans earlier in the year. Partially
offsetting the impact of these pricing changes was a 71.7% increase
in data revenue per customer in 2005 compared to 2004, driven by
increased use of our messaging and other data services. Data revenues were $2,243 million and accounted for 8.0% of service
revenue in 2005, compared to $1,116 million and 4.6% of service
revenue in 2004.
Operating Expenses
Years Ended December 31,
Cost of services and sales
$
Selling, general and administrative expense
Depreciation and amortization expense
$
(dollars in millions)
2006
2005
2004
11,491
12,039
4,913
28,443
$ 9,393
10,768
4,760
$ 24,921
$ 7,747
9,591
4,486
$ 21,824
Cost of Services and Sales
Cost of services and sales, which are costs to operate the wireless
network as well as the cost of roaming, long distance and equipment
sales, increased by $2,098 million, or 22.3% in 2006 compared to
2005. Cost of services increased due to higher wireless network
costs in 2006 caused by increased network usage relating to both
voice and data services, partially offset by lower rates for long distance, roaming and local interconnection. Cost of equipment sales
grew by 29.7% in 2006 compared to 2005. The increase was primarily attributed to an increase in wireless devices sold, resulting from
an increase in equipment upgrades and gross retail activations,
together with an increase in cost per unit driven by increased sales of
higher cost advanced wireless devices, in 2006, compared to 2005.
Cost of services and sales increased by $1,646 million, or 21.2% in
2005 compared to 2004. This increase was primarily due to higher
network charges resulting from increased network usage in 2005
compared to 2004, and an increase in cost of equipment sales
driven by increased wireless devices sold and equipment upgrades
in 2005 compared to 2004.
Selling, General and Administrative Expense
Selling, general and administrative expense increased by $1,271 million, or 11.8% in 2006 compared to 2005. This increase was
primarily due to an increase in salary and benefits expense of $632
million, resulting from an increase in employees, primarily in the
sales and customer care areas, and higher per employee salary and
benefit costs. Advertising and promotion expense increased $207
million in 2006, compared to 2005. Also contributing to the increase
were higher costs associated with regulatory fees, primarily the uni-
versal service fund, which increased by $167 million in 2006 compared to 2005.
Selling, general and administrative expense increased by $1,177 million, or 12.3% in 2005 compared to 2004. This increase was
primarily due to increased salary and benefits expense and higher
sales commissions, related to an increase in customer additions and
renewals during 2005 compared to 2004.
Depreciation and Amortization Expense
Depreciation and amortization expense increased by $153 million, or
3.2% in 2006 compared to 2005 and increased by $274 million, or
6.1% in 2005 compared to 2004. These increases were primarily due
to increased depreciation expense related to the increases in depreciable assets. The increase in 2006 was partially offset by a decrease
in amortization expense due to fully amortized customer lists.
Segment Income
Years Ended December 31,
Segment Income
(dollars in millions)
2006
2005
2004
$ 2,976
$ 2,219
$ 1,645
Segment income increased by $757 million, or 34.1% in 2006 compared to 2005 and increased by $574 million, or 34.9% in 2005
compared to 2004, primarily as a result of the after-tax impact of operating revenues and operating expenses described above, partially
offset by higher minority interest expense. Special and non-recurring
items of $42 million after-tax were due to the adoption of SFAS 123 (R).
There were no special items affecting this segment in 2005 or 2004.
Increases in minority interest expense in 2006 and 2005 were principally due to the increased income of the wireless joint venture and
the significant minority interest attributable to Vodafone.
SPECIAL ITEMS
Disposition of Businesses and Investments
Sale of Discontinued Operations
On December 1, 2006, we closed the sale of Verizon Dominicana.
The transaction resulted in net pretax cash proceeds of $2,042 million. The U.S. taxes that became payable and were recognized at the
time the transaction closed significantly exceeded the amount of the
pretax gain of $30 million. The sale resulted in an after-tax loss of
$541 million (or $.18 per diluted share). There were no similar items
in 2005. In 2004, we closed on the sale of Verizon Information
Services Canada Inc. and recorded a gain of $1,017 million ($516
million after-tax, or $.18 per diluted share).
Sales of Businesses, Net
During 2005, we sold our wireline and directory businesses in
Hawaii, including Verizon Hawaii Inc. which operated approximately
700,000 switched access lines, as well as the services and assets of
Verizon Long Distance, Verizon Online, Verizon Information Services
and Verizon Select Services Inc. in Hawaii, to an affiliate of The
Carlyle Group for $1,326 million in cash proceeds. In connection
with this sale, we recorded a net pretax gain of $530 million ($336
million after-tax, or $.12 per diluted share). There were no similar
items in 2006 and 2004.
Sales of Investments, Net
During 2004, we recorded a pretax gain of $787 million ($565 million
after-tax, or $.20 per diluted share) on the sale of our 20.5% interest
in TELUS in an underwritten public offering in the U.S. and Canada.
In connection with this sale transaction, Verizon recorded a contribution of $100 million to Verizon Foundation to fund its charitable
27
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
activities and increase its self-sufficiency. Consequently, we
recorded a net gain of $500 million after taxes, or $.18 per diluted
share related to this transaction and the accrual of the Verizon
Foundation contribution.
Also during 2004, we sold all of our investment in Iowa Telecom preferred stock, which resulted in a pretax gain of $43 million ($43
million after-tax, or $.02 per diluted share). This preferred stock was
received in 2000 in connection with the sale of access lines in Iowa.
There were no similar items in 2006 and 2005.
Spin-off Related Charges
In 2006, we recorded pretax charges of $117 million ($101 million
after-tax, or $.03 per diluted share) for costs related to the spin-off of
Idearc. These costs primarily consisted of banking and legal fees, as
well as filing fees, printing and mailing costs. There were no similar
charges in 2005 and 2004.
Merger Integration Costs
In 2006, we recorded pretax charges of $232 million ($146 million
after-tax, or $.05 per diluted share) related to integration costs associated with the MCI acquisition that closed on January 6, 2006.
These costs are primarily comprised of advertising and other costs
related to re-branding initiatives and systems integration activities.
There were no similar charges incurred in 2005 and 2004.
Facility and Employee-Related Items
During 2006, we recorded pretax charges of $184 million ($118 million after-tax) in connection with the continued relocation of
employees and business operations to Verizon Center located in
Basking Ridge, New Jersey. During 2005, we recorded a net pretax
gain of $18 million ($8 million after-tax) in connection with this relocation of our new operations center, Verizon Center, including a
pretax gain of $120 million ($72 million after-tax) related to the sale
of a New York City office building, partially offset by a pretax charge
of $102 million ($64 million after-tax) primarily associated with relocation, employee severance and related activities. There were no
similar charges incurred in 2004.
for Postretirement Benefits Other Than Pensions (SFAS No. 106) and
includes the unamortized cost of prior pension enhancements of
$430 million offset partially by a pretax curtailment gain of $332 million related to retiree medical benefits. In connection with this
restructuring, management employees: no longer earn pension benefits or earn service towards the company retiree medical subsidy after
June 30, 2006; received an 18-month enhancement of the value of
their pension and retiree medical subsidy; and receive a higher savings plan matching contribution.
During 2004, we recorded pretax pension settlement losses of $805
million ($492 million after-tax) related to employees that received
lump-sum distributions during 2004 in connection with the voluntary
separation plan under which more than 21,000 employees accepted
the separation offer in the fourth quarter of 2003. These charges
were recorded in accordance with SFAS No. 88. In addition, we
recorded a $7 million after-tax charge in income from discontinued
operations, related to the 2003 separation plan.
Tax Matters
During 2005, we recorded tax benefits of $336 million in connection
with capital gains and prior year investment losses. As a result of the
capital gain realized in 2005 in connection with the sale of our
Hawaii businesses, we recorded a tax benefit of $242 million related
to capital losses incurred in previous years. The investment losses
pertain to Iusacell, CTI Holdings, S.A. (CTI) and TelecomAsia.
Also during 2005, we recorded a net tax provision of $206 million
related to the repatriation of foreign earnings under the provisions of
the American Jobs Creation Act of 2004, for two of our foreign
investments.
As a result of the capital gain realized in 2004 in connection with the
sale of Verizon Information Services Canada, we recorded tax benefits of $234 million in the fourth quarter of 2004 pertaining to prior
year investment impairments. The investment impairments primarily
related to debt and equity investments in CTI, Cable & Wireless plc
and NTL Incorporated.
Other Special Items
During 2006, we recorded net pretax severance, pension and benefits
charges of $425 million ($258 million after-tax, including $3 million of
income recorded to discontinued operations, or $.09 per diluted
share). These charges included net pretax pension settlement losses
of $56 million ($26 million after-tax, or $.01 per diluted share) related
to employees that received lump-sum distributions primarily resulting
from our separation plans. These charges were recorded in accordance with SFAS No. 88, Employers’ Accounting for Settlements and
Curtailments of Defined Benefit Pension Plans and for Termination
Benefits (SFAS No. 88), which requires that settlement losses be
recorded once prescribed payment thresholds have been reached.
Also included are pretax charges of $369 million ($228 million aftertax, or $.08 per diluted share), for employee severance and
severance-related costs in connection with the involuntary separation
of approximately 4,100 employees. In addition, during 2005 we
recorded a charge of $59 million ($36 million after-tax, or $.01 per
diluted share) associated with employee severance costs and severance-related activities in connection with the voluntary separation
program for surplus union-represented employees.
During 2005, we recorded a net pretax charge of $98 million ($59 million after-tax) related to the restructuring of the Verizon management
retirement benefit plans. This pretax charge was recorded in accordance with SFAS No. 88, and SFAS No. 106, Employers’ Accounting
28
During 2006, we recorded pretax charges of $26 million ($16 million
after-tax, or $.01 per diluted share) resulting from the extinguishment
of debt assumed in connection with the completion of the
MCI merger.
As discussed in the “Cumulative Effect of Accounting Change” section, during 2006, we recorded after-tax charges of $42 million ($.01
per diluted share) to recognize the adoption of SFAS No. 123 (R).
During 2005, we recorded pretax charges of $139 million ($133 million after-tax, or $.05 per diluted share) including a pretax
impairment charge of $125 million ($125 million after-tax, or $.04 per
diluted share) pertaining to aircraft leased to airlines involved in
bankruptcy proceedings and a pretax charge of $14 million ($8 million after-tax, or less than $.01 per diluted share) in connection with
the early extinguishment of debt.
In the second quarter of 2004, we recorded an expense credit of $204
million ($123 million after-tax, or $.04 per diluted share) resulting from
the favorable resolution of pre-bankruptcy amounts due from MCI that
were recovered upon the emergence of MCI from bankruptcy.
Also during 2004, we recorded a charge of $113 million ($87 million
after-tax, or $.03 per diluted share) related to operating asset losses
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
pertaining to our international long distance and data network. In
addition, we recorded pretax charges of $55 million ($34 million
after-tax, or $.01 per diluted share) in connection with the early
extinguishment of debt.
CONSOLIDATED FINANCIAL CONDITION
(dollars in millions)
Years Ended December 31,
Cash Flows Provided By (Used In)
Operating activities
Investing activities
Financing activities
Increase (Decrease) In Cash and
Cash Equivalents
2006
2005
2004
$ 24,106 $ 22,025 $ 21,791
(15,616) (18,492) (10,343)
(6,031)
(5,034)
(9,856)
$ 2,459
$ (1,501) $ 1,592
We use the net cash generated from our operations to fund network
expansion and modernization, repay external financing, pay dividends and invest in new businesses. Additional external financing is
utilized when necessary. While our current liabilities typically exceed
current assets, our sources of funds, primarily from operations and,
to the extent necessary, from readily available external financing
arrangements, are sufficient to meet ongoing operating and
investing requirements. We expect that capital spending requirements will continue to be financed primarily through internally
generated funds. Additional debt or equity financing may be needed
to fund additional development activities or to maintain our capital
structure to ensure our financial flexibility.
Cash Flows Provided By Operating Activities
Our primary source of funds continues to be cash generated from
operations. In 2006, the increase in cash from operating activities
compared to 2005 was primarily due to higher earnings at Domestic
Wireless, which included higher minority interest earnings, and lower
dividends paid to minority partners. Total minority interest earnings,
net of dividends paid to minority interest partners, was $3.2 billion in
2006 compared to $1.7 billion in 2005. In addition, higher operating
cash flow in 2006 compared to 2005 was due to lower cash taxes
paid in 2006, resulting from 2005 tax payments related to foreign
operations and investments sold during the fourth quarter of 2004.
Partially offsetting these increases were significant 2005 repatriations
of foreign earnings of unconsolidated businesses.
Cash Flows Used In Investing Activities
Capital expenditures continue to be our primary use of capital
resources as they facilitate the introduction of new products and services, enhance responsiveness to competitive challenges and increase
the operating efficiency and productivity of our networks. Including
capitalized software, we invested $10,259 million in our Wireline business in 2006, compared to $8,267 million and $7,118 million in 2005
and 2004, respectively. We also invested $6,618 million in our Verizon
Wireless business in 2006, compared to $6,484 million and $5,633 million in 2005 and 2004, respectively. The increase in capital spending at
Wireline is mainly driven by the acquisition of MCI, coupled with
increased spending in high growth areas such as broadband. Capital
spending at Verizon Wireless represents our continuing effort to invest
in this high growth business.
In 2007, capital expenditures including capitalized software are
expected to be in the range of $17.5 billion to $17.9 billion.
In 2006, we invested $1,422 million in acquisitions and investments
in businesses, including $2,809 million to acquire thirteen 20 MHz
licenses in connection with the FCC Advanced Wireless Services
auction and $57 million to acquire other wireless properties. This
was offset by MCI’s cash balances of $2,361 million at the date of
the merger, of which $779 million was used for a cash payment to
MCI shareholders. In 2005, we invested $4,684 million in acquisitions and investments in businesses, including $3,003 million to
acquire NextWave Telecom Inc. (NextWave) personal communications services licenses, $641 million to acquire 63 broadband
wireless licenses in connection with FCC auction 58, $419 million to
purchase Qwest Wireless, LLC’s spectrum licenses and wireless
network assets in several existing and new markets, $230 million to
purchase spectrum from MetroPCS, Inc. and $297 million for other
wireless properties and licenses. In 2004, we invested $1,196 million
in acquisitions and investments in businesses, including $1,052 million for wireless licenses and businesses, including a NextWave
license covering the New York metropolitan area, and $144 million
related to Verizon’s limited partnership investments in entities that
invest in affordable housing projects.
In 2005, we received cash proceeds of $1,326 million in connection
with the sale of Verizon’s wireline operations in Hawaii. In 2004, we
received cash proceeds of $117 million from the sale of a small
business unit.
In 2005, the increase in cash from operations compared to 2004 was
primarily driven higher by the repatriation of $2.2 billion of foreign
earnings from unconsolidated businesses, higher minority interest
earnings, net of dividends paid to minority partners of $1.0 billion and
lower severance payments in 2005. These increases were largely
offset by higher cash income tax payments, including taxes paid in
2005 related to the 2004 sales of Verizon Information Services Canada
and TELUS shares, and higher pension fund contributions.
Our short-term investments include principally cash equivalents held
in trust accounts for payment of employee benefits. In 2006, 2005
and 2004, we invested $1,915 million, $1,955 million and $1,801 million, respectively, in short-term investments, primarily to pre-fund
active employees’ health and welfare benefits. Proceeds from the
sales of all short-term investments, principally for the payment of
these benefits, were $2,205 million, $1,609 million and $1,711 million
in the years 2006, 2005 and 2004, respectively.
Operating cash flows from discontinued operations decreased $505
million to $1,076 million in 2006 due to the completion of the Idearc
spin-off on November 17, 2006 and the close of the sale of Verizon
Dominicana on December 1, 2006, partially offset by the operating
activities of the remaining assets held for sale. Operating cash flows
from discontinued operations decreased $34 million from $1,615
million in 2004 to $1,581 million in 2005 due to the completion of the
sale of Verizon Information Services Canada in the fourth quarter of
2004, partially offset by operating activities of the remaining assets
held for sale.
Other, net investing activities for 2006 include cash proceeds of
$283 million from property sales. Other, net investing activities for
2005 includes a net investment of $913 million for the purchase of
43.4 million shares of MCI common stock from eight entities affiliated with Carlos Slim Helú, offset by cash proceeds of $713 million
from property sales, including a New York City office building, and
$349 million of repatriated proceeds from the sales of European
investments in prior years. Other, net investing activities for 2004
includes net cash proceeds of $1,632 million received in connection
with the sale of our 20.5% interest in TELUS and $650 million in
29
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
connection with sales of our interests in various other investments,
including a partnership venture with Crown Castle International
Corp., EuroTel Bratislava, a.s. and Iowa Telecom preferred stock.
In 2006, investing activities of discontinued operations include net
pretax cash proceeds of $2,042 million in connection with the sale of
Verizon Dominicana. In 2005, investing activities of discontinued
operations are primarily related to capital expenditures related to
discontinued operations. In 2004, investing activities of discontinued
operations include cash proceeds of $1,603 million from the sale of
Verizon Information Services Canada, partially offset by capital
expenditures related to discontinued operations.
Under the terms of an investment agreement, Vodafone had the right
to require Verizon Wireless to purchase up to an aggregate of $20
billion worth of Vodafone’s interest in Verizon Wireless at designated
times (put windows) at its then fair market value, not to exceed $10
billion in any one put window. Vodafone had the right to require the
purchase of up to $10 billion during a 61-day period which opened
on June 10 and closed on August 9 in 2006, and did not exercise
that right. As of December 31, 2006, Vodafone only has the right to
require the purchase of up to $10 billion worth of its interest, during
a 61-day period opening on June 10 and closing on August 9 in
2007, under its one remaining put window. Vodafone also may
require that Verizon Wireless pay for up to $7.5 billion of the required
repurchase through the assumption or incurrence of debt. In the
event Vodafone exercises its one remaining put right, we (instead of
Verizon Wireless) have the right, exercisable at our sole discretion, to
purchase up to $2.5 billion of Vodafone’s interest for cash or Verizon
stock at our option.
Cash Flows Used In Financing Activities
Our total debt was reduced by $1,896 million during 2006. We repaid
$6,838 million of Wireline debt, including premiums associated with the
retirement of $5,665 million of aggregate principal amount of long-term
debt assumed in connection with the MCI merger. The Wireline repayments also included the early retirement/prepayment of $697 million of
long-term debt and $155 million of other long-term debt at maturity.
We repaid $2.5 billion of Domestic Wireless 5.375% fixed rate notes
that matured on December 15, 2006. At December 31, 2006, Verizon
Wireless had no third-party debt. Also, we redeemed the $1,375 million
accreted principal of our remaining zero-coupon convertible notes and
retired $482 million of other corporate long-term debt at maturity.
These repayments were partially offset by our issuance of long-term
debt with a total aggregate principal amount of $4,000 million, resulting
in cash proceeds of $3,958 million, net of discounts, issuance costs
and the receipt of cash proceeds related to hedges on the interest rate
of an anticipated financing. In connection with the spin-off of Idearc,
we received net cash proceeds of approximately $2 billion and retired
debt in the aggregate principal amount of approximately $7 billion (see
Other Consolidated Results – Discontinued Operations – Verizon
Information Services).
Cash of $240 million was used to reduce our total debt during 2005.
We repaid $1,533 million of Domestic Wireless, $1,183 million of
Wireline and $1,109 million of Verizon corporate long-term debt. The
Wireline debt repayment included the early retirement of $350 million
of long-term debt and $806 million of other long-term debt at maturity. This decrease was largely offset by the issuance by Verizon
corporate of long-term debt with a total principal amount of $1,500
million, resulting in total cash proceeds of $1,478 million, net of discounts and costs, and an increase in our short-term borrowings of
$2,098 million.
30
Cash of $5,401 million was used to reduce our total debt during
2004. We repaid $2,315 million and $2,769 million of Wireline and
Verizon corporate long-term debt, respectively. The Wireline debt
repayment includes the early retirement of $1,275 million of longterm debt and $950 million of other long-term debt at maturity. The
corporate debt repayment includes $1,984 million of zero-coupon
convertible notes redeemed by Verizon corporate and $723 million
of other corporate long-term debt at maturity. Also, during 2004, we
decreased our short-term borrowings by $747 million and Verizon
corporate issued $500 million of long-term debt.
Our ratio of debt to debt combined with shareowners’ equity
was 42.8% at December 31, 2006 compared to 49.1% at December
31, 2005.
As of December 31, 2006, we had no bank borrowings outstanding.
We also had approximately $6.2 billion of unused bank lines of credit
(including a $6.0 billion three-year committed facility that expires in
September 2009 and various other facilities totaling approximately
$400 million) and we had shelf registrations for the issuance of up to
$4.5 billion of unsecured debt securities. The debt securities of Verizon
and our telephone subsidiaries continue to be accorded high ratings
by primary rating agencies. In order to simplify and streamline our
financing entities, Verizon Global Funding merged into Verizon
Communications on February 1, 2006. Verizon Communications is now
the primary issuer of all long-term and short-term debt for Verizon. The
short-term ratings of Verizon Communications are: Moody’s P-2; S&P
A-1; and Fitch F1. The long-term ratings of Verizon Communications
are: Moody’s A3 with stable outlook; S&P A with negative outlook; and
Fitch A+ with stable outlook. In June 2006, the long-term debt rating of
Verizon Wireless was upgraded by Moody’s to A2 from A3 and
assigned a stable outlook and the long-term debt rating of Verizon
Communications was affirmed at A3 with a stable outlook. In
December 2006, Fitch affirmed the long-term debt rating of Verizon
Communications at A+ with a stable outlook. Following the maturity of
its remaining external debt in December 2006, Moody’s and Fitch withdrew the rating on Verizon Wireless.
We and our consolidated subsidiaries are in compliance with all of
our debt covenants.
As in prior years, dividend payments were a significant use of capital
resources. We determine the appropriateness of the level of our dividend payments on a periodic basis by considering such factors as
long-term growth opportunities, internal cash requirements and the
expectations of our shareowners. In 2006 and 2005, Verizon
declared quarterly cash dividends of $.405 per share. In 2004, we
declared quarterly cash dividends of $.385 per share.
Common stock has been used from time to time to satisfy some of
the funding requirements of employee and shareowner plans. On
January 19, 2006, the Board of Directors determined that no additional common shares could be purchased under previously
authorized share repurchase programs and gave authorization to
repurchase of up to 100 million common shares terminating no later
than the close of business on February 28, 2008. We repurchased
$1,700 million of our common stock as part of this program.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Increase (Decrease) In Cash and Cash Equivalents
Our cash and cash equivalents at December 31, 2006 totaled $3,219
million, a $2,459 increase compared to cash and cash equivalents at
December 31, 2005 of $760 million. The increase in cash and cash
equivalents in 2006 was primarily driven by proceeds from the disposition of Verizon Dominicana and the spin-off of Idearc, cash
acquired in connection with the merger of MCI and higher debt borrowings, partially offset by increased capital expenditures and higher
repayments of borrowings. Our cash and cash equivalents at
December 31, 2005 totaled $760 million, a $1,501 million decrease
compared to cash and cash equivalents at December 31, 2004 of
$2,261 million. The decrease in cash and cash equivalents in 2005
was primarily driven by increased capital expenditures and higher
acquisitions and investments, partially offset by proceeds from the
sale of businesses and lower repayments of borrowings.
Employee Benefit Plan Funded Status and Contributions
In September 2006, the FASB issued Statement of Financial
Accounting Standards No. 158, Employers’ Accounting for Defined
Benefit Pension and Other Postretirement Plans—an amendment of
FASB Statements No. 87, 88, 106, and 132(R) (SFAS No. 158). SFAS
No. 158 requires the recognition of a defined benefit postretirement
plan’s funded status as either an asset or liability on the balance
sheet. SFAS No. 158 also requires the immediate recognition of the
unrecognized actuarial gains and losses and prior service costs and
credits that arise during the period as a component of Other
Accumulated Comprehensive Income, net of applicable income taxes.
Additionally, the fair value of plan assets must be determined as of the
company’s year-end. We adopted SFAS No. 158 effective December
31, 2006 which resulted in a net decrease to shareowners’ investment
of $6,883 million. This included a net increase in pension obligations
of $2,403 million, an increase in Other Postretirement Benefits
Obligations of $10,828 million and an increase in Other Employee
Benefit Obligations of $31 million, partially offset by a net decrease of
$1,205 million to reverse the Additional Minimum Pension Liability and
an increase in deferred taxes of $5,174 million.
Prior to the adoption of SFAS No. 158 we evaluated each pension
plan to determine whether an additional minimum pension liability
was required or whether any adjustment was necessary as determined by the provisions of SFAS No. 87, Employers’ Accounting for
Pensions. In 2005, we recorded a benefit of $51 million, net of tax,
primarily in Employee Benefit Obligations in the consolidated balance
sheets. The changes in the assets and liabilities were recorded in
Accumulated Other Comprehensive Loss, net of a tax benefit, in
shareowners’ investment in the consolidated balance sheets.
We operate numerous qualified and nonqualified pension plans and
other postretirement benefit plans. These plans primarily relate to
our domestic business units. The majority of Verizon’s pension plans
are adequately funded. We contributed $451 million, $593 million
and $145 million in 2006, 2005 and 2004, respectively, to our qualified pension trusts. We also contributed $117 million, $105 million
and $114 million to our nonqualified pension plans in 2006, 2005
and 2004, respectively.
Based on the funded status of the plans at December 31, 2006, we
anticipate qualified pension trust contributions of $510 million in
2007. Our estimate of required qualified pension trust contributions
for 2008 is approximately $300 million. Nonqualified pension contributions are estimated to be approximately $120 million and $180
million for 2007 and 2008, respectively.
Contributions to our other postretirement benefit plans generally
relate to payments for benefits primarily on an as-incurred basis
since the other postretirement benefit plans do not have funding
requirements similar to the pension plans. We contributed $1,099 million, $1,040 million and $1,099 million to our other postretirement
benefit plans in 2006, 2005 and 2004, respectively. Contributions to
our other postretirement benefit plans are estimated to be approximately $1,210 million in 2007 and $1,580 million in 2008, prior to
anticipated receipts related to Medicare subsidies.
Leasing Arrangements
We are the lessor in leveraged and direct financing lease agreements
under which commercial aircraft and power generating facilities,
which comprise the majority of the portfolio, along with industrial
equipment, real estate, telecommunications and other equipment
are leased for remaining terms of less than 1 year to 49 years as of
December 31, 2006. Minimum lease payments receivable represent
unpaid rentals, less principal and interest on third-party nonrecourse
debt relating to leveraged lease transactions. Since we have no general liability for this debt, which holds a senior security interest in the
leased assets and rentals, the related principal and interest have
been offset against the minimum lease payments receivable in
accordance with generally accepted accounting principles. All
recourse debt is reflected in our consolidated balance sheets. See
“Special Items” for a discussion of lease impairment charges.
Off Balance Sheet Arrangements and Contractual Obligations
Contractual Obligations and Commercial Commitments
The following table provides a summary of our contractual obligations and commercial commitments at December 31, 2006. Additional detail
about these items is included in the notes to the consolidated financial statements.
(dollars in millions)
Payments Due By Period
Contractual Obligations
Long-term debt (see Note 11)
Capital lease obligations (see Note 10)
Total long-term debt
Interest on long-term debt (see Note 11)
Operating leases (see Note 10)
Purchase obligations (see Note 21)
Other long-term liabilities (see Note 15)
Total contractual obligations
Total
$
$
32,425
360
32,785
23,300
6,843
812
3,600
67,340
Less than
1 year
$
$
4,084
55
4,139
1,915
1,739
566
1,720
10,079
1-3 years
$
$
3,784
101
3,885
3,449
2,192
217
1,880
11,623
3-5 years
$
$
5,316
81
5,397
2,965
1,183
16
–
9,561
More than
5 years
$
$
19,241
123
19,364
14,971
1,729
13
–
36,077
31
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Guarantees
Foreign Currency Translation
In connection with the execution of agreements for the sales of businesses and investments, Verizon ordinarily provides representations
and warranties to the purchasers pertaining to a variety of nonfinancial matters, such as ownership of the securities being sold, as well
as financial losses.
