P a g e | 1

Krause Fund Research | Spring 2015 Telecommunications & Utilities Recommendation: BUY Analysts Emily Brannon emily-brannon@uiowa.edu Emily Miller emily-e-miller@uiowa.edu Katie Stych kathyrn-stych@uiowa.edu

Company Overview Stock Performance Highlights 52 week High $53.66 52 week Low $45.09 Beta Value 0.62 Average Daily Volume 16.57 m Share Highlights Market Capitalization $204.06 b Shares Outstanding 4.15 b Book Value per share $2.96 EPS (ttm) $2.42 P/E Ratio (ttm) 20.29 Dividend Yield 4.50% Dividend Payout Ratio 89.00% Company Performance Highlights ROA 2.78% ROE 38.11% Sales $127.079 b Financial Ratios Current Ratio 1.05 Debt to Equity 828.83%

Verizon Communications Inc. (NYSE: VZ)

May 1, 2015 Current Price $50.41 Target Price $53.87 – $75.97 Earnings Growth: A Success Story

• Focused on Industry Trends Verizon is expanding wireless business segment consistent with industry trends. In 2015, Verizon has invested $10.4 billion in the wireless spectrum auction, while it has divested $15.6 billion in wireline assets. • Telecommunications Sector Sustains Growth The telecommunications sector growth has been tied to growth in GDP and inflation. With GDP and inflation expected to grow to 3.2% in 2019, Verizon should also expect for earnings to grow. • Debt Levels Do Not Diminish Hope for Earnings Growth Verizon’s growth is hindered, but not limited by its large long term debt. Following its’ acquisition of Vodafone in 2014, Verizon acquired a total of $110.54 in long term debt. Verizon looks to pay down debt to get it to pre-2014 levels by the year 2019. Despite that, revenues are expected to grow 3.55% in 2015. • Diversified Revenue Streams Verizon is expanding its revenues streams by implementing the Verizon Edge program which will increase equipment sales for the wireless segment, mitigating the risk of the normal line of business. • Strong Persistent Dividends Verizon has made an effort to reduce shares outstanding to ensure it will continue to pay strong dividends, growing at 3.46% despite high debt levels. One Year Stock Performance i

Verizon Communications Inc. (VZ) and their respective subsidiaries provide integrated wireline and wireless telecommunications solutions to over 103 million customers, primarily in the retail space. Their coverage within the United States reaches nearly 97% of Americans, and their operations take place in over 150 countries, although their main operations are in the United States. Their current market share of the wireless telecom sector within the United States is strong at 34%. Product offerings operations include voice and data services, internet access, governmental network services, and equipment

Important disclosures appear on the last page of this report.

P a g e | 2

We are currently recommending a BUY recommendation for Verizon Communications Inc. (NYSE:VZ) at the current market price of $49.39 as of April 15th, 2015. Growth in GDP, inflation, and population will attribute to positive earnings growth for Verizon. With a 34% wireless market share, among the largest in the industry, Verizon will be able to feel the full benefits of the positive economic climate. As Verizon continues to innovate by providing unique services and product packages like Verizon Edge, it will be able to differentiate itself among the highly competitive telecommunications companies. Internally, Verizon’s commitment to debt repayment will not cripple the health of the company because of a shift in focus to the wireless business segment. Based on these assumptions, we have determined the target price range of $60.08 - $77.74, which overvalues the company. We expect for earnings growth to drive growth in dividends, capital expenditures, and stock prices.

We believe there are four macroeconomic indicators that impact Verizon’s performance along with the telecommunications industry as a whole in the United States. The indicators include: Gross Domestic Product (GDP), Interest Rates, Inflation, and the Regulatory Environment. Gross Domestic Product Both increases and decreases in real GDP can be linked to personal consumption in areas such as telecommunication: increasing data usage, buying larger phone package, or switching to a different phone company. It is not common to have loyalty to specific telecommunication companies. However, contracts can force loyalty for several years. Although when the contract terms are over, consumers are quick to change providers. I

Source: Bureau of Economic AnalysisII

Real gross domestic product is the value of goods and services produced adjusted for price changes. According the Bureau of Economic Analysis as demonstrated in the Quarter-to-Quarter Growth chart above, the United States’ increased at an annual rate of 2.2 percent in the fourth quarter of 2014. This is an advance estimate. In the third quarter, real GDP increased 5.0 percent.

Source: World BankIII The above chart establishes a comparison between the United States, the Euro area, and other high income countries’ real GDP growth and forecasts from 2012 to 2017. We believe that the US real GDP growth will mimic the World Bank’s forecast of 3.2% in 2015, 2.0% in 2016, and 2.4% in 2017 and beyond as included in our revenue decomposition for Verizon. For 2018 and 2019 we believe the rates will be 2.6% and 3.2% respectively to return to a state near the historical US real GDP average of 3.27%. Interest Rates The rates of return that investors seek from any kind of investment (especially in an industry like telecommunications) are directly tied to the risk-free rate that they can earn from government securities. As government interest rates fall, the price of other investments are pushed upwards. Conversely, if rates increase as we speculate, the price of telecommunication stocks will fall. However, dividend yields and interest rates tend to conversely together, which means when rates increase stock prices fall but dividend yields rise. Telecommunications companies are characterized by their high dividend payout ratios, therefore higher interest rates are good news for this industry. IV

Executive Summary

Economic Outlook

Important disclosures appear on the last page of this report.

P a g e | 3

2 Year Nominal

Source: US TreasuryV

10 Year Nominal

Source: US TreasuryV

The above images show the historical rate (%) for the 2 year and 10 year nominal interest rates from 2001-2015, which show a dramatic decrease over the years. Interest rates have not changed since the last cut in December 2008. The current yield on the 10-Year Treasury bond is 1.89%, with a previous yield of 1.75%. The Federal Reserve has said it will not rush to boost interest rates for the short term federal funds rate, however, we anticipate a gradual increase to occur to pre-recession levels over the next 10 years as the economy prospers. By 2019, we predict our CV growth of NOPLAT to be 1% to reflect the interest rates on their gradual increase to pre-recession levels. VI For telecom companies, interest rates are important due to the large capital necessary to purchase equipment and fund operations. Equipment frequently requires upgrades and maintenance to remain competitive and provide a positive service experience for customers. These firms, including Verizon, have very large amounts of debt and they may have to refinance or roll the debt over if they cannot meet the payments when due, which would be more difficult with rising interest rates. VII

Inflation Inflation determines how much of an investment’s value is being lost. Additionally, if deflation is happening consumers are likely to hold onto their money in hopes prices will drop lower so spending is severely reduced. The big picture for telecommunication companies is that low inflation keeps a company’s costs down and profits increasing. Notably telecommunication companies are able to raise prices to consumers and pass along inflation, while competitors are also raising prices, reducing the risk of losing customers due to prices. VIII According to the Bureau of Labor Statistics, CPI measures inflation as experienced by consumers in their day-to-day living expenses. Below is a depiction of the percent change in CPI from March 2013-March 2014 (seasonally adjusted).IX It’s important to consider that the decreases in November, December, and January were driven by oil price declines. The latest CPI inflation rate for the US seasonally adjusted is 0.2% through the 12 months ended March 2015, as published by the US government in April 2015. X

Source: Bureau of Labor StatisticsX

Going forward, we anticipate a larger increase in CPI inflation levels than has occurred in the last few years. We anticipate that inflation for 2015-2016 will be 2%, and 3.2% for 2017 - 2019 as taken into account for Verizon’s on revenue decomposition. The Regulatory Environment Legislation towards internet privacy could limit the growth of the telecommunication industry. Though the legislation may not have a large impact on the strategies of the telecommunications companies, it may cause a negative shift in investor’s attitudes toward the industry. XI While there are not hard numbers to quantify this economic driver, numerous bills passed by congress have affected the industry in the past. The Telecommunications Act of 1996 deregulated the industry and stimulated competition of telecommunication providers, because of the large dependence on capital in the industry, competition among providers is even tighter. Congressional data concerning telecommunication bills include issues such as net neutrality, new spectrum license auctions, and increased regulation that pose threats to telecommunication companies. These actions could alter investor perceptions, even if they had no material impact. In the short term, there

Important disclosures appear on the last page of this report.

P a g e | 4

is uncertainty of the effects of net neutrality and internet privacy legislation, but none look to be positive for the telecommunications industry. XII

We believe that the telecom sector is consistently a wise sector to invest in and poses opportunity for future growth. The telecom industry is sometimes seen as a defensive or counter-cyclical industry. However, as demonstrated in the graph below, within the past 5 years the S&P Telecommunication Services’ returns are near those of the S&P 500 as a whole.

Source: S&P 500XIII While we realize more capital will be needed to fill consumers’ needs who are continuing to expect and demand service faster than the current 4G, there are numerous other ways telecommunication companies circumvent expenses to be profitable. By innovating new technological advancements, Verizon is able to provide better service at lower operating cost, increasing their margins. There is anticipation for additional mergers and acquisitions within the competitive United States market in the future for the telecom sector. Additionally, according to Deloitte “the mobile telecom sector continues to offer unprecedented opportunities for economic growth in both developing and developed markets, and mobile communication services have become an essential part of how economies work and function.” Telecommunication companies investing their resources in developing markets can become extremely profitable. Countries such as India and Africa are moving to have a better middle class and with their huge population provide a huge customer base for telecommunication companies. Emerging markets are becoming more interconnected as their economies grow, creating a void in the telecommunications available. Firms that take advantage of this need could reap huge rewards. Going forward, our outlook for capital markets is positive in the short run but

could be lessened in the long run with the upcoming increases in interest rates and inflation. XI, XV

Industry Overview The telecommunications industry is “strung together by complex networks, telephones, mobile phones and internet-linked PCs, the global system touches nearly all of us”.XVI The United States Telecommunications is a competitive and federally regulated industry and is centered upon a small group of key players: AT&T, Verizon, CenturyLink, Deutsche Telekom AG (T Mobile), and Sprint Nextel. The remainder of the United States industry is made up of mid-size carriers, and services offered include internet services, caller identification, call waiting, call forwarding, voice mail, cable television, long-distance service, local service, and/or wireless communications.XVII The chart below represents the current United States market share of both wired and wireless telecom operators. Wired

Source: IBISXIX

Wireless

Source: IBISXX

Business Segments: Wired Telecommunications: The primary activities within wired telecommunications are: providing local voice communication service, selling telecommunications equipment, providing long-distance and international voice communication services, providing internet access, and wholesaling network access. The major products and services within wired telecommunications are: fixed local telephony, wholesale network access, fixed long-distance telephony, and internet access. The chart below represents the products and services percentage distribution for the wired industry in the United States. Internet is the biggest component of wired solutions and is one of the main drivers of wired growth for Verizon’s revenue. XIX

Industry Analysis Capital Markets Outlook

Important disclosures appear on the last page of this report.