The functional currency for our foreign operations is primarily the
local currency. The translation of income statement and balance
sheet amounts of our foreign operations into U.S. dollars are
recorded as cumulative translation adjustments, which are included
in Accumulated Other Comprehensive Loss in our consolidated balance sheets. The translation gains and losses of foreign currency
transactions and balances are recorded in the consolidated statements of income in Other Income and (Expense), Net and Income
from Discontinued Operations, Net of Tax. At December 31, 2006,
our primary translation exposure was to the Venezuelan bolivar,
British pound and the euro. During 2005, we entered into zero cost
euro collars to hedge a portion of our net investment in Vodafone
Omnitel. In accordance with the provisions of SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities and
related amendments and interpretations, changes in the fair value of
these contracts due to exchange rate fluctuations are recognized in
Accumulated Other Comprehensive Loss and offset the impact of
foreign currency changes on the value of our net investment in the
operation being hedged. As of December 31, 2005, our positions in
the zero cost euro collars have been settled. We have not hedged
our accounting translation exposure to foreign currency fluctuations
relative to the carrying value of our other investments.
As of December 31, 2006, letters of credit totaling $223 million had
been executed in the normal course of business, which support several financing arrangements and payment obligations to third parties.
MARKET RISK
We are exposed to various types of market risk in the normal course
of business, including the impact of interest rate changes, foreign currency exchange rate fluctuations, changes in equity investment prices
and changes in corporate tax rates. We employ risk management
strategies using a variety of derivatives, including interest rate swap
agreements, interest rate locks, foreign currency forwards and collars
and equity options. We do not hold derivatives for trading purposes.
It is our general policy to enter into interest rate, foreign currency
and other derivative transactions only to the extent necessary to
achieve our desired objectives in limiting our exposures to the various market risks. Our objectives include maintaining a mix of fixed
and variable rate debt to lower borrowing costs within reasonable
risk parameters and to protect against earnings and cash flow
volatility resulting from changes in market conditions. We do not
hedge our market risk exposure in a manner that would completely
eliminate the effect of changes in interest rates, equity prices and
foreign exchange rates on our earnings. We do not expect that our
net income, liquidity and cash flows will be materially affected by
these risk management strategies.
Interest Rate Risk
The table that follows summarizes the fair values of our long-term
debt and interest rate derivatives as of December 31, 2006 and
2005. The table also provides a sensitivity analysis of the estimated
fair values of these financial instruments assuming 100-basis-point
upward and downward parallel shifts in the yield curve. Our sensitivity analysis did not include the fair values of our commercial paper
and bank loans because they are not significantly affected by
changes in market interest rates.
(dollars in millions)
At December 31, 2006
Fair Value
Fair Value
assuming
+100 basis
point shift
Fair Value
assuming
–100 basis
point shift
Long-term debt and
interest rate derivatives
$
33,569
$
31,724
$
35,607
$
37,340
$
35,421
$
39,478
At December 31, 2005
Long-term debt and
interest rate derivatives
32
SIGNIFICANT ACCOUNTING POLICIES AND RECENT
ACCOUNTING PRONOUNCEMENTS
Significant Accounting Policies
A summary of the significant accounting policies used in preparing
our financial statements are as follows:
• Special and non-recurring items generally represent revenues and
gains as well as expenses and losses that are non-operational
and/or non-recurring in nature. Special and non-recurring items
include asset impairment losses, which were determined in accordance with our policy of comparing the fair value of the asset with
its carrying value. The fair value is determined by quoted market
prices or by estimates of future cash flows. There is inherent subjectivity involved in estimating future cash flows, which can have a
significant impact on the amount of any impairment.
• Verizon’s plant, property and equipment balance represents a significant component of our consolidated assets. Depreciation
expense on Verizon’s local telephone operations is principally
based on the composite group remaining life method and
straight-line composite rates, which provides for the recognition
of the cost of the remaining net investment in telephone plant,
less anticipated net salvage value, over the remaining asset lives.
We depreciate other plant, property and equipment generally on
a straight-line basis over the estimated useful life of the assets.
Changes in the remaining useful lives of assets as a result of technological change or other changes in circumstances, including
competitive factors in the markets where we operate, can have a
significant impact on asset balances and depreciation expense.
• We maintain benefit plans for most of our employees, including
pension and other postretirement benefit plans. In the aggregate,
the fair value of pension plan assets exceeds benefit obligations,
which contributes to pension plan income. Other postretirement
benefit plans have larger benefit obligations than plan assets,
resulting in expense. Significant benefit plan assumptions,
including the discount rate used, the long-term rate of return on
plan assets and health care trend rates are periodically updated
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
and impact the amount of benefit plan income, expense, assets
and obligations (see “Consolidated Results of Operations –
Consolidated Operating Expenses – Pension and Other
Postretirement Benefits”). A sensitivity analysis of the impact of
changes in these assumptions on the benefit obligations and
expense (income) recorded as of December 31, 2006 and for the
year then ended pertaining to Verizon’s pension and postretirement benefit plans is provided in the table below. Note that some
of these sensitivities are not symmetrical as the calculations were
based on all of the actuarial assumptions as of year-end.
(dollars in millions)
Percentage
point
change
Pension plans
discount rate
+ 1.00
- 1.00
Benefit obligation
increase (decrease) at
December 31, 2006
$
Long-term rate of return
on pension plan assets + 1.00
- 1.00
Postretirement plans
discount rate
Long-term rate of return
on postretirement
plan assets
Health care trend rates
+ 1.00
- 1.00
(3,844)
4,597
Expense
increase (decrease)
for the year ended
December 31, 2006
$
–
–
$
(3,245)
3,693
(130)
266
(378)
378
$
(209)
236
+ 1.00
- 1.00
–
–
(40)
40
+ 1.00
- 1.00
3,339
(2,731)
472
(357)
• Our accounting policy concerning the method of accounting
applied to investments (consolidation, equity or cost) involves an
evaluation of all significant terms of the investments that explicitly grant or suggest evidence of control or influence over the
operations of the entity in which we have invested. Where control
is determined, we consolidate the investment. If we determine
that we have significant influence over the operating and financial
policies of an entity in which we have invested, we apply the
equity method. We apply the cost method in situations where we
determine that we do not have significant influence.
• Our current and deferred income taxes, and associated valuation
allowances, are impacted by events and transactions arising in
the normal course of business as well as in connection with the
adoption of new accounting standards, acquisitions of businesses and special and non-recurring items. Assessment of the
appropriate amount and classification of income taxes is
dependent on several factors, including estimates of the timing
and realization of deferred income tax assets and the timing of
income tax payments. Actual collections and payments may
materially differ from these estimates as a result of changes in tax
laws as well as unanticipated future transactions impacting
related income tax balances.
• Goodwill and other intangible assets are a significant component
of our consolidated assets. Wireline goodwill of $5,310 million
represents the largest component of our goodwill and, as
required by SFAS No. 142, Goodwill and Other Intangible Assets
(SFAS No. 142), is periodically evaluated for impairment. The
evaluation of Wireline goodwill for impairment is primarily based
on a discounted cash flow model that includes estimates of future
cash flows. There is inherent subjectivity involved in estimating
future cash flows, which can have a material impact on the
amount of any potential impairment. Wireless licenses of $50,959
million represent the largest component of our intangible assets.
Our wireless licenses are indefinite-lived intangible assets, and as
required by SFAS No. 142, are not amortized but are periodically
evaluated for impairment. Any impairment loss would be determined by comparing the fair value of the wireless licenses with
their carrying value. For 2004 and 2003, we used a residual
method, which determined fair value by estimating future cash
flows of the wireless business. Beginning in 2005, we began
using a direct value approach in accordance with a September
29, 2004 Staff Announcement from the staff of the Securities and
Exchange Commission (SEC), “Use of the Residual Method to
Value Acquired Assets Other Than Goodwill.” The direct value
approach also determines fair value by estimating future cash
flows. There is inherent subjectivity involved in estimating future
cash flows, which can have a material impact on the amount of
any impairment.
Other Recent Accounting Pronouncements
Employers’ Accounting for Defined Benefit Pension and Other
Postretirement Plans
In September 2006, the FASB issued SFAS No. 158, Employers’
Accounting for Defined Benefit Pension and Other Postretirement
Plans—an amendment of FASB Statements No. 87, 88, 106, and
132(R) (SFAS No. 158). SFAS No. 158 requires the recognition of a
defined benefit postretirement plan’s funded status as either an
asset or liability on the balance sheet. SFAS No. 158 also requires
the immediate recognition of the unrecognized actuarial gains and
losses and prior service costs and credits that arise during the
period as a component of Other Accumulated Comprehensive
Income, net of applicable income taxes. Additionally, the fair value of
plan assets must be determined as of the company’s year-end. We
adopted SFAS No. 158 effective December 31, 2006, which resulted
in a net decrease to shareowners’ investment of $6,883 million.
Uncertainty in Income Taxes
In July 2006, the FASB issued Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes” (FIN 48). FIN 48 requires the use of a
two-step approach for recognizing and measuring tax benefits taken
or expected to be taken in a tax return and disclosures regarding
uncertainties in income tax positions. We are required to adopt FIN
48 effective January 1, 2007. The cumulative effect of initially
adopting FIN 48 will be recorded as an adjustment to opening
retained earnings (or to goodwill, in certain cases for a prior acquisition) in the year of adoption and will be presented separately. Only tax
positions that meet the more likely than not recognition threshold at
the effective date may be recognized upon adoption of FIN 48. We
anticipate that as a result of the adoption of FIN 48, we will record an
adjustment to our opening retained earnings. We are also reviewing
the potential impact of FIN 48 on prior purchase accounting. Any
such purchase accounting adjustment will not impact retained earnings or current earnings. We are reviewing the final impact of the
adoption of FIN 48. We anticipate that any required adjustment under
the adoption of FIN 48 will not be material.
33
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
Leveraged Leases
In July 2006, the FASB issued Staff Position No. FAS 13-2,
“Accounting for a Change or Projected Change in the Timing of
Cash Flows Relating to Income Taxes Generated by a Leveraged
Lease Transaction” (FSP 13-2). FSP 13-2 requires that changes in
the projected timing of income tax cash flows generated by a leveraged lease transaction be recognized as a gain or loss in the year in
which change occurs. We are required to adopt FSP 13-2 effective
January 1, 2007. The cumulative effect of initially adopting this FSP
will be recorded as an adjustment to opening retained earnings in
the year of adoption. We anticipate that any required adjustment
under the adoption of FSP 13-2 will not be material.
Fair Value Measurements
In September 2006, the FASB issued SFAS No. 157, Fair Value
Measurement (SFAS No. 157). SFAS No. 157 expands disclosures
about fair value measurements. SFAS No. 157 defines fair value,
establishes a framework for measuring fair value in generally
accepted accounting principles and establishes a hierarchy that
categorizes and prioritizes the sources to be used to estimate fair
value. We are required to adopt SFAS No. 157 effective January 1,
2008 on a prospective basis. We are currently evaluating the impact
this new standard will have on our future results of operations and
financial position.
OTHER FACTORS THAT MAY AFFECT FUTURE RESULTS
Recent Developments
MCI Merger
On January 6, 2006, Verizon acquired 100% of the outstanding
common stock of MCI, Inc. (MCI) for a combination of Verizon
common shares and cash. MCI was a global communications company that provided Internet, data and voice communication services
to businesses and government entities throughout the world and
consumers in the United States.
On April 9, 2005, Verizon entered into a stock purchase agreement
with eight entities affiliated with Carlos Slim Helú to purchase 43.4
million shares of MCI common stock for $25.72 per share in cash
plus an additional cash amount of 3% per annum from April 9, 2005,
until the closing of the purchase of those shares. The transaction
closed on May 17, 2005. The total cash payment was $1,121 million
and the investment was originally accounted for as a cost investment. No payments were made under a provision that required
Verizon to pay an additional amount at the end of one year to the
extent that the price of Verizon’s common stock exceeded $35.52
per share. We received a special dividend of $5.60 per MCI share on
these 43.4 million MCI shares, or $243 million, on October 27, 2005.
Under the terms of the merger agreement, MCI shareholders
received .5743 shares of Verizon common stock ($5,050 million in
the aggregate) and cash of $2.738 ($779 million in the aggregate) for
each of their MCI shares. The merger consideration was equal to
$20.40 per MCI share, excluding the $5.60 per share special dividend paid by MCI to its shareholders on October 27, 2005. There
was no purchase price adjustment.
Price Communications
In August 2002, Verizon Wireless and Price Communications Corp.
(Price) combined Price’s wireless business with a portion of Verizon
Wireless. The resulting limited partnership, Verizon Wireless of the
East LP (VZ East), is controlled and managed by Verizon Wireless. In
exchange for its contributed assets, Price received a limited partnership interest in the new partnership which was exchangeable into
34
the common stock of Verizon Wireless if an initial public offering of
that stock occurred, or into the common stock of Verizon on the
fourth anniversary of the asset contribution date. On August 15,
2006, Verizon delivered 29.5 million shares of newly-issued Verizon
common stock to Price valued at $1,007 million in exchange for
Price’s limited partnership interest in VZ East. As a result of
acquiring Price’s limited partnership interest, Verizon recorded
goodwill of $345 million in the third quarter of 2006 attributable to its
Domestic Wireless segment.
Disposition of Businesses and Investments
Verizon Dominicana C. por A., Telecomunicaciones de Puerto Rico,
Inc., and Compañía Anónima Nacional Teléfonos de Venezuela
During the second quarter of 2006, we reached definitive agreements to sell our interests in our Caribbean and Latin American
telecommunications operations in three separate transactions to
América Móvil, S.A. de C.V. (América Móvil), a wireless service
provider throughout Latin America, and a company owned jointly by
Teléfonos de México, S.A. de C.V. (Telmex) and América Móvil. We
agreed to sell our 100 percent indirect interest in Verizon Dominicana
C. por A. (Verizon Dominicana) and our 52 percent interest in
Telecomunicaciones de Puerto Rico, Inc. (TELPRI) to América Móvil.
An entity jointly owned by América Móvil and Telmex agreed to purchase our indirect 28.5 percent interest in CANTV.
In accordance with SFAS No. 144 we have classified the results of
operations of Verizon Dominicana and TELPRI as discontinued
operations. CANTV continues to be accounted for as an equity
method investment.
On December 1, 2006, we closed the sale of Verizon Dominicana.
The transaction resulted in net pretax cash proceeds of $2,042 million, net of a purchase price adjustment of $373 million. The U.S.
taxes that became payable and were recognized at the time the
transaction closed exceeded the $30 million pretax gain resulting in
an after-tax loss of $541 million (or $.18 per diluted share).
We expect to close the sale of our interest in TELPRI in 2007 subject
to the receipt of regulatory approvals and in accordance with the
terms of the definitive agreement. We expect that the sale will result
in approximately $900 million in net pretax cash proceeds.
During the second quarter of 2006, we entered into a definitive agreement to sell our indirect 28.5% interest in CANTV to an entity jointly
owned by América Móvil and Telmex for estimated pretax proceeds of
$677 million. Regulatory authorities in Venezuela never commenced
the formal review of that transaction and the related tender offers for
the remaining equity securities of CANTV. On February 8, 2007, after
two prior extensions, the parties terminated the stock purchase agreement because the parties mutually concluded that the regulatory
approvals would not be granted by the Government.
In January 2007, the Bolivarian Republic of Venezuela (the Republic)
declared its intent to nationalize certain companies, including CANTV.
On February 12, 2007, we entered into a Memorandum of
Understanding (MOU) with the Republic. The MOU provides that the
Republic will offer to purchase all of the equity securities of CANTV
through public tender offers in Venezuela and the United States at a
price equivalent to $17.85 per ADS. If the tender offers are completed,
the aggregate purchase price for Verizon’s shares would be $572 million. If the 2007 dividend that has been recommended by the CANTV
Board is approved by shareholders and paid prior to the closing of the
tender offers, this amount will be reduced by the amount of the dividend. Verizon has agreed to tender its shares if the offers are
commenced. The Republic has agreed to commence the offers within
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
forty-five days assuming the satisfactory completion of its due diligence investigation of CANTV. The tender offers are subject to certain
conditions including that a majority of the outstanding shares are tendered to the Government and receipt of regulatory approvals. Based
upon the terms of the MOU and our current investment balance in
CANTV, we expect that we will record a loss on our investment in the
first quarter of 2007. The ultimate amount of the loss depends on a
variety of factors, including the successful completion of the tender
offer and the satisfaction of other terms in the MOU.
Spin-off of Idearc
On November 17, 2006 we completed the spin-off of Idearc to
shareowners of Verizon. Verizon distributed a dividend of one share
of Idearc common stock for every 20 shares of Verizon common
stock. Cash was paid for fractional shares. The distribution of Idearc
common stock is considered a tax free transaction for us and for our
shareowners, except for the cash payments for fractional shares
which are generally taxable. Idearc now owns what was the Verizon
domestic print and Internet yellow pages directories publishing
operations, which had been the principal component of our
Information Services segment. This transaction resulted in an
increase of nearly $9 billion in shareowners’ equity, as well as a
reduction of total debt by more than $7 billion and we received
approximately $2 billion in cash.
Telephone Access Lines Spin-off
On January 16, 2007, we announced a definitive agreement with
FairPoint Communications, Inc. (FairPoint) that will result in Verizon
establishing a separate entity for its local exchange and related business assets in Maine, New Hampshire and Vermont, spinning off that
new entity to Verizon shareowners, and immediately merging it with
and into FairPoint.
Upon the closing of the transaction, Verizon shareowners will own
approximately 60 percent of the new company and FairPoint stockholders will own approximately 40 percent. Verizon Communications
will not own any shares in FairPoint after the merger. In connection
with the merger, Verizon shareowners will receive one share of
FairPoint stock for approximately every 55 shares of Verizon stock
held as of the record date. Both the spin-off and merger are expected
to qualify as tax-free transactions, except to the extent that cash is
paid to Verizon shareowners in lieu of fractional shares.
The total value to be received by Verizon and its shareowners in
exchange for these operations will be approximately $2,715 million.
Verizon shareowners will receive approximately $1,015 million of
FairPoint common stock in the merger, based upon FairPoint’s recent
stock price and the terms of the merger agreement. Verizon will
receive $1,700 million in value through a combination of cash distributions to Verizon and debt securities issued to Verizon prior to the
spin-off. Verizon may exchange these newly issued debt securities for
certain debt that was previously issued by Verizon, which would have
the effect of reducing Verizon’s then-outstanding debt.
Redemption of Debt
Debt assumed from MCI merger
On January 17, 2006, Verizon announced offers to purchase two
series of MCI senior notes, MCI $1,983 million aggregate principal
amount of 6.688% Senior Notes Due 2009 and MCI $1,699 million
aggregate principal amount of 7.735% Senior Notes Due 2014, at
101% of their par value. Due to the change in control of MCI that
occurred in connection with the merger with Verizon on January 6,
2006, Verizon was required to make this offer to noteholders within
30 days of the closing of the merger of MCI and Verizon. Separately,
Verizon notified noteholders that MCI was exercising its right to
redeem both series of Senior Notes prior to maturity under the
optional redemption procedures provided in the indentures. The
6.688% Notes were redeemed on March 1, 2006, and the 7.735%
Notes were redeemed on February 16, 2006.
In addition, on January 20, 2006, Verizon announced an offer to
repurchase MCI $1,983 million aggregate principal amount of
5.908% Senior Notes Due 2007 at 101% of their par value. On
February 21, 2006, $1,804 million of these notes were redeemed by
Verizon. Verizon satisfied and discharged the indenture governing
this series of notes shortly after the close of the offer for those noteholders who did not accept this offer.
Zero-Coupon Convertible Notes
Previously, Verizon Global Funding issued approximately $5,442 million in principal amount at maturity of zero-coupon convertible notes
due 2021 which were callable by Verizon on or after May 15, 2006.
On May 15, 2006, we redeemed the remaining $1,375 million
accreted principal of the outstanding zero-coupon convertible notes
at a redemption price of $639.76 per $1,000 principal plus interest of
approximately $0.5767 per $1,000 principal. The total payment on
the date of redemption was approximately $1,377 million.
Other Debt Redemptions/Prepayments
Other debt redemptions/prepayments included approximately $697
million of outstanding debt issuances at various rates associated
with our operating telephone companies. Original maturity dates
ranged from 2010 through 2026. On December 15, 2006, Verizon
Wireless’ six year 5.375% fixed rate note of $2.5 billion matured. At
December 31, 2006, Verizon Wireless had no third-party debt outstanding. On January 8, 2007, we redeemed the remaining $1,580
million of the outstanding notes of the Verizon Communications Inc.
floating rate notes due 2007. The gain/(loss) on these redemptions
and prepayments were immaterial.
Issuance of Debt
In February 2006, Verizon issued $4,000 million of floating rate and
fixed rate notes maturing from 2007 through 2035.
Spectrum Purchases
On November 29, 2006, we were granted thirteen 20 MHz licenses
we won in an FCC auction of Advanced Wireless Services spectrum
that concluded on September 18, 2006, for which we had bid a total
of $2,809 million. These licenses, which we anticipate using for the
provision of advanced wireless broadband services, cover a population of nearly 200 million. We have made all required payments to the
FCC for these licenses.
Environmental Matters
During 2003, under a government-approved plan, remediation commenced at the site of a former Sylvania facility in Hicksville, New
York that processed nuclear fuel rods in the 1950s and 1960s.
Remediation beyond original expectations proved to be necessary
and a reassessment of the anticipated remediation costs was conducted. A reassessment of costs related to remediation efforts at
several other former facilities was also undertaken. In September
2005, the Army Corps of Engineers (ACE) accepted the Hicksville
site into the Formerly Utilized Sites Remedial Action Program. This
may result in the ACE performing some or all of the remediation
effort for the Hicksville site with a corresponding decrease in costs
to Verizon. To the extent that the ACE assumes responsibility for
remedial work at the Hicksville site, an adjustment to a reserve previously established for the remediation may be made. Adjustments
may also be made based upon actual conditions discovered during
the remediation at any of the sites requiring remediation.
35
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
New York Recovery Funding
In August 2002, President Bush signed the Supplemental
Appropriations bill that included $5.5 billion in New York recovery
funding. Of that amount, approximately $750 million has been allocated to cover utility restoration and infrastructure rebuilding as a
result of the September 11th terrorist attacks on lower Manhattan.
These funds will be distributed through the Lower Manhattan
Development Corporation following an application and audit
process. As of September 2004, we had applied for reimbursement
of approximately $266 million under Category One, although we did
not record this amount as a receivable. We received advances
totaling $88 million in connection with this application process. On
December 22, 2004, we applied for reimbursement of an additional
$136 million of Category Two losses, and on March 29, 2005 we
amended our application seeking an additional $3 million. Category
Two funding is for permanent restoration and infrastructure improvement. According to the plan, permanent restoration is reimbursed up
to 75% of the loss. On November 3, 2005, we received the results of
preliminary audit findings disallowing all but $44 million of our $266
million of Category One application. On December 8, 2005, we provided a detailed rebuttal to the preliminary audit findings. We
received a copy of the final audit report for Verizon’s Category One
applications and, on January 4, 2007, we filed an appeal of the final
audit report. That appeal, as well as our Category Two applications,
are pending.
Regulatory and Competitive Trends
Competition and Regulation
Technological, regulatory and market changes have provided
Verizon both new opportunities and challenges. These changes have
allowed Verizon to offer new types of services in this increasingly
competitive market. At the same time, they have allowed other
service providers to broaden the scope of their own competitive
offerings. Current and potential competitors for network services
include other telephone companies, cable companies, wireless
service providers, foreign telecommunications providers, satellite
providers, electric utilities, Internet Service Providers, providers of
VoIP services, and other companies that offer network services
using a variety of technologies. Many of these companies have a
strong market presence, brand recognition and existing customer
relationships, all of which contribute to intensifying competition and
may affect our future revenue growth. Many of our competitors also
remain subject to fewer regulatory constraints than Verizon.
We are unable to predict definitively the impact that the ongoing
changes in the telecommunications industry will ultimately have on
our business, results of operations or financial condition. The financial impact will depend on several factors, including the timing,
extent and success of competition in our markets, the timing and
outcome of various regulatory proceedings and any appeals, and the
timing, extent and success of our pursuit of new opportunities.
FCC Regulation
Our services are subject to the jurisdiction of the FCC with respect to
interstate telecommunications services and other matters for which
the FCC has jurisdiction under the Communications Act of 1934, as
amended (Communications Act). The Communications Act generally
obligates us not to charge unjust or unreasonable rates nor engage in
unreasonable discrimination when we are providing services as a
common carrier, and regulates some of the rates, terms and conditions under which we provide certain services. The FCC also has
adopted regulations governing various aspects of our business, such
as the following: (i) use and disclosure of customer proprietary net36
work information; (ii) telemarketing; (iii) assignment of telephone numbers to customers; (iv) provision to law enforcement agencies of the
capability to obtain call identifying information and call content information from calls pursuant to lawful process; (v) accessibility of
services and equipment to individuals with disabilities if readily
achievable; (vi) interconnection with the networks of other carriers;
and (vii) customers’ ability to keep (or “port”) their telephone numbers
when switching to another carrier. In addition, we pay various fees to
support other FCC programs, such as the universal service program
discussed below. Changes to these mandates, or the adoption of
additional mandates, could require us to make changes to our operations or otherwise increase our costs of compliance.
Broadband
The FCC has adopted a series of orders that recognize the competitive
nature of the broadband market, and impose lesser regulatory requirements on broadband services and facilities than apply to narrowband.
With respect to facilities, the FCC has determined that certain
unbundling requirements that apply to narrowband facilities do not
apply to broadband facilities such as fiber to the premise loops and
packet switches. With respect to services, the FCC has concluded that
broadband Internet access services offered by telephone companies
and their affiliates qualify as largely deregulated information services.
The same order also concluded that telephone companies may offer
the underlying broadband transmission services that are used as an
input to Internet access services through private carriage arrangements on negotiated commercial terms. In addition, a Verizon petition
asking the FCC to forbear from applying common carrier regulation to
certain broadband services sold primarily to larger business customers
when those services are not used for Internet access was deemed
granted by operation of law on March 19, 2006 when the FCC did not
deny the petition by the statutory deadline. Both the FCC’s order
addressing the appropriate regulatory treatment of broadband Internet
access services and the relief obtained through the forbearance petition are the subject of pending appeals.
Video
The FCC has a body of rules that apply to cable operators under
Title VI of the Communications Act, and these rules also generally
apply to telephone companies that provide cable services over their
networks. In addition, companies that provide cable service over a
cable system generally must obtain a local cable franchise. On
December 21, 2006, the FCC announced the adoption of rules under
Section 621 of the Communications Act to set parameters consistent with federal law, on the timing and scope of franchise
negotiations by local franchising authorities.
Interstate Access Charges and Intercarrier Compensation
The current framework for interstate access rates was established in
the Coalition for Affordable Local and Long Distance Services
(CALLS) plan, which the FCC adopted on May 31, 2000. The CALLS
plan has three main components. First, it establishes portable interstate access universal service support of $650 million for the
industry that replaces implicit support previously embedded in interstate access charges. Second, the plan simplifies the patchwork of
common line charges into one subscriber line charge (SLC) and provides for de-averaging of the SLC by zones and class of customers.
Third, the plan set into place a mechanism to transition to a set
target of $.0055 per minute for switched access services. Once that
target rate is reached, local exchange carriers are no longer required
to make further annual price cap reductions to their switched access
prices. As a result of tariff adjustments which became effective in
July 2003, virtually all of our switched access lines reached the
$.0055 benchmark.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
The FCC currently is conducting a broad rulemaking proceeding to
consider new rules governing intercarrier compensation including,
but not limited to, access charges, compensation for Internet traffic,
and reciprocal compensation for local traffic. The FCC has sought
comments about intercarrier compensation in general, and has
requested input on several specific reform proposals.