P a g e | 5

Source: IBISXIX

The majority of Verizon’s wired segment revenue is comprised of mass markets which provides broadband internet and FiOS internet and video. Verizon is looking to expand its wired segment by providing unique cable television packages, home security systems and cloud internet services. Revenue growth for the wired telecommunications industry has decreased almost every year since 2004, and is currently growing at -3.4% in 2014. This is why we predict that wired growth will continue to decrease, yet wireless poses the most room for growth.XIX

Wireless Telecommunications:

The primary activities of wireless telecommunications are: providing wireless network communication service for local, long-distance and international calls, renting out wireless telecommunications equipment, providing messaging services, such as short message services (SMS) and multimedia messaging services (MMS), wholesaling wireless infrastructure capacity to telecommunications resellers, providing wireless internet services and other non-messaging data, operating and maintaining of switching and transmission facilities, and selling cell phones and other wireless devices. The primary products and services in wireless telecom are: cellular voice services, paging, text messaging, advanced PCS services along with other data services. The chart below represents the products and services percentage distribution for the wireless industry in the United States.XX

Source: IBISXX

Currently, cellular voice services is the largest segment and should remain strong for revenue growth. We expect for Verizon’s wireless service to grow an average of 5.01% for the next 5 years. Innovations in 4G LTE technology coupled with increased market adaption of this technology will help to sustain promising growth for the wireless telecommunications sector. Revenue growth for the wireless telecommunications industry has been fairly consistently growing since 2004, although slowing in the last couple of years in the 1% growth in 2014. This is likely due to market saturation, as the industry is approaching steady state in 2019.XX Recent Developments and Industry Trends

Wireless Telecommunication Services Growth There have been trends of wireless telecommunications services growth in recent years. The growth in this industry has had a negative effect on the wireline telecommunications industry, although both are compromised within the Telecommunications sector. We believe this trend will continue into 2015. The millennial generation is more apt to forgo landline usage in lieu of cellphones. Also smartphones will continue to encompass the majority of cell phones available in the market due to their decline in prices. Owners of smartphones are more likely to engage in the wireless services provided by telecom companies. All of this will attribute to growth in the wireless telecommunications services. Competition with Cable Companies Cable providers are a source of competition for wired telecom services companies. Cable companies have the leading broadband connections, and they pose a threat to wired telecom services. Also few wired telecom services can provide high speed internet in the way that cable companies can. This threat may cause customers to choose cable companies over other wired telecom services. Although, it may cause wired telecom companies to develop and innovate more high speed internet products to provide to their customers. Regulatory Federal regulations have been closely related to the telecom industry for years, but recent legislation may change the way that wired and wireless telecom companies have operated for years. On November 10, 2014, President Obama asked the FCC to adopt and implement the strongest possible rules to protect net neutrality. Net neutrality is loosely defined as preventing Internet Service Providers from providing faster connections to one customer over another. Net neutrality would reclassify internet services as Title II telecommunications services under the Communications Act of 1934. This would forbid internet service providers from blocking content to certain customers. This reclassification would not directly ban broadband providers for charging extra for preferred service. Although experts speculate that this action will not

Important disclosures appear on the last page of this report.

P a g e | 6

be well received by wired and wireless telecom providers. The FCC regulations will likely reduce net income growth rates because of increased operating and litigation expenses. Telecommunications companies have not let law makers have an easy fight in developing net neutrality legislation. In 2010, Verizon sued and eventually overturned the FCC’s Open Internet Order which touted increased transparency, no lawful blocking of content, and no unreasonable discrimination of one’s access to the internet. The FCC has drafted an even stricter regulation by its reclassification of the internet as a utility. Telecom companies are almost certain to sue. XXI Elimination of Subsidies Major wireless telecom companies are beginning to cut back on their smartphone subsidies. Many telecom companies have provided a subsidy to reduce the high sticker price of smartphones to at least $200. The subsidy is later recovered by the collection of customer phone bill payments over the course of the 2 year contract. This process has led to significant customer additions, but has hurt profit margins. Wireless telecom companies are seeking other forms, like changing the standard data usage price and lowering the cost of low data packages, to increase profit margins without losing customers. LTE Data Technological capabilities are a differentiating factor among the highly competitive telecom market. Innovation in LTE wireless data is what sets companies apart from one another. The development of 4G wireless platforms should continue to gain speed although telecom companies will still rely on 3G wireless to handle most of their traffic. Compete integration of 4G would provide a telecom company with a significant competitive advantage but no company has been able to optimize their network capacity to that level yet. The figure below shows the vast expanse of Verizon’s 4G LTE technology. Verizon should achieve the capabilities to provide complete 4G LTE data by 2017, although it will continue to convert its’ customers to the technology over the next 5 years.

Source: Verizon Annual Report XXII Furthermore, VoLTE technology is being developed and would allow wireless telecom companies to perform more efficiently. VoLTE technology allows for voice interaction

on a phone call to be done using the IP network instead of traditional landline technology. This innovation would not only provide a particular wireless telecom company a competitive advantage over another, but also it would be a significant threat to the wired telecom industry which primarily depends on traditional fixed line operations. This technology is not predicted to be commonplace for a few years because the implementation of this technology would demand significant financial resources and contracts with suppliers. VoLTE technology would require more cell towers within the US. The growth in smartphone and tablet usage will lead to increased importance on LTE wireless data. Tablets have the option of connecting to Wi-Fi internet provided by the wired telecom, a Wi-Fi hotspot provided by the wireless carrier company or the LTE wireless provided by the wireless telecom company. As smartphones become bigger and tablets become smaller, tablets are forecasted to become more prevalent. Innovating LTE wireless data technology will help to differentiate wireless telecom companies, although it may decrease the Wi-Fi Internet market share previously dominated by wired telecom companies. Bring Your Own Device Increases in the Workplace In recent years, Bring Your Own Device (BYOD) trends have led to a greater amount of employees working on their own cell phones, tablets, and computers instead of company provided products. This is positive for companies because it reduces employee costs while at the same time it compromises high levels of security. There will be a need for a growth in mobile security software technology if this trend persists. Although this has potential to decrease equipment sales to business customers, Verizon is working to counter that by implementation of the Verizon Edge program which promotes equipment sales to its’ retail customers. Furthermore, this trend provides an opportunity for Verizon to expand its’ wired business segment. XXIII

Markets and Competition Competitive Landscape With the infrastructure that it requires to effectively operate within the telecommunications realms, size does matter for operations. The technologies utilized are rapidly changing, and approximately every two years transmission systems need to be replaced. It is often expensive to be able to “be large enough and produce sufficient cash flow to absorb the costs of expanding networks and services that become obsolete seemingly overnight” (Investopedia). There is significant emphasis on retaining customers, making company’s sensitive to the prices they charges. The highly competitive environment pushes companies to continue to innovate to remain on top. The entire industry is sensitive to regulations like net neutrality that may inadvertently discourage innovation and competition.

Important disclosures appear on the last page of this report.

P a g e | 7

Major Players in the US Telecom Industry CenturyLink Inc. XXIV CenturyLink Inc. was formed in July 2009 with CenturyTel acquiring Embarq, and then strengthened further to become the 3rd largest telecommunications company in the US with the acquisition of Qwest Communications International Inc. This is Verizon’s largest competitor for its wired business segment. The strength and size of CenturyLink Inc. poses threats to wired operating revenues.

The map of the United States below depicts the territorial nature of the competitive landscape in that leading wired telecom companies tend to dominate the market share and primary coverage zones for specific regions due to equipment necessary.

AT&T Inc. XXIV AT&T acquired SBC communications and BellSouth Corporation from 2005-2006 and is now the Unites States’ largest telecommunications organization. AT&T operates most similarly to Verizon, with 54% of revenues from its’ wireless segment and 46% of revenues from the wired segment. By September 2014, “AT&T was the largest US wireline services provider with 26.2 million consumer voice connections, down 10.5% year over year, and 16.5 million consumer broadband connections, up 0.4% year over year; AT&T is also the largest US wireless carrier, with 118.7 million subscribers”. For these reasons, AT&T is Verizon’s strongest competitor Sprint Nextel Corporation XXIV After a merger in 2005 with Nextel Communications Inc., Sprint has provided US long distance service in addition to supporting cable companies’ telephony services. With lowest subscribers and market capitalization, Sprint Nextel Corporation poses the least significant threat to Verizon. Although with the largest ARPU among competitors, Sprint Nextel Corporation has more flexibility to lower prices and engage in price wars in the highly competitive telecommunications market.

T-Mobile US XXIV T-Mobile was founded in 1996 under VoiceStream, and was later rebranded as T-Mobile when acquired in 2001 by Deutche Telekom AG. T-Mobile conducted a reverse merger in 2012 with MetroPCS and now Deutche Telecom has 74% ownership pooled. With the lowest ARPU in the market, T-Mobile is the most sensitive to price changes by competitors. The highest churn rate also exemplifies that T-Mobile struggles to maintain customers to competition. Financial and Operating Metrics

Source: Various statistics from Factset XXV The preceding chart examines factors that are unique and important to the telecom industry. The churn rate is especially in the telecommunications industry because of its highly competitive nature. The ARPU exposes the revenue structure of a particular company, highlighting the company strategy which is important in the highly competitive telecom industry environment. Current price and financial ratios indicate the performance of competitors within the telecom industry. Porter’s Five Forces of Analysis XXVI

Porter’s Five Forces Analysis is a way to analyze competition within an industry. The telecommunications industry is highly competitive, constantly innovating technology, and is sensitive in price changes. The success of Verizon within this industry is dependent on its ability to attract and retain customers by differentiating itself from competitors. Threat of New Entrants: WEAK. The largest obstacle within the telecom industry is capital. Infrastructure projects are often very large and expensive, and thus require a lot of cash. In general, entry to the markets depends on the capital markets conditions: when the markets are favorable, the pace of entry is higher, and in unfavorable conditions the pace of entry is lower. Also, since the telecom industry is highly regulated, the Federal Communications Commission must approve all prospective operators. Power of Suppliers: WEAK. Fortunately in the current market, telecom operators have many choices of suppliers to receive the equipment needed for operations such as fiber optic cables or mobile devices.

Important disclosures appear on the last page of this report.

P a g e | 8

Power of Buyers: STRONG. Since many of the telecom companies offer similar products and services, customers are often seeking for the lowest price and the best service available. Their purchasing power is strong, and creates strong market competition. Availability of Substitutes: STRONG. Both services and products are readily substitutable within the market by various competitors. With ever-evolving technology, new competitors and product offerings pose a threat to stability within the industry. Competitive Rivalry: STRONG. Since the wireless market is diluted in the sense that most consumers have services and devices already, companies must now focus on lower pricing and enhanced service which decreases the profits for the industry as a whole. This creates an intense competition within the industry, along with technology capabilities, infrastructure, and capital available

Catalysts for Growth/Change Regulation Under Obama’s recent pressure, the FCC has been moving to more strictly regulate wireless phone service. The telecommunications industry is quickly being taken over by wireless communication. Government regulations directly impact how and how much wireless telecommunication companies are able to charge their customers, affecting their bottom line. There is spectrum currently up for auction, because there is only a certain amount available. Additionally, laws concerning net neutrality will affect how wireless telecommunication companies are able to provide access to customers and what they are able to give them access to. This will likely increase operating costs, limiting capital that could go to further expansion. Although regulation, could also spur innovation of the traditional telecommunications revenue stream. Wireless Spectrum What presents probably the largest opportunity for growth is consumers’ demand for speed and connectivity. There is ongoing pressure in the industry from customers to increase the availability and quality of broadband. If major players are able to secure long-term spectrum availability, this could translate to huge momentum and gains. Currently many are offloading some needs to Wi-Fi, but this a temporary solution while the battle for additional spectrum is up in the air. The FCC authorized a spectrum auction in 2012, although the actual auction didn’t take place until February 2015. These auctions are sporadic and extremely import to Verizon. With the revenues of Verizon being dependent on spectrum capabilities, it is crucial for Verizon to allocate a capital budget significant to bid high in a spectrum auction.XXVII

Verizon is an industry leading telecommunications provider. Because of expansive practices, a leading position in the growing and competitive telecommunications sector, and the strong earnings growth projections, we are issuing a BUY recommendation. Verizon’s expansive policies continue to result in good profit margins and free cash flows for the next five years, highlighting the company’s tactical investment strategy. Verizon continues to create a competitive advantage by differentiating itself by superior wireless data services, while it also performs modestly in its wireline business segment.

The following pie charts demonstrate the revenue composition for Verizon. Wireless revenue comprises 67% of total operating segment revenues, while wired segment revenue comprises 33% of total operating revenues. Verizon’s Revenues

Source: Thomson OneXXVIII Verizon is a company pursuing many investment opportunities, including full acquisition of Vodafone, sale of wireline assets, buying wireless spectrum to ensure to their customers that they will be a leading telecommunications company for years to come. The recent capital expansive policy that the company has undergone have significantly increased its assets and also its debt, which it plans to service to 2013 levels by 2019. The expansion will large, have proven to be successful when looking at the company’s market value. The company is currently trading at $49.39, 5% higher than where it was trading at last year, and 31% higher than 3 years ago.