The FCC also has pending before it issues relating to intercarrier compensation for dial-up Internet-bound traffic. The FCC previously found
that this traffic is not subject to reciprocal compensation under
Section 251(b)(5) of the Telecommunications Act of 1996. Instead, the
FCC established federal rates per minute for this traffic that declined
from $.0015 to $.0007 over a three-year period, established caps on
the total minutes of this traffic subject to compensation in a state, and
required incumbent local exchange carriers to offer to both bill and
pay reciprocal compensation for local traffic at the same rate as they
are required to pay on Internet-bound traffic. The U.S. Court of
Appeals for the D.C. Circuit rejected part of the FCC’s rationale, but
declined to vacate the order while it is on remand. As a result, pending
further action by the FCC, the FCC’s underlying order remains in
effect. The FCC subsequently denied a petition to discontinue the
$.0007 rate cap on this traffic, but removed the caps on the total minutes of Internet-bound traffic subject to compensation. That decision
has been upheld on appeal. Disputes also remain pending in a
number of forums relating to the appropriate compensation for
Internet-bound traffic during previous periods under the terms of our
interconnection agreements with other carriers.
The FCC also is conducting a rulemaking proceeding to address the
regulation of services that use Internet protocol, including whether
access charges should apply to voice or other Internet protocol
services. The FCC also considered several petitions asking whether,
and under what circumstances, services that employ Internet protocol are subject to access charges. The FCC previously has held
that one provider’s peer-to-peer Internet protocol service that does
not use the public switched network is an interstate information
service and is not subject to access charges, while a service that utilizes Internet protocol for only one intermediate part of a call’s
transmission is a telecommunications service that is subject to
access charges. Another petition asking the FCC to forbear from
applying access charges to voice over Internet protocol services
that are terminated on switched local exchange networks was withdrawn by the carrier that filed that petition. The FCC also declared
the services offered by one provider of a voice over Internet protocol
service to be jurisdictionally interstate on the grounds that it was
impossible to separate that carrier’s Internet protocol service into
interstate and intrastate components. The FCC also stated that its
conclusion would apply to other services with similar characteristics.
That order has been appealed.
The FCC also has adopted rules for special access services that provide for pricing flexibility and ultimately the removal of services from
price regulation when prescribed competitive thresholds are met.
More than half of special access revenues are now removed from
price regulation. The FCC currently has a rulemaking proceeding
underway to evaluate experience under its pricing flexibility rules, and
to determine whether any changes to those rules are warranted.
Universal Service
The FCC also has a body of rules implementing the universal service
provisions of the Telecommunications Act of 1996, including rules
governing support to rural and non-rural high-cost areas, support for
low income subscribers, and support for schools, libraries and rural
health care. The FCC’s current rules for support to high-cost areas
served by larger “non-rural” local telephone companies were previ-
ously remanded by U.S. Court of Appeals for the Tenth Circuit, which
had found that the FCC had not adequately justified these rules. The
FCC has initiated a rulemaking proceeding in response to the court’s
remand, but its rules remain in effect pending the results of the rulemaking. The FCC also has proceedings underway to evaluate possible
changes to its current rules for assessing contributions to the universal service fund. As an interim step, in June 2006, the FCC ordered
that providers of VoIP services are subject to federal universal service
obligations. The FCC also increased the percentage of revenues subject to federal universal service obligations that wireless providers may
use as a safe harbor. These decisions are the subject of a pending
appeal. Any further change in the current assessment mechanism
could result in a change in the contribution that local telephone companies, wireless carriers or others must make and that would have to
be collected from customers.
Unbundling of Network Elements
Under Section 251 of the Telecommunications Act of 1996, incumbent local exchange carriers were required to provide competing
carriers with access to components of their network on an unbundled
basis, known as UNEs, where certain statutory standards are satisfied. The Telecommunications Act of 1996 also adopted a cost-based
pricing standard for these UNEs, which the FCC interpreted as
allowing it to impose a pricing standard known as “total element long
run incremental cost” or “TELRIC.” The FCC’s rules defining the
unbundled network elements that must be made available at TELRIC
prices have been overturned on multiple occasions by the courts. In
its most recent order issued in response to these court decisions, the
FCC eliminated the requirement to unbundle mass market local
switching on a nationwide basis, with the obligation to accept new
orders ending as of the effective date of the order (March 11, 2005).
The FCC also established a one year transition for existing UNE
switching arrangements. For high capacity transmission facilities, the
FCC established criteria for determining whether high capacity loops,
transport or dark fiber transport must be unbundled in individual wire
centers, and stated that these standards were only expected to affect
a small number of wire centers. The FCC also eliminated the obligation to provide dark fiber loops and found that there is no obligation
to provide UNEs exclusively for wireless or long distance service. In
any instance where a particular high capacity facility no longer has to
be made available as a UNE, the FCC established a similar one year
transition for any existing high capacity loop or transport UNEs, and
an 18 month transition for any existing dark fiber UNEs. This decision
has been upheld on appeal.
As noted above, the FCC has concluded that the requirement under
Section 251 of the Telecommunications Act of 1996 to provide unbundled network elements at TELRIC prices generally does not apply with
respect to broadband facilities, such as fiber to the premises loops,
the packet-switched capabilities of hybrid loops and packet
switching. The FCC also has held that any separate unbundling obligations that may be imposed by Section 271 of the
Telecommunications Act of 1996 do not apply to these same facilities.
The decision with respect to Section 271 has been upheld on appeal
and a petition for rehearing of that appellate order was denied.
Wireless Services
The FCC regulates the licensing, construction, operation, acquisition
and transfer of wireless communications systems, including the systems that Verizon Wireless operates, pursuant to the Communications
Act, other legislation, and the FCC’s rules. The FCC and Congress
continuously consider changes to these laws and rules. Adoption of
new laws or rules may raise the cost of providing service or require
modification of Verizon Wireless’s business plans or operations.
37
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
To use the radio frequency spectrum, wireless communications systems must be licensed by the FCC to operate the wireless network and
mobile devices in assigned spectrum segments. Verizon Wireless
holds FCC licenses to operate in several different radio services,
including the cellular radiotelephone service, personal communications
service, advanced wireless service, and point-to-point radio service.
The technical and service rules, the specific radio frequencies and
amounts of spectrum we hold, and the sizes of the geographic areas
we are authorized to operate in, vary for each of these services.
However, all of the licenses Verizon Wireless holds allow it to use spectrum to provide a wide range of mobile and fixed communications
services, including both voice and data services, and Verizon Wireless
operates a seamless network that utilizes those licenses to provide
services to customers. Because the FCC issues licenses for only a
fixed time, generally 10 years, Verizon Wireless must periodically seek
renewal of those licenses. Although the FCC has routinely renewed all
of Verizon Wireless’s licenses that have come up for renewal to date,
challenges could be brought against the licenses in the future. If a wireless license were revoked or not renewed upon expiration, Verizon
Wireless would not be permitted to provide services on the licensed
spectrum in the area covered by that license.
The FCC has also imposed specific mandates on carriers that
operate wireless communications systems, which increase Verizon
Wireless’s costs. These mandates include requirements that Verizon
Wireless: (i) meet specific construction and geographic coverage
requirements during the license term; (ii) meet technical operating
standards that, among other things, limit the radio frequency radiation from mobile devices and antennas; (iii) deploy “Enhanced 911”
wireless services that provide the wireless caller’s number, location
and other information upon request by a state or local public safety
agency that handles 911 calls; and (iv) comply with regulations for
the construction of transmitters and towers that, among other
things, restrict siting of towers in environmentally sensitive locations
and in places where the towers would affect a site listed or eligible
for listing on the National Register of Historic Places. Changes to
these mandates could require Verizon Wireless to make changes to
operations or increase its costs of compliance.
The Communications Act imposes restrictions on foreign ownership
of U.S. wireless systems. The FCC has approved the interest that
Vodafone Group Plc holds, through various of its subsidiaries, in
Verizon Wireless. The FCC may need to approve any increase in
Vodafone’s interest or the acquisition of an ownership interest by
other foreign entities. In addition, as part of the FCC’s approval of
Vodafone’s ownership interest, Verizon Wireless, Verizon and
Vodafone entered into an agreement with the U.S. Department of
Defense, Department of Justice and Federal Bureau of Investigation
which imposes national security and law enforcement-related obligations on the ways in which Verizon Wireless stores information
and otherwise conducts its business.
Verizon Wireless anticipates that it will need additional spectrum to
meet future demand. It can meet spectrum needs by purchasing
licenses or leasing spectrum from other licensees, or by acquiring
new spectrum licenses from the FCC. Under the Communications
Act, before Verizon Wireless can acquire a license from another
licensee in order to expand its coverage or its spectrum capacity in a
particular area, it must file an application with the FCC, and the FCC
can grant the application only after a period for public notice and
comment. This review process can delay acquisition of spectrum
needed to expand services. The Communications Act also requires
the FCC to award new licenses for most commercial wireless services through a competitive bidding process in which spectrum is
38
awarded to bidders in an auction. Verizon Wireless has participated in
spectrum auctions to acquire licenses in the personal communication
service and most recently the advanced wireless service. However,
the timing of future auctions, and the spectrum being sold, may not
match Verizon Wireless’s needs, and the company may not be able to
secure the spectrum in the auction.
The FCC is also conducting several proceedings to explore whether
and how to use spectrum more intensively by, for example, allowing
unlicensed wireless devices to operate in licensed spectrum bands.
These proceedings could increase radio interference to Verizon
Wireless’s operations from other spectrum users, or allow other
users to share its spectrum. These changes may adversely impact
the ways in which it uses spectrum, the capacity of that spectrum to
carry traffic, and the value of that spectrum.
State Regulation and Local Approvals
Telephone Operations
State public utility commissions regulate our telephone operations
with respect to certain telecommunications intrastate rates and services and other matters. Our competitive local exchange carrier and
long distance operations are generally classified as nondominant and
lightly regulated the same as other similarly situated carriers. Our
incumbent local exchange operations are generally classified as
dominant. These latter operations predominantly are subject to alternative forms of regulation (AFORs) in the various states, although
they remain subject to rate of return regulation in a few states.
Arizona, Illinois, Nevada, New Hampshire, Oregon and Washington
are rate of return regulated with various levels of pricing flexibility for
competitive services. California, Connecticut, Delaware, the District
of Columbia, Florida, Indiana, Maryland, Michigan, Maine,
Massachusetts, New Jersey, New York, North Carolina, Ohio,
Pennsylvania, Rhode Island, South Carolina, Texas, Vermont, Virginia,
West Virginia and Wisconsin are under AFORs with various levels of
pricing flexibility, detariffing, and service quality standards. None of
the AFORs include earnings regulation. In Idaho, Verizon has made
the election under a recent statutory amendment into a deregulatory
regime that phases out all price regulation.
Video
Companies that provide cable service over a cable system are typically subject to state and/or local cable television rules and
regulations. As noted above, cable operators generally must obtain
a local cable franchise from each local unit of government prior to
providing cable service in that local area. Some states have recently
enacted legislation that enables cable operators to apply for, and
obtain, a single cable franchise at the state, rather than local, level.
To date, Verizon has applied for and received state-issued franchises
in Indiana, New Jersey and Texas. California has enacted statewide
reform legislation, but has not yet finalized implementing rules.
Wireless Services
The rapid growth of the wireless industry has led to an increase in
efforts by some state legislatures and state public utility commissions
to regulate the industry in ways that may impose additional costs on
Verizon Wireless. The Communications Act generally preempts regulation by state and local governments of the entry of, or the rates
charged by, wireless carriers. Although a state may petition the FCC to
allow it to impose rate regulation, no state has done so. In addition,
the Communications Act does not prohibit the states from regulating
the other “terms and conditions” of wireless service. While numerous
state commissions do not currently have jurisdiction over wireless
services, state legislatures may decide to grant them such jurisdiction,
and those commissions that already have authority to impose regulations on wireless carriers may adopt new rules.
Management’s Discussion and Analysis
of Results of Operations and Financial Condition continued
State efforts to regulate wireless services have included proposals to
regulate customer billing, termination of service, trial periods for
service, advertising, network outages, the use of handsets while
driving, and the provision of emergency or alert services. Over the past
several years, only a few states have imposed regulation in one or
more of these areas, and in 2006 a federal appellate court struck down
one such state statute, but Verizon Wireless expects these efforts to
continue. Some states also impose their own universal service support
regimes on wireless and other telecommunications carriers, and other
states are considering whether to create such regimes.
Verizon Wireless (as well as AT&T (formerly Cingular) and SprintNextel) is a party to an Assurance of Voluntary Compliance (“AVC”)
with 33 State Attorneys General. The AVC, which generally reflected
Verizon Wireless’s practices at the time it was entered into in July
2004, obligates the company to disclose certain rates and terms
during a sales transaction, to provide maps depicting coverage, and
to comply with various requirements regarding advertising, billing,
and other practices.
At the state and local level, wireless facilities are subject to zoning
and land use regulation. Under the Communications Act, neither
state nor local governments may categorically prohibit the construction of wireless facilities in any community or take actions, such as
indefinite moratoria, which have the effect of prohibiting service.
Nonetheless, securing state and local government approvals for new
tower sites has been and is likely to continue to be a difficult, lengthy
and expensive process. Finally, state and local governments continue to impose new or higher fees and taxes on wireless carriers.
CAUTIONARY STATEMENT CONCERNING
FORWARD-LOOKING STATEMENTS
In this Annual Report on Form 10-K we have made forward-looking
statements. These statements are based on our estimates and
assumptions and are subject to risks and uncertainties. Forwardlooking statements include the information concerning our possible
or assumed future results of operations. Forward-looking statements
also include those preceded or followed by the words “anticipates,”
“believes,” “estimates,” “hopes” or similar expressions. For those
statements, we claim the protection of the safe harbor for forwardlooking statements contained in the Private Securities Litigation
Reform Act of 1995.
The following important factors, along with those discussed elsewhere in this Annual Report, could affect future results and could
cause those results to differ materially from those expressed in the
forward-looking statements:
• materially adverse changes in economic and industry conditions
and labor matters, including workforce levels and labor negotiations, and any resulting financial and/or operational impact, in the
markets served by us or by companies in which we have substantial investments;
• material changes in available technology, including disruption of
our suppliers’ provisioning of critical products or services;
• technology substitution;
• an adverse change in the ratings afforded our debt securities by
nationally accredited ratings organizations;
• the final results of federal and state regulatory proceedings concerning our provision of retail and wholesale services and judicial
review of those results;
• the effects of competition in our markets;
• the timing, scope and financial impacts of our deployment of
fiber-to-the-premises broadband technology;
• the ability of Verizon Wireless to continue to obtain sufficient
spectrum resources;
• changes in our accounting assumptions that regulatory agencies, including the SEC, may require or that result from changes
in the accounting rules or their application, which could result in
an impact on earnings;
• the timing of the sales of our Latin American and Caribbean
properties; and
• the extent and timing of our ability to obtain revenue enhancements and cost savings following our business combination with
MCI, Inc.
39
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Report of Management
on Internal Control Over Financial Reporting
Report of Independent Registered Public Accounting
Firm on Internal Control Over Financial Reporting
To The Board of Directors and Shareowners of
Verizon Communications Inc.:
We, the management of Verizon Communications Inc., are responsible for establishing and maintaining adequate internal control over
financial reporting of the company. Management has evaluated
internal control over financial reporting of the company using the
criteria for effective internal control established in Internal Control –
Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission.
Management has assessed the effectiveness of the company’s
internal control over financial reporting as of December 31, 2006.
Based on this assessment, we believe that the internal control over
financial reporting of the company is effective as of December 31,
2006. In connection with this assessment, there were no material
weaknesses in the company’s internal control over financial
reporting identified by management.
The company’s financial statements included in this annual report
have been audited by Ernst & Young LLP, independent registered
public accounting firm. Ernst & Young LLP has also issued an attestation report on management’s assessment of the company’s
internal control over financial reporting.
Ivan G. Seidenberg
Chairman and Chief Executive Officer
Doreen A. Toben
Executive Vice President and Chief Financial Officer
Thomas A. Bartlett
Senior Vice President and Controller
40
We have audited management’s assessment, included in the
accompanying Report of Management on Internal Control Over
Financial Reporting, that Verizon Communications Inc. and subsidiaries (Verizon) maintained effective internal control over financial
reporting as of December 31, 2006, based on criteria established in
Internal Control—Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (the COSO
criteria). Verizon’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting. Our
responsibility is to express an opinion on management’s assessment
and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.
Our audit included obtaining an understanding of internal control
over financial reporting, evaluating management’s assessment,
testing and evaluating the design and operating effectiveness of
internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit
provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted
accounting principles. A company’s internal control over financial
reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of
the company; (2) provide reasonable assurance that transactions
are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management
and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company’s assets that could
have a material effect on the financial statements.
Report of Independent Registered Public Accounting
Firm on Financial Statements
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject
to the risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
In our opinion, management’s assessment that Verizon maintained
effective internal control over financial reporting, as of December
31, 2006, is fairly stated, in all material respects, based on the
COSO criteria. Also, in our opinion, Verizon maintained, in all
material respects, effective internal control over financial reporting
as of December 31, 2006, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance sheets of Verizon as of December 31, 2006 and 2005,
and the related consolidated statements of income, cash flows and
changes in shareowners’ investment for each of the three years in the
period ended December 31, 2006 of Verizon and our report dated
February 23, 2007 expressed an unqualified opinion thereon.
Ernst & Young LLP
New York, New York
February 23, 2007
To The Board of Directors and Shareowners of
Verizon Communications Inc.:
We have audited the accompanying consolidated balance sheets of
Verizon Communications Inc. and subsidiaries (Verizon) as of
December 31, 2006 and 2005, and the related consolidated statements of income, cash flows and changes in shareowners’
investment for each of the three years in the period ended
December 31, 2006. These financial statements are the responsibility of Verizon’s management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Verizon at December 31, 2006 and 2005, and the consolidated
results of their operations and their cash flows for each of the three
years in the period ended December 31, 2006, in conformity with
U.S. generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements,
Verizon changed its methods of accounting for stock-based compensation effective January 1, 2006 and pension and other
post-retirement obligations effective December 31, 2006.
We also have audited, in accordance with the standards of
the Public Company Accounting Oversight Board (United States),
the effectiveness of Verizon’s internal control over financial
reporting as of December 31, 2006, based on criteria established
in Internal Control—Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission and
our report dated February 23, 2007 expressed an unqualified
opinion thereon.
Ernst & Young LLP
New York, New York
February 23, 2007
41
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Consolidated Statements of Income
(dollars in millions, except per share amounts)
Years Ended December 31,
Operating Revenues
2006
2005
2004
$ 88,144
$ 69,518
$ 65,751
34,994
25,232
14,545
–
74,771
24,200
19,652
13,615
(530)
56,937
22,032
19,346
13,503
–
54,881
13,373
773
395
(2,349)
(4,038)
12,581
686
311
(2,129)
(3,001)
10,870
1,690
82
(2,336)
(2,329)
8,154
(2,674)
8,448
(2,421)
7,977
(2,078)
5,480
759
(42)
6,197
6,027
1,370
–
7,397
5,899
1,932
–
7,831
Operating Expenses
Cost of services and sales (exclusive of items shown below)
Selling, general & administrative expense
Depreciation and amortization expense
Sales of businesses, net
Total Operating Expenses
Operating Income
Equity in earnings of unconsolidated businesses
Other income and (expense), net
Interest expense
Minority interest
Income Before Provision for Income Taxes, Discontinued
Operations and Cumulative Effect of Accounting Change
Provision for income taxes
Income Before Discontinued Operations and Cumulative
Effect of Accounting Change
Income on discontinued operations, net of tax
Cumulative effect of accounting change, net of tax
Net Income
Basic Earnings Per Common Share(1)
Income before discontinued operations and cumulative
effect of accounting change
Income on discontinued operations, net of tax
Cumulative effect of accounting change, net of tax
Net Income
Weighted-average shares outstanding (in millions)
Diluted Earnings Per Common Share(1)
Income before discontinued operations and cumulative
effect of accounting change
Income on discontinued operations, net of tax
Cumulative effect of accounting change, net of tax
Net Income
Weighted-average shares outstanding (in millions)
(1) Total per share amounts may not add due to rounding.
See Notes to Consolidated Financial Statements.
42
$
$
$
$
$
$
1.88
.26
(.01)
2.13
2,912
$
1.88
.26
(.01)
2.12
2,938
$
$
$
$
2.18
.50
–
2.67
2,766
$
2.16
.49
–
2.65
2,817
$
$
$
2.13
.70
–
2.83
2,770
2.11
.68
–
2.79
2,831
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Consolidated Balance Sheets
(dollars in millions, except per share amounts)
At December 31,
Assets
Current assets
Cash and cash equivalents
Short-term investments
Accounts receivable, net of allowances of $1,139 and $1,100
Inventories
Assets held for sale
Prepaid expenses and other
Total current assets
Plant, property and equipment
Less accumulated depreciation
Investments in unconsolidated businesses
Wireless licenses
Goodwill
Other intangible assets, net
Other assets
Total assets
Liabilities and Shareowners’ Investment
Current liabilities
Debt maturing within one year
Accounts payable and accrued liabilities
Liabilities related to assets held for sale
Other
Total current liabilities
2006
$
3,219
2,434
10,891
1,514
2,592
1,888
22,538
2005
$
760
2,146
8,534
1,522
4,233
2,125
19,320
204,109
121,753
82,356
4,868
50,959
5,655
5,140
17,288
$ 188,804
187,761
114,774
72,987
4,602
47,781
315
4,068
19,057
$ 168,130
$
$
7,715
14,320
2,154
8,091
32,280
6,688
11,747
2,870
5,395
26,700
Long-term debt
Employee benefit obligations
Deferred income taxes
Other liabilities
28,646
30,779
16,270
3,957
31,569
17,693
22,831
3,224
Minority interest
28,337
26,433
Shareowners’ investment
Series preferred stock ($.10 par value; none issued)
Common stock ($.10 par value; 2,967,652,438 shares and 2,774,865,381 shares issued)
Contributed capital
Reinvested earnings
Accumulated other comprehensive loss
Common stock in treasury, at cost
Deferred compensation-employee stock ownership plans and other
Total shareowners’ investment
Total liabilities and shareowners’ investment
–
297
40,124
17,324
(7,530)
(1,871)
191
48,535
$ 188,804
–
277
25,369
15,905
(1,783)
(353)
265
39,680
$ 168,130
See Notes to Consolidated Financial Statements.
43
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Consolidated Statements of Cash Flows
(dollars in millions)
Years Ended December 31,
Cash Flows from Operating Activities
Net Income
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization expense
Sales of businesses, net
(Gain) loss on sale of discontinued operations
Employee retirement benefits
Deferred income taxes
Provision for uncollectible accounts
Equity in earnings of unconsolidated businesses
Cumulative effect of accounting change, net of tax
Changes in current assets and liabilities, net of effects from
acquisition/disposition of businesses:
Accounts receivable
Inventories
Other assets
Accounts payable and accrued liabilities
Other, net
Net cash provided by operating activities – continuing operations
Net cash provided by operating activities – discontinued operations
Net cash provided by operating activities
2006
$
Cash Flows from Investing Activities
Capital expenditures (including capitalized software)
Acquisitions, net of cash acquired, and investments
Proceeds from disposition of businesses
Net change in short-term and other current investments
Other, net
Net cash used in investing activities – continuing operations
Net cash provided by (used in) investing activities –
discontinued operations
Net cash used in investing activities
Cash Flows from Financing Activities
Proceeds from long-term borrowings
Repayments of long-term borrowings and capital lease obligations
Increase (decrease) in short-term obligations, excluding
current maturities
Dividends paid
Proceeds from sale of common stock
Purchase of common stock for treasury
Other, net
Net cash used in financing activities – continuing operations
Net cash used in financing activities – discontinued operations
Net cash used in financing activities
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of year
Cash and cash equivalents, end of year
See Notes to Consolidated Financial Statements.
44
$
6,197
2005
$
7,397
2004
$
7,831
14,545
–
541
1,923
(252)
1,034
(773)
42
13,615
(530)
–
1,695
(1,093)
1,076
(686)
–
13,503
–
–
1,836
1,721
890
(1,690)
–
(1,312)
8
52
(383)
1,408
23,030
1,076
24,106
(788)
(236)
(176)
(899)
1,069
20,444
1,581
22,025
(1,293)
(226)
539
(1,820)
(1,115)
20,176
1,615
21,791
(17,101)
(1,422)
–
290
811
(17,422)
(14,964)
(4,684)
1,326
(346)
532
(18,136)
(12,794)
(1,196)
117
(90)
2,474
(11,489)
1,806
(15,616)
(356)
(18,492)
1,146
(10,343)
3,983
(11,233)
1,487
(3,825)
514
(5,168)
7,944
(4,719)
174
(1,700)
(201)
(5,752)
(279)
(6,031)
2,098
(4,427)
37
(271)
(57)
(4,958)
(76)
(5,034)
(747)
(4,262)
320
(370)
(125)
(9,838)
(18)
(9,856)
2,459
760
3,219
(1,501)
2,261
760
1,592
669
2,261
$
$
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Consolidated Statements of Changes in Shareowners’ Investment
(dollars in millions, except per share amounts, and shares in thousands)
Years Ended December 31,
Shares
Common Stock
Balance at beginning of year
Shares issued
Employee plans
Shareowner plans
Shares issued MCI/Price acquisitions
Balance at end of year
2,774,865
2006
Amount
$
–
–
192,787
2,967,652
Shares
277
2,774,865
–
–
20
297
–
–
–
2,774,865
$
2005
Amount
Shares
277
2,772,314
–
–
–
277
2,501
50
–
2,774,865
2004
Amount
$
277
–
–
–
277
Contributed Capital
Balance at beginning of year
Shares issued-employee and shareowner plans
Shares issued-MCI/Price acquisitions
Net tax benefit from employee stock compensation
Idearc Inc. spin-off
Other
Balance at end of year
25,369
–
6,009
(2)
8,695
53
40,124
25,404
(24)
–
–
–
(11)
25,369
25,363
2
–
41
–
(2)
25,404
Reinvested Earnings
Balance at beginning of year
Net income
Dividends declared ($1.62, $1.62 and $1.54 per share)
Other
Balance at end of year
15,905
6,197
(4,781)
3
17,324
12,984
7,397
(4,479)
3
15,905
9,409
7,831
(4,265)
9
12,984
Accumulated Other Comprehensive Loss
Balance at beginning of year
Foreign currency translation adjustment
Unrealized gains on net investment hedges
Unrealized gains (losses) on marketable securities
Unrealized gains on cash flow hedges
Minimum pension liability adjustment
Adoption of SFAS No. 158
Other
Other comprehensive income (loss)
Balance at end of year
(1,783)
1,196
–
54
14
788
(7,671)
(128)
(5,747)
(7,530)
(1,053)
(755)
2
(21)
10
51
–
(17)
(730)
(1,783)
(1,250)
548
–
7
17
(332)
–
(43)
197
(1,053)
Treasury Stock
Balance at beginning of year
Shares purchased
Shares distributed
Employee plans
Shareowner plans
Balance at end of year
Deferred Compensation–ESOPs and Other
Balance at beginning of year
Amortization
Other
Balance at end of year
Total Shareowners’ Investment
Comprehensive Income
Net income
Other comprehensive income (loss) per above
Total Comprehensive Income (Loss)
(11,456)
(50,066)
(353)
(1,700)
(5,213)
(7,859)
(142)
(271)
(4,554)
(9,540)
(115)
(370)
5,355
20
(56,147)
181
1
(1,871)
1,594
22
(11,456)
59
1
(353)
8,881
–
(5,213)
343
–
(142)
265
(74)
–
191
$ 48,535
90
174
1
265
$ 39,680
(218)
301
7
90
$ 37,560
$
$
$
6,197
(5,747)
$
450
$
7,397
(730)
6,667
$
7,831
197
8,028
See Notes to Consolidated Financial Statements.