Verizon stands as number 2 in the US in the telecommunications sector. They became the second largest due to their acquisitions of MCI Inc. and ALLTEL in 2006 and 2009 respectively. By September 2014 Verizon had approximately “106.2 million total retail wireless connection, up 4.9% from the same period last year”. XXIX

Company Analysis

Important disclosures appear on the last page of this report.

P a g e | 9

Business Description Verizon is comprised of wireless and wireline business segments. The company provides wireless services on a postpaid and prepaid basis. Verizon offers data services for internet access on smartphones, basic phones, notebook computers, and tablets that have embedded fourth generation (4G) long-term evolution (LTE) or third generation (3G) evolution data optimized (EV-DO) modules. Verizon has been transitioning its networks to 4G LTE. As of January 21, 2014 the company’s 4G LTE network covered approximately 305 million people in the US (Form 10K). Verizon is known to pay consistent dividends and has increased the quarterly dividend by 2.9% during 2013, the seventh consecutive year they raised their dividends. On September 2, 2013, Verizon purchased Vodafone’s 45% stake in the company, completing the transition to 100% ownership in Verizon Wireless (Form 10K). This purchase, valued at $130 billion, put strain on the company’s commitment to pay strong dividends. This commitment drives their company policies so much that Verizon is willing to sell assets to help pay dividends. On February 5, 2015, Verizon made an agreement with American Tower to sell its wireline assets worth $5.1 billion. In addition, Verizon sold local fixed line assets to Frontier Communications valued at $10.5 billion (Morningstar Report, Thomson One, Michael Hodel, 6 Feb 2015). The proceeds from these sales are going towards paying off debt and a $5 billion share repurchase. The share repurchase should help to alleviate the strains of paying dividends despite the lack of cash. This action emphasizes Verizon’s commitment to paying high dividends, likely because of the highly competitive telecommunications industry. We expect Verizon to continue paying strong dividends, projecting 3.46% growth each year.

Source: Y-ChartsXXXI The preceding chart details the increase in the total long term debt of Verizon and AT&T for the recent years. AT&T, Verizon’s major competitor in the US, is used a

reference point for the industry average. Verizon’s long term debt has increased dramatically since it purchased Vodafone’s stake in the company. Furthermore, Verizon’s debt to equity ratio increased 744% to 8.28 in 2014, despite a 45.18% increase in shares outstanding. Products and Market Within the wireless segment products include: wireless voice, wireless data services, and equipment sales. Within the wireline segment products include: voice services, product services, internet access, broadband video and data, Internet protocol network services, network access, long distance and other related services. XXXII Verizon provides services to consumers, business, government, and wholesale customers within both the wireline and wireless segments. Retail postpaid consumers are the major customers within the wireless segment (Form 10K). Verizon seeks to attract and maintain the loyalty of these customers, by increasing the demand for data services by further integrating these services into their daily lives. Within the wireline segment, the customers include consumers in the US, and carriers, businesses, and government customers both in the US and in 150 other countries. XXXIII Advanced fiber based broadband services provided to over 9 million people contributed to 77% of the wireline segment revenue. XXXIV The Verizon Edge program is a non-traditional revenue model that Verizon has implemented in 2014, to increase margins. The program allows for eligible wireless customers the ability to pay for cellular devices under an equipment installment plan. Verizon is hoping for this to increase equipment sales, which should help to mitigate against risks of the competitive landscape. According to New Street Research estimates, Verizon spectrum comprises about 16% of the total spectrum capacity, yet the company attributes to 38% of the wireless industry’s revenue. XXXV Verizon’s most recent sale of its landline assets reflect the importance of gaining the necessary spectrum coverage to the company. The company’s commitment to providing its customers 4G LTE increases their demand for wireless spectrum coverage to the company. It is also more cost effective for Verizon to provide 4G LTE because it decreases service costs while providing faster internet, which allows Verizon to charge higher prices. Being the nation’s largest wireless provider, the wireline segment of Verizon is not the most important segment to the company. When push comes to shove Verizon is more willing to sell its wireline segment assets because its wireless segment has more potential to be profitable in the long run and wireless data spectrum presents the most strategic opportunity. Although Verizon’s further increased capital expenditures is making it even more cash strapped, potentially risking its credit rating.

Important disclosures appear on the last page of this report.

P a g e | 10

In February 2015, Verizon did not bid as highly as expected in the most recent FCC spectrum auction- spending $10.4 billion on spectrum. The company announced that it will look toward the secondary market to buy spectrum in accordance with their deleveraging strategy. In addition, Verizon hopes to advance its current technology, so that it can use spectrum more efficiently and become less reliant on FCC spectrum sales or buying from secondary markets.XXXV, XXXVI

Analysis of Recent Earnings Verizon has continued to pay dividends in increasing amounts since 2010. Despite acquiring $130 billion worth of assets in 2013, Verizon continued to pay dividends, and at significantly higher levels in 2014. Free cash flow has decreased sharply since the acquisition of Vodafone’s stake in Verizon. It is projected to decrease further in the next year. Verizon’s increase in capital expenditures has attributed to this which translates to a decrease in cash available to shareholders. The amount of total assets decreased -15.01% in one year. Although Verizon has acquired $130 worth of assets, it has had to sell other assets to help increase cash. Capital expenditures have increased at a rate comparable to Verizon’s previous years, and Verizon plans to continue 2015 capital expenditures at 2014 percent of sales levels. Gross profit is estimated to grow dramatically this year, despite growing at a stable margin of 60 - 62%. This is due to migration of people from basic phones to smartphones as part of the Verizon Edge program which entices customers to spend more on equipment and physical products. Despite growth in gross profit, cash from operations is estimated to be the lowest it has been in recent history, due to the large acquisition of Vodafone. Competition Verizon operates within the diversified telecommunications sector with its primary markets within the United States. The telecommunications sector is a highly competitive sector because of few large competitors, rapidly changing technologies and uniform products and services provided. Also the capital infrastructure it takes to compete is large, and usually makes it much harder for small companies to thrive. An emphasis on customer service, along with consistent innovation of telecommunications technology, may be a source for larger companies to differentiate themselves. Current competitors of Verizon are other voice and data service providers such as other wireless companies, traditional telephone companies, cable companies, Internet service providers, software and application providers, and other non-traditional companies. Among these competitors the ones with a strong market presence, brand recognition, and existing customer relationships are the biggest threats to Verizon (Form 10K). Some of these competitors are not

subject to the same regulatory constraints as Verizon, which may give Verizon a disadvantage in the highly competitive environment. Within the wireless segment, Verizon has plans to differentiate itself from other wireless companies by providing physical products to increase and maintain wireless usage among its customers. They are aimed toward the Verizon’s most profitable market - retail postpaid customers - in hopes to promote brand loyalty in the highly competitive environment (Form 10K). Within the wireline segment, Verizon’s largest competitors are cable companies like Cablevision and Comcast (Net Advantage, Verizon Company Overview). Both compete for broadband and telephony customers. Regulation The Federal Communications Committee is the primary regulatory body over Verizon. On February 4, 2014 the FCC announced a plan to reclassify the Internet as a public utility for which it would be governed under Type II classification. This would regulate Internet providers’ ability to charge more for some users to have faster, more reliable services. The reclassification would give the FCC significantly more regulatory power over Verizon than it has ever had before. Given that we project wireless revenues to be 75% of total operating revenues, the change in regulations will have an effect on significant portion of Verizon’s revenues. Verizon states “it is committed to open Internet which provides consumers with competitive choices and unblocked access to the lawful websites and content when, where, and how they want”. XXXIII Yet when hearing of the FCC’s most recent legislation, Verizon General Counsel Randal Milch said the plan "fairly guarantees litigation". XL

This would not be the first time that Verizon has challenged the FCC. In 2010, Verizon sued and eventually overturned the FCC’s Open Internet Order which touted increased transparency, no lawful blocking of content, and no unreasonable discrimination of one’s access to the internet. Although Verizon has overturned regulations in the past, it has inadvertently encouraged the FCC to enforce even stricter regulations, making this round of litigation even more risky, despite having won in the past. The impending litigation will also increase expenditures, further tightening the cash available to shareholders.

Regulation The FCC’s reclassification of the Internet as a utility will change the way Verizon will be able to provide services and it will affect the company’s revenue structure. The reclassification would prohibit Verizon from charging more for superior services, lowering sales growth rates and

Catalysts for Growth and Change

Important disclosures appear on the last page of this report.

P a g e | 11

increasing operating costs. Verizon currently has agreements with companies like Netflix, where it charges the website more to provide movie streaming at the speeds acceptable to Netflix customers. Not only could the FCC reclassification hurt the profits previously received from agreements with companies like Netflix, but it could prove even more expensive for Verizon because they will have to cover the costs to provide the high quality wireless service demanded by customers and the government alike. Wireless Spectrum Capacity Verizon’s competitive differentiation plan of providing innovative technology to its customers is dependent on the spectrum capacity for which it is licensed. Spectrum is the “electromagnetic radio frequencies used to transmit sound, data, and videos”. XLI Spectrum is the input that Verizon relies on to provide service. Higher frequency bands are used to provide more advanced services like cell service or wireless Internet services. Since there is a finite amount of spectrum, Verizon cannot compromise investing in it, if the company intends to continue to expand and differentiate itself. A shortage of spectrum in regards to the number of users and fast services provided could inhibit Verizon’s growth. SWOT Analysis Strengths Verizon exhibits strengths by a strong market share supported by growth rates, margins and lower churns. Verizon currently holds 34% of the wireless market share and 23% of the wired market share in the United States, and is growing at a faster rate than their lead competitor AT&T at 5.37% compared to 1% in addition to having a lower churn rate showing Verizon’s slightly more loyal customer base. Verizon’s extensive wireless network is a strength for the company. As demonstrated through Verizon’s marketing approaches, they have the largest 3G and 4G-LTE network in the United States. Their network capabilities are accessible to roughly 97% of Americans geographically. Verizon has shown growing postpaid ARPU, which is the company’s most profitable customer base. ARPU (average revenue per user) has been growing for Verizon and was 3.85% higher in FY2014 than FY2013. This is most likely a result of the growth of the smartphone market and higher connections per account, which is an important component of Verizon’s revenues. Verizon’s FiOS success is driving revenue growth in the wireline consumer segment. FiOS is the residential broadcasting network of Verizon. By FY2014, Verizon had 6.62 million FiOS internet and 5.65 million FiOS video connections which had increased 8.96% and 7.35%, respectively. New FiOS availability for Verizon is helping

them to further penetrate the wired telecom market with even faster speeds. Weaknesses Verizon’s substantial debt is its greatest weakness. At December 2014, Verizon was strapped with $113.27 billion in debt, partially due to the repurchasing of Vodafone's Verizon stake. This large amount of debt could pose future challenges for Verizon hindering their ability to gain more capital or to fund further expansion. Opportunities Robust outlook for M2M market presents a market for Verizon to further penetrate. The machine-to-machine (M2M) market globally is anticipated to keep growing rapidly, which poses an outlet for Verizon to further expand within. Verizon currently has a significant presence in the market, heightened by their acquisition of HUGHES Telematics in 2012. Opportunities are presented by the increased adoption of cloud computing services among consumers. Cloud computing is one of the best prospects for growth in the wireless data segment currently. Verizon has actively “invested $1.4 billion in acquisitions of investments and businesses, which we expect will permit us to offer enhanced machine-to-machine, video and cloud-based products and services” XXII. Verizon offers cloud computing and services to customers, and their growing capabilities provide further opportunities to gain customers and market share. Rising demand for high-bandwidth mobile communication is an important opportunity for Verizon to capitalize on. The high bandwidth market is growing in part due to the data consumption utilized by smartphones, in which the market has been drastically increasing. Some estimates anticipate mobile data traffic to growth CAGR 61% from 2013 to 2018. Fortunately, Verizon’s network infrastructure is very large, and most likely should be able to keep up with the anticipated growth. Opportunities are also presented by Verizon’s acquisition of Vodafone's stake in Verizon Wireless. Vodafone had a 45% stake in Verizon wireless, but in 2014 Verizon acquired that stake back. Although this puts Verizon further into debt, they now have more control over their operations. Threats Impending price wars may affect Verizon’s profitability. As the mobile market in the US is diluted and dominated by few key players, most telecom companies are competing over the same groups of users and will need to be priced competitively or offer better products/ services to win users. This, in turn, may impact future profits for Verizon. Changes in regulations may affect Verizon’s business prospects. The FCC (Federal Communications Commission)

Important disclosures appear on the last page of this report.