45
V E R I Z O N C O M M U N I C AT I O N S I N C . A N D S U B S I D I A R I E S
Notes to Consolidated Financial Statements
NOTE 1
DESCRIPTION OF BUSINESS AND SUMMARY OF
SIGNIFICANT ACCOUNTING POLICIES
Description of Business
Verizon Communications Inc. (Verizon) is one of the world’s leading
providers of communications services. Our wireline business provides telephone services, including voice, broadband video and data,
network access, nationwide long-distance and other communications products and services, and also owns and operates one of the
most expansive end-to-end global Internet Protocol (IP) networks.
We continue to deploy advanced broadband network technology,
with our fiber-to-the-premises network (FiOS) creating a platform with
sufficient bandwidth and capabilities to meet customers’ current and
future needs. FiOS allows Verizon to offer our customers a wide array
of broadband services including advanced data and television offerings. Our IP network includes over 446,000 route miles of fiber optic
cable and provides access to over 150 countries across six continents, enabling us to provide next-generation IP network products
and Information Technology (IT) services to medium and large businesses and government customers worldwide.
Verizon’s domestic wireless business, operating as Verizon
Wireless, provides wireless voice and data products and other value
added services and equipment across the United States using one
of the most extensive wireless networks. Verizon Wireless continues
to expand our wireless data, messaging and multi-media offerings
for both consumer and business customers. NationalAccess is our
national wireless Internet service that offers customers access to
the internet, email and business applications with a laptop computer. VCAST is a consumer wireless broadband multimedia service
that brings high-quality video, 3D games and music to a wide array
of new phones.
We have two reportable segments, Wireline and Domestic Wireless,
which we operate and manage as strategic business units and
organize by products and services. For further information concerning our business segments, see Note 17.
Consolidation
The method of accounting applied to investments, whether consolidated, equity or cost, involves an evaluation of all significant terms
of the investments that explicitly grant or suggest evidence of control or influence over the operations of the investee. The
consolidated financial statements include our controlled subsidiaries. Investments in businesses which we do not control, but
have the ability to exercise significant influence over operating and
financial policies, are accounted for using the equity method.
Investments in which we do not have the ability to exercise significant influence over operating and financial policies are accounted
for under the cost method. Equity and cost method investments are
included in Investments in Unconsolidated Businesses in our consolidated balance sheets. Certain of our cost method investments
are classified as available-for-sale securities and adjusted to fair
value pursuant to the Financial Accounting Standards Board (FASB)
Statement of Financial Accounting Standards (SFAS) No. 115,
Accounting for Certain Investments in Debt and Equity Securities.
All significant intercompany accounts and transactions have been
eliminated.
We have reclassified prior year amounts to conform to the current
year presentation.
46
Discontinued Operations, Assets Held for Sale, and Sales of
Businesses and Investments
We classify as discontinued operations for all periods presented
any component of our business that we hold for sale or dispose of
that has operations and cash flows that are clearly distinguishable
operationally and for financial reporting purposes from the rest of
Verizon. For those components, Verizon has no significant continuing involvement after disposal and their operations and cash flows
are eliminated from Verizon’s ongoing operations. Sales of significant components of our business not classified as discontinued
operations are reported as either Sales of Businesses, Net, Equity
in Earnings of Unconsolidated Businesses or Other Income and
(Expense), Net in our consolidated statements of income.
Use of Estimates
We prepare our financial statements using generally accepted
accounting principles (GAAP), which require management to make
estimates and assumptions that affect reported amounts and disclosures. Actual results could differ from those estimates.
Examples of significant estimates include the allowance for doubtful
accounts, the recoverability of plant, property and equipment, intangible assets and other long-lived assets, valuation allowances on tax
assets and pension and postretirement benefit assumptions.
Revenue Recognition
Wireline
Our Wireline segment earns revenue based upon usage of our network and facilities and contract fees. In general, fixed monthly fees
for local telephone, long distance and certain other services are billed
one month in advance and recognized the following month when
earned. Revenue from services that are not fixed in amount and are
based on usage are recognized when such services are provided.
We recognize equipment revenue for services, in which we bundle
the equipment with maintenance and monitoring services, when the
equipment is installed in accordance with contractual specifications
and ready for the customer’s use. The maintenance and monitoring
services are recognized monthly over the term of the contract as we
provide the services. Long-term contracts are accounted for using
the percentage of completion method. We use the completed contract method if we cannot estimate the costs with a reasonable
degree of reliability.
Customer activation fees, along with the related costs up to but not
exceeding the activation fees, are deferred and amortized over the
customer relationship period.
Domestic Wireless
Our Domestic Wireless segment earns revenue by providing access to
and usage of our network, which includes roaming revenue. In general, access revenue is billed one month in advance and recognized
when earned. Access revenue, usage revenue and roaming revenue
are recognized when service is rendered. Equipment sales revenue
associated with the sale of wireless handsets and accessories is recognized when the products are delivered to and accepted by the
customer, as this is considered to be a separate earnings process
from the sale of wireless services. Customer activation fees are considered additional consideration when handsets are sold to customers
at a discount and are recorded as equipment sales revenue.
Maintenance and Repairs
We charge the cost of maintenance and repairs, including the cost of
replacing minor items not constituting substantial betterments, principally to Cost of Services and Sales as these costs are incurred.
Notes to Consolidated Financial Statements continued
Earnings Per Common Share
Basic earnings per common share are based on the weightedaverage number of shares outstanding during the period. Diluted
earnings per common share include the dilutive effect of shares
issuable under our stock-based compensation plans, an exchangeable equity interest (see Note 9), and the zero-coupon convertible
notes (see Note 11), which represent the only potentially dilutive
common shares. As of December 31, 2006, the exchangeable equity
interest and zero-coupon convertible notes are no longer outstanding.
Cash and Cash Equivalents
We consider all highly liquid investments with a maturity of 90 days
or less when purchased to be cash equivalents, except cash equivalents held as short-term investments. Cash equivalents are stated
at cost, which approximates market value.
Short-Term Investments
Our short-term investments consist primarily of cash equivalents
held in trust to pay for certain employee benefits. Short-term investments are stated at cost, which approximates market value.
Marketable Securities
We continually evaluate our investments in marketable securities for
impairment due to declines in market value considered to be other
than temporary. That evaluation includes, in addition to persistent,
declining stock prices, general economic and company-specific
evaluations. In the event of a determination that a decline in market
value is other than temporary, a charge to earnings is recorded for
the loss, and a new cost basis in the investment is established.
These investments are included in the accompanying consolidated
balance sheets in Investments in Unconsolidated Businesses or
Other Assets.
Inventories
We include in inventory new and reusable supplies and network
equipment of our local telephone operations, which are stated principally at average original cost, except that specific costs are used
in the case of large individual items. Inventories of our other subsidiaries are stated at the lower of cost (determined principally on
either an average cost or first-in, first-out basis) or market.
Plant and Depreciation
We record plant, property and equipment at cost. Our local telephone operations’ depreciation expense is principally based on the
composite group remaining life method and straight-line composite
rates. This method provides for the recognition of the cost of the
remaining net investment in telephone plant, less anticipated net
salvage value, over the remaining asset lives. This method requires
the periodic revision of depreciation rates.
The asset lives used by our Wireline operations are presented in the
following table:
Average Lives (in years)
Buildings
Central office equipment
Outside communications plant
Copper cable
Fiber cable
Microwave towers
Poles and conduit
Furniture, vehicles and other
15-42
5-11
13-18
11-20
30
30-50
3-20
When we replace or retire depreciable plant used in our local telephone network, we deduct the carrying amount of such plant from
the respective accounts and charge it to accumulated depreciation.
Plant, property and equipment of our other subsidiaries are generally depreciated on a straight-line basis over the following
estimated useful lives: buildings, 8 to 40 years; plant equipment, 3
to 15 years; and other equipment, 3 to 5 years.
When the depreciable assets of our other subsidiaries are retired or
otherwise disposed of, the related cost and accumulated depreciation are deducted from the plant accounts, and any gains or losses
on disposition are recognized in income.
We capitalize network software purchased or developed along with
related plant assets. We also capitalize interest associated with the
acquisition or construction of network-related assets. Capitalized
interest is reported as part of the cost of the network-related assets
and as a reduction in interest expense.
In connection with our ongoing review of the estimated remaining
useful lives of plant, property and equipment and associated depreciation rates, we determined that, effective January 1, 2005, the
remaining useful lives of three categories of telephone assets would
be shortened by 1 to 2 years. These changes in asset lives were
based on Verizon’s plans, and progress to date on those plans, to
deploy fiber optic cable to homes, replacing copper cable. While
the timing and extent of current deployment plans are subject to
modification, Verizon management believes that current estimates
of reductions in impacted asset lives is reasonable and subject to
ongoing analysis as deployment of fiber optic lines continues. The
asset categories impacted and useful life changes are as follows:
Average Lives (in years)
Central office equipment
Digital switches
Circuit equipment
Outside plant
Copper cable
From
To
12
9
11
8-9
15-19
13-18
In connection with our ongoing review noted above, we determined
that, effective January 1, 2006, the remaining useful lives of circuit
equipment would be shortened from 8-9 years to 8 years.
Computer Software Costs
We capitalize the cost of internal-use network and non-network
software which has a useful life in excess of one year in accordance
with Statement of Position (SOP) No. 98-1, “Accounting for the
Costs of Computer Software Developed or Obtained for Internal
Use.” Subsequent additions, modifications or upgrades to internaluse network and non-network software are capitalized only to the
extent that they allow the software to perform a task it previously
did not perform. Software maintenance and training costs are
expensed in the period in which they are incurred. Also, we capitalize interest associated with the development of non-network
internal-use software. Capitalized non-network internal-use software costs are amortized using the straight-line method over a
period of 1 to 7 years and are included in Other Intangible Assets,
Net in our consolidated balance sheets. For a discussion of our
impairment policy for capitalized software costs under SFAS No.
144, Accounting for the Impairment or Disposal of Long-Lived
Assets, see “Goodwill and Other Intangibles” below. Also, see
Note 7 for additional detail of non-network internal-use software
reflected in our consolidated balance sheets.
47
Notes to Consolidated Financial Statements continued
Goodwill and Other Intangible Assets
Goodwill
Goodwill is the excess of the acquisition cost of businesses over
the fair value of the identifiable net assets acquired. Impairment
testing for goodwill is performed annually, and more frequently if
indications of impairment exist. The impairment test for goodwill
uses a two-step approach, which is performed at the reporting unit
level. We have determined that, in our case, the reporting units are
our operating segments since that is the lowest level at which discrete, reliable financial and cash flow information is available. Step
one compares the fair value of the reporting unit (calculated using a
discounted cash flow method) to its carrying value. If the carrying
value exceeds the fair value, there is a potential impairment and
step two must be performed. Step two compares the carrying value
of the reporting unit’s goodwill to its implied fair value (i.e., fair value
of reporting unit less the fair value of the unit’s assets and liabilities,
including identifiable intangible assets). If the carrying value of
goodwill exceeds its implied fair value, the excess is required to be
recorded as an impairment.
Intangible Assets Not Subject to Amortization
A significant portion of our intangible assets are Domestic Wireless
licenses that provide our wireless operations with the exclusive
right to utilize designated radio frequency spectrum to provide cellular communication services. While licenses are issued for only a
fixed time, generally ten years, such licenses are subject to renewal
by the Federal Communications Commission (FCC). Renewals of
licenses have occurred routinely and at nominal cost. Moreover, we
have determined that there are currently no legal, regulatory, contractual, competitive, economic or other factors that limit the useful
life of our wireless licenses. As a result, we treat the wireless
licenses as an indefinite-lived intangible asset under the provisions
of SFAS No. 142, Goodwill and Other Intangible Assets (SFAS No.
142). We reevaluate the useful life determination for wireless
licenses each reporting period to determine whether events and circumstances continue to support an indefinite useful life.
We test our Domestic Wireless licenses for impairment annually,
and more frequently if indications of impairment exist. Beginning in
2005, we began using a direct value approach in performing our
annual impairment test on our Domestic Wireless licenses. The
direct value approach determines fair value using estimates of
future cash flows associated specifically with the licenses.
Previously, we used a residual method, which determined the fair
value of the wireless licenses by subtracting from the fair value of
the wireless business the fair value of all of the other net tangible
and intangible (primarily recognized and unrecognized customer
relationship intangible assets) assets of our wireless operations. We
began using the direct value approach in 2005 in accordance with a
September 29, 2004 Staff Announcement from the staff of the
Securities and Exchange Commission (SEC), “Use of the Residual
Method to Value Acquired Assets Other Than Goodwill.” Under
either the direct method or the residual method, if the fair value of
the aggregated wireless licenses is less than the aggregated carrying amount of the licenses, an impairment is recognized.
Intangible Assets Subject to Amortization
Our intangible assets that do not have indefinite lives (primarily customer lists and non-network internal-use software) are amortized
over their useful lives and reviewed for impairment in accordance
with SFAS No. 144, whenever events or changes in circumstances
indicate that the carrying amount of the asset may not be recoverable. If any indications were present, we would test for
48
recoverability by comparing the carrying amount of the asset to the
net undiscounted cash flows expected to be generated from the
asset. If those net undiscounted cash flows do not exceed the carrying amount (i.e., the asset is not recoverable), we would perform
the next step which is to determine the fair value of the asset and
record an impairment, if any. We reevaluate the useful life determination for these intangible assets each reporting period to
determine whether events and circumstances warrant a revision in
their remaining useful life.
For information related to the carrying amount of goodwill by segment as well as the major components and average useful lives of
our other acquired intangible assets, see Note 7.
Income Taxes
Verizon and its domestic subsidiaries file a consolidated federal
income tax return.
Stock-Based Compensation
Effective January 1, 2006, we adopted SFAS No. 123(R), ShareBased Payment utilizing the modified prospective method. SFAS
No. 123(R) requires the measurement of stock-based compensation
expense based on the fair value of the award on the date of grant.
Under the modified prospective method, the provisions of SFAS No.
123(R) apply to all awards granted or modified after the date of
adoption. The impact to Verizon primarily resulted from Verizon
Wireless, for which we recorded a $42 million cumulative effect of
accounting change as of January 1, 2006, net of taxes and after
minority interest, to recognize the effect of initially measuring the
outstanding liability for Value Appreciation Rights (VARs) granted to
Domestic Wireless employees at fair value utilizing a Black-Scholes
model. We have been expensing stock options since adopting
SFAS No. 123, Accounting for Stock-Based Compensation effective
January 1, 2003.
Foreign Currency Translation
The functional currency for all of our foreign operations is generally
the local currency. For these foreign entities, we translate income
statement amounts at average exchange rates for the period, and
we translate assets and liabilities at end-of-period exchange rates.
We record these translation adjustments in Accumulated Other
Comprehensive Loss, a separate component of Shareowners’
Investment, in our consolidated balance sheets. We report
exchange gains and losses on intercompany foreign currency transactions of a long-term nature in Accumulated Other Comprehensive
Loss. Other exchange gains and losses are reported in income.
Employee Benefit Plans
Pension and postretirement health care and life insurance benefits
earned during the year as well as interest on projected benefit obligations are accrued currently. Prior service costs and credits
resulting from changes in plan benefits are amortized over the
average remaining service period of the employees expected to
receive benefits.
As of July 1, 2006, Verizon management employees no longer earn
pension benefits or earn service towards the company retiree medical subsidy (See Note 15).
In September 2006, the FASB issued SFAS No. 158, Employers’
Accounting for Defined Benefit Pension and Other Postretirement
Plans—an amendment of FASB Statements No. 87, 88, 106, and
132(R) (SFAS No. 158). SFAS No. 158 requires the recognition of a
defined benefit postretirement plan’s funded status as either an
asset or liability on the balance sheet. SFAS No. 158 also requires
Notes to Consolidated Financial Statements continued
the immediate recognition of the unrecognized actuarial gains and
losses and prior service costs and credits that arise during the
period as a component of other accumulated comprehensive
income, net of applicable income taxes. Additionally, the fair value
of plan assets must be determined as of the company’s year-end.
We adopted SFAS No. 158 effective December 31, 2006, which
resulted in a net decrease to shareowners’ investment of $6,883
million (see Note 15).
Derivative Instruments
We have entered into derivative transactions to manage our exposure to fluctuations in foreign currency exchange rates, interest
rates and equity prices. We employ risk management strategies
using a variety of derivatives including foreign currency forwards
and collars, equity options, interest rate swap agreements and
interest rate locks. We do not hold derivatives for trading purposes.
In accordance with SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities (SFAS No. 133) and related
amendments and interpretations, we measure all derivatives,
including derivatives embedded in other financial instruments, at
fair value and recognize them as either assets or liabilities on our
consolidated balance sheets. Changes in the fair values of derivative instruments not qualifying as hedges or any ineffective portion
of hedges are recognized in earnings in the current period. Changes
in the fair values of derivative instruments used effectively as fair
value hedges are recognized in earnings, along with changes in the
fair value of the hedged item. Changes in the fair value of the effective portions of cash flow hedges are reported in other
comprehensive income (loss) and recognized in earnings when the
hedged item is recognized in earnings.
Other Recent Accounting Pronouncements
Uncertainty in Income Taxes
In July 2006, the FASB issued Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes” (FIN 48). FIN 48 requires the use of a
two-step approach for recognizing and measuring tax benefits taken
or expected to be taken in a tax return and disclosures regarding
uncertainties in income tax positions. We are required to adopt FIN
48 effective January 1, 2007. The cumulative effect of initially
adopting FIN 48 will be recorded as an adjustment to opening
retained earnings (or to goodwill, in certain cases for a prior acquisition) in the year of adoption and will be presented separately. Only
tax positions that meet the more likely than not recognition threshold
at the effective date may be recognized upon adoption of FIN 48. We
anticipate that as a result of the adoption of FIN 48, we will record an
adjustment to our opening retained earnings. We are also reviewing
the potential impact of FIN 48 on prior purchase accounting. Any
such purchase accounting adjustment will not impact retained earnings or current earnings. We are reviewing the final impact of the
adoption of FIN 48. We anticipate that any required adjustment
under the adoption of FIN 48 will not be material.
Leveraged Leases
In July 2006, the FASB issued Staff Position No. FAS 13-2,
“Accounting for a Change or Projected Change in the Timing of
Cash Flows Relating to Income Taxes Generated by a Leveraged
Lease Transaction” (FSP 13-2). FSP 13-2 requires that changes in
the projected timing of income tax cash flows generated by a leveraged lease transaction be recognized as a gain or loss in the year in
which change occurs. We are required to adopt FSP 13-2 effective
January 1, 2007. The cumulative effect of initially adopting this FSP
will be recorded as an adjustment to opening retained earnings in
the year of adoption and will be presented separately. We anticipate
that any required adjustment under the adoption of FSP 13-2 will
not be material.
Fair Value Measurements
In September 2006, the FASB issued SFAS No. 157, Fair Value
Measurement (SFAS No. 157). SFAS No. 157 defines fair value,
establishes a framework for measuring fair value in generally
accepted accounting principles, establishes a hierarchy that categorizes and prioritizes the sources to be used to estimate fair value and
expands disclosures about fair value measurements. We are required
to adopt SFAS No. 157 effective January 1, 2008 on a prospective
basis. We are currently evaluating the impact this new standard will
have on our future results of operations and financial position.
NOTE 2
ACQUISITIONS
Completion of Merger with MCI
On February 14, 2005, Verizon announced that it agreed to acquire
100% of the outstanding common stock of MCI, Inc. (MCI) for a
combination of Verizon common shares and cash. MCI was a global
communications company that provided Internet, data and voice
communication services to businesses and government entities
throughout the world and consumers in the United States. After
receiving the required state, federal and international regulatory
approvals, Verizon and MCI closed the merger on January 6, 2006.
On April 9, 2005, Verizon entered into a stock purchase agreement
with eight entities affiliated with Carlos Slim Helú to purchase 43.4
million shares of MCI common stock for $25.72 per share in cash
plus an additional cash amount of 3% per annum from April 9,
2005, until the closing of the purchase of those shares. The transaction closed on May 17, 2005. The total cash payment was $1,121
million and the investment was accounted for as a cost investment.
No payments were made under a provision that required Verizon to
pay an additional amount at the end of one year to the extent that
the price of Verizon’s common stock exceeded $35.52 per share.
We received the special dividend of $5.60 per MCI share on these
43.4 million MCI shares, or $243 million, on October 27, 2005.
Under the terms of the merger agreement, MCI shareholders
received .5743 shares of Verizon common stock ($5,050 million in
the aggregate) and cash of $2.738 ($779 million in the aggregate)
for each of their MCI shares. The merger consideration was equal to
$20.40 per MCI share, excluding the $5.60 per share special dividend paid by MCI to its shareholders on October 27, 2005. There
was no purchase price adjustment.
The merger was accounted for using the purchase method in accordance with the SFAS No. 141, Business Combinations (SFAS No.
141), and the aggregate transaction value was $6,890 million, consisting of the cash and common stock issued at closing ($5,829
million), the consideration for the shares acquired from the Carlos
Slim Helú entities, net of the portion of the special dividend paid by
MCI that was treated as a return of our investment ($973 million)
and closing and other direct merger-related costs. The number of
shares issued was based on the “Average Parent Stock Price,” as
defined in the merger agreement. The consolidated financial statements include the results of MCI’s operations from the date of the
close of the merger.
49
Notes to Consolidated Financial Statements continued
Prior to the merger, there were commercial transactions between us
and the former MCI entities for telecommunications services at
rates comparable to similar transactions with other third parties.
Subsequent to the merger, these transactions are eliminated in
consolidation.
used for the majority of personal property. The cost to replace a
given asset reflects the estimated reproduction or replacement cost
for the property, less an allowance for loss in value due to depreciation or obsolescence, with specific consideration given to
economic obsolescence if indicated.
Reasons for the Merger
We believe that the merger will make us a more efficient competitor in
providing a broad range of communications services and will result in
several significant strategic benefits to us, including the following:
The following table summarizes the allocation of the cost of the
merger to the assets acquired, including cash of $2,361 million, and
liabilities assumed as of the close of the merger. Certain of the
amounts in the following table have been revised since the initial
allocation to reflect information that has since become available.
• Strategic Position. Following the merger, it is expected that our
core strengths in communication services will be enhanced by
MCI’s employee and business customer base, portfolio of
advanced data and IP services and network assets.
• Growth Platform. MCI’s presence in the U.S. and international
enterprise sector and its long haul fiber network infrastructure
are expected to provide us with a stronger platform from which
we can market our products and services.
• Operational Benefits. We believe that we will achieve operational
benefits through, among other things, eliminating duplicative
staff and information and operating systems and to a lesser
extent overlapping network facilities; reducing procurement
costs; using the existing networks more efficiently; reducing line
support functions; reducing general and administrative
expenses; improving information systems; optimizing traffic flow;
eliminating planned or potential Verizon capital expenditures for
new long-haul network capability; and offering wireless capabilities to MCI’s customers.
Allocation of the Cost of the Merger
In accordance with SFAS No. 141, the cost of the merger was allocated to the assets acquired and liabilities assumed based on their
fair values as of the close of the merger, with the amounts
exceeding the fair value being recorded as goodwill. The process to
identify and record the fair value of assets acquired and liabilities
assumed included an analysis of the acquired fixed assets,
including real and personal property; various contracts, including
leases, contractual commitments, and other business contracts;
customer relationships; investments; and contingencies.
The fair values of the assets acquired and liabilities assumed were
determined using one or more of three valuation approaches:
market, income and cost. The selection of a particular method for a
given asset depended on the reliability of available data and the
nature of the asset, among other considerations. The market
approach, which indicates value for a subject asset based on available market pricing for comparable assets, was utilized for certain
acquired real property and investments. The income approach,
which indicates value for a subject asset based on the present
value of cash flow projected to be generated by the asset, was
used for certain intangible assets such as customer relationships,
as well as for favorable/unfavorable contracts. Projected cash flow
is discounted at a required rate of return that reflects the relative
risk of achieving the cash flow and the time value of money.
Projected cash flows for each asset considered multiple factors,
including current revenue from existing customers; distinct analysis
of expected price, volume, and attrition trends; reasonable contract
renewal assumptions from the perspective of a marketplace participant; expected profit margins giving consideration to marketplace
synergies; and required returns to contributory assets. The cost
approach, which estimates value by determining the current cost of
replacing an asset with another of equivalent economic utility, was
50
(dollars in millions)
Assets acquired
Current assets
Property, plant & equipment
Intangible assets subject to amortization
Customer relationships
Rights of way and other
Deferred income taxes and other assets
Goodwill
Total assets acquired
1,162
176
1,995
5,085
$ 20,872
Liabilities assumed
Current liabilities
Long-term debt
Deferred income taxes and other non-current liabilities
Total liabilities assumed
Purchase price
$ 6,093
6,169
1,720
13,982
$ 6,890
$ 6,001
6,453
The goodwill resulting from the merger with MCI was assigned to
the Wireline segment, which includes the operations of the former
MCI. The customer relationships are being amortized on a straightline basis over 3-8 years based on whether the relationship is with
a consumer or a business customer since this correlates to the pattern in which the economic benefits are expected to be realized.
In connection with the merger, we recorded $193 million of severance and severance-related costs and $427 million of contract
termination costs in the above allocation of the cost of the merger
in accordance with the Emerging Issues Task Force Issue (EITF) No.
95-3, “Recognition of Liabilities in Connection with a Purchase
Business Combination.” We paid $116 million of the severance and
severance-related costs in 2006 with the remaining costs to be paid
in 2007. We paid $128 million of contract termination costs in 2006
and the remaining costs will be paid over the remaining contract
periods through 2009. The following table summarizes the obligations recognized in connection with the MCI merger and the activity
to date:
Severance costs and contract
termination costs
Initial
Allocation
Other
Increases
$ 459
$ 161
(dollars in millions)
Ending
Payments
Balance
$ (244)
$ 376
Notes to Consolidated Financial Statements continued
Pro Forma Information
The following unaudited pro forma consolidated results of operations assume that the MCI merger was completed as of January 1
for the periods shown below:
(dollars in millions, except per share amounts)
Years Ended December 31,
2006
2005
$ 88,371
$ 85,739
5,480
6,197
6,724
8,176
Basic earnings per common share:
Income before discontinued operations
and cumulative effect of accounting change
Net income
1.88
2.13
2.30
2.79
Diluted earnings per common share:
Income before discontinued operations
and cumulative effect of accounting change
Net income
1.88
2.12
2.28
2.76
Revenues
Income before discontinued operations
and cumulative effect of accounting change
Net income
The unaudited pro forma information presents the combined operating results of Verizon and the former MCI, with the results prior to
the acquisition date adjusted to include the pro forma impact of: the
elimination of transactions between Verizon and the former MCI; the
adjustment of amortization of intangible assets and depreciation of
fixed assets based on the purchase price allocation; the elimination
of merger expenses incurred by the former MCI; the elimination of
the loss on the early redemption of MCI’s debt; the adjustment of
interest expense reflecting the redemption of all of MCI’s debt and
the replacement of that debt with $4 billion of new debt issued in
February 2006 at Verizon’s weighted average borrowing rate; and to
reflect the impact of income taxes on the pro forma adjustments
utilizing Verizon’s statutory tax rate of 40%. The unaudited pro
forma results for 2005 include $82 million for discontinued operations that were sold by MCI during the first quarter of 2005. The
unaudited pro forma results for 2005 include approximately $300
million of net tax benefits resulting from tax reserve adjustments
recognized by the former MCI primarily during the third and fourth
quarters of 2005, including audit settlements and other activity.
The unaudited pro forma consolidated basic and diluted earnings
per share for 2006 and 2005 are based on the consolidated basic
and diluted weighted average shares of Verizon and the former MCI.
The historical basic and diluted weighted average shares of the
former MCI were converted for the actual number of shares issued
upon the closing of the merger.
The unaudited pro forma results are presented for illustrative purposes only and do not reflect the realization of potential cost
savings, or any related integration costs. Certain cost savings may
result from the merger; however, there can be no assurance that
these cost savings will be achieved. Cost savings, if achieved,
could result from, among other things, the reduction of overhead
expenses, including employee levels and the elimination of duplicate facilities and capital expenditures. These pro forma results do
not purport to be indicative of the results that would have actually
been obtained if the merger occurred as of the beginning of each of
the periods presented, nor does the pro forma data intend to be a
projection of results that may be obtained in the future.
Other Acquisitions
In August 2002, Verizon Wireless and Price Communications Corp.
(Price) combined Price’s wireless business with a portion of Verizon
Wireless. The resulting limited partnership, Verizon Wireless of the
East LP (VZ East), is controlled and managed by Verizon Wireless.
In exchange for its contributed assets, Price received a limited partnership interest in the new partnership which was exchangeable
into the common stock of Verizon Wireless if an initial public
offering of that stock occurred, or into the common stock of Verizon
on the fourth anniversary of the asset contribution date. On August
15, 2006, Verizon delivered 29.5 million shares of newly-issued
Verizon common stock to Price valued at $1,007 million in
exchange for Price’s limited partnership interest in VZ East. As a
result of acquiring Price’s limited partnership interest, Verizon
recorded goodwill of $345 million in the third quarter of 2006 attributable to its Domestic Wireless segment.
On November 29, 2006, we were granted thirteen 20MHz licenses
we won in an FCC auction that concluded on September 18, 2006.
We paid a total of $2,809 million for the licenses, which cover a
population of nearly 200 million.
NOTE 3
DISCONTINUED OPERATIONS AND SALES
OF BUSINESSES, NET
Verizon Information Services
In October, 2006, we announced our intention to spin-off our
domestic print and Internet yellow pages directories publishing
operations, which have been organized into a newly formed company known as Idearc Inc. (Idearc). On October 18, 2006, the
Verizon Board of Directors declared a dividend consisting of 1 share
of Idearc for each 20 shares of Verizon owned. In making its determination to effect the spin-off, Verizon’s Board of Directors
considered, among other things, that the spin-off may allow each
company to separately focus on its core business, which may facilitate the potential expansion and growth of Verizon and Idearc, and
allow each company to determine its own capital structure.
On November 17, 2006, we completed the spin-off of Idearc. Cash
was paid for fractional shares. The distribution of Idearc common
stock to our shareholders is considered a tax free transaction for us
and for our shareowners, except for the cash payments for fractional shares which are generally taxable.
At the time of the spin-off, the exercise price of and number of
shares of Verizon common stock underlying options to purchase
shares of Verizon common stock, restricted stock units (RSU’s) and
performance stock units (PSU’s) were adjusted pursuant to the
terms of the applicable Verizon equity incentive plans, taking into
account the change in the value of Verizon common stock as a
result of the spin-off.
In connection with the spin-off, Verizon received approximately $2.0
billion in cash from the proceeds of loans under an Idearc term loan
facility and transferred to Idearc debt obligations in the aggregate
principal amount of approximately $7.1 billion thereby reducing
Verizon’s outstanding debt at that time. We incurred pretax charges
of approximately $117 million ($101 million after-tax), including debt
retirement costs, costs associated with accumulated vesting benefits of Idearc employees, investment banking fees and other
transaction costs related to the spin-off, which are included in discontinued operations.
51
Notes to Consolidated Financial Statements continued
In connection with the spin-off, we named Idearc the exclusive official publisher of Verizon print directories of wireline listings in
markets where Verizon is the current incumbent local exchange carrier. We also entered into other agreements that defined
responsibility for obligations arising before or that may arise after
the spin-off, including, among others, obligations relating to Idearc
employees, certain transition services and taxes. In general, the
agreements governing the exchange of services between us and
Idearc are for specified periods at cost-based or commercial rates.
Verizon Dominicana C. por A., Telecomunicaciones de Puerto Rico,
Inc. and Compañía Anónima Nacional Teléfonos de Venezuela
During the second quarter of 2006, we reached definitive agreements to sell our interests in our Caribbean and Latin American
telecommunications operations in three separate transactions to
América Móvil, S.A. de C.V. (América Móvil), a wireless service
provider throughout Latin America, and a company owned jointly by
Teléfonos de México, S.A. de C.V. (Telmex) and América Móvil. We
agreed to sell our 100 percent indirect interest in Verizon
Dominicana C. por A. (Verizon Dominicana) and our 52 percent
interest in Telecomunicaciones de Puerto Rico, Inc. (TELPRI) to
América Móvil. An entity jointly owned by América Móvil and Telmex
agreed to purchase our indirect 28.5 percent interest in Compañía
Anónima Nacional Teléfonos de Venezuela (CANTV).
In accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, (SFAS No. 144) we have classified
the results of operations of Verizon Dominicana and TELPRI as discontinued operations. CANTV continues to be accounted for as an
equity method investment.
On December 1, 2006, we closed the sale of Verizon Dominicana.
The transaction resulted in net pretax cash proceeds of $2,042 million, net of a purchase price adjustment of $373 million. The U.S.
taxes that became payable and were recognized at the time the
transaction closed exceeded the $30 million pretax gain resulting in
an after-tax loss of $541 million.
We expect to close the sale of our interest in TELPRI in 2007 subject to the receipt of regulatory approvals and in accordance with
the terms of the definitive agreement. We expect that the sale will
result in approximately $900 million in net pretax cash proceeds.
During the second quarter of 2006, we entered into a definitive agreement to sell our indirect 28.5% interest in CANTV to an entity jointly
owned by América Móvil and Telmex for estimated pretax proceeds of
$677 million. Regulatory authorities in Venezuela never commenced
the formal review of that transaction and the related tender offers for
the remaining equity securities of CANTV. On February 8, 2007, after
two prior extensions, the parties terminated the stock purchase
agreement because the parties mutually concluded that the regulatory
approvals would not be granted by the Government.
In January 2007, the Bolivarian Republic of Venezuela (the
Republic) declared its intent to nationalize certain companies,
including CANTV. On February 12, 2007, we entered into a
Memorandum of Understanding (MOU) with the Republic. The MOU
provides that the Republic will offer to purchase all of the equity
securities of CANTV through public tender offers in Venezuela and
the United States at a price equivalent to $17.85 per ADS. If the
tender offers are completed, the aggregate purchase price for
Verizon’s shares would be $572 million. If the 2007 dividend that
has been recommended by the CANTV Board is approved by
shareholders and paid prior to the closing of the tender offers, this
52
amount will be reduced by the amount of the dividend. Verizon has
agreed to tender its shares if the offers are commenced. The
Republic has agreed to commence the offers within forty-five days
assuming the satisfactory completion of its due diligence investigation of CANTV. The tender offers are subject to certain conditions
including that a majority of the outstanding shares are tendered to
the Government and receipt of regulatory approvals. Based upon
the terms of the MOU and our current investment balance in
CANTV, we expect that we will record a loss on our investment in
the first quarter of 2007. The ultimate amount of the loss depends
on a variety of factors, including the successful completion of the
tender offer and the satisfaction of other terms in the MOU.
Verizon Information Services Canada
During 2004, we announced our decision to sell Verizon Information
Services Canada Inc. to an affiliate of Bain Capital, a global private
investment firm, for $1,540 million (Cdn. $1,985 million). The sale
closed during the fourth quarter of 2004 and resulted in a gain of
$1,017 million ($516 million after-tax).
In accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets (SFAS No. 144), we have classified
the results of operation of the U.S. print and Internet yellow pages
directories business, Verizon Dominicana and Verizon Information
Services Canada as discontinued operations in the consolidated
statements of income for all years presented through the date of the
spin-off or sale. We have also classified the results of operations of
TELPRI, which we continued to own at December 31, 2006, as discontinued operations in the consolidated statements of income.
Our investment in CANTV continues to be accounted for as an
equity method investment in continuing operations.
The assets and liabilities of the U.S print and Internet yellow pages
directories business, Verizon Information Services Canada, Verizon
Dominicana and TELPRI are disclosed as current assets and current
liabilities held for sale in the consolidated balance sheets for all
years presented through the date of their spin-off or divestiture.
Additional detail related to those assets and liabilities are as follows:
(dollars in millions)
At December 31,
2006
2005
Current assets
Plant, property and
equipment, net
Other non-current assets
Total assets
$
1,436
853
$ 2,592
2,318
920
$ 4,233
Current liabilities
Long-term debt
Other non-current liabilities
Total liabilities
$
$ 1,369
300
1,201
$ 2,870
303
181
575
1,398
$ 2,154
$
995
Related to the assets and liabilities above is $241 million and $898
million included as Accumulated Other Comprehensive Loss in the
condensed consolidated balance sheets as of December 31, 2006
and December 31, 2005, respectively.
Notes to Consolidated Financial Statements continued
Income from discontinued operations, net of tax presented in the
consolidated statements of income included the following:
(dollars in millions)
Years Ended December 31,
Operating Revenues
$
2006
2005
2004
5,077
$ 5,595
$ 5,812
2,041
2,159
3,251
Income before provision for income taxes
Provision for income taxes
(1,282)
(789)
(1,319)
Income on discontinued operations,
net of tax
$
759 $ 1,370 $ 1,932
Verizon Hawaii Inc.
During the second quarter of 2004, we entered into an agreement to
sell our wireline and directory businesses in Hawaii, including Verizon
Hawaii Inc. which operated approximately 700,000 switched access
lines, as well as the services and assets of Verizon Long Distance,
Verizon Online, Verizon Information Services and Verizon Select
Services Inc. in Hawaii, to an affiliate of The Carlyle Group. This transaction closed during the second quarter of 2005. In connection with
this sale, we received net proceeds of $1,326 million and recorded a
net pretax gain of $530 million ($336 million after-tax).
NOTE 4
OTHER STRATEGIC ACTIONS
Spin-off Transaction Charges
In 2006, we recorded pretax charges of $117 million ($101 million
after-tax) for costs related to the spin-off of Idearc. These costs primarily consisted of banking and legal fees; as well as filing fees,
printing and mailing costs. There were no similar charges in 2005
and 2004.
Merger Integration Costs
In 2006, we recorded pretax charges of $232 million ($146 million
after-tax) related to integration costs associated with the MCI
acquisition that closed on January 6, 2006. These costs are primarily comprised of advertising and other costs related to re-branding
initiatives and systems integration activities. There were no similar
charges incurred in 2005 and 2004.
Facility and Employee-Related Items
During 2006, we recorded pretax charges of $184 million ($118 million after-tax) in connection with the continued relocation of
employees and business operations to Verizon Center located in
Basking Ridge, New Jersey. During 2005, we recorded a net pretax
gain of $18 million ($8 million after-tax) in connection with this relocation of our new operations center, Verizon Center, including a
pretax gain of $120 million ($72 million after-tax) related to the sale
of a New York City office building, partially offset by a pretax charge
of $102 million ($64 million after-tax) primarily associated with relocation, employee severance and related activities. There were no
similar charges incurred in 2004.
During 2006, we recorded net pretax severance, pension and benefits charges of $425 million ($258 million after-tax, including $3 million
of income recorded to discontinued operations). These charges
included net pretax pension settlement losses of $56 million ($26 million after-tax) related to employees that received lump-sum
distributions primarily resulting from our separation plans. These
charges were recorded in accordance with SFAS No. 88, Employers’
Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Benefits (SFAS No. 88), which
requires that settlement losses be recorded once prescribed payment
thresholds have been reached. Also included are pretax charges of
$369 million ($228 million after-tax), for employee severance and severance-related costs in connection with the involuntary separation of
approximately 4,100 employees. In addition, during 2005 we
recorded a charge of $59 million ($36 million after-tax) associated
with employee severance costs and severance-related activities in
connection with the voluntary separation program for surplus unionrepresented employees.
During 2005, we recorded a net pretax charge of $98 million ($59
million after-tax) related to the restructuring of the Verizon management retirement benefit plans. This pretax charge was recorded in
accordance with SFAS No. 88, and SFAS No. 106, Employers’
Accounting for Postretirement Benefits Other Than Pensions (SFAS
No. 106) and includes the unamortized cost of prior pension
enhancements of $430 million offset partially by a pretax curtailment
gain of $332 million related to retiree medical benefits. In connection
with this restructuring, management employees: no longer earn pension benefits or earn service towards the company retiree medical
subsidy after June 30, 2006; received an 18-month enhancement of
the value of their pension and retiree medical subsidy; and will
receive a higher savings plan matching contribution.
During 2004, we recorded pretax pension settlement losses of $805
million ($492 million after-tax) related to employees that received
lump-sum distributions during 2004 in connection with the voluntary separation plan under which more than 21,000 employees
accepted the separation offer in the fourth quarter of 2003. These
charges were recorded in accordance with SFAS No. 88. In addition, we recorded a $7 million after-tax charge in income from
discontinued operations, related to the 2003 separation plan.
Tax Matters
During 2005, we recorded a tax benefit of $336 million in connection with capital gains and prior year investment losses. As a result
of the capital gain realized in 2005 in connection with the sale of our
Hawaii businesses, we recorded a tax benefit of $242 million related
to capital losses incurred in previous years. The investment losses
pertain to Iusacell, CTI Holdings, S.A. (CTI) and TelecomAsia.
Also during 2005, we recorded a net tax provision of $206 million
related to the repatriation of foreign earnings under the provisions
of the American Jobs Creation Act of 2004, for two of our foreign
investments.
As a result of the capital gain realized in 2004 in connection with the
sale of Verizon Information Services Canada, we recorded tax benefits of $234 million in the fourth quarter of 2004 pertaining to prior
year investment impairments. The investment impairments primarily
related to debt and equity investments in CTI, Cable & Wireless plc
and NTL Incorporated.
Other Charges and Special Items
During 2006, we recorded pretax charges of $26 million ($16 million
after-tax) resulting from the extinguishment of debt assumed in
connection with the completion of the MCI merger.
During 2006, we recorded after-tax charges of $42 million to recognize the adoption of SFAS No. 123 (R).
During 2005, we recorded pretax charges of $139 million ($133 million after-tax) including a pretax impairment charge of $125 million
pertaining to aircraft leased to airlines involved in bankruptcy proceedings and a pretax charge of $14 million ($8 million after-tax) in
connection with the early extinguishment of debt.
53
Notes to Consolidated Financial Statements continued
In the second quarter of 2004, we recorded an expense credit of
$204 million ($123 million after-tax) resulting from the favorable
resolution of pre-bankruptcy amounts due from MCI that were
recovered upon the emergence of MCI from bankruptcy.
Also during 2004, we recorded an impairment charge of $113
million ($87 million after-tax) related to our international long distance and data network. In addition, we recorded pretax charges of
$55 million ($34 million after-tax) in connection with the early extinguishment of debt.
During 2004, we recorded a pretax gain of $787 million ($565 million
after-tax) on the sale of our 20.5% interest in TELUS in an underwritten public offering in the U.S. and Canada. In connection with
this sale transaction, Verizon recorded a contribution of $100 million
to Verizon Foundation to fund its charitable activities and increase
its self-sufficiency. Consequently, we recorded a net gain of $500
million after taxes related to this transaction and the accrual of the
Verizon Foundation contribution.
We have investments in marketable securities which are considered
“available-for-sale” under SFAS No. 115. These investments
have been included in our consolidated balance sheets in ShortTerm Investments, Investments in Unconsolidated Businesses and
Other Assets.
Under SFAS No. 115, available-for-sale securities are required to be
carried at their fair value, with unrealized gains and losses (net of
income taxes) that are considered temporary in nature recorded in
Accumulated Other Comprehensive Loss. The fair values of our
investments in marketable securities are determined based on
market quotations. We continually evaluate our investments in marketable securities for impairment due to declines in market value
considered to be other than temporary. That evaluation includes, in
addition to persistent, declining stock prices, general economic and
company-specific evaluations. In the event of a determination that
a decline in market value is other than temporary, a charge to earnings is recorded in Other Income and Expense, Net in the
consolidated statements of income for all or a portion of the unrealized loss, and a new cost basis in the investment is established. As
of December 31, 2006, no impairments were determined to exist.
The following table shows certain summarized information related
to our investments in marketable securities:
54
Certain other investments in securities that we hold are not
adjusted to market values because those values are not readily
determinable and/or the securities are not marketable. We have,
however, adjusted the carrying values of these securities in situations where we believe declines in value below cost were other than
temporary. The carrying values for investments not adjusted to
market value were $12 million at December 31, 2006 and $5 million
at December 31, 2005.
NOTE 6
The following table displays the details of plant, property and
equipment, which is stated at cost:
MARKETABLE SECURITIES AND OTHER INVESTMENTS
At December 31, 2005
Short-term investments
Investments in unconsolidated
businesses
Other assets
During 2004, we sold all of our investment in Iowa Telecom preferred stock, which resulted in a pretax gain of $43 million ($43
million after-tax) included in Other Income and Expense, Net in the
consolidated statements of income. The preferred stock was
received in 2000 in connection with the sale of access lines in Iowa.
PLANT, PROPERTY AND EQUIPMENT
NOTE 5
At December 31, 2006
Short-term investments
Investments in unconsolidated
businesses
Other assets
Our investments in marketable securities are primarily bonds and
mutual funds.
(dollars in millions)
Gross
Unrealized
Fair
Losses
Value
Cost
Gross
Unrealized
Gains
616
$ 28
$ –
$
259
594
$ 1,469
38
31
$ 97
(2)
–
$ (2)
295
625
$ 1,564
$
$
9
$ –
$
13
19
$ 41
(3)
–
$ (3)
225
567
$ 1,174
$
373
215
548
$ 1,136
644
382
(dollars in millions)
At December 31,
Land
Buildings and equipment
Network equipment
Furniture, office and data
processing equipment
Work in progress
Leasehold improvements
Other
Accumulated depreciation
Total
2006
$
$
959
19,207
163,580
12,789
2,315
3,061
2,198
204,109
(121,753)
82,356
2005
$
$
706
16,312
152,409
12,272
1,475
2,297
2,290
187,761
(114,774)
72,987
Notes to Consolidated Financial Statements continued
NOTE 7
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill
Changes in the carrying amount of goodwill are as follows:
(dollars in millions)
Domestic
Wireless
Wireline
Balance at December 31, 2004 and 2005
Acquisitions
Goodwill reclassifications and other
Balance at December 31, 2006
$
315
5,085
(90)
5,310
$
$
$
Total
–
345
–
345
$
315
5,430
(90)
5,655
$
Gross
Amount
At December 31, 2005
Accumulated
Amortization
Other Intangible Assets
The following table displays the details of other intangible assets:
(dollars in millions)
Gross
Amount
Finite-lived intangible assets:
Customer lists (3 to 8 years)
Non-network internal-use software (1 to 7 years)
Other (1 to 25 years)
Total
Indefinite-lived intangible assets:
Wireless licenses
$
$
1,278
7,777
204
9,259
$
50,959
At December 31, 2006
Accumulated
Amortization
$
$
270
3,826
23
4,119
$
$
3,436
7,081
26
10,543
$
47,781
$
$
3,279
3,193
3
6,475
Customer lists of $1,278 million includes $1,162 million related to the MCI acquisition. Customer lists of $3,313 million at Domestic Wireless
became fully amortized and were written off during 2006. Intangible asset amortization expense was $1,423 million, $1,444 million,
and $1,334 million for the years ended December 31, 2006, 2005 and 2004, respectively. It is estimated to be $1,201 million in 2007,
$1,047 million in 2008, $856 million in 2009, $633 million in 2010 and $483 million in 2011, primarily related to customer lists and non-network internal-use software.
ment in CANTV is net of approximately $400 million of foreign currency translation adjustments that are included in Accumulated
Other Comprehensive Loss.
NOTE 8
INVESTMENTS IN UNCONSOLIDATED BUSINESSES
Our investments in unconsolidated businesses are comprised of
the following:
(dollars in millions)
At December 31,
Equity Investees
CANTV
Vodafone Omnitel
Other
Total equity investees
Ownership
2006
Investment
28.5% $
230
23.1
3,624
Various
744
4,598
Cost Investees
Various
Total investments in
unconsolidated businesses
270
$ 4,868
Ownership
2005
Investment
28.5% $
152
23.1
2,591
Various
770
3,513
Various
1,089
$ 4,602
Dividends and repatriations of foreign earnings received from
investees amounted to $42 million in 2006, $2,335 million in 2005
and $162 million in 2004, respectively, and are reported in Other, Net
operating activities in the consolidated statements of cash flows.
Equity Investees
CANTV
CANTV is Venezuela’s largest full-service telecommunications
provider. CANTV offers local services, national and international
long distance, Internet access and wireless services in Venezuela
as well as public telephone, private network, data transmission,
directory and other value-added services. Our $230 million invest-
In the second quarter of 2006, we reached a definitive agreement to
sell our indirect 28.5% interest in CANTV to an entity jointly owned
by América Móvil and Telmex. That agreement was terminated on
February 8, 2007. On February 12, 2007, we announced our intention to participate in the Venezuelan government’s offer to purchase
our shares in CANTV through public tender offers in Venezuela and
the U.S. (See Note 23).
Vodafone Omnitel
Vodafone Omnitel N.V. (Vodafone Omnitel) is an Italian digital
cellular telecommunications company. It is the second largest
wireless provider in Italy. At December 31, 2006 and 2005, our
investment in Vodafone Omnitel included goodwill of $1,044 million
and $937 million, respectively.
During 2005, we repatriated $2,202 million of Vodafone Omnitel’s
earnings through the repurchase of issued and outstanding shares
of its equity. Vodafone Omnitel’s owners, Verizon and Vodafone
Group Plc (Vodafone), participated on a pro rata basis; consequently, Verizon’s ownership interest after the share repurchase
remained at 23.1%.
Other Equity Investees
Verizon has limited partnership investments in entities that invest in
affordable housing projects, for which Verizon provides funding as a
limited partner and receives tax deductions and tax credits based
on its partnership interests. At December 31, 2006 and 2005,
55
Notes to Consolidated Financial Statements continued
Verizon had equity investments in these partnerships of $659 million
and $652 million, respectively. Verizon currently adjusts the carrying
value of these investments for any losses incurred by the limited
partnerships through earnings.
The remaining investments include wireless partnerships in the
U.S., and other smaller domestic and international investments.
Cost Investees
Some of our cost investments are carried at their current market
value. Other cost investments are carried at their original cost,
except in cases where we have determined that a decline in the
estimated market value of an investment is other than temporary as
described in Note 5. Our cost investments include a variety of
domestic and international investments primarily involved in providing communication services.
Our cost investments in unconsolidated businesses included 43.4
million of shares of MCI common stock that were converted upon
the closing of the MCI merger (see Note 2).
Cellular Partnerships and Other
In August 2002, Verizon Wireless and Price Communications Corp.
(Price) combined Price’s wireless business with a portion of Verizon
Wireless. The resulting limited partnership, Verizon Wireless of the
East LP (VZ East), is controlled and managed by Verizon Wireless.
In exchange for its contributed assets, Price received a limited partnership interest in the new partnership which was exchangeable
into the common stock of Verizon Wireless if an initial public
offering of that stock occurred, or into the common stock of Verizon
on the fourth anniversary of the asset contribution date. On August
15, 2006, Verizon delivered 29.5 million shares of newly-issued
Verizon common stock to Price valued at $1,007 million in
exchange for Price’s limited partnership interest in VZ East.
Preferred Securities Issued By Subsidiaries
On January 15, 2006, Verizon redeemed $100 million Verizon
International Holdings Ltd. Series A variable term voting cumulative
preferred stock at the redemption price per share of $100,000, plus
accrued and unpaid dividends.
NOTE 10
NOTE 9
MINORITY INTEREST
LEASING ARRANGEMENTS
Minority interests in equity of subsidiaries were as follows:
As Lessor
We are the lessor in leveraged and direct financing lease agreements under which commercial aircraft and power generating
facilities, which comprise the majority of the portfolio, along with
industrial equipment, real estate property, telecommunications and
other equipment are leased for remaining terms up to 49 years as of
December 31, 2006. Minimum lease payments receivable represent
unpaid rentals, less principal and interest on third-party nonrecourse debt relating to leveraged lease transactions. Since we have
no general liability for this debt, which holds a senior security
interest in the leased equipment and rentals, the related principal
and interest have been offset against the minimum lease payments
receivable in accordance with GAAP. All recourse debt is reflected
in our consolidated balance sheets. See Note 4 for information on
lease impairment charges.
(dollars in millions)
At December 31,
2006
2005
Minority interests in consolidated subsidiaries*:
Wireless joint venture (55%)
$ 27,854
Cellular partnerships and other (various)
483
Preferred securities issued by subsidiaries
—
$ 28,337
$ 24,683
1,650
100
$ 26,433
*Indicated ownership percentages are Verizon’s consolidated interests.
Wireless Joint Venture
The wireless joint venture was formed in April 2000 in connection
with the combination of the U.S. wireless operations and interests
of Verizon and Vodafone. The wireless joint venture operates as
Verizon Wireless. Verizon owns a controlling 55% interest in Verizon
Wireless and Vodafone owns the remaining 45%.
Under the terms of an investment agreement, Vodafone had the
right to require Verizon Wireless to purchase up to an aggregate of
$20 billion worth of Vodafone’s interest in Verizon Wireless at designated times (put windows) at its then fair market value, not to
exceed $10 billion in any one put window. Vodafone had the right to
require the purchase of up to $10 billion during a 61-day period
which opened on June 10 and closed on August 9 in 2006, and did
not exercise that right. As of December 31, 2006, Vodafone only
has the right to require the purchase of up to $10 billion worth of its
interest, during a 61-day period opening on June 10 and closing on
August 9 in 2007, under its one remaining put window. Vodafone
also may require that Verizon Wireless pay for up to $7.5 billion of
the required repurchase through the assumption or incurrence of
debt. In the event Vodafone exercises its one remaining put right,
we (instead of Verizon Wireless) have the right, exercisable at our
sole discretion, to purchase up to $2.5 billion of Vodafone’s interest
for cash or Verizon stock at our option.
56
Notes to Consolidated Financial Statements continued
Finance lease receivables, which are included in Prepaid Expenses and Other and Other Assets in our consolidated balance sheets are
comprised of the following:
(dollars in millions)
At December 31,
2005
2006
Direct
Finance
Leases
Leveraged
Leases
Minimum lease payments receivable
Estimated residual value
Unearned income
$
3,311
1,637
(1,895)
3,053
$
$
$
Leveraged
Leases
Total
128
18
(22)
124
$
Allowance for doubtful accounts
Finance lease receivables, net
Current
Noncurrent
$
$
$
3,439
1,655
(1,917)
3,177
(175)
3,002
40
2,962
Direct
Finance
Leases
$
$
3,847
1,937
(2,260)
3,524
$
123
9
(11)
121
$
Total
$
3,970
1,946
(2,271)
3,645
(375)
3,270
30
3,240
$
$
$
Accumulated deferred taxes arising from leveraged leases, which are included in Deferred Income Taxes, amounted to $2,674 million at
December 31, 2006 and $3,049 million at December 31, 2005.
The following table is a summary of the components of income from
leveraged leases:
(dollars in millions)
Years Ended December 31,
Pretax lease income
Income tax expense/(benefit)
Investment tax credits
2006
2005
96
57
4
$ 119
(25)
4
$
2004
$
63
(52)
3
The future minimum lease payments to be received from noncancelable leases, net of nonrecourse loan payments related to leveraged
and direct financing leases in excess of debt service requirements,
for the periods shown at December 31, 2006, are as follows:
As Lessee
We lease certain facilities and equipment for use in our operations
under both capital and operating leases. Total rent expense from
continuing operations under operating leases amounted to $1,608
million in 2006, $1,458 million in 2005 and $1,278 million in 2004.
Capital lease amounts included in plant, property and equipment
are as follows:
(dollars in millions)
At December 31,
Capital leases
Accumulated amortization
Total
2006
$
$
359
(160)
199
2005
$
$
313
(137)
176
(dollars in millions)
Capital
Leases
Years
2007
2008
2009
2010
2011
Thereafter
Total
$
128
92
153
132
114
2,820
$ 3,439
Operating
Leases
$
$
32
18
14
11
8
24
107
The aggregate minimum rental commitments under noncancelable
leases for the periods shown at December 31, 2006, are as follows:
(dollars in millions)
Years
2007
2008
2009
2010
2011
Thereafter
Total minimum rental commitments
Less interest and executory costs
Present value of minimum lease payments
Less current installments
Long-term obligation at December 31, 2006
$
$
Capital
Leases
Operating
Leases
80
69
64
55
51
161
480
(120)
360
(55)
305
$ 1,739
1,194
998
724
459
1,729
$ 6,843
As of December 31, 2006, the total minimum sublease rentals to be
received in the future under noncancelable operating and capital
subleases were $124 million and $0.9 million, respectively.