P a g e | 12

regulates the telecommunications within the US. Any future standards, changes in policy, or restrictions on operations could threaten Verizon’s business operations and profitability.

Saturation in wireless market threaten Verizon’s ability to expand. The US market in 2011 had more wireless connections that US inhabitants, so the market is very saturated and without future innovation there could be minimal growth in sales.

We have given Verizon Communications a buy rating based on our valuation models: discounted cash flow (DCF), economic profit (EP), the dividend discount model (DDM), and relative price/earnings multiple. Based on these valuations, we have determined the target price to be $60.03 - $77.74. Key Assumptions Revenue Decomposition The most effective way to determine revenue was to break down the revenues into the wireless and wireline business segments. We believe that by 2019, the telecommunications will mature to steady state due to high debt levels limiting capital expansion and smartphone market saturation. Verizon has stated that it wishes to get it’s long term debt back to 2013 levels by 2019(cite), which means that it will not have the necessary capital to expand and differentiate into other industries. Also by October 2014, it is estimated that 90% of American adults own a cellphone while 64% of American adults own a smartphone.XLII We expect for connections to grow by population growth until the smartphone market is completely saturated by 2019. In the wireless segment, we decomposed the revenue into service revenue and equipment and other. The wireless segment has historically accounted for 70% of total operating revenues, and we are forecasting for it to grow to 75% of total operating revenues in 2019. Within the wireless segment, we forecasted the number of subscribers by growing it by Verizon’s market share of the population growth. Our focus was on retail postpaid connections because it accounted for 95% of Verizon’s total subscribers in 2014. We used the subscriber growth assumption to guide our wireless service revenue growth because retail service revenue is largely dependent on the amount of subscribers. Verizon reported insight that it would focus on increasing revenues due to wireless equipment sales, as part of a shift in business strategy. XLIII For that reason, we forecasted our equipment revenue to be greater than it has been historically and growing similar to the population growth adjusted for Verizon’s market share for 2015. We then decrease the revenue growth rate by 10% as the boost in equipment sales returns to steady state in 2019.

In the wireline segment, we decomposed the revenue into mass markets, global enterprise, global wholesale, and other/historical segments. As the wireline telecommunications industry diminishes in importance, Verizon is looking to focus its’ revenue strategy by on broadband and FiOS internet and FiOS video subscribers. Despite Verizon’s plans to expand its broadband and FiOS technology, overall we believe that recent sales of wireline assets (which include FiOS technology) and investment in wireless assets, are signals that Verizon will shift its dependence to the wireless segment. For that reason, we have forecasted all wireline segment revenue to grow at a decreasing rate each year. We forecasted wireline revenues to grow at -3.36% in the steady state, accounting for just 25% of Verizon’s total operating by 2019. WACC Weight of Equity The market value weight of equity is majorly impacted by the shares outstanding. We did not forecast for our shares outstanding to increase because there are no longer employee stock option plans diluting the shares outstanding. Verizon announced that it will engage in a $5 billion share repurchase which accounted for a reduction in 1.01 million shares outstanding. Cost of Equity We used the Capital Asset Pricing Model to determine the cost of equity. We chose the yield for the 30 year US Treasury Bond as the risk free rate because of the extremely low risk of default. We consulted Damodaran’s estimate of the market risk premium to determine ours to be 5.67% because of his reputation and experience modeling to accurately predict the market risk premium. In reviewing the historical betas for Verizon as calculated on Bloomberg, the most consistent measures over time were the daily betas. The five year timeframe seemed to be a fair representation, so beta was calculated as a historical average of the daily betas of the time frames out one, two, three, four, and five years. This resulted in a beta of .6214, which corresponds with the guidance that large tier telecommunications companies’ betas should be less than 1.0, and will be lower with a lesser exposure to emerging markets. XLII Weight of Debt Verizon stated in their 2014 Annual Report that they would like to take their long-term debt to the pre-Vodafone acquisition level, which is approximately $89.66 billion, by 2019. We envision this change in debt levels of nearly $20 billion over five years to be funded by net income cash. XLIV Cost of Debt We chose to use a changing WACC for our valuation models because Verizon will be significantly changing their debt levels which will impact the default spread, the levered beta, and credit ratings. We arrived at 4.87% as the pre-tax cost of debt by using the yield a 30 year callable corporate bond with a credit rating of BBB+. We used a marginal tax

Valuation Analysis

Important disclosures appear on the last page of this report.

P a g e | 13

rate of 37.1% to calculate the after tax cost of debt. As Verizon continues to pay down its debt, we predict its cost of debt to lower to 2.91%. Profit Margin Our estimates predict for the profit margin to increase to 10.54% in 2015. For the remaining 5 years, we expect the profit margin to remain fairly stable ending in 2019 at 10.83%. We attribute this growth in profit margins to decreasing cost of goods sold as a percentage of sales and more penetration of 4G LTE coverage. As Verizon gets closer to steady state will become more efficient, effectively lowering its cost of goods sold to a point where it cannot be decreased further. It is more cost effective for Verizon to provide 4G LTE, and as the market begins to more fully adapt this technology it will increase their profit margins. Verizon will begin to fully realize the full effects of the Vodafone acquisition in the next years which will be reflected in their profit margins. Return on Invested Capital High levels of return on invested capital allow companies to create value by growing at a faster rate, when ROIC is greater than WACC. Our valuation determines Verizon’s ROIC will decline 50% from 2014 levels to 12.84%. Although these levels are still greater than WACC, the steady decline may hinder the rate of growth the company is capable in the years to come. This is further exemplified by the high levels of long term debt, forcing Verizon to sell assets to fund payments loan payments. Unusual Expenses We decided to forecast unusual expenses and to include them in our NOPLAT calculation because we believe for them to be a foreseeable and necessary part of operations. The unusual expense is comprised of employee pension payments and litigation expenses. Because of the effects of the regulatory environment on the telecom industry, it is important to factor in expected litigation expenses into NOPLAT calculations. Also, because of recent FCC net neutrality regulations and potential lawsuits with entertainment companies regarding FiOS video services, we foresee definite increased litigation expenses. Discounted Cash Flow and Economic Profit Since we are using a changing WACC, our discounted cash flow and economic profit intrinsic share value calculations will not equal. Using our calculated value drivers, we were able to determine free cash flows to represent funds available to expand the business. We proceeded to discount these cash flows to year 2014, and then adjusted the cash flows to represent 3 months of elapsed time. According to the discounted cash flow model, the intrinsic share value of Verizon is $76.32. Our calculations of the Economic Profit model revealed the intrinsic share value to be similar at $77.74. This means that our model determines that Verizon is currently undervalued by 65%. We believe that free cash flows will decrease then increase slightly as Verizon reaches

steady state. The increase in free cash flows during 2018 is attributed 3.04% increase in sales. We believe sales will increase during this particular year because we believe Verizon will experience the full effects of the Verizon Edge program. Verizon Edge is entices customers to upgrade sooner or to buy more products. We project for this project to have the largest impact on revenues in 2018. Dividend Discount Model The DDM, which is a function of the income statement, derives the intrinsic share value by forecasting dividend growth and discounting it by the cost of equity. Our DDM model valued Verizon at $154.08 after a partial year adjustment. Because of the above average CV growth in EPS, CV ROE and P/E multiple we do not believe this is an accurate representation of the intrinsic value. These high values are largely an effect of the Vodafone minority interest purchase in 2013. We forecasted dividends to grow at 3.46% each year which is consistent, yet bullish, with historical averages of 2.5-3.5% and in conjunction with Verizon company guidance. We believe that an increase in sales combined with a decrease in amortization and interest expense will have a positive impact on EPS, which is reflected in 4.66% growth in EPS in 2019. We believe this growth rate is justified by the 9.43% profit margin in 2019. This forecast is also skewed, and thus inaccurate because of retained earnings. The CV ROE rate of 45.48%, which appears to be high, is largely driven by growth in retained earnings. Since 2014, Verizon does not have any outstanding stock option plans, but it did announce plans to do a $5 billion share repurchase. This reduced the shares outstanding by only 101,235,067 shares. Also since 2013, when the effects of the Vodafone purchase were felt, Verizon saw a 70% reduction in shares outstanding. The significantly decreased shareholders’ equity accounts are attributing to the high CV ROE. Therefore the growth in dividends, capital expenditures and net income are the underlying factors growing the CV ROE. Due to the changing debt levels, we have forecasted a changing cost of equity because once the debt levels change the default risk which pertains to the beta calculation will decrease. Therefore we have forecasted for beta to decrease which will effectively decrease our cost of equity to 5.91% in 2019. Relative P/E This valuation compares the P/E ratio of Verizon with industry competitors to determine if the valuation is consistent with the market. We chose AT&T, China Mobile Limited, Telefonica Brasil, Deutsch Telekom AG, T-Mobile, Vodafone, and Nippon Telegraph and Telephone Corp because these companies have similar size and industry focus when compared to Verizon. The P/E estimate is largely a reflection of our EPS estimate which is primarily

Important disclosures appear on the last page of this report.

P a g e | 14

comprised of our revenue estimates. The Relative P/E model price of $55.64 reflects the high EPS due to net income increases in 2015 and 2016. Verizon’s P/E multiple, 19.8, was higher than AT&T and China Mobile Limited, although it was consistent with the industry average for 2015 of 22.3. This may signal that investors are expecting high growth, and we believe our industry and company revenue forecasts uphold that Verizon will continue to grow until 2019.

The impact of the change in two variables is demonstrated through a sensitivity analysis in regard to the intrinsic value of an equity. Within our examination, we conducted four sensitivity analyses to measure the impact on Verizon in response to a change in CV ROIC with CV WACC, the tax rate and the risk free rate, the beta and the equity market risk premium, and the COGS percent of sales with the SGA expense percent of sales. CV ROIC vs. CV WACC The WACC is used to discount both the FCF and the Economic Profit to obtain a present value amount. WACC has an inverse relationship with stock price, as when WACC raises the intrinsic value of the stock lowers. The continuing value of the ROIC is the percentage assumed to indefinitely continue to return on project investments. The model’s assumptions rest on a projected WACC for Verizon is 4.95% and the anticipated CV for ROIC is 13.43%. A 10 basis point movement of the WACC holding the CV ROIC constant results in a movement of $2.28 either direction, an increase in price with a decrease in WACC. A 10 basis point movement of the CV ROIC holding the WACC constant results in a movement of $0.06, with an increase in price along with a higher ROIC. Tax Rate vs. Risk Free Rate This sensitivity chart analyzes the impact of the tax rate in response to the risk free rate. The two values are influential in the WACC calculation as the net income and several other variables such as tax shield are altered with a change. This emphasizes the advantage of lowering the tax rate for Verizon to benefit the price, and the risk free rate’s contribution to the WACC. The tax rate for Verizon is assumed to be 37.70% and the risk free rate has been found to be 2.51%. A 1% change in the tax rate while holding the risk free rate constant changes the price by $1.20, with the increase being from a lower tax rate. A 10 basis point movement of the risk free rate holding the tax constant results in a movement of $1.77 and $1.84, with the increase in price along with the higher risk free rate. Beta vs. Equity Market Risk Premium Our third sensitivity analysis explored the impact of the equity market risk premium in comparison to beta on the intrinsic value of Verizon. The cost of equity for WACC was determined through the CAPM, which is changed with

an alteration of the equity risk premium. As Verizon is a telecommunications company, the beta and correlation is typically moderately close to that of the market. In our analysis, we used a beta value of .62 for Verizon and a market risk premium of 5.67%. With a change in beta of .1 while holding the equity MRP constant, the price changes $8.95 with an increase in beta leading to a lower price. In holding the beta constant and manipulating the equity MRP by 10 basis points, the price changes by $1.07 with an increase in MRP leading to a lower price. COGS/Sales vs. SGA/Sales Lastly, we looked at the COGS values (COGS/Sales) in comparison to the SGA value (SGA/Sales). This pair is very influential in determining the intrinsic stock value for Verizon as sales is the main driver of the two. Also, this shows the impact that such expenses have on the bottom line and price. By purely holding the COGS/sales constant and raising the SGA by .10%, the intrinsic value of the stock changes by $0.49. The price increases with a lower SGA value and decreases with a higher SGA value. Holding the SGA/sales constant a .10% change in COGS/sales results in a change in intrinsic value of $0.49. The price decreases with a higher COGS and increases with a lower COGS. This demonstrates that it is necessary to monitor and minimize COGS and SGA as a percentage of sales.