57
Notes to Consolidated Financial Statements continued
NOTE 11
DEBT
Debt Maturing Within One Year
Debt maturing within one year is as follows:
(dollars in millions)
At December 31,
Long-term debt maturing within one year
Commercial paper
Other short-term debt
Total debt maturing within one year
2006
2005
$ 4,139
3,576
–
$ 7,715
$ 4,526
2,152
10
$ 6,688
The weighted average interest rate for our commercial paper at
year-end December 31, 2006 and December 31, 2005 was 5.3%
and 4.3%, respectively.
Capital expenditures (primarily acquisition and construction of network assets) are partially financed, pending long-term financing,
through bank loans and the issuance of commercial paper payable
within 12 months.
At December 31, 2006, we had approximately $6.2 billion of unused
bank lines of credit. Certain of these lines of credit contain requirements for the payment of commitment fees.
Long-Term Debt
Outstanding long-term debt obligations are as follows:
(dollars in millions)
At December 31,
Interest Rates %
Maturities
Notes payable
4.00 – 8.25
2007 – 2035
Telephone subsidiaries – debentures and first/refunding mortgage bonds
4.63 – 7.00
7.15 – 7.65
7.85 – 8.75
2007 – 2042
2007 – 2032
2010 – 2031
11,703
1,275
1,679
11,869
1,725
1,926
Other subsidiaries – debentures and other
4.25 – 10.75
2007 – 2028
2,977
3,410
–
–
–
1,360
9.55
2010
92
113
360
112
–
13
Zero-coupon convertible notes,
net of unamortized discount of $– and $790
Employee stock ownership plan loans:
NYNEX debentures
2006
$
Capital lease obligations (average rate 8.0% and 11.9%)
Property sale holdbacks held in escrow, vendor financing and other
Unamortized discount, net of premium
Total long-term debt, including current maturities
Less: debt maturing within one year
Total long-term debt
Telephone Subsidiaries’ Debt
Our first mortgage bonds of $100 million are secured by certain
telephone operations assets.
See Note 20 for additional information about guarantees of operating subsidiary debt.
Redemption of Debt Assumed in Merger
On January 17, 2006, Verizon announced offers to purchase two
series of MCI senior notes, MCI $1,983 million aggregate principal
amount of 6.688% Senior Notes Due 2009 and MCI $1,699 million
aggregate principal amount of 7.735% Senior Notes Due 2014, at
58
–
–
$
14,805
(106)
32,785
(4,139)
28,646
2005
$
$
15,610
(43)
36,095
(4,526)
31,569
101% of their par value. Due to the change in control of MCI that
occurred in connection with the merger with Verizon on January 6,
2006, Verizon was required to make this offer to noteholders within
30 days of the closing of the merger. Noteholders tendered $165
million of the 6.688% Senior Notes. Separately, Verizon notified
noteholders that MCI was exercising its right to redeem both series
of Senior Notes prior to maturity under the optional redemption
procedures provided in the indentures. The 6.688% Notes were
redeemed on March 1, 2006, and the 7.735% Notes were
redeemed on February 16, 2006.
Notes to Consolidated Financial Statements continued
In addition, on January 20, 2006, Verizon announced an offer to
repurchase MCI $1,983 million aggregate principal amount of
5.908% Senior Notes Due 2007 at 101% of their par value. On
February 21, 2006, $1,804 million of these notes were redeemed by
Verizon. Verizon satisfied and discharged the indenture governing
this series of notes shortly after the close of the offer for those
noteholders who did not accept this offer.
Other Debt Redemptions/Prepayments
During the second quarter of 2006, we redeemed/prepaid several
debt issuances, including: Verizon North Inc. $200 million 7.625%
Series C debentures due May 15, 2026; Verizon Northwest Inc. $175
million 7.875% Series B debentures due June 1, 2026; Verizon
South Inc. $250 million 7.5% Series D debentures due March 15,
2026; Verizon California Inc. $25 million 9.41% Series W first mortgage bonds due 2014; Verizon California Inc. $30 million 9.44%
Series X first mortgage bonds due 2015; Verizon Northwest Inc. $3
million 9.67% Series HH first mortgage bonds due 2010 and Contel
of the South Inc. $14 million 8.159% Series GG first mortgage bonds
due 2018. The gain/(loss) from these retirements was immaterial.
During the third quarter of 2005, we redeemed Verizon New
England Inc. $250 million 6.875% debentures due October 1, 2023
resulting in a pretax charge of $10 million ($6 million after-tax) in
connection with the early extinguishment of the debt.
Zero-Coupon Convertible Notes
Previously in May 2001, Verizon Global Funding issued approximately $5.4 billion in principal amount at maturity of zero-coupon
convertible notes due 2021, resulting in gross proceeds of approximately $3 billion. The notes were convertible into shares of our
common stock at an initial price of $69.50 per share if the closing
price of Verizon common stock on the New York Stock Exchange
exceeded specified levels or in other specified circumstances. The
conversion price increased by at least 3% a year. The initial conversion price represented a 25% premium over the May 8, 2001
closing price of $55.60 per share. The notes were redeemable at the
option of the holders on May 15th in each of the years 2004, 2006,
2011 and 2016. On May 15, 2004, $3,292 million of principal
amount of the notes ($1,984 million after unamortized discount)
were redeemed by Verizon Global Funding. In addition, the zerocoupon convertible notes were callable by Verizon on or after May
15, 2006. On May 16, 2006, we redeemed the remaining $1,375 million accreted principal of the remaining outstanding zero-coupon
convertible principal. The total payment on the date of redemption
was $1,377 million.
Support Agreements
All of Verizon Global Funding’s debt had the benefit of Support
Agreements between us and Verizon Global Funding, which gave
holders of Verizon Global Funding debt the right to proceed directly
against us for payment of interest, premium (if any) and principal
outstanding should Verizon Global Funding fail to pay. The holders
of Verizon Global Funding debt did not have recourse to the stock
or assets of most of our telephone operations; however, they did
have recourse to dividends paid to us by any of our consolidated
subsidiaries as well as assets not covered by the exclusion. On
February 1, 2006, Verizon announced the merger of Verizon Global
Funding into Verizon. As a result of the merger all of Verizon Global
Funding’s debt has been assumed by Verizon by operation of law.
In addition, Verizon Global Funding had guaranteed the debt obligations of GTE Corporation (but not the debt of its subsidiary or
affiliate companies) that were issued and outstanding prior to July
1, 2003. In connection with the merger of Verizon Global Funding
into Verizon, Verizon has assumed this guarantee. As of December
31, 2006, $2,950 million principal amount of these obligations
remained outstanding.
Verizon and NYNEX Corporation are the joint and several coobligors of the 20-Year 9.55% Debentures due 2010 previously
issued by NYNEX on March 26, 1990. As of December 31, 2006,
$92 million principal amount of this obligation remained outstanding. NYNEX and GTE no longer issue public debt or file SEC
reports. See Note 20 for information on guarantees of operating
subsidiary debt listed on the New York Stock Exchange.
Debt Covenants
We and our consolidated subsidiaries are in compliance with all of
our debt covenants.
Maturities of Long-Term Debt
Maturities of long-term debt outstanding at December 31, 2006 are
$4.1 billion in 2007, $2.5 billion in 2008, $1.4 billion in 2009, $2.8
billion in 2010, $2.6 billion in 2011 and $19.4 billion thereafter.
NOTE 12
FINANCIAL INSTRUMENTS
Derivatives
The ongoing effect of SFAS No. 133 and related amendments and
interpretations on our consolidated financial statements will be
determined each period by several factors, including the specific
hedging instruments in place and their relationships to hedged
items, as well as market conditions at the end of each period.
Interest Rate Risk Management
We have entered into domestic interest rate swaps, to achieve a targeted mix of fixed and variable rate debt, where we principally
receive fixed rates and pay variable rates based on LIBOR. These
swaps hedge against changes in the fair value of our debt portfolio.
We record the interest rate swaps at fair value in our balance sheet as
assets and liabilities and adjust debt for the change in its fair value
due to changes in interest rates. The ineffective portions of these
hedges were recorded as gains in the consolidated statements of
income of $4 million for the year ended December 31, 2004.
We also enter into interest rate derivatives to limit our exposure to
interest rate changes. In accordance with the provisions of SFAS
No. 133, changes in fair value of these cash flow hedges due to
interest rate fluctuations are recognized in Accumulated Other
Comprehensive Loss. We recorded Other Comprehensive Income
(Loss) of $14 million and $10 million related to these interest rate
cash flow hedges for the years ended December 31, 2006 and
2005, respectively.
Foreign Exchange Risk Management
From time to time, our foreign exchange risk management has
included the use of foreign currency forward contracts and cross
currency interest rate swaps with foreign currency forwards. These
contracts are typically used to hedge short-term foreign currency
transactions and commitments, or to offset foreign exchange gains
or losses on the foreign currency obligations and are designated as
cash flow hedges. There were no foreign currency contracts outstanding as of December 31, 2006 and 2005. We record these
contracts at fair value as assets or liabilities and the related gains or
losses are deferred in shareowners’ investment as a component of
Accumulated Other Comprehensive Loss. We have recorded net
59
Notes to Consolidated Financial Statements continued
unrealized gains of $17 million in Other Comprehensive Income
(Loss) for the year ended December 31, 2004.
Net Investment Hedges
During 2005, we entered into zero cost euro collars to hedge a portion of our net investment in Vodafone Omnitel. In accordance with
the provisions of SFAS No. 133 and related amendments and interpretations, changes in fair value of these contracts due to exchange
rate fluctuations were recognized in Accumulated Other
Comprehensive Loss and offset the impact of foreign currency
changes on the value of our net investment. During 2005, our positions in the zero cost euro collars were settled. As of December 31,
2006 and 2005, Accumulated Other Comprehensive Loss includes
unrecognized gains of $2 million related to these hedge contracts,
which along with the unrealized foreign currency translation balance
of the investment hedged, remains unless the investment is sold.
During 2004, we entered into foreign currency forward contracts to
hedge our net investment in our Canadian operations. In accordance with the provisions of SFAS No. 133, changes in the fair
value of these contracts due to exchange rate fluctuations were
recognized in Accumulated Other Comprehensive Loss and offset
the impact of foreign currency changes on the value of our net
investment. During 2004, we sold our Canadian operations and the
unrealized losses on these net investment hedge contracts were
recognized in net income along with the corresponding foreign currency translation balance. We recorded realized losses of $106
million ($58 million after-tax) related to these hedge contracts.
Other Derivatives
On May 17, 2005, we purchased 43.4 million shares of MCI
common stock under a stock purchase agreement that contained a
provision for the payment of an additional cash amount determined
immediately prior to April 9, 2006 based on the market price of
Verizon’s common stock. (See Note 2). Under SFAS No. 133, this
additional cash payment was an embedded derivative which we
carried at fair value and was subject to changes in the market price
of Verizon stock. Since this derivative did not qualify for hedge
accounting under SFAS No. 133, changes in its fair value were
recorded in the consolidated statements of income in Other Income
and (Expense), Net. During 2006 and 2005, we recorded pretax
income of $4 million and $57 million, respectively, in connection
with this embedded derivative. As of December 31, 2006, this
embedded derivative has expired with no requirement for an additional cash payment made under the stock purchase agreement.
Concentrations of Credit Risk
Financial instruments that subject us to concentrations of credit risk
consist primarily of temporary cash investments, short-term and
long-term investments, trade receivables, certain notes receivable
including lease receivables and derivative contracts. Our policy is to
deposit our temporary cash investments with major financial institutions. Counterparties to our derivative contracts are also major
financial institutions and organized exchanges. The financial institutions have all been accorded high ratings by primary rating
agencies. We limit the dollar amount of contracts entered into with
any one financial institution and monitor our counterparties’ credit
ratings. We generally do not give or receive collateral on swap
agreements due to our credit rating and those of our counterparties.
While we may be exposed to credit losses due to the nonperformance of our counterparties, we consider the risk remote and do
not expect the settlement of these transactions to have a material
effect on our results of operations or financial condition.
60
Fair Values of Financial Instruments
The tables that follow provide additional information about our
significant financial instruments:
Financial Instrument
Valuation Method
Cash and cash equivalents and
short-term investments
Carrying amounts
Short- and long-term debt
(excluding capital leases)
Market quotes for similar terms
and maturities or future cash flows
discounted at current rates
Cost investments in unconsolidated
businesses, derivative assets
and liabilities and notes receivable
Future cash flows discounted
at current rates, market quotes for
similar instruments or other
valuation models
At December 31,
Short- and long-term debt
Cost investments in
unconsolidated businesses
Short- and long-term
derivative assets
Short- and long-term
derivative liabilities
2006
(dollars in millions)
2005
Carrying
Amount Fair Value
Carrying
Amount
Fair Value
$ 36,000
$ 37,165
$ 38,145
$ 39,549
270
270
1,089
1,089
31
31
62
62
10
10
21
21
Notes to Consolidated Financial Statements continued
NOTE 13
EARNINGS PER SHARE AND SHAREOWNERS’ INVESTMENT
Earnings Per Share
The following table is a reconciliation of the numerators and
denominators used in computing earnings per common share:
(dollars and shares in millions, except per share amounts)
Years Ended December 31,
2006
Net Income Used For Basic Earnings
Per Common Share
Income before discontinued operations
and cumulative effect of accounting
change
Income on discontinued operations,
net of tax
Cumulative effect of accounting change,
net of tax
Net income
$
$
Net Income Used For Diluted Earnings
Per Common Share
Income before discontinued operations
and cumulative effect of accounting
change
$
After-tax minority interest expense related
to exchangeable equity interest
After-tax interest expense related to
zero-coupon convertible notes
Income before discontinued operations
and cumulative effect of accounting
change – after assumed conversion
of dilutive securities
Income on discontinued operations,
net of tax
Cumulative effect of accounting change,
net of tax
Net income – after assumed conversion
of dilutive securities
$
2005
2004
5,480
$ 6,027
5,899
759
1,370
1,932
(42)
–
6,197 $ 7,397
–
$ 7,831
5,480
$ 6,027
$ 5,899
20
32
27
11
28
41
5,511
6,087
5,967
759
1,370
1,932
–
–
6,228
$ 7,457
$ 7,899
2,912
2,766
2,770
(42)
Certain outstanding options to purchase shares were not included
in the computation of diluted earnings per common share because
to do so would have been anti-dilutive for the period, including
approximately 228 million shares during 2006, 250 million shares
during 2005 and 262 million shares during 2004.
The zero-coupon convertible notes were retired on May 15, 2006.
(see Note 11).
The exchangeable equity interest was converted on August 15,
2006 by issuing 29.5 million Verizon shares (see Note 9).
Shareowners’ Investment
Our certificate of incorporation provides authority for the issuance
of up to 250 million shares of Series Preferred Stock, $.10 par value,
in one or more series, with such designations, preferences, rights,
qualifications, limitations and restrictions as the Board of Directors
may determine.
We are authorized to issue up to 4.25 billion shares of common stock.
On January 22, 2004, the Board of Directors authorized the repurchase of up to 80 million common shares terminating no later than the
close of business on February 28, 2006. We repurchased 7.9 million
and 9.5 million common shares during 2005 and 2004, respectively.
On January 19, 2006, the Board of Directors determined that no
additional common shares may be purchased under the previously
authorized program and gave authorization to repurchase of up to
100 million common shares terminating no later than the close of
business on February 28, 2008. We repurchased approximately 50
million common shares under this authorization during 2006.
(1)
Basic Earnings Per Common Share
Weighted-average shares outstanding –
basic
Income before discontinued operations
and cumulative effect of accounting
change
Income on discontinued operations,
net of tax
Cumulative effect of accounting change,
net of tax
Net income
Diluted Earnings Per Common Share(1)
Weighted-average shares outstanding
Effect of dilutive securities:
Stock options
Exchangeable equity interest
Zero-coupon convertible notes
Weighted-average shares – diluted
Income before discontinued operations
and cumulative effect of accounting
change
Income on discontinued operations,
net of tax
Cumulative effect of accounting change,
net of tax
Net income
$
1.88
$
.26
$
$
$
.50
(.01)
2.13 $
–
2.67
2.13
.70
$
–
2.83
2,912
2,766
2,770
1
18
7
2,938
5
29
17
2,817
5
29
27
2,831
1.88
$
.26
$
2.18
(.01)
2.12 $
2.16
$
.49
–
2.65
2.11
.68
$
–
2.79
(1) Total per share amounts may not add due to rounding.
61
Notes to Consolidated Financial Statements continued
NOTE 14
STOCK-BASED COMPENSATION
Effective January 1, 2006, we adopted SFAS No. 123(R) utilizing the
modified prospective method. SFAS No. 123(R) requires the measurement of stock-based compensation expense based on the fair
value of the award on the date of grant. Under the modified
prospective method, the provisions of SFAS No. 123(R) apply to all
awards granted or modified after the date of adoption. The impact
to Verizon primarily resulted from Verizon Wireless, for which we
recorded a $42 million cumulative effect of accounting change, net
of taxes and after minority interest, to recognize the effect of initially
measuring the outstanding liability for awards granted to Domestic
Wireless employees at fair value utilizing a Black-Scholes model.
Previously, effective January 1, 2003, we adopted the fair value
recognition provisions of SFAS No. 123 using the prospective
method (as permitted under SFAS No. 148, Accounting for StockBased Compensation – Transition and Disclosure) for all new
awards granted, modified or settled after January 1, 2003.
Verizon Communications Long Term Incentive Plan
The Verizon Communications Long Term Incentive Plan (the “Plan”),
permits the grant of nonqualified stock options, incentive stock
options, restricted stock, restricted stock units, performance
shares, performance share units and other awards. The maximum
number of shares for awards is 200 million.
Restricted Stock Units
The Plan provides for grants of restricted stock units (RSUs) that
vest at the end of the third year after the grant. The RSUs are classified as liability awards because the RSUs are paid in cash upon
vesting. The RSU award liability is measured at its fair value at the
end of each reporting period and, therefore, will fluctuate based on
the performance of Verizon’s stock.
The following table summarizes Verizon’s Restricted Stock Unit
activity:
(Shares in thousands)
Outstanding, January 1, 2004
Granted
Cancelled/Forfeited
Outstanding, December 31, 2004
Granted
Cancelled/Forfeited
Outstanding, December 31, 2005
Granted
Cancelled/Forfeited
Outstanding, December 31, 2006
Restricted
Stock Units
–
532
(7)
525
6,410
(66)
6,869
9,116
(392)
15,593
Weighted
Average
Grant-Date
Fair Value
$
–
36.75
36.75
36.75
36.06
36.07
36.12
31.88
35.01
33.67
Performance Share Units
The Plan also provides for grants of performance share units (PSUs)
that vest at the end of the third year after the grant. The 2006, 2005
and 2004 performance share units will be paid in cash upon vesting.
The 2003 PSUs were paid out in February 2006 in Verizon shares.
The target award is determined at the beginning of the period and
can increase (to a maximum 200% of the target) or decrease (to
zero) based on a key performance measure, Total Shareholder
Return (TSR). At the end of the period, the PSU payment is determined by comparing Verizon’s TSR to the TSR of a predetermined
peer group and the S&P 500 companies. All payments are subject
to approval by the Board’s Human Resources Committee. The
PSUs are classified as liability awards because the PSU awards are
paid in cash upon vesting. The PSU award liability is measured at
its fair value at the end of each reporting period and, therefore, will
fluctuate based on the performance of Verizon’s stock as well as
Verizon’s TSR relative to the peer group’s TSR and S&P 500 TSR.
The following table summarizes Verizon’s Performance Share Unit
activity:
(Shares in thousands)
Outstanding, January 1, 2004
Granted
Cancelled/Forfeited
Outstanding, December 31, 2004
Granted
Cancelled/Forfeited
Outstanding, December 31, 2005
Granted
Payments
Cancelled/Forfeited
Outstanding, December 31, 2006
4,219
6,477
(617)
10,079
9,300
(288)
19,091
14,166
(3,607)
(1,227)
28,423
$ 38.54
36.81
37.40
37.50
36.13
36.91
36.84
32.05
38.54
37.25
34.22
As of December 31, 2006, unrecognized compensation expense
related to the unvested portion of Verizon’s RSUs and PSUs was
approximately $392 million and is expected to be recognized over
the next two years.
MCI Restricted Stock Plan
MCI’s Management Restricted Stock Plan (MRSP) provides for the
granting of stock-based compensation to management. Following
the acquisition by Verizon on January 6, 2006, awards outstanding
under the MRSP were converted into Verizon common stock in
accordance with the Merger Agreement. MCI has not issued new
MRSPs since February 2005.
The following table summarizes MRSP’s restricted stock activity:
(Shares in thousands)
Outstanding, January 1, 2006
Acquisition by Verizon
Payments
Cancellations/Forfeitures
Outstanding, December 31, 2006
62
Performance
Share Units
Weighted
Average
Grant-Date
Fair Value
Restricted
Stock
–
3,456
(2,756)
(53)
647
Weighted
Average
Grant-Date
Fair Value
$
–
30.75
30.75
30.75
30.75
Notes to Consolidated Financial Statements continued
As of December 31, 2006, unrecognized compensation expense
related to the unvested portion of the MRSP restricted stock was
approximately $9 million and is expected to be recognized over the
next year.
Verizon Wireless Long-Term Incentive Plan
The 2000 Verizon Wireless Long-Term Incentive Plan (the “Wireless
Plan”) provides compensation opportunities to eligible employees
and other participating affiliates of the Cellco Partnership, d.b.a.
Verizon Wireless (the “Partnership”). The Wireless Plan provides
rewards that are tied to the long-term performance of the
Partnership. Under the Wireless Plan, VARs are granted to eligible
employees. The aggregate number of VARs that may be issued
under the Wireless Plan is approximately 343 million.
VARs reflect the change in the value of the Partnership, as defined
in the Wireless Plan, similar to stock options. Once VARs become
vested, employees can exercise their VARs and receive a payment
that is equal to the difference between the VAR price on the date of
grant and the VAR price on the date of exercise, less applicable
taxes. VARs are fully exercisable three years from the date of grant
with a maximum term of 10 years. All VARs are granted at a price
equal to the estimated fair value of the Partnership, as defined in
the Wireless Plan, at the date of the grant.
With the adoption of SFAS No. 123(R), the Partnership began estimating the fair value of VARs granted using a Black-Scholes option
valuation model. The following table summarizes the assumptions
used in the model during 2006:
As of December 31, 2006, unrecognized compensation expense
related to the unvested portion of the VARs was approximately $50
million and is expected to be recognized within one year.
Stock-Based Compensation Expense
After-tax compensation expense for stock based compensation
related to RSUs, PSUs, MRSPs and VARs described above
included in net income as reported was $535 million, $359 million
and $248 million for 2006, 2005 and 2004, respectively.
Stock Options
The Verizon Long Term Incentive Plan provides for grants of stock
options to employees at an option price per share of 100% of the
fair market value of Verizon Stock on the date of grant. Each grant
has a 10 year life, vesting equally over a three year period, starting
at the date of the grant. We have not granted new stock options
since 2004.
We determined stock-option related employee compensation
expense for the 2004 grant using the Black-Scholes option-pricing
model based on the following weighted-average assumptions:
2004
Dividend yield
Expected volatility
Risk-free interest rate
Expected lives (in years)
Weighted average value of options granted
4.2%
31.3%
3.3%
6
$ 7.61
The following table summarizes Verizon’s stock option activity.
Ranges
Risk-free interest rate
Expected term (in years)
Expected volatility
Expected dividend yield
4.6% - 5.2%
1.0 - 3.5
17.6% - 22.3%
n/a
The risk-free rate is based on the U.S. Treasury yield curve in effect
at the time of the measurement date. The expected term of the
VARs granted was estimated using a combination of the simplified
method as prescribed in Staff Accounting Bulletin (SAB) No. 107,
“Share Based Payments,” (SAB No. 107) historical experience, and
management judgment. Expected volatility was based on a blend of
the historical and implied volatility of publicly traded peer companies for a period equal to the VARs expected life, ending on the
measurement date, and calculated on a monthly basis.
The following table summarizes the VARs activity:
(Shares in thousands)
Outstanding rights, January 1, 2004
Granted
Exercised
Cancelled/Forfeited
Outstanding rights, December 31, 2004
Granted
Exercised
Cancelled/Forfeited
Outstanding rights, December 31, 2005
Exercised
Cancelled/Forfeited
Outstanding rights, December 31, 2006
VARs
119,809
48,999
(2,144)
(6,003)
160,661
10
(47,964)
(3,784)
108,923
(7,448)
(7,008)
94,467
Weighted
Average
Grant-Date
Fair Value
(Shares in thousands)
Outstanding, January 1, 2004
Granted
Exercised
Cancelled/forfeited
Outstanding, December 31, 2004
Exercised
Cancelled/forfeited
Outstanding, December 31, 2005
Exercised
Cancelled/forfeited
Options outstanding,
December 31, 2006
Options exercisable, December 31,
2004
2005
2006
Stock
Options
Weighted
Average
Exercise
Price
280,581
17,413
(10,519)
(6,586)
280,889
(1,133)
(19,996)
259,760
(3,371)
(27,025)
$ 46.24
35.51
28.89
48.01
46.18
28.73
49.62
46.01
32.12
43.72
229,364
46.48
247,461
244,424
225,067
47.26
46.64
46.69
$ 16.31
13.89
16.39
14.65
15.63
14.85
12.27
15.17
17.12
13.00
23.25
16.99
63
Notes to Consolidated Financial Statements continued
The following table summarizes information about Verizon’s stock options outstanding as of December 31, 2006:
Stock Options Outstanding
Range of Exercise Prices
$ 20.00
30.00
40.00
50.00
60.00
–
–
–
–
–
29.99
39.99
49.99
59.99
69.99
Total
Shares
(in thousands)
Weighted-Average
Remaining Life
73
44,874
96,154
87,687
576
229,364
The weighted average remaining contractual term was 3.8 years for
stock options outstanding and exercisable as of December 31,
2006. The total intrinsic value was approximately $44 million and
$37 million for stock options outstanding and exercisable, respectively, as of December 31, 2006. The total intrinsic value for stock
options exercised was $10 million, $6 million and $97 million, during
2006, 2005 and 2004, respectively.
The amount of cash received from the exercise of stock options
was approximately $101 million, $34 million and $306 million for
2006, 2005 and 2004, respectively.
The after-tax compensation expense for stock options was $28 million, $53 million and $50 million for 2006, 2005 and 2004,
respectively. As of December 31, 2006, unrecognized compensation expense related to the unvested portion of stock options was
approximately $3 million.
3.4 years
5.5
3.7
3.1
2.8
Weighted-Average
Exercise Price
$
28.50
36.36
43.92
54.40
60.93
46.48
Stock Options Exercisable
Shares
(in thousands)
73
40,577
96,154
87,687
576
225,067
Weighted-Average
Exercise Price
$
28.50
36.45
43.92
54.40
60.93
46.69
NOTE 15
EMPLOYEE BENEFITS
We maintain noncontributory defined benefit pension plans for
many of our employees. The postretirement health care and life
insurance plans for our retirees and their dependents are both contributory and noncontributory and include a limit on the company’s
share of cost for certain recent and future retirees. We also sponsor
defined contribution savings plans to provide opportunities for eligible employees to save for retirement on a tax-deferred basis. We
use a measurement date of December 31 for our pension and
postretirement health care and life insurance plans.
In September 2006, the FASB issued SFAS No. 158. SFAS No. 158
requires the recognition of a defined benefit postretirement plan’s
funded status as either an asset or liability on the balance sheet.
SFAS No. 158 also requires the immediate recognition of the unrecognized actuarial gains and losses and prior service costs and credits
that arise during the period as a component of other accumulated
comprehensive income, net of applicable income taxes. Additionally,
the fair value of plan assets must be determined as of the company’s
year-end. We adopted SFAS No. 158 effective December 31, 2006
which resulted in a net decrease to shareowners’ investment of
$6,883 million. This included a net increase in pension obligations of
$2,403 million, an increase in Other Postretirement Benefits
Obligations of $10,828 million and an increase in Other Employee
Benefit Obligations of $31 million, partially offset by a net decrease of
$1,205 million to reverse the Additional Minimum Pension Liability
and an increase in deferred taxes of $5,174 million. If we had
recorded an Additional Minimum Pension Liability at December 31,
2006, it would have been $396 million, ($262 million after-tax).
Pension and Other Postretirement Benefits
Pension and other postretirement benefits for many of our employees
are subject to collective bargaining agreements. Modifications in benefits have been bargained from time to time, and we may also
periodically amend the benefits in the management plans.
As of June 30, 2006, Verizon management employees no longer
earned pension benefits or earned service towards the company
retiree medical subsidy. In addition, new management employees
hired after December 31, 2005 are not eligible for pension benefits
and managers with less than 13.5 years of service as of June 30,
2006 are not eligible for company-subsidized retiree healthcare or
retiree life insurance benefits. Beginning July 1, 2006, management
employees receive an increased company match on their savings
plan contributions.
The following tables summarize benefit costs, as well as the benefit
obligations, plan assets, funded status and rate assumptions associated with pension and postretirement health care and life
insurance benefit plans.
64
Notes to Consolidated Financial Statements continued
Obligations and Funded Status
(dollars in millions)
Pension
2006
At December 31,
Change in Benefit Obligation
Beginning of year
Service cost
Interest cost
Plan amendments
Actuarial (gain) loss, net
Benefits paid
Termination benefits
Acquisitions and divestitures, net
Settlements
End of year
Change in Plan Assets
Beginning of year
Actual return on plan assets
Company contributions
Benefits paid
Settlements
Acquisitions and divestitures, net
End of year
Funded Status
End of year
Unrecognized
Actuarial loss, net
Prior service cost
Net amount recognized
Amounts recognized on the balance sheet
Prepaid pension cost (in Other Assets)
Other assets
Employee benefit obligation
Accumulated other comprehensive loss
Net amount recognized
$
$
35,540
581
1,995
–
(282)
(2,762)
47
477
(1,437)
34,159
$
39,227
5,536
568
(2,762)
(1,437)
377
41,509
$
$
$
Amounts recognized in
Accumulated Other Comprehensive Income
Actuarial loss, net
Prior service cost
Total
$
Estimated amounts to be amortized from Accumulated Other
Comprehensive Income during 2007 fiscal year
Actuarial loss, net
Prior service cost
Total
$
Changes in benefit obligations were caused by factors including
changes in actuarial assumptions, curtailments and settlements.
In 2005, as a result of changes in management retiree benefits, we
recorded pretax expense of $430 million for pension curtailments
and pretax income of $332 million for retiree medical curtailments
(see Note 4 for additional information).
The accumulated benefit obligation for all defined benefit pension
plans was $32,724 million and $34,232 million at December 31,
2006 and 2005, respectively.
$
$
Health Care and Life
2006
2005
2005
$
$
35,479
675
1,959
149
327
(2,831)
11
(194)
(35)
35,540
$
37,461
4,136
698
(2,831)
(35)
(202)
39,227
$
$
26,783
356
1,499
50
152
(1,564)
14
40
–
27,330
$
4,275
493
1,099
(1,564)
–
–
4,303
$
$
26,181
358
1,467
69
403
(1,662)
1
(34)
–
26,783
$
4,549
348
1,040
(1,662)
–
–
4,275
7,350
3,687
(23,027)
(22,508)
–
–
7,350
4,685
1,018
9,390
–
–
$ (23,027)
7,056
4,339
$ (11,113)
$
$
12,058
–
(4,708)
–
7,350
$
$
$
12,704
458
(4,977)
1,205
9,390
–
–
(23,027)
–
$ (23,027)
1,428
975
2,403
$
98
43
141
$
$
$
–
–
(11,113)
–
$ (11,113)
6,799
4,029
10,828
316
393
709
Information for pension plans with an accumulated benefit obligation in excess of plan assets follows:
(dollars in millions)
At December 31,
Projected benefit obligation
Accumulated benefit obligation
Fair value of plan assets
2006
2005
$ 11,495
11,072
8,288
$ 11,567
11,165
7,500
65
Notes to Consolidated Financial Statements continued
Net Periodic Cost
The following table displays the details of net periodic pension and other postretirement costs:
(dollars in millions)
Pension
Years Ended December 31,
2006
Service cost
Interest cost
Expected return on plan assets
Amortization of transition asset
Amortization of prior service cost
Actuarial loss, net
Net periodic benefit (income) cost
Termination benefits
Settlement loss
Curtailment (gain) loss and other, net
Subtotal
Total cost
$
$
581
1,995
(3,173)
–
44
182
(371)
47
56
–
103
(268)
2005
$
$
Health Care and Life
2004
675
1,959
(3,231)
–
42
124
(431)
11
80
436
527
96
$
$
666
2,144
(3,565)
(4)
57
45
(657)
1
805
–
806
149
2006
$
$
2005
356
1,499
(328)
–
360
290
2,177
14
–
–
14
2,191
$
$
358
1,467
(349)
–
290
258
2,024
1
–
(332)
(331)
1,693
2004
$
$
269
1,422
(409)
–
236
169
1,687
–
–
–
–
1,687
Termination benefits and settlement and curtailment losses of $94 million pertaining to the sale of Hawaii operations in 2005 were recorded
in the consolidated statements of income in Sales of Businesses, Net.
Additional Information
As a result of the adoption of SFAS No. 158, we no longer record an additional minimum pension liability. In prior years, as a result of
changes in interest rates and changes in investment returns, an adjustment to the additional minimum pension liability was required for a
number of plans, as indicated below. The adjustment in the liability was recorded as a charge or (credit) to Accumulated Other
Comprehensive Loss, net of tax, in shareowners’ investment in the consolidated balance sheets.
(dollars in millions)
Years Ended December 31,
2006
Increase (decrease) in minimum liability included in other
comprehensive income, net of tax
$
2005
(788)
$
2004
(51)
$
332
Assumptions
The weighted-average assumptions used in determining benefit obligations follow:
At December 31,
2006
Discount rate
Rate of future increases in compensation
6.00%
4.00
Pension
2005
Health Care and Life
2006
2005
5.75%
4.00
6.00%
4.00
5.75%
4.00
2006
Health Care and Life
2005
2004
5.75%
8.25
4.00
5.75%
7.75
4.00
The weighted-average assumptions used in determining net periodic cost follow:
Years Ended December 31,
2006
2005
Discount rate
Expected return on plan assets
Rate of compensation increase
5.75%
8.50
4.00
5.75%
8.50
5.00
66
Pension
2004
6.25%
8.50
5.00
6.25%
8.50
4.00
Notes to Consolidated Financial Statements continued
In order to project the long-term target investment return for the
total portfolio, estimates are prepared for the total return of each
major asset class over the subsequent 10-year period, or longer.
Those estimates are based on a combination of factors including
the following: current market interest rates and valuation levels,
consensus earnings expectations, historical long-term risk premiums and value-added. To determine the aggregate return for the
pension trust, the projected return of each individual asset class is
then weighted according to the allocation to that investment area in
the trust’s long-term asset allocation policy.
The assumed Health Care Cost Trend Rates follow:
At December 31,
Health care cost trend rate assumed
for next year
Rate to which cost trend rate
gradually declines
Year the rate reaches level it is assumed
to remain thereafter
Health Care and Life
2006
2005
2004
10.00%
10.00%
10.00%
5.00
5.00
5.00
2011
2010
2009
The portfolio strategy emphasizes a long-term equity orientation,
significant global diversification, the use of both public and private
investments and professional financial and operational risk controls.
Assets are allocated according to a long-term policy neutral position
and held within a relatively narrow and pre-determined range. Both
active and passive management approaches are used depending on
perceived market efficiencies and various other factors.
Cash Flows
In 2006, we contributed $451 million to our qualified pension trusts,
$117 million to our nonqualified pension plans and $1,099 million to
our other postretirement benefit plans. We estimate required qualified pension trust contributions for 2007 to be approximately $510
million. We also anticipate $120 million in contributions to our
non-qualified pension plans and $1,210 million to our other postretirement benefit plans in 2007.
Estimated Future Benefit Payments
The benefit payments to retirees, which reflect expected future
service, are expected to be paid as follows:
(dollars in millions)
A one-percentage-point change in the assumed health care cost
trend rate would have the following effects:
(dollars in millions)
One-Percentage-Point
Increase
Effect on 2006 service and interest cost
Effect on postretirement benefit obligation
as of December 31, 2006
$
282
3,339
Decrease
$
(223)
(2,731)
Plan Assets
Pension Plans
The weighted-average asset allocations for the pension plans by
asset category follow:
At December 31,
2006
2005
Asset Category
Equity securities
Debt securities
Real estate
Other
Total
62.5%
16.3
4.5
16.7
100.0%
63.4%
17.5
3.2
15.9
100.0%
Equity securities include Verizon common stock of $95 million and
$72 million at December 31, 2006 and 2005, respectively. Other
assets include cash and cash equivalents (primarily held for the
payment of benefits), private equity and investments in absolute
return strategies.
Health Care and Life Plans
The weighted-average asset allocations for the other postretirement
benefit plans by asset category follow:
At December 31,
2006
2005
Asset Category
Equity securities
Debt securities
Real estate
Other
Total
72.1%
20.4
0.1
7.4
100.0%
71.9%
22.1
0.1
5.9
100.0%
Pension
Benefits
2007
2008
2009
2010
2011
2012 – 2016
$
2,491
2,552
2,749
3,042
3,503
16,472
Health Care and
Life Prior to
Medicare Prescription
Drug Subsidy
Expected
Medicare Prescription
Drug Subsidy
$
$
1,717
1,806
1,869
1,936
1,991
9,983
91
97
102
108
112
589
Savings Plan and Employee Stock Ownership Plans
We maintain four leveraged employee stock ownership plans
(ESOP), only one plan currently has unallocated shares. Under this
plan, we match a certain percentage of eligible employee contributions to the savings plans with shares of our common stock from
this ESOP. Common stock is allocated from the leveraged ESOP
trust based on the proportion of principal and interest paid on
ESOP debt in a year to the remaining principal and interest due over
the term of the debt. The final debt service payments and related
share allocations for two of our leveraged ESOPs were made in
2004. At December 31, 2006, the number of unallocated and allocated shares of common stock was 5 million and 77 million,
respectively. All leveraged ESOP shares are included in earnings
per share computations.
Total savings plan costs were $669 million, $499 million, and $501
million in 2006, 2005 and 2004 respectively. A portion of these
costs were funded through a leveraged ESOP. We recognize leveraged ESOP costs based on the shares allocated method.
Leveraged ESOP costs and trust activity consist of the following:
(dollars in millions)
Years Ended December 31,
Compensation
Interest incurred
Dividends
Net leveraged ESOP cost
2006
$
$
24 $
–
(9)
15 $
2005
39 $
–
(16)
23 $
2004
159
12
(16)
155
Equity securities include Verizon common stock of $4 million at
December 31, 2005. There was no Verizon common stock held at
the end of 2006.
67
Notes to Consolidated Financial Statements continued
Severance Benefits
The following table provides an analysis of our severance liability
recorded in accordance with SFAS Nos. 112 and 146:
(dollars in millions)
Year
2004
2005
2006
Beginning
of Year
$
2,150
753
596
Charged to
Expense
$
Payments
(40) $
99
343
(1,356) $
(251)
(383)
Other End of Year
(1) $
(5)
88
753
596
644
The remaining severance liability includes future contractual payments to employees separated as of December 31, 2006. The 2006
expense includes charges for the involuntary separation of 4,100
employees (see Note 4).
NOTE 16
INCOME TAXES
The components of Income Before Provision for Income Taxes,
Discontinued Operations and Cumulative Effect of Accounting
Change are as follows:
(dollars in millions)
Years Ended December 31,
Domestic
Foreign
$
$
2006
2005
2004
6,682
1,472
8,154
$ 7,496
952
$ 8,448
$ 6,186
1,791
$ 7,977
The components of the provision for income taxes from continuing
operations are as follows:
(dollars in millions)
Years Ended December 31,
Current
Federal
Foreign
State and local
$
Deferred
Federal
Foreign
State and local
Investment tax credits
Total income tax expense
$
2006
2005
2,364
141
420
2,925
$ 2,772
81
661
3,514
2004
$
(162)
249
271
358
(9)
(844)
1,580
(45)
(55)
53
(190)
(187)
95
(244)
(1,086)
1,728
(7)
(7)
(8)
2,674 $ 2,421 $ 2,078
The following table shows the principal reasons for the difference
between the effective income tax rate and the statutory federal
income tax rate:
The favorable impact on our 2006 effective income tax rate was primarily driven by earnings from our unconsolidated businesses and tax
benefits from valuation allowance reversals. These favorable impacts
to the 2006 effective tax rate were partially offset by the unfavorable
impact of tax reserve adjustments which is included in the Other, net
line above. During 2006, we recorded a tax benefit of $80 million in
connection with capital gains and prior year investment losses.
During 2005, we recorded a tax benefit of $336 million in connection with capital gains and prior year investment losses. As a result
of the capital gain realized in 2005 in connection with the sale of our
Hawaii businesses, we recorded a tax benefit of $242 million related
to prior year investment losses. Also during 2005, we recorded a
net tax provision of $206 million related to the repatriation of foreign
earnings under the provisions of the American Jobs Creation Act of
2004, which provides for a favorable federal income tax rate in connection with the repatriation of foreign earnings, provided the
criteria described in the law is met. Two of our foreign investments
repatriated earnings resulting in income taxes of $332 million, partially offset by a tax benefit of $126 million.
The favorable impact on our 2004 effective income tax rate was primarily driven by increased earnings from our unconsolidated
businesses and tax benefits from valuation allowance reversals.
Deferred taxes arise because of differences in the book and tax
bases of certain assets and liabilities. Significant components of
deferred tax liabilities (assets) are shown in the following table:
(dollars in millions)
At December 31,
Employee benefits
Loss on investments
Former MCI tax loss carry forwards
Uncollectible accounts receivable
Valuation allowance
Deferred tax assets
Former MCI intercompany
accounts receivable basis difference
Depreciation
Leasing activity
Wireless joint venture including
wireless licenses
Other – net
Deferred tax liabilities
2006
$ (7,788)
(124)
(2,026)
(455)
(10,393)
2,600
(7,793)
2005
$ (1,778)
(369)
–
(375)
(2,522)
815
(1,707)
2,003
7,617
2,638
–
9,676
3,001
12,177
782
25,217
11,786
(370)
24,093
Net deferred tax liability
$ 17,424
$ 22,386
Net long-term deferred tax liabilities
Plus net current deferred tax liabilities
(in Other current liabilities)
Less net current deferred tax assets
(in Prepaid expenses and other)
Net deferred tax liability
$ 16,270
$ 22,831
1,154
–
–
$ 17,424
445
$ 22,386
Years Ended December 31,
2006
2005
2004
Statutory federal income tax rate
State and local income tax,
net of federal tax benefits
Tax benefits from investment losses
Equity in earnings from
unconsolidated businesses
Other, net
Effective income tax rate
35.0%
35.0%
35.0%
1.8
(.9)
3.6
(4.5)
3.0
(3.7)
At December 31, 2006, employee benefits deferred tax assets
include $5,174 million as a result of the adoption of SFAS No. 158
(see Note 15).
(3.8)
.7
32.8%
(3.5)
(1.9)
28.7%
(8.0)
(.2)
26.1%
At December 31, 2006, undistributed earnings of our foreign subsidiaries amounted to approximately $3 billion. Deferred income
taxes are not provided on these earnings as it is intended that the
68
Notes to Consolidated Financial Statements continued
earnings are indefinitely invested outside of the U.S. It is not practical to estimate the amount of taxes that might be payable upon
the remittance of such earnings.
The valuation allowance primarily represents the tax benefits of certain foreign and state net operating loss carry forwards, capital loss
carry forwards and other deferred tax assets which may expire
without being utilized. During 2006, the valuation allowance
increased $1,785 million. This increase was primarily due to the
addition of former MCI valuation allowances. This increase was
offset by valuation allowance reversals relating to utilizing prior year
investment losses to offset the capital gains realized on the sale of
various businesses including Verizon Dominicana.
Former MCI tax loss carry forwards include federal, state and foreign net operating loss tax carry forwards as well as capital loss tax
carry forwards. As a result of the MCI Bankruptcy and the application of the related tax attribute reduction rules, MCI reduced the tax
basis in intercompany accounts receivables. This reduction in tax
basis results in a deferred tax liability as reflected above.
NOTE 17
SEGMENT INFORMATION
Reportable Segments
On November 17, 2006, we completed the spin-off of our U.S. print
and Internet yellow pages directories to our shareowners, which
was included in the Information Services segment. The spin-off
resulted in a new company, named Idearc Inc. In addition, we
reached definitive agreements to sell our interests in TELPRI and
Verizon Dominicana, each of which were included in the
International segment. The operations of our U.S. print and Internet
yellow pages directories business, Verizon Dominicana and TELPRI
are reported as discontinued operations and assets held for sale.
Accordingly we have two reportable segments, which we operate
and manage as strategic business units and organize by products
and services. We measure and evaluate our reportable segments
based on segment income. Corporate, eliminations and other
includes unallocated corporate expenses, intersegment eliminations recorded in consolidation, the results of other businesses
such as our investments in unconsolidated businesses, primarily
Omnitel and CANTV, lease financing, and asset impairments and
expenses that are not allocated in assessing segment performance
due to their non-recurring nature. These adjustments include transactions that the chief operating decision makers exclude in
assessing business unit performance due primarily to their nonrecurring and/or non-operational nature. Although such
transactions are excluded from the business segment results, they
are included in reported consolidated earnings. Gains and losses
that are not individually significant are included in all segment
results, since these items are included in the chief operating decision makers’ assessment of unit performance.
Our segments and their principal activities consist of the following:
Wireline
Wireline provides communications services including voice, broadband
video and data, next generation IP network services, network access, long
distance and other services to consumers, carriers, business and government customers both domestically and globally in 150 countries.
Domestic Wireless
Domestic wireless products and services include wireless voice and data
products and other value added services and equipment sales across the
United States.
69
Notes to Consolidated Financial Statements continued
The following table provides operating financial information for our two reportable segments:
(dollars in millions)
2006
External revenues
Intersegment revenues
Total operating revenues
Cost of services and sales
Selling, general & administrative expense
Depreciation & amortization expense
Total operating expenses
Operating income
Equity in earnings of unconsolidated businesses
Other income and (expense), net
Interest expense
Minority interest
Provision for income taxes
Segment income
Assets
Investments in unconsolidated businesses
Plant, property and equipment, net
Capital expenditures
Wireline
$
$
$
49,621
1,173
50,794
24,522
12,116
9,590
46,228
4,566
–
250
(2,062)
–
(1,120)
1,634
92,274
28
57,031
10,259
Domestic Wireless
$
$
$
Total Segments
37,930
113
38,043
11,491
12,039
4,913
28,443
9,600
19
4
(452)
(4,038)
(2,157)
2,976
81,989
87
24,659
6,618
$
87,551
1,286
88,837
36,013
24,155
14,503
74,671
14,166
19
254
(2,514)
(4,038)
(3,277)
$
4,610
$ 174,263
115
81,690
16,877
32,219
82
32,301
9,393
10,768
4,760
24,921
7,380
27
6
(601)
(2,995)
(1,598)
2,219
76,729
154
22,790
6,484
$
27,586
76
27,662
7,747
9,591
4,486
21,824
5,838
45
11
(661)
(2,323)
(1,265)
1,645
68,027
148
20,516
5,633
$
2005
External revenues
Intersegment revenues
Total operating revenues
Cost of services and sales
Selling, general & administrative expense
Depreciation & amortization expense
Total operating expenses
Operating income
Equity in earnings of unconsolidated businesses
Other income and (expense), net
Interest expense
Minority interest
Provision for income taxes
Segment income
Assets
Investments in unconsolidated businesses
Plant, property and equipment, net
Capital expenditures
$
$
$
36,628
988
37,616
15,604
8,419
8,801
32,824
4,792
–
79
(1,701)
–
(1,264)
1,906
75,188
2
49,618
8,267
$
37,160
861
38,021
14,830
8,621
8,910
32,361
5,660
–
100
(1,602)
–
(1,506)
2,652
78,824
3
50,608
7,118
$
$
$
68,847
1,070
69,917
24,997
19,187
13,561
57,745
12,172
27
85
(2,302)
(2,995)
(2,862)
$
4,125
$ 151,917
156
72,408
14,751
2004
External revenues
Intersegment revenues
Total operating revenues
Cost of services and sales
Selling, general & administrative expense
Depreciation & amortization expense
Total operating expenses
Operating income
Equity in earnings of unconsolidated businesses
Other income and (expense), net
Interest expense
Minority interest
Provision for income taxes
Segment income
Assets
Investments in unconsolidated businesses
Plant, property and equipment, net
Capital expenditures
70
$
$
$
$
$
64,746
937
65,683
22,577
18,212
13,396
54,185
11,498
45
111
(2,263)
(2,323)
(2,771)
$
4,297
$ 146,851
151
71,124
12,751
Notes to Consolidated Financial Statements continued
Reconciliation To Consolidated Financial Information
A reconciliation of the results for the operating segments to the applicable line items in the consolidated financial statements is as follows:
(dollars in millions)
2006
Operating Revenues
Total reportable segments
Hawaii operations
Corporate, eliminations and other
Consolidated operating revenues – reported
Operating Expenses
Total reportable segments
Merger integration costs (see Note 4)
Severance, pension and benefit charges (see Note 4)
Verizon Center relocation, net (see Note 4)
Former MCI exposure, lease impairment and other special items (see Note 4)
Hawaii operations
Sales of businesses and investments, net (see Notes 3 and 5)
Corporate, eliminations and other
Consolidated operating expenses – reported
Net Income
Segment income – reportable segments
Debt extinguishment costs (see Note 11)
Merger integration costs (see Note 4)
Sales of businesses and investments, net (see Notes 3 and 5)
Idearc spin-off costs (see Note 4)
Severance, pension and benefit charges (see Note 4)
Verizon Center relocation, net (see Note 4)
Former MCI exposure, lease impairment and other special items (see Note 4)
Tax benefits (see Note 4)
Tax provision on repatriated earnings (see Note 4)
Income from discontinued operations, net of tax (see Note 3)
Cumulative effect of accounting change (see Note 1)
Corporate and other
Consolidated net income – reported
Assets
Total reportable segments
Reconciling items
Consolidated assets
Financial information for Wireline excludes the effects of Hawaii
access lines and directory operations sold in 2005.
We generally account for intersegment sales of products and services and asset transfers at current market prices. We are not
dependent on any single customer.
$
$
$
$
$
$
2005
88,837
–
(693)
88,144
$
74,671
232
425
184
–
–
–
(741)
74,771
$
4,610
(16)
(146)
(541)
(101)
(258)
(118)
–
–
–
1,398
(42)
1,411
6,197
$
$ 174,263
14,541
$ 188,804
$
$
$
2004
69,917
180
(579)
69,518
$
57,745
–
157
(18)
125
118
(530)
(660)
56,937
$
4,125
–
–
336
–
(95)
8
(133)
336
(206)
1,370
–
1,656
7,397
$
$
$
$
$ 151,917
16,213
$ 168,130
65,683
529
(461)
65,751
54,185
–
805
–
(91)
375
100
(493)
54,881
4,297
–
–
1,059
–
(499)
–
2
234
–
1,423
–
1,315
7,831
$ 146,851
19,107
$ 165,958
Geographic Areas
Our foreign investments are located principally in the Americas and
Europe. Domestic and foreign operating revenues are based on the
location of customers. Long-lived assets consist of plant, property
and equipment (net of accumulated depreciation) and investments
in unconsolidated businesses. The table below presents financial
information by major geographic area:
(dollars in millions)
Years Ended December 31,
2006
2005
2004
Domestic
Operating revenues
Long-lived assets
$ 84,693
82,277
$ 69,327
74,813
$ 65,659
72,488
Foreign
Operating revenues
Long-lived assets
3,451
4,947
191
2,776
92
4,973
Consolidated
Operating revenues
Long-lived assets
88,144
87,224
69,518
77,589
65,751
77,461
71
Notes to Consolidated Financial Statements continued
NOTE 18
COMPREHENSIVE INCOME
Comprehensive income consists of net income and other gains and
losses affecting shareowners’ investment that, under GAAP, are
excluded from net income.
Changes in the components of other comprehensive income (loss),
net of income tax expense (benefit), are as follows:
(dollars in millions)
Years Ended December 31,
Foreign Currency Translation Adjustments
Unrealized Gains (Losses) on Net Investment Hedges
Unrealized gains (losses), net of taxes of $–, $1 and $(48)
Less reclassification adjustments for losses realized in net income,
net of taxes of $–, $– and $(48)
Net unrealized gains on net investment hedges
Unrealized Derivative Gains (Losses) on Cash Flow Hedges
Unrealized gains (losses), net of taxes of $–, $– and $(2)
Less reclassification adjustments for (losses) realized in net income,
net of taxes of $(1), $(2) and $(2)
Net unrealized derivative gains on cash flow hedges
Unrealized Gains (Losses) on Marketable Securities
Unrealized gains, net of taxes of $30, $10 and $4
Less reclassification adjustments for gains realized in net income,
net of taxes of $13, $14 and $1
Net unrealized gains (losses) on marketable securities
Minimum Pension Liability Adjustment, net of taxes of $417, $37 and $(185)
Defined benefit pension and postretirement plans –
SFAS No. 158 adoption, net of taxes of $(5,591)
Other, net of taxes of $(159), $(20) and $(53)
Other Comprehensive Income (Loss)
The foreign currency translation adjustment in 2006 represents the
realization of the cumulative foreign currency translation loss of
approximately $800 million in connection with the sale of our consolidated interest in Verizon Dominicana (see Note 3), as well as
unrealized gains from the appreciation of the functional currency on
our investment in Vodafone Omnitel. The minimum pension liability
adjustment in 2006 represents the adoption of SFAS No. 158.
The foreign currency translation adjustment in 2005 represents
unrealized losses from the decline in the functional currencies of our
investments in Vodafone Omnitel, Verizon Dominicana and CANTV.
The foreign currency translation adjustment in 2004 represents
unrealized gains from the appreciation of the functional currencies
at Verizon Dominicana and our investment in Vodafone Omnitel as
well as the realization of the cumulative foreign currency translation
loss in connection with the sale of our 20.5% interest in TELUS (see
Note 4), partially offset by unrealized losses from the decline in the
functional currency on our investment in CANTV.
72
2006
$
$
1,196
2005
$
(755)
2004
$
548
–
2
(58)
–
–
–
2
(58)
–
11
4
(9)
(3)
14
(6)
10
(26)
17
79
4
8
25
54
788
25
(21)
51
1
7
(332)
–
(17)
(730)
–
(43)
197
(7,671)
(128)
(5,747)
$
$
During 2005, we entered into zero cost euro collars to hedge a portion of our net investment in Vodafone Omnitel. As of December 31,
2005, our positions in the zero cost euro collars have been settled.
During 2004, we entered into foreign currency forward contracts to
hedge our net investment in Verizon Information Services Canada
and TELUS (see Note 3). In connection with the sales of these interests in the fourth quarter of 2004, the unrealized losses on these net
investment hedges were realized in net income along with the corresponding foreign currency translation balance.
As discussed in Note 15, we adopted SFAS No. 158 effective
December 31, 2006, which resulted in a net decrease to shareowners’ investment of $6,883 million.
The changes in the minimum pension liability in 2005 and 2004
were required by accounting rules for certain pension plans based
on their funded status (see Note 15). In connection with our adoption of SFAS No. 158 on December 31, 2006, we no longer record a
minimum pension liability adjustment as a discrete component of
Accumulated Other Comprehensive Loss.