Sensitivity Analysis

Important disclosures appear on the last page of this report.

P a g e | 15

I "What Is GDP and Why Is It so Important to Economists and Investors?" Investopedia. 28 Mar. 2005. http://www.investopedia.com/ask/answers/199.asp II "Gross Domestic Product (GDP) Graph." Bureau of Economic Analysis. https://www.bea.gov/newsreleases/national/gdp/gdp_glance.htm III "Global Economic Prospects." Country and Region Specific Forecasts and Data. World Bank. http://www.worldbank.org/en/publication/global-economic-prospects/data IV "Interest Rate Scenarios & Stock Market Performance." Pragmatic Capitalism. http://www.pragcap.com/interest-rate-scenarios-stock-market-performance V "Resource Center Interest Rates." US Department of the Treasury. http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/Historic-LongTerm-Rate-Data-Visualization.aspx VI "Bonds and Rates." CNNMoney. Cable News Network, n.d. Web. http://money.cnn.com/data/bonds/ VII "Fed Stays 'patient' but Rate Hikes Are Coming." CNNMoney. Cable News Network. http://money.cnn.com/2015/01/28/investing/federal-reserve-statement-patient/index.html VIII "The Big Three Economic Indicators." Discover Options, n.d. Web. https://discoveroptions.com/mixed/content/education/articles/bigthreeeconomicindicators.html IX "Is the Consumer Price Index (CPI) the Best Measure of Inflation?" U.S. Bureau of Labor Statistics. U.S. Bureau of Labor Statistics, n.d. Web. www.bls.gov/dolfaq/bls_ques6.htm X Consumer Price Index – March 2015. Bureau of Labor Statistics. (n.d.): n. pag. Web. http://www.bls.gov/news.release/pdf/cpi.pdf XI "2015 Outlook: Telecommunication Services - Fidelity." 2015 Outlook: Telecommunication Services - Fidelity. N.p., 17 Dec. 2014. Web. https://www.fidelity.com/viewpoints/investing-ideas/2015-outlook-telecom XII “Net Neutrality” Congress. Gov. https://www.congress.gov/search?q={%22source%22%3A%22legislation%22%2C%22congress%22%3A[%22114%2

2%2C113]%2C%22search%22%3A%22telecommunications%22} XIII “S&P 500 Telecommunication Services” S&P Dow Jones Indices. http://us.spindices.com/indices/equity/sp-500-telecommunication-services-sector/ XIV "The Impact of Mobile Telephony on Economic Growth | Deloitte UK." Deloitte United Kingdom. N.p., n.d. Web. http://www2.deloitte.com/uk/en/pages/technology-media-and-telecommunications/articles/impact-of-mobile-telephony-on-economic-growth.html XV "Telecom Industry." Info.Shine. N.p., n.d. Web. 21 Apr. 2015. http://info.shine.com/industry/telecom/9.html

XVI"Telecommunications Sector" Investopedia. 28 Mar. 2005. http://www.investopedia.com/features/industryhandbook/telecom.asp

XVII Verizon Communications Inc. (n.d.). Retrieved February 18, 2015, from http://www.netadvantage.standardandpoors.com/NASApp/NetAdvantage/showIndustrySurvey.do?task=showIndustrySurvey&type=pdf&code=twn

XIX “Wireless Telecommunications Carriers in the US”. IBIS World. Web. http://clients1.ibisworld.com/reports/us/industry/default.aspx?entid=1268

XX “Wired Telecommunications Carriers in the US”. IBIS World. Web. http://clients1.ibisworld.com/reports/us/industry/default.aspx?entid=1267 XXIBrodkin, Jon. "Verizon: Net Neutrality Rules." N.p., n.d. Web. http://arstechnica.com/tech-policy/2014/11/verizon-isps-will-sue-unless-government-adopts-weaker-net-neutrality-rules/ XXII2014 Annual Report. Verizon. http://www.verizon.com/about/sites/default/files/annual/verizon-annual-report-2014.html XXIII "S&P Capital IQ NetAdvantage." S&P Capital IQ NetAdvantage. N.p., n.d. Web. 21 Apr. 2015. http://www.netadvantage.standardandpoors.com/NASApp/NetAdvantage/showIndustrySurvey.do?task=showIndustrySurvey&type=pdf&code=twn XXIV "S&P Capital IQ NetAdvantage." S&P Capital IQ NetAdvantage. N.p., n.d. Web. 21 Apr. 2015. http://www.netadvantage.standardandpoors.com/NASApp/NetAdvantage/showIndustrySurvey.do?task=showIndustrySurvey&type=pdf&code=twn XXV VZ:US. FactSet. Web. 21 Apr. 2015. www.factset.com

Sources

Important disclosures appear on the last page of this report.

P a g e | 16

XXVI "The Industry Handbook: The Telecommunications Industry | Investopedia." Investopedia. N.p., 07 Jan. 2004. Web. 21 Apr. 2015. http://www.investopedia.com/features/industryhandbook/telecom.asp XXVII “2014 Telecommunications Outlook” Deloitte. Web. http://www2.deloitte.com/us/en/pages/technology-media-and-telecommunications/articles/2014-telecommunications-outlook.html XXVIII Verizon. Thompson One. https://views.thomsonone.com/gateway/PORTALSxIBxDOCUMENTVIEWER.aspx?PurchaseURLDocument=true&DocId=69174638&loadInfoFromUDW=true&mode=plain&useWatermark=true&windowName=ResearchDocumentViewer&appName=T1_AMRWeb XXIX "S&P Capital IQ NetAdvantage." S&P Capital IQ NetAdvantage. N.p., n.d. Web. 21 Apr. 2015. http://www.netadvantage.standardandpoors.com/NASApp/NetAdvantage/showIndustrySurvey.do?task=showIndustrySurvey&type=pdf&code=twn XXX MarketLine Advantage, “Verizon Communications Inc.: Business Description”. 16 Jan. 2015 from http://advantage.marketline.com/Product?pid=B42DE9BE-6752-4A31-9D5C-C08EBDA99233&view=BusinessDescription XXXI Levy, Adam. "Why AT&T and Verizon Communications Are Selling Over $12.6 Billion Worth of Assets." N.p., n.d. Web. 21 Apr. 2015.http://www.fool.com/investing/general/2015/02/15/why-att-and-verizon-communications-are-selling-ove.aspx XXXII. MarketLine Advantage, “Verizon Communications Inc.: Major Products and Services”. 16 Jan. 2015 from http://advantage.marketline.com/Product?pid=B42DE9BE-6752-4A31-9D5C-C08EBDA99233&view=MajorProductsServices XXXIII SEC, “Verizon Communications Inc. Form 10-K”, 27 Feb. 2014 from http://www.sec.gov/Archives/edgar/data/732712/000119312512077846/d257450d10k.htm (Net Advantage, Verizon, Overview). XXXIV Verizon Communications Inc. (n.d.). Retrieved February 18, 2015, from http://www.netadvantage.standardandpoors.com.proxy.lib.uiowa.edu/NASApp/NetAdvantage/showPublication.do?dataPosition=0&SPID=8290 XXXV Moritz, Scott. "Verizon's Tab in Airwave Auction Makes Asset Sales More Urgent." Bloomberg.com. Bloomberg, 21 Jan. 2015. Web. 16 Feb. 2015

XXXVI Verizon Spectrum Plans. Yahoo! Finance. http://finance.yahoo.com/video/faber-report-verizons-spectrum-plan-144200133.html XXXVIII"Verizon Says It Doesn't Need to Worry about Big Spectrum Purchases Anymore." The Verge. N.p., 17 Feb. 2015. Web. 21 Apr. 2015. http://www.theverge.com/2015/2/17/8052467/verizon-not-worried-about-spectrum-acquisitions XL Brodkin, Jon. "Verizon: ISPs Will Sue Unless Government Adopts Weaker Net Neutrality Rules." ArtsTechnica. N.p., 4 Nov. 2014. Web. 15 Feb. 2015. XLI Spectrum Dashboard. (n.d.). Retrieved February 18, 2015, from http://reboot.fcc.gov/reform/systems/spectrum-dashboard/about XLII Mobile Technology Fact Sheet. Pew Research. http://www.pewinternet.org/fact-sheets/mobile-technology-fact-sheet/ XLIII 2014 Annual Report. Verizon. http://www.verizon.com/about/sites/default/files/annual/verizon-annual-report-2014.html XLIV Market Risk Premium. http://pages.stern.nyu.edu/~adamodar/

Important disclosures appear on the last page of this report.

P a g e | 17

Important Disclaimer This report was created by students enrolled in the Applied Equity Valuation (FIN:4250) class at the University of Iowa. The report was originally created to offer an internal investment recommendation for the University of Iowa Krause Fund and its advisory board. The report also provides potential employers and other interested parties an example of the students’ skills, knowledge and abilities. Members of the Krause Fund are not registered investment advisors, brokers or officially licensed financial professionals. The investment advice contained in this report does not represent an offer or solicitation to buy or sell any of the securities mentioned. Unless otherwise noted, facts and figures included in this report are from publicly available sources. This report is not a complete compilation of data, and its accuracy is not guaranteed. From time to time, the University of Iowa, its faculty, staff, students, or the Krause Fund may hold a financial interest in the companies mentioned in this report.

Important disclosures appear on the last page of this report.

Verizon Communications, IncRevenue DecompositionAll figures in billions of U.S. Dollar

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019CV

Wireless SubscribersConnections ('000)

Total connections 98.23 102.80 108.21 113.92 119.94 126.30 133.01 140.09YoY Growth -8.88% 4.65% 5.26% 5.28% 5.29% 5.30% 5.31% 5.32%

Retail postpaid connections 92.53 96.75 102.08 107.73 113.71 120.03 126.72 133.78YoY Growth 5.89% 4.56% 5.51% 5.52% 5.54% 5.55% 5.56% 5.57%

Churn Rate:Total connections 1.19% 1.27% 1.33% 1.39% 1.46% 1.54% 1.62% 1.71%

YoY Growth -5.56% 6.72% 4.72% 4.82% 4.88% 5.08% 5.28% 5.48%Retail postpaid connections 0.91% 0.97% 1.04% 1.11% 1.19% 1.28% 1.38% 1.48%

YoY Growth -4.40% 6.19% 6.73% 6.93% 7.13% 7.33% 7.53% 7.73%Account Statistics:

Retail postpaid ARPU 0.14 0.15 0.16 0.16 0.17 0.17 0.18 0.18 YoY Growth 173.37% 6.87% 3.85% 1.82% 1.82% 2.91% 2.91% 2.91%

Retail postpaid accounts ('000) 35.06 35.08 35.62 36.33 37.05 38.24 39.46 40.73 YoY Growth -15.40% 0.07% 1.52% 2.00% 2.00% 3.20% 3.20% 3.20%

Retail postpaid connections per account 2.64 2.76 2.87 2.99 3.12 3.25 3.38 3.52YoY Growth 0.22% 4.55% 3.99% 4.27% 4.13% 4.20% 4.16% 4.18%

Wireless RevenuesRetail service 61.44 66.33 69.50 72.82 76.28 79.91 83.71 87.68

YoY Growth 8.44% 7.97% 4.77% 4.77% 4.76% 4.76% 4.75% 4.74%Other service 2.29 2.70 3.13 3.39 3.67 4.14 4.60 5.07

YoY Growth -8.17% 17.71% 15.93% 8.26% 8.43% 12.58% 11.30% 10.14%Total Service Revenue 63.73 69.03 72.63 76.20 79.96 84.05 88.31 92.74

YoY Growth 7.74% 8.32% 5.21% 4.92% 4.93% 5.12% 5.07% 5.02%Equipment 8.02 8.11 10.96 11.68 12.14 12.35 12.39 11.56

YoY Growth 7.59% 1.10% 35.11% 35.20% 25.20% 15.20% 5.20% -4.80%Other 4.11 3.88 4.06 4.24 4.44 4.64 4.86 5.09

YoY Growth 16.16% -5.67% 4.59% 4.60% 4.61% 4.62% 4.63% 4.64%Equipment and Other 12.14 11.99 15.02 15.92 16.57 16.99 17.25 16.64

YoY Growth 10.35% -1.19% 25.24% 6.03% 4.10% 2.53% 1.52% -3.54%Total Wireless Operating Revenues 75.87 81.02 87.65 92.12 96.53 101.04 105.56 109.39

YoY Growth 8.14% 6.79% 8.17% 5.11% 4.78% 4.67% 4.47% 3.6219%

Wireline SubscribersConnections ('000)

Total voice connections 22.50 21.09 19.80 18.48 17.16 15.84 14.54 13.27 YoY Growth -6.77% -6.30% -6.12% -6.64% -7.16% -7.68% -8.20% -8.72%

Total Broadband connections 8.80 9.02 9.21 9.38 9.55 9.69 9.83 9.95 YoY Growth 1.44% 2.50% 2.11% 1.93% 1.74% 1.56% 1.38% 1.20%

FiOS Internet subscribers 5.42 6.07 6.62 7.18 7.75 8.32 8.90 9.48 YoY Growth 12.60% 11.95% 8.96% 8.46% 7.96% 7.46% 6.96% 6.46%

FiOS Video subscribers 4.73 5.26 5.65 6.01 6.33 6.61 6.83 6.99 YoY Growth 13.25% 11.34% 7.35% 6.35% 5.35% 4.35% 3.35% 2.35%

Wireline RevenuesConsumer Retail 14.15 14.84 15.58 15.97 16.17 16.27 16.32 16.35

YoY Growth 3.96% 4.93% 4.99% 2.50% 1.25% 0.62% 0.31% 0.16%Small Business 2.60 2.54 2.46 2.37 2.26 2.12 1.97 1.79

YoY Growth -4.76% -2.31% -3.03% -3.79% -4.73% -5.92% -7.40% -9.25%Mass Markets 16.75 17.38 18.05 18.34 18.43 18.40 18.29 18.13

YoY Growth 2.50% 3.80% 3.82% 3.06% 2.44% 1.96% 1.56% 1.25%Strategic services 7.74 8.14 8.33 8.42 8.47 8.49 8.51 8.51

YoY Growth 1.71% 5.21% 2.29% 1.14% 0.57% 0.29% 0.14% 0.07%Core 6.84 6.04 5.36 5.37 4.88 4.47 4.14 3.86

YoY Growth -14.66% -11.67% -11.32% -10.19% -9.17% -8.25% -7.43% -6.68%Global Enterprise 14.58 14.18 13.68 13.79 13.35 12.97 12.65 12.38

YoY Growth -6.69% -2.71% -3.51% -4.04% -4.44% -4.89% -5.38% -5.91%Global Wholesale 7.09 6.59 6.22 5.82 5.40 4.98 4.55 4.12

YoY Growth -11.02% -7.05% -5.64% -6.49% -7.14% -7.85% -8.64% -9.50%Other/Historical Segments 0.53 0.47 0.48 0.48 0.48 0.49 0.49 0.49

YoY Growth -29.60% -11.93% 2.37% 1.18% 0.59% 0.30% 0.15% 0.07%Total Wired Operating Revenues 38.95 38.62 38.43 38.43 37.66 36.83 35.97 35.11

YoY Growth -4.27% -0.82% -0.50% 0.01% -2.00% -2.21% -2.32% -2.39%

Total Operating Revenues 114.81 119.65 126.08 130.56 134.19 137.87 141.54 144.50 YoY Growth 3.59% 4.21% 5.37% 3.55% 2.79% 2.74% 2.66% 2.09%

AssumptionsReal GDP Growth 2.30% 2.20% 3.00% 3.20% 2.00% 2.40% 2.60% 3.20%US Population Growth 0.74% 0.72% 0.72% 0.72% 0.72% 0.62% 0.62% 0.62%Inflation 2.10% 1.50% 1.60% 2.00% 2.00% 3.20% 3.20% 3.20%Market Share 34.00% 31.00% 34.00% 34.00% 34.00% 34.00% 34.00% 34.00%

Verizon Communications, IncIncome StatementAll figures in billions of U.S. Dollar

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019CVSales 115.85 120.55 127.08 130.56 134.19 137.87 141.54 144.50

COGS excluding D&A 46.24 44.89 49.90 50.66 51.58 53.55 54.76 55.86

Depreciation 14.92 15.02 14.97 14.87 14.91 15.16 15.50 15.76

Amortization of Intangibles 1.54 1.59 1.57 1.43 1.19 1.01 0.84 0.61

Gross Income 53.15 59.06 60.64 63.60 66.51 68.15 70.43 72.27SG&A Expense 32.15 33.60 33.91 35.65 36.50 37.43 38.50 39.41EBIT (Operating Income) 21.01 25.46 26.73 27.95 30.02 30.72 31.93 32.85Nonoperating Income - Net 0.41 0.25 1.29 0 0 0 0 0Interest Expense 2.57 2.67 4.92 5.52 5.30 5.27 4.96 4.89Unusual Expense - Net 8.95 (6.23) 7.84 5.64 5.68 5.71 5.75 5.78Pretax Income 9.90 29.28 15.27 16.79 19.04 19.74 21.21 22.19Income Taxes (0.66) 5.73 3.31 6.33 7.18 7.44 8.00 8.36Income Tax Credits 0.01 -- -- 0 0 0 0 0Consolidated Net Income 10.56 23.55 11.96 10.46 11.86 12.30 13.22 13.82Minority Interest 9.68 12.05 2.33 0.20 0.20 0.20 0.20 0.20Net Income 0.88 11.50 9.63 10.26 11.66 12.10 13.02 13.62

EPS (Dilutive) 0.31 4.00 2.42 2.50 2.88 2.98 3.21 3.36Total Shares Outstanding 2.86 2.86 4.15 4.05 4.05 4.05 4.05 4.05Dividends per Share 2.03 2.09 2.16 2.20 2.28 2.35 2.44 2.52

Dividend Payout Ratio 6.55 0.52 0.89 -1.79 0.30 0.41 0.98 1.15

EBITDA 37.47 42.06 43.27 44.25 46.12 46.90 48.27 49.23EBIT 21.01 25.46 26.73 27.95 30.02 30.72 31.93 32.85Depreciation & Amortization Expense 16.46 16.61 16.53 16.29 16.10 16.17 16.34 16.38

Verizon Communications, IncBalance SheetAll figures in billions of U.S. Dollar

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019CVAssets

Cash Only 3.09 53.53 10.60 6.63 9.21 6.67 6.37 3.99

Total Short Term Investments 0.47 0.60 0.56 0.58 0.62 0.62 0.64 0.66

Short-Term Receivables 12.60 12.44 13.99 9.60 10.10 10.56 11.14 11.74

Inventories 1.08 1.02 1.15 1.07 1.10 1.12 1.11 1.10Other Current Assets 4.00 3.41 3.32 3.70 3.57 3.63 3.73 3.72Total Current Assets 21.24 70.99 29.62 21.58 24.61 22.60 22.99 21.20PPE 209.58 220.87 230.51 246.17 262.28 278.82 295.81 313.15

Accumulated Depreciation 120.93 131.91 140.56 155.43 170.33 185.50 201.00 216.76Net Property, Plant & Equipment 88.64 88.96 89.95 90.75 91.94 93.32 94.81 96.39Total Investments and Advances 3.40 3.43 0.80 2.97 2.86 2.74 2.61 2.44Long-Term Note Receivable 1.46 0.00 0.00 0 0 0 0 0Net Intangible Assets 107.82 106.18 105.71 107.14 108.33 109.34 110.18 110.79

Net Goodwill 24.14 24.63 24.64 24.64 24.64 24.64 24.64 24.64Net Other Intangibles 83.68 81.55 81.07 82.50 83.69 84.70 85.54 86.15

Other Assets 2.67 4.54 6.63 4.91 5.70 6.08 5.86 6.16Total Assets 225.22 274.10 232.71 227.35 233.44 234.08 236.45 236.99

Liabilities & Shareholders' Equity

ST Debt & Curr. Portion LT Debt 4.37 3.93 2.74 2.38 6.11 3.91 6.53 6.09Accounts Payable 4.74 4.95 5.60 5.55 5.78 6.03 6.17 6.35Dividends Payable 1.49 1.54 2.31 2.27 2.16 2.37 2.39 2.42

Accrued Payroll 5.01 4.79 4.13 5.02 4.95 4.96 5.25 5.30

Miscellaneous Current Liabilities 11.35 11.83 13.29 13.09 13.55 14.06 14.30 14.64

Total Current Liabilities 26.96 27.05 28.06 28.31 32.56 31.33 34.65 34.80

Long-Term Debt 47.62 89.66 110.54 106.36 102.18 98.01 93.83 89.66Provision for Risks & Charges 34.35 27.68 33.28 27.65 30.67 33.87 33.33 34.20Deferred Tax Liabilities 24.68 28.64 41.58 45.36 45.97 46.14 46.48 46.70Other Liabilities 6.09 5.65 5.57 6.24 6.20 6.33 6.60 6.68Total Liabilities 139.69 178.68 219.03 213.93 217.58 215.68 214.90 212.04

Common Equity 33.16 38.84 11.58 11.58 11.58 11.58 11.58 11.58Retained Earnings (3.73) 1.78 2.45 3.57 6.01 8.55 11.69 15.10ESOP Debt Guarantee 0.44 0.42 0.42 0.42 0.42 0.42 0.42 0.42Cumulative Translation Adjustment/Unrealized For. Exch. Gain 0.88 0.97 (0.43) (0.43) (0.43) (0.43) (0.43) (0.43)

Unrealized Gain/Loss Marketable Securities 0.10 0.12 0.11 0.11 0.11 0.11 0.11 0.11Other Appropriated Reserves 1.25 1.28 1.43 1.43 1.43 1.43 1.43 1.43Treasury Stock (4.07) (3.96) (3.26) 1.74 1.74 1.74 1.74 1.74Total Shareholders' Equity 33.16 38.84 12.30 18.42 20.86 23.41 26.55 29.95Accumulated Minority Interest 52.38 56.58 1.38 0 0 0 0 0Total Equity 85.53 95.42 13.68 18.42 20.86 23.41 26.55 29.95Total Liabilities & Shareholders' Equity 225.22 274.10 232.71 232.35 238.44 239.09 241.45 241.99