Notes to Consolidated Financial Statements continued
The components of Accumulated Other Comprehensive Loss are
as follows:
(dollars in millions)
At December 31,
Foreign currency translation adjustments
Unrealized gains on net investment hedges
Unrealized derivative losses
on cash flow hedges
Unrealized gains on marketable securities
Minimum pension liability
Defined benefit pension and
postretirement plans – SFAS 158 adoption
Other
Accumulated other comprehensive loss
2006
$
329
2
2005
$
(867)
2
NOTE 19
ADDITIONAL FINANCIAL INFORMATION
The tables that follow provide additional financial information
related to our consolidated financial statements:
Income Statement Information
(13)
64
–
(27)
10
(788)
(7,671)
(241)
$ (7,530)
–
(113)
$ (1,783)
As discussed above, the change in foreign currency translation
adjustments during 2006 is due primarily to the sale of Verizon
Dominicana (approximately $800 million). Foreign currency translation
adjustments at year-end 2006 is primarily comprised of unrealized
gains in the functional currencies at Vodafone Omnitel, partially offset
by unrealized losses of approximately $400 million at CANTV. The
reduction in our minimum pension liability adjustment balance to zero
at year-end 2006 is due to the adoption of SFAS No. 158.
(dollars in millions)
Years Ended December 31,
Depreciation expense
Interest cost incurred
Capitalized interest
Advertising expense
2006
2005
2004
$ 13,122 $ 12,171 $ 12,169
2,811
2,481
2,513
(462)
(352)
(177)
2,271
1,844
1,617
Balance Sheet Information
(dollars in millions)
At December 31,
2006
2005
Accounts Payable and Accrued Liabilities
Accounts payable
$ 4,392
Accrued expenses
2,982
Accrued vacation, salaries and wages
3,575
Interest payable
614
Accrued taxes
2,757
$ 14,320
$ 2,620
2,891
3,179
573
2,484
$ 11,747
Other Current Liabilities
Advance billings and customer deposits
Dividends payable
Other
$
$
2,226
1,199
4,666
8,091
$ 1,964
1,137
2,294
$ 5,395
Cash Flow Information
(dollars in millions)
Years Ended December 31,
2006
2005
Cash Paid
Income taxes, net of amounts refunded $
Interest, net of amounts capitalized
3,299
2,103
$ 4,189
2,025
2,361
–
–
18,511
635
8
7,813
35
–
6,169
9
–
1,007
–
–
Supplemental Investing and
Financing Transactions
Cash acquired in business
combination
Assets acquired in business
combinations
Liabilities assumed in business
combinations
Debt assumed in business
combinations
Shares issued to Price to acquire
limited partnership interest in
VZ East (Note 2)
2004
$
152
2,226
73
Notes to Consolidated Financial Statements continued
NOTE 20
GUARANTEES OF OPERATING SUBSIDIARY DEBT
Verizon has guaranteed the obligations of two wholly-owned operating
subsidiaries: $480 million 7% debentures series B, due 2042 issued
by Verizon New England Inc. and $300 million 7% debentures series F
issued by Verizon South Inc. due 2041. These guarantees are full and
unconditional and would require Verizon to make scheduled payments
immediately if either of the two subsidiaries failed to do so. Both of
these securities were issued in denominations of $25 and were sold
primarily to retail investors and are listed on the New York Stock
Exchange. SEC rules permit us to include condensed consolidating
financial information for these two subsidiaries in our periodic SEC
reports rather than filing separate subsidiary periodic SEC reports.
Below is the condensed consolidating financial information. Verizon
New England and Verizon South are presented in separate columns.
The column labeled Parent represents Verizon’s investments in all of
its subsidiaries under the equity method and the Other column represents all other subsidiaries of Verizon on a combined basis. The
Adjustments column reflects intercompany eliminations.
(dollars in millions)
Condensed Consolidating Statements of Income
Year Ended December 31, 2006
Operating revenues
Operating expenses
Operating Income (Loss)
Equity in earnings of unconsolidated
businesses
Other income and (expense), net
Interest expense
Minority interest
Income (loss) before provision for
income taxes, discontinued operations and
cumulative effect of accounting change
Income tax benefit (provision)
Income (Loss) Before Discontinued
Operations And Cumulative Effect Of
Accounting Change
Income on discontinued operations,
net of tax
Cumulative effect of accounting change,
net of tax
Net Income
Parent
$
–
164
(164)
Verizon
New England
$
$
858
634
224
Other
$
84,208
71,062
13,146
Adjustments
$
(774)
(774)
–
Total
$
88,144
74,771
13,373
6,011
1,579
(1,185)
–
14
11
(174)
–
–
14
(54)
–
(708)
283
(961)
(4,038)
(4,544)
(1,492)
25
–
773
395
(2,349)
(4,038)
6,241
33
18
(19)
184
(68)
7,722
(2,620)
(6,011)
–
8,154
(2,674)
6,274
(1)
116
5,102
(6,011)
5,480
–
836
(77)
$
3,852
3,685
167
Verizon
South
–
6,197
–
$
–
(1)
$
–
116
$
(42)
5,896
–
$
–
(6,011)
759
$
(42)
6,197
(dollars in millions)
Condensed Consolidating Statements of Income
Year Ended December 31, 2005
Operating revenues
Operating expenses
Operating Income (Loss)
Equity in earnings of unconsolidated
businesses
Other income and (expense), net
Interest expense
Minority interest
Income before provision for income taxes
and discontinued operations
Income tax benefit (provision)
Income Before Discontinued Operations
Income on discontinued operations,
net of tax
Net Income
74
Parent
$
$
–
8
(8)
Verizon
New England
$
3,936
3,628
308
Verizon
South
$
907
684
223
Other
$
65,172
53,114
12,058
Adjustments
$
(497)
(497)
–
Total
$
69,518
56,937
12,581
6,698
537
(58)
–
23
(4)
(172)
–
–
6
(63)
–
273
180
(1,854)
(3,001)
(6,308)
(408)
18
–
686
311
(2,129)
(3,001)
7,169
228
7,397
155
(40)
115
166
(62)
104
7,656
(2,547)
5,109
(6,698)
–
(6,698)
8,448
(2,421)
6,027
–
7,397
$
–
115
$
–
104
$
1,370
6,479
$
–
(6,698)
$
1,370
7,397
Notes to Consolidated Financial Statements continued
(dollars in millions)
Condensed Consolidating Statements of Income
Year Ended December 31, 2004
Operating revenues
Operating expenses
Operating Income (Loss)
Equity in earnings of unconsolidated
businesses
Other income and (expense), net
Interest expense
Minority interest
Income before provision for income taxes
and discontinued operations
Income tax benefit (provision)
Income Before Discontinued Operations
Income (loss) on discontinued operations,
net of tax
Net Income
Parent
$
$
–
260
(260)
Verizon
New England
$
3,955
3,664
291
Verizon
South
$
934
717
217
Other
$
61,224
50,602
10,622
Adjustments
$
(362)
(362)
–
Total
$
65,751
54,881
10,870
7,714
171
(20)
–
59
8
(165)
–
–
7
(63)
–
1,437
98
(2,096)
(2,329)
(7,520)
(202)
8
–
1,690
82
(2,336)
(2,329)
7,605
229
7,834
193
(50)
143
161
(34)
127
7,732
(2,223)
5,509
(7,714)
–
(7,714)
7,977
(2,078)
5,899
(3)
7,831
$
–
143
$
–
127
$
1,935
7,444
$
–
(7,714)
$
1,932
7,831
(dollars in millions)
Condensed Consolidating Balance Sheets
At December 31, 2006
Parent
Cash
Short-term investments
Accounts receivable, net
Other current assets
Total current assets
Plant, property and equipment, net
Investments in unconsolidated businesses
Other assets
Total Assets
$
Debt maturing within one year
Other current liabilities
Total current liabilities
Long-term debt
Employee benefit obligations
Deferred income taxes
Other liabilities
Minority interest
Total shareowners’ investment
Total Liabilities and Shareowners’
Investment
Verizon
New England
–
–
4
32,680
32,684
1
44,048
5,045
81,778
$
$
6,735
2,354
9,089
11,392
12,419
337
6
–
48,535
$
81,778
$
Verizon
South
–
215
705
134
1,054
6,165
116
288
7,623
$
$
333
1,032
1,365
2,573
1,625
560
111
–
1,389
$
7,623
$
Other
Adjustments
Total
–
33
104
28
165
1,120
–
389
1,674
$
3,219
2,186
10,999
5,830
22,234
75,070
7,488
73,550
$ 178,342
$
–
–
(921)
(32,678)
(33,599)
–
(46,784)
(230)
$ (80,613)
$
$
232
182
414
417
259
203
19
–
362
$
33,302
21,709
55,011
14,494
16,476
15,170
3,821
28,337
45,033
$ (32,887)
(712)
(33,599)
(230)
–
–
–
–
(46,784)
$
$
1,674
$ 178,342
$ (80,613)
$ 188,804
$
3,219
2,434
10,891
5,994
22,538
82,356
4,868
79,042
$ 188,804
7,715
24,565
32,280
28,646
30,779
16,270
3,957
28,337
48,535
75
Notes to Consolidated Financial Statements continued
(dollars in millions)
Condensed Consolidating Balance Sheets
At December 31, 2005
Parent
Cash
Short-term investments
Accounts receivable, net
Other current assets
Total current assets
Plant, property and equipment, net
Investments in unconsolidated businesses
Other assets
Total Assets
$
Debt maturing within one year
Other current liabilities
Total current liabilities
Long-term debt
Employee benefit obligations
Deferred income taxes
Other liabilities
Minority interest
Total shareowners’ investment
Total Liabilities and Shareowners’
Investment
Verizon
New England
–
–
20
9,365
9,385
1
32,593
532
42,511
$
$
22
2,511
2,533
92
205
–
1
–
39,680
$
42,511
$
Verizon
South
–
216
910
166
1,292
6,146
116
472
8,026
$
$
471
1,049
1,520
2,702
1,892
537
146
–
1,229
$
8,026
$
Other
Adjustments
Total
–
32
142
185
359
1,158
–
390
1,907
$
760
1,898
8,792
7,661
19,111
65,682
10,015
70,057
$ 164,865
$
–
–
(1,330)
(9,497)
(10,827)
–
(38,122)
(230)
$ (49,179)
$
$
–
176
176
901
254
220
27
–
329
$
$
$
$
1,907
$
15,999
17,299
33,298
28,104
15,342
22,074
3,050
26,433
36,564
$ 164,865
(9,804)
(1,023)
(10,827)
(230)
–
–
–
–
(38,122)
$ (49,179)
760
2,146
8,534
7,880
19,320
72,987
4,602
71,221
$ 168,130
6,688
20,012
26,700
31,569
17,693
22,831
3,224
26,433
39,680
$ 168,130
(dollars in millions)
Condensed Consolidating Statements of Cash Flows
Year Ended December 31, 2006
Parent
Net cash from operating activities
Net cash from investing activities
Net cash from financing activities
Net Increase in Cash
5,919
(779)
(5,140)
–
$
$
Verizon
New England
$
$
1,211
(919)
(292)
–
Verizon
South
$
$
311
15
(326)
–
Other
$
22,260
(14,032)
(5,769)
$
2,459
Adjustments
$
$
(5,595)
99
5,496
–
Total
$
24,106
(15,616)
(6,031)
$
2,459
(dollars in millions)
Condensed Consolidating Statements of Cash Flows
Year Ended December 31, 2005
Parent
Net cash from operating activities
Net cash from investing activities
Net cash from financing activities
Net Decrease in Cash
7,605
(913)
(6,692)
–
$
$
Verizon
New England
$
$
831
(784)
(47)
–
Verizon
South
$
$
284
(221)
(63)
–
Other
$
20,242
(16,343)
(5,400)
$ (1,501)
Adjustments
$
$
(6,937)
(231)
7,168
–
Total
$
22,025
(18,492)
(5,034)
$ (1,501)
(dollars in millions)
Condensed Consolidating Statements of Cash Flows
Year Ended December 31, 2004
Parent
Net cash from operating activities
Net cash from investing activities
Net cash from financing activities
Net Increase in Cash
6,650
–
(6,650)
–
76
$
$
Verizon
New England
$
$
1,219
(655)
(564)
–
Verizon
South
$
$
282
(75)
(207)
–
Other
$
$
20,104
(9,559)
(8,953)
1,592
Adjustments
$
$
(6,464)
(54)
6,518
–
Total
$
21,791
(10,343)
(9,856)
$
1,592
Notes to Consolidated Financial Statements continued
NOTE 21
COMMITMENTS AND CONTINGENCIES
Several state and federal regulatory proceedings may require our
telephone operations to pay penalties or to refund to customers a
portion of the revenues collected in the current and prior periods.
There are also various legal actions pending to which we are a party
and claims which, if asserted, may lead to other legal actions. We
have established reserves for specific liabilities in connection with
regulatory and legal actions, including environmental matters, that we
currently deem to be probable and estimable. We do not expect that
the ultimate resolution of pending regulatory and legal matters in
future periods, including the Hicksville matters described below, will
have a material effect on our financial condition, but it could have a
material effect on our results of operations.
During 2003, under a government-approved plan, remediation commenced at the site of a former Sylvania facility in Hicksville, New York
that processed nuclear fuel rods in the 1950s and 1960s.
Remediation beyond original expectations proved to be necessary
and a reassessment of the anticipated remediation costs was conducted. A reassessment of costs related to remediation efforts at
several other former facilities was also undertaken. In September
2005 the Army Corps of Engineers (ACE) accepted the Hicksville site
into the Formerly Utilized Sites Remedial Action Program. This may
result in the ACE performing some or all of the remediation effort for
the Hicksville site with a corresponding decrease in costs to Verizon.
To the extent that the ACE assumes responsibility for remedial work
at the Hicksville site, an adjustment to a reserve previously established for the remediation may be made. Adjustments may also be
made based upon actual conditions discovered during the remediation at any of the sites requiring remediation.
There are also litigation matters associated with the Hicksville site primarily involving personal injury claims in connection with alleged
emissions arising from operations in the 1950s and 1960s at the
Hicksville site. These matters are in various stages, and no trial date
has been set.
In connection with the execution of agreements for the sales of businesses and investments, Verizon ordinarily provides representations
and warranties to the purchasers pertaining to a variety of nonfinancial matters, such as ownership of the securities being sold, as well
as financial losses.
Subsequent to the sale of Verizon Information Services Canada (see
Note 3), we continue to provide a guarantee to publish directories,
which was issued when the directory business was purchased in
2001 and had a 30-year term (before extensions). The preexisting
guarantee continues, without modification, following the sale of
Verizon Information Services Canada. As a result of the Idearc spinoff, we continue to be responsible for this guarantee. The possible
financial impact of the guarantee, which is not expected to be
adverse, cannot be reasonably estimated since a variety of the
potential outcomes available under the guarantee result in costs and
revenues or benefits that may offset. In addition, performance under
the guarantee is not likely.
As of December 31, 2006, letters of credit totaling $223 million had
been executed in the normal course of business, which support several financing arrangements and payment obligations to third parties.
We have several commitments primarily to purchase network services, equipment and software from a variety of suppliers totaling $812
million. Of this total amount, $566 million, $164 million, $53 million,
$11 million, $5 million and $13 million are expected to be purchased
in 2007, 2008, 2009, 2010, 2011 and thereafter, respectively.
77
Notes to Consolidated Financial Statements continued
NOTE 22
QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
(dollars in millions, except per share amounts)
Income Before Discontinued Operations
Operating
Revenues
Operating
Income
Amount
2006
March 31
June 30
September 30
December 31
$ 21,221
21,876
22,449
22,598
$ 3,175
3,217
3,537
3,444
2005
March 31
June 30
September 30
December 31
$ 16,785
17,177
17,629
17,927
$ 2,828
3,561
3,040
3,152
Quarter Ended
Per ShareBasic
Per ShareDiluted
$ 1,282
1,263
1,545
1,390
$
.44
.43
.53
.48
$
.44
.43
.53
.48
$ 1,632
1,611
1,922
1,032
$ 1,407
1,804
1,506
1,310
$
.51
.65
.54
.47
$
.50
.65
.54
.47
$ 1,757
2,113
1,869
1,658
Net Income
• Results of operations for the first quarter of 2006 include after-tax charges of $16 million for the early extinguishment of debt related to the MCI merger, $28 million for costs associated with the relocation to Verizon Center, $42 million for the impact of accounting for share based payments, and $35 million for merger integration costs.
• Results of operations for the second quarter of 2006 include after-tax charges of $48 million for merger integration costs, $29 million for costs associated with the relocation to
Verizon Center and $186 million for severance, pension and benefits charges.
• Results of operations for the third quarter of 2006 include after-tax charges of $16 million for merger integration costs, $31 million for costs associated with the relocation to Verizon
Center and $17 million for severance, pension and benefits charges.
• Results of operations for the fourth quarter of 2006 include after-tax charges of $47 million for merger integration costs, $30 million for costs associated with the relocation to Verizon
Center, $55 million severance, pension and benefits charges, $541 million for the loss on sale of Verizon Dominicana included in discontinued operations, and $101 million for costs
associated with the spin-off of our directories publishing business.
• Results of operations for the second quarter of 2005 include a $336 million net after-tax gain on the sale of our wireline and directory businesses in Hawaii, tax benefits of $242 million associated with prior investment losses and a net tax provision of $206 million related to the repatriation of foreign earnings under the provisions of the American Jobs Creation
Act of 2004.
• Results of operations for the third quarter of 2005 include an impairment charge of $125 million pertaining to our leasing operations for aircraft leased to airlines experiencing
financial difficulties.
Income before discontinued operations per common share is computed independently for each quarter and the sum of the quarters may not equal the annual amount.
78
Notes to Consolidated Financial Statements continued
NOTE 23
SUBSEQUENT EVENTS
Disposition of Businesses and Investments
Telephone Access Lines Spin-off
On January 16, 2007, we announced a definitive agreement with
FairPoint Communications, Inc. (FairPoint) that will result in Verizon
establishing a separate entity for its local exchange and related
business assets in Maine, New Hampshire and Vermont, spinning
off that new entity to Verizon shareowners, and immediately
merging it with and into FairPoint.
Upon the closing of the transaction, Verizon shareowners
will own approximately 60 percent of the new company and
FairPoint stockholders will own approximately 40 percent. Verizon
Communications will not own any shares in FairPoint after the
merger. In connection with the merger, Verizon shareowners will
receive one share of FairPoint stock for approximately every 55
shares of Verizon stock held as of the record date. Both the spin-off
and merger are expected to qualify as tax-free transactions, except
to the extent that cash is paid to Verizon shareowners in lieu of fractional shares.
The total value to be received by Verizon and its shareowners in
exchange for these operations will be approximately $2,715 million.
Verizon shareowners will receive approximately $1,015 million of
FairPoint common stock in the merger, based upon FairPoint’s recent
stock price and the terms of the merger agreement. Verizon will
receive $1,700 million in value through a combination of cash distributions to Verizon and debt securities issued to Verizon prior to the
spin-off. Verizon may exchange these newly issued debt securities
for certain debt that was previously issued by Verizon, which would
have the effect of reducing Verizon’s then-outstanding debt.
CANTV
During the second quarter of 2006, we entered into a definitive
agreement to sell our indirect 28.5% interest in CANTV to an entity
jointly owned by América Móvil and Telmex for estimated pretax
proceeds of $677 million. Regulatory authorities in Venezuela never
commenced the formal review of that transaction and the related
tender offers for the remaining equity securities of CANTV. On
February 8, 2007, after two prior extensions, the parties terminated
the stock purchase agreement because the parties mutually concluded that the regulatory approvals would not be granted by the
Government.
In January 2007, the Bolivarian Republic of Venezuela (the
Republic) declared its intent to nationalize certain companies,
including CANTV. On February 12, 2007, we entered into a
Memorandum of Understanding (MOU) with the Republic. The MOU
provides that the Republic will offer to purchase all of the equity
securities of CANTV through public tender offers in Venezuela and
the United States at a price equivalent to $17.85 per ADS. If the
tender offers are completed, the aggregate purchase price for
Verizon’s shares would be $572 million. If the 2007 dividend that
has been recommended by the CANTV Board is approved by
shareholders and paid prior to the closing of the tender offers, this
amount will be reduced by the amount of the dividend. Verizon has
agreed to tender its shares if the offers are commenced. The
Republic has agreed to commence the offers within forty-five days
assuming the satisfactory completion of its due diligence investigation of CANTV. The tender offers are subject to certain conditions
including that a majority of the outstanding shares are tendered to
the Government and receipt of regulatory approvals. Based upon
the terms of the MOU and our current investment balance in
CANTV, we expect that we will record a loss on our investment in
the first quarter of 2007. The ultimate amount of the loss depends
on a variety of factors, including the successful completion of the
tender offer and the satisfaction of other terms in the MOU.
Redemption of Debt
On January 8, 2007, we redeemed the remaining $1,580 million of the
outstanding Verizon Communications Inc. floating rate notes due
2007. The gain/(loss) on this redemption was immaterial.
79
Board of Directors
James R. Barker
Chairman
The Interlake Steamship Co. and
New England Fast Ferry Co.
and Vice Chairman
Mormac Marine Group, Inc. and
Moran Towing Corporation
Ivan G. Seidenberg
Chairman and
Chief Executive Officer
Richard L. Carrión
Chairman, President and
Chief Executive Officer
Popular, Inc.
and Chairman and
Chief Executive Officer
Banco Popular de Puerto Rico
Doreen A. Toben
Executive Vice President and
Chief Financial Officer
M. Frances Keeth
Retired Executive Vice President
Royal Dutch Shell plc
Robert W. Lane
Chairman and Chief Executive Officer
Deere & Company
Dennis F. Strigl
President and
Chief Operating Officer
William P. Barr
Executive Vice President and
General Counsel
John W. Diercksen
Executive Vice President –
Strategy, Development and Planning
Shaygan Kheradpir
Executive Vice President and
Chief Information Officer
Sandra O. Moose
President
Strategic Advisory Services LLC
Lowell C. McAdam
Executive Vice President and
President and Chief Executive Officer –
Verizon Wireless
Joseph Neubauer
Chairman and Chief Executive Officer
ARAMARK Holdings Corporation
Marc C. Reed
Executive Vice President –
Human Resources
Donald T. Nicolaisen
Former Chief Accountant
United States Securities and
Exchange Commission
John G. Stratton
Executive Vice President and
Chief Marketing Officer
Thomas H. O’Brien
Retired Chairman and Chief Executive
Officer
The PNC Financial Services Group, Inc.
and PNC Bank, N.A.
Thomas J. Tauke
Executive Vice President –
Public Affairs, Policy and Communications
Thomas A. Bartlett
Senior Vice President and Controller
Clarence Otis, Jr.
Chairman and Chief Executive Officer
Darden Restaurants, Inc.
Marianne Drost
Senior Vice President, Deputy General
Counsel and Corporate Secretary
Hugh B. Price
Senior Fellow
Brookings Institution
Ronald H. Lataille
Senior Vice President – Investor Relations
Ivan G. Seidenberg
Chairman and
Chief Executive Officer
Verizon Communications Inc.
Walter V. Shipley
Retired Chairman
The Chase Manhattan Corporation
John W. Snow
President
JWS Associates, LLC
John R. Stafford
Retired Chairman of the Board
Wyeth
Robert D. Storey
Retired Partner
Thompson Hine LLP
80
Corporate Officers and
Executive Leadership
Kathleen H. Leidheiser
Senior Vice President – Internal Auditing
Catherine T. Webster
Senior Vice President and Treasurer
John F. Killian
President – Verizon Business
Daniel S. Mead
President – Verizon Services
Daniel C. Petri
President – International
Virginia P. Ruesterholz
President – Verizon Telecom
Investor Information
Registered Shareowner Services
Questions or requests for assistance regarding changes to or
transfers of your registered stock ownership should be directed
to our transfer agent, Computershare Trust Company, N.A. at:
Verizon Communications Shareowner Services
c/o Computershare
P.O. Box 43078
Providence, RI 02940-3078
Phone: 800 631-2355
Website: www.computershare.com/verizon
Email: [email protected]
Persons outside the U.S. may call: 781 575-3994
Persons using a telecommunications device for the deaf (TDD)
may call: 800 524-9955
On-line Account Access – Registered shareowners can view
account information on-line at: www.computershare.com/verizon
You will need your account number, a password and taxpayer
identification number to enroll. For more information, contact
Computershare.
Electronic Delivery of Proxy Materials – Registered shareowners can receive their Annual Report, Proxy Statement and
Proxy Card on-line, instead of receiving printed materials by mail.
Enroll at www.computershare.com/verizon
Direct Dividend Deposit Service – Verizon offers an electronic funds transfer service to registered shareowners wishing
to deposit dividends directly into savings or checking accounts
on dividend payment dates. For more information, contact
Computershare.
Direct Invest Stock Purchase and Ownership Plan – Verizon
offers a direct stock purchase and share ownership plan. The
plan allows current and new investors to purchase common
stock and to reinvest the dividends toward the purchase of additional shares. To receive a Plan Prospectus and enrollment form,
contact Computershare or visit their website.
eTree® Program – Worldwide, Verizon is acting to conserve
natural resources in a variety of ways. Now we are proud to offer
shareholders an opportunity to be environmentally responsible.
By receiving links to shareholder materials online, you can help Verizon reduce the amount of materials we print and mail. As a thank you for choosing electronic delivery, Verizon will plant a tree on your behalf. It’s fast and easy and you can change your electronic delivery options at any time. Sign up at
www.eTree.com/verizon or call 800 631-2355 or 781 575-3994.
Corporate Governance
Verizon’s Corporate Governance Guidelines are available on our website – www.verizon.com/investor
If you would prefer to receive a printed copy in the mail, please
contact the Assistant Corporate Secretary:
Verizon Communications Inc.
Assistant Corporate Secretary
140 West Street, 29th Floor
New York, NY 10007
Investor Services
Investor Website – Get company information and news on our
website – www.verizon.com/investor
VZ Mail – Get the latest investor information delivered directly to
your computer desktop. Subscribe to VzMail at our investor information website.
Stock Market Information
Shareowners of record at December 31, 2006: 887,678
Verizon is listed on the New York Stock Exchange (ticker symbol: VZ)
Also listed on the Philadelphia, Boston, Chicago, London, Swiss,
Amsterdam and Frankfurt exchanges.
Common Stock Price and Dividend Information
Cash
Market Price
Dividend
High
Low
Declared
2006
First Quarter
$
33.89 $
28.95 $
0.405
Second Quarter
33.46
29.00
0.405
Third Quarter
36.62
30.22
0.405
Fourth Quarter
37.64
33.99
0.405
2005
First Quarter
$
Second Quarter
Third Quarter
Fourth Quarter
39.56 $
34.93
33.70
31.59
33.13 $
32.48
30.50
28.07
0.405
0.405
0.405
0.405
*All Verizon prices have been adjusted for the spin-off of Idearc.
Form 10–K
To receive a copy of the 2006 Verizon Annual Report on Form 10-K, which is filed with the Securities and Exchange
Commission, contact Investor Relations:
Verizon Communications Inc.
Investor Relations
One Verizon Way
Basking Ridge, NJ 07920
Phone: 212 395-1525
Certifications Regarding Public Disclosures & Listing
Standards
The 2006 Verizon Annual Report on Form 10-K filed with the
Securities and Exchange Commission includes the certifications
required by Section 302 of the Sarbanes-Oxley Act regarding the
quality of the company’s public disclosure. In addition, the annual
certification of the chief executive officer regarding compliance
by Verizon with the corporate governance listing standards of the
New York Stock Exchange was submitted without qualification following the 2006 annual meeting of shareholders.
Equal Opportunity Policy
The company maintains a long-standing commitment to equal
opportunity and valuing the diversity of its employees, suppliers
and customers. Verizon is fully committed to a workplace free
from discrimination and harassment for all persons, without
regard to race, color, religion, age, gender, national origin, sexual
orientation, marital status, citizenship status, veteran status,
disability or other protected classifications.
Verizon Communications Inc.
140 West Street
New York, New York 10007
212 395-1000
verizon.com
©2007. Verizon. All Rights Reserved.
002CS-13417
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