Verizon Communications, IncCash Flow StatementAll figures in billions of U.S. Dollar

Fiscal Years Ending Dec. 31 2012 2013 2014

Net Income / Starting Line 10.56 23.55 11.96

Depreciation, Depletion & Amortization 16.46 16.61 16.53

Depreciation and Depletion 14.92 15.02 14.97

Amortization of Intangible Assets 1.54 1.59 1.57

Deferred Taxes & Investment Tax Credit (0.95) 5.79 (0.09)

Other Funds 5.82 (7.12) 7.48

Funds from Operations 31.89 38.82 35.88

Extraordinaries -- -- --Changes in Working Capital (0.40) (0.01) (5.25)

Receivables (1.72) (0.84) (2.75)

Inventories (0.14) 0.06 (0.13)

Accounts Payable 1.14 0.93 1.41

Other Assets/Liabilities 0.31 (0.14) (3.78)

Net Operating Cash Flow 31.49 38.82 30.63

Capital Expenditures (20.11) (17.18) (17.55)

Net Assets from Acquisitions 0.00 (0.49) (0.18)

Sale of Fixed Assets & Businesses 0.00 -- 0.12

Purchase/Sale of Investments (0.89) 0.06 0.00

Other Funds 0.49 2.78 1.75

Net Investing Cash Flow (20.50) (14.83) (15.86)

Cash Dividends Paid (5.23) (5.94) (7.80)

Change in Capital Stock 0.32 (0.07) 0.03

Repurchase of Common & Preferred Stk. 0.00 (0.15) 0.00

Sale of Common & Preferred Stock 0.32 0.09 0.03

Issuance/Reduction of Debt, Net (3.35) 40.86 12.82

Change in Current Debt (1.44) (0.14) (0.48)

Change in Long-Term Debt (1.91) 41.00 13.30

Issuance of Long-Term Debt 4.49 49.17 30.97

Reduction in Long-Term Debt (6.40) (8.16) (17.67)

Other Funds (12.99) (8.41) (62.76)

Other Uses (12.99) (8.41) (62.76)

Other Sources -- -- 0.00

Net Financing Cash Flow (21.25) 26.45 (57.71)

Net Change in Cash (10.27) 50.44 (42.93)

Cash at Beginning of Period 13.36 3.09 53.53

Cash at End of Period 3.09 53.53 10.60

Free Cash Flow 15.31 22.21 13.44

Operating Activities

Investing Activities

Financing Activities

Verizon Communications, IncCash Flow StatementAll figures in billions of U.S. Dollar

Fiscal Years Ending Dec. 31 2015E 2016E 2017E 2018E 2019CVOperating Activities

Net Income / Starting Line 10.26 11.66 12.10 13.02 13.62

Adjustments to reconcile net income to cash from operating activities:

Depreciation 14.87 14.91 15.16 15.50 15.76

Amortization 1.43 1.19 1.01 0.84 0.61

Change in deferred tax liabilities 3.79 0.61 0.17 0.35 0.21Changes in working capital accounts:

Change in receivables 4.39 -0.50 -0.47 -0.57 -0.60Change in inventories 0.08 -0.03 -0.01 0.01 0.01Change in other current assets -0.38 0.13 -0.06 -0.10 0.01Change in accounts payable -0.05 0.23 0.25 0.14 0.18Change in accrued payroll 0.89 -0.07 0.01 0.29 0.04Change in miscellaneous current liabilities -0.21 0.47 0.50 0.25 0.34Change in dividends payable -0.04 -0.11 0.21 0.02 0.03Other Liabilites 0.66 -0.04 0.14 0.27 0.08Net Operating Cash Flow 35.71 28.44 29.01 30.01 30.30

Investing Activities

(Increase) Decrease in short-term investments -0.03 -0.03 0.00 -0.02 -0.02(Increase) Decrease in long-term investments -2.17 0.11 0.12 0.13 0.17Capital expenditures -15.67 -16.10 -16.54 -16.98 -17.34Net other intangibles -2.86 -2.39 -2.02 -1.69 -1.23(Increase) Decrease in other assets 1.72 -0.79 -0.38 0.22 -0.30Business acquisitions

Net Investing Cash Flow -19.00 -19.20 -18.82 -18.34 -18.72

Financing Activities

LT Debt -4.18 -4.18 -4.18 -4.18 -4.18Changes in current portion of long-term debt -0.36 3.74 -2.20 2.62 -0.44Proceeds from issuance (payment) of long term debt -5.63 3.02 3.20 -0.54 0.87Change in minority interest -1.38 0.00 0.00 0.00 0.00Payment of Dividends -9.14 -9.23 -9.55 -9.88 -10.22Net Financing Cash Flow -20.68 -6.65 -12.73 -11.97 -13.97

Net Change in Cash -3.97 2.59 -2.54 -0.30 -2.38Cash at Beginning of Period 10.60 6.63 9.21 6.67 6.37Cash at End of Period 6.63 9.21 6.67 6.37 3.99

Verizon Communications, IncCommon Size Balance SheetAll figures in billions of U.S. DollarMeasure as a percentage of total sales

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019CVAssets

Cash Only 2.67% 44.40% 8.34% 5.07% 6.86% 4.84% 4.50% 2.76%

Total Short Term Investments 0.41% 0.50% 0.44% 0.45% 0.46% 0.45% 0.45% 0.45%

Short-Term Receivables 10.87% 10.32% 11.01% 7.35% 7.53% 7.66% 7.87% 8.13%

Inventories 0.93% 0.85% 0.91% 0.82% 0.82% 0.81% 0.78% 0.76%

Other Current Assets 3.45% 2.83% 2.62% 2.84% 2.66% 2.63% 2.64% 2.58%

Total Current Assets 18.33% 58.89% 23.31% 16.53% 18.34% 16.39% 16.24% 14.67%

Net Property, Plant & Equipment 76.52% 73.79% 70.78% 69.51% 68.52% 67.69% 66.99% 66.70%Total Investments and Advances 2.94% 2.85% 0.63% 2.28% 2.13% 1.99% 1.84% 1.69%Long-Term Note Receivable 1.26% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%Intangible Assets 93.07% 88.08% 83.18% 82.06% 80.73% 79.30% 77.85% 76.67%Net Goodwill 20.84% 20.43% 19.39% 18.87% 18.36% 17.87% 17.41% 17.05%Net Other Intangibles 72.23% 67.65% 63.79% 63.19% 62.36% 61.43% 60.44% 59.62%Other Assets 2.31% 3.76% 5.22% 3.76% 4.25% 4.41% 4.14% 4.26%Total Assets 194.41% 227.37% 183.12% 174.14% 173.96% 169.78% 167.06% 164.01%

Liabilities & Shareholders' Equity

ST Debt & Curr. Portion LT Debt 3.77% 3.26% 2.15% 1.82% 4.56% 2.84% 4.61% 4.21%Accounts Payable 4.09% 4.11% 4.41% 4.25% 4.31% 4.37% 4.36% 4.40%Dividends Payable 1.29% 1.28% 1.82% 1.74% 1.61% 1.72% 1.69% 1.67%

Accrued Payroll 4.32% 3.97% 3.25% 3.85% 3.69% 3.60% 3.71% 3.67%

Miscellaneous Current Liabilities 9.79% 9.82% 10.46% 10.02% 10.10% 10.19% 10.11% 10.13%

Total Current Liabilities 23.27% 22.44% 22.08% 21.69% 24.26% 22.72% 24.48% 24.08%

Long-Term Debt 41.10% 74.37% 86.98% 81.47% 76.15% 71.09% 66.30% 62.05%Provision for Risks & Charges 29.65% 22.96% 26.19% 21.18% 22.86% 24.57% 23.55% 23.67%Deferred Tax Liabilities 21.30% 23.76% 32.72% 34.75% 34.26% 33.46% 32.84% 32.32%Other Liabilities 5.26% 4.69% 4.39% 4.78% 4.62% 4.59% 4.66% 4.63%Total Liabilities 120.58% 148.22% 172.36% 163.86% 162.14% 156.43% 151.84% 146.74%

Common Equity 28.62% 32.22% 9.11% 8.87% 8.63% 8.40% 8.18% 8.01%Retained Earnings -3.22% 1.48% 1.93% 2.73% 4.48% 6.20% 8.26% 10.45%ESOP Debt Guarantee 0.38% 0.35% 0.33% 0.32% 0.32% 0.31% 0.30% 0.29%Cumulative Translation Adjustment/Unrealized For. Exch. Gain 0.76% 0.80% -0.34% -0.33% -0.32% -0.31% -0.30% -0.30%Unrealized Gain/Loss Marketable Securities 0.09% 0.10% 0.09% 0.09% 0.08% 0.08% 0.08% 0.08%Other Appropriated Reserves 1.08% 1.06% 1.12% 1.09% 1.06% 1.04% 1.01% 0.99%Treasury Stock -3.51% -3.29% -2.57% 1.33% 1.29% 1.26% 1.23% 1.20%Total Shareholders' Equity 28.62% 32.22% 9.68% 14.11% 15.54% 16.98% 18.76% 20.73%Accumulated Minority Interest 45.21% 46.93% 1.08% 0.00% 0.00% 0.00% 0.00% 0.00%Total Equity 73.83% 79.15% 10.76% 14.11% 15.54% 16.98% 18.76% 20.73%Total Liabilities & Shareholders' Equity 194.41% 227.37% 183.12% 177.97% 177.68% 173.41% 170.59% 167.47%

Verizon Communications, IncCommon Size Income StatementAll figures in billions of U.S. DollarMeasured as a percentage of sales

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019CVSales 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00%

COGS excluding D&A 39.91% 37.24% 39.27% 38.81% 38.44% 38.84% 38.69% 38.66%

Depreciation 12.88% 12.46% 11.78% 11.39% 11.11% 11.00% 10.95% 10.91%

Amortization of Intangibles 1.33% 1.32% 1.23% 1.09% 0.89% 0.73% 0.60% 0.42%

Gross Income 45.88% 48.99% 47.72% 48.71% 49.57% 49.43% 49.76% 50.01%

SG&A Expense 27.75% 27.87% 26.68% 27.30% 27.20% 27.15% 27.20% 27.27%

EBIT (Operating Income) 18.13% 21.12% 21.04% 21.41% 22.37% 22.28% 22.56% 22.74%

Nonoperating Income - Net 0.35% 0.21% 1.02% 0.00% 0.00% 0.00% 0.00% 0.00%

Interest Expense 2.22% 2.21% 3.87% 4.23% 3.95% 3.83% 3.51% 3.38%

Unusual Expense - Net 7.72% -5.17% 6.17% 6.66% 6.70% 6.75% 6.79% 6.82%

Pretax Income 8.54% 24.29% 12.02% 10.53% 11.72% 11.71% 12.26% 12.53%

Income Taxes -0.57% 4.75% 2.61% 4.85% 5.35% 5.40% 5.65% 5.79%

Income Tax Credits 0.01% - - - - - - -

Consolidated Net Income 9.11% 19.53% 9.41% 5.68% 6.37% 6.32% 6.61% 6.74%

Minority Interest 8.36% 10.00% 1.83% 0.16% 0.16% 0.16% 0.16% 0.16%

Net Income 0.76% 9.54% 7.57% 5.52% 6.21% 6.16% 6.45% 6.59%

Verizon Communications, IncValue Driver Estimation

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019CVMarginal Tax Rate 33.10% 37.10% 37.70% 37.70% 37.70% 37.70% 37.70% 37.70%Effective Tax Rate -6.67% 19.57% 21.70% 37.70% 37.70% 37.70% 37.70% 37.70%

NOPLATEBITA

Sales 115.85 120.55 127.08 130.56 134.19 137.87 141.54 144.50Cost of Goods Sold 46.24 44.89 49.90 50.66 51.58 53.55 54.76 55.86Depreciation 14.92 15.02 14.97 14.87 14.91 15.16 15.50 15.76Amortization of Intangibles 1.54 1.59 1.57 1.43 1.19 1.01 0.84 0.61SG&A Expenses 32.15 33.60 33.91 35.65 36.50 37.43 38.50 39.41Implied Interest on Operating Leases 0.03 0.03 0.49 0.02 0.02 0.02 0.02 0.02Unusual Expense 8.95 (6.23) 7.84 5.64 5.68 5.71 5.75 5.78

EBITA 12.09 31.72 19.39 22.33 24.36 25.03 26.20 27.10Less: Adjusted Taxes

Income Tax Provision -0.66 5.73 3.31 6.33 7.18 7.44 8.00 8.36Plus:Tax Shield on Interest Expense 0.85 0.99 1.85 2.08 2.00 1.99 1.87 1.84Plus: Tax shield on Lease Interest 0.03 0.77 0.02 0.02 0.02 0.02 0.02 0.02Less: Tax on Unusual Income 2.96 -2.31 2.96 2.13 2.14 2.15 2.17 2.18Less: Tax Non-Operating Income 0.14 0.09 0.49 0.00 0.00 0.00 0.00 0.00

Adjusted Taxes -2.87 9.71 1.74 6.31 7.06 7.30 7.72 8.05Change in Deferred Taxes

Deferred Tax End Period 24.68 28.64 41.58 45.36 45.97 46.14 46.48 46.70Deferred Tax Previous Period 25.06 24.68 28.64 41.58 45.36 45.97 46.14 46.48

Net Change in Deferred Tax Liabilities -0.38 3.96 12.94 3.79 0.61 0.17 0.35 0.21NOPLAT 14.58 25.98 30.58 19.81 17.91 17.90 18.82 19.26

Invested CapitalOperating Current Assets

Normal Cash 2.317 2.411 2.542 2.611 2.684 2.757 2.831 2.890Accounts Receivable 12.60 12.44 13.99 9.60 10.10 10.56 11.14 11.74Inventory 1.08 1.02 1.15 1.07 1.10 1.12 1.11 1.10Other Current Assets 4.00 3.41 3.32 3.70 3.57 3.63 3.73 3.72

Operating Current Assets 19.99 19.28 21.01 16.98 17.46 18.07 18.81 19.45Operating Current Liabilities

Accounts Payable 4.74 4.95 5.60 5.55 5.78 6.03 6.17 6.35Accrued Payroll 5.01 4.79 4.13 5.02 4.95 4.96 5.25 5.30Dividends Payable 1.49 1.54 2.31 2.27 2.16 2.37 2.39 2.42Other Current Liabilities 11.35 11.83 13.29 13.09 13.55 14.06 14.30 14.64

Operating Current Liabilities 22.59 23.12 25.33 25.93 26.45 27.42 28.12 28.71Net Operating Working Capital -2.60 -3.84 -4.32 -8.95 -8.99 -9.35 -9.31 -9.26

Plus: Net PPE 88.64 88.96 89.95 90.75 91.94 93.32 94.81 96.39Plus: Other Operating Assets

PV of Operating Leases 0.67 10.13 0.49 0.49 0.50 0.51 0.51 0.52Net Intangible Assets (Non-Goodwill) 83.68 81.55 81.07 82.50 83.69 84.70 85.54 86.15Other Assets 2.67 4.54 6.63 4.91 5.70 6.08 5.86 6.16

Plus: Other Operating Assets 87.02 96.21 88.18 87.90 89.89 91.28 91.91 92.84Less: Other Operating Liabilities

Provision for Risks/Charges 34.35 27.68 33.28 27.65 30.67 33.87 33.33 34.20Other Liabilities 6.09 5.65 5.57 6.24 6.20 6.33 6.60 6.68

Less: Other Operating Liabilities 40.44 33.34 38.85 33.89 36.87 40.21 39.93 40.88Invested Capital 132.62 147.99 134.96 135.81 135.98 135.05 137.48 139.08

ROICNOPLAT 14.58 25.98 30.58 19.81 17.91 17.90 18.82 19.26Beginning Invested Capital 126.40 132.62 147.99 134.96 135.81 135.98 135.05 137.48

ROIC 11.54% 19.59% 20.66% 14.68% 13.19% 13.17% 13.94% 14.01%

FCFNOPLAT 14.58 25.98 30.58 19.81 17.91 17.90 18.82 19.26Ending Invested Capital 132.62 147.99 134.96 135.81 135.98 135.05 137.48 139.08Beginning Invested Capital 126.40 132.62 147.99 134.96 135.81 135.98 135.05 137.48

FCF 8.35 10.61 43.61 18.97 17.74 18.82 16.40 17.66

EPBeginning Invested Capital 126.40 132.62 147.99 134.96 135.81 135.98 135.05 137.48ROIC 11.54% 19.59% 20.66% 14.68% 13.19% 13.17% 13.94% 14.01%WACC 4.97% 4.97% 4.97% 4.97% 4.97% 4.98% 4.94% 4.94%

EP 8.30 19.39 23.23 13.10 11.16 11.13 12.15 12.46

Verizon Communications, IncDiscounted Cash Flow (DCF) and Economic Profit (EP) Valuation Models

Key Inputs: PLACE HOLDER FORMULA CV Growth 1.00% CV ROIC 14.01% WACC 4.97% 4.97% 4.98% 4.94% 4.94% Cost of Equity 6.02% 6.02% 5.96% 5.95% 5.91%

Fiscal Years Ending Dec. 31 2015E 2016E 2017E 2018E 2019CV

DCF MODELNOPLAT 19.81 17.91 17.90 18.82 19.26ROIC 14.68% 13.19% 13.17% 13.94% 14.01%

NOPLAT 19.81 17.91 17.90 18.82 19.26Less: Change in Invested Capital 0.85 0.17 -0.92 2.42 1.60

FCF 18.97 17.74 18.82 16.40 17.66CV (t-1) 453

Discount Periods 1 2 3 4 4Discount Rate 1.050 1.102 1.157 1.214 1.274PV CF 18.07 16.10 16.27 13.51 355.91

Value of Operating Assets 419.86Excess Cash 8.06ST Investments 0.56PV Operating Lease Obligations (0.49) Underfunded Pension Plan Obligation (6.77) ESOPs (0.42) Debt (113.27) Value of Equity 307.52Shares Outstanding 4.15Intrinsic Value Per Share 74.01$ Intrinsic Value Today (partial year adjustment) 74.65$ Current Share Price $49.39

EP MODELNOPLAT 19.81 17.91 17.90 18.82 19.26Beginning Invested Capital 134.96 135.81 135.98 135.05 137.48ROIC 14.68% 13.19% 13.17% 13.94% 14.01%WACC 4.97% 4.97% 4.98% 4.94% 4.94%

Beginning Invested Capital 134.96 135.81 135.98 135.05 137.48x ROIC - WACC 9.71% 8.22% 8.19% 9.00% 9.06%

EP 13.10 11.16 11.13 12.15 12.46CV (t-1) 316

Discount Periods 1 2 3 4 4Discount Rate 1.050 1.102 1.157 1.214 1.274PV CF 12.48 10.13 9.62 10.01 247.99PV EP 290.24Beginning Invested Capital 134.96

Value of Operating Assets 425.20Excess Cash 8.06ST Investments 0.56PV Operating Lease Obligations (0.49) Underfunded Pension Plan Obligation (6.77) ESOPs (0.42) Debt (113.27) Value of Equity 312.85Shares Outstanding 4.15Intrinsic Value Per Share 75.30$ Intrinsic Value Today (partial year adjustment) 75.97$ Current Share Price $49.39

Verizon Communications, IncDividend Discount Model (DDM) or Fundamental P/E Valuation Model

Fiscal Years Ending Dec. 31 2015E 2016E 2017E 2018E 2019CV

EPS 2.50$ 2.88$ 2.98$ 3.21$ 3.36$

Key Assumptions CV growth in EPS 4.66% CV ROE 45.48% Cost of Equity 6.02% 6.02% 5.96% 5.95% 5.91%

Future Cash Flows P/E Multiple (CV Year) 71.79 EPS (CV Year) 3.36 Dividends Per Share 2.20 2.28 2.35 2.44 2.52CV(t-1) 183.92$ Period to Discount 1 2 3 4 4Discount Rate 1.060 1.060 1.060 1.060 1.059 Discounted Cash Flows 2.08 2.03 1.98 1.93 146.16

Intrinsic Value Per Share 152.10$ Intrinsic Value Today (partial year adjustment) 154.08$ Current Price Per Share 49.39$

Verizon Communications, IncRelative Valuation Models

EPS EPSTicker Company Price 2015E 2016E P/E 15 P/E 16T AT&T $32.89 $2.52 $2.59 13.1 12.7 CHL China Mobile Limited $65.32 $4.37 $4.58 14.9 14.3 VIV Telefonica Brasil $15.50 $1.19 $1.23 13.0 12.6 DTEGY Deutsch Telekom AG $18.33 $0.69 $0.78 26.6 23.5 TMUS T-Mobile $31.64 $0.81 $1.74 39.1 18.2 VOD Vodafone $32.71 $0.96 $0.90 34.1 36.3 NTT Nippon Telegraph and Telephone Corp $30.83 $2.05 $2.29 15.0 13.5

Average 22.3 18.7

VZ Verizon Communications, Inc $49.39 $2.50 $2.88 19.8 17.2

Implied Value: Relative P/E (EPS15) $ 55.64 Relative P/E (EPS16) 53.87$

Verizon Communications, IncWeighted Average Cost of Capital (WACC) Estimation

2014 2015 2016 2017 2018 2019Risk Free 2.51% 2.51% 2.51% 2.51% 2.51% 2.51%Risk Premium 5.67% 5.67% 5.67% 5.67% 5.67% 5.67%Beta Levered 0.62 0.62 0.62 0.61 0.61 0.60Cost of Equity 6.03% 6.02% 6.02% 5.96% 5.95% 5.91%

Debt Rating BBB+ BBB+ BBB+ BBB+ A- A-Default Spread 2.36% 2.36% 2.36% 2.36% 2.16% 2.16%Pre-Tax Cost of Debt 4.87% 4.87% 4.87% 4.87% 4.67% 4.67%Tax Rate 38% 38% 38% 38% 38% 38%After-Tax Cost of Debt 3.03% 3.03% 3.03% 3.03% 2.91% 2.91%

MV Weight of Equity 64% 65% 65% 66% 67% 68%MV Weight of Debt 36% 35% 35% 34% 34% 32%

Debt to Equity 0.55 0.54 0.54 0.51 0.50 0.48Percent Growth in Debt to Equity -1.60% -0.41% -5.89% -1.53% -4.60%

Forward WACC 4.97% 4.97% 4.97% 4.98% 4.94% 4.94%

Discount Factor 1.05 1.10 1.16 1.21 1.27

Implied Constant WACC 4.97% 4.97% 4.97% 4.97% 4.96%

Beta Unlevered 0.46 0.46 0.46 0.46 0.46 0.46

Verizon Communications, IncKey Management Ratios

Fiscal Years Ending Dec. 31 Formulas 2012 2013 2014 2015E 2016E 2017E 2018E 2019CV

Liquidity RatiosCurrent Ratio Current assets / Current liabilities 0.79 2.53 1.05 0.66 0.79 0.65 0.66 0.61

Quick Ratio

(Cash and cash equivalents+ Accounts Recievable, net + ST Investments)/Current Liabilities 4.03 54.59 11.65 7.55 10.14 7.63 7.33 4.98

Cash RatioCash and cash equivalents / Current liabilities 0.11 1.98 0.38 0.23 0.28 0.21 0.18 0.11

Activity or Asset-Management Ratios

Recievables Turnover Revenue / Average accounts receivable 9.20 9.69 9.08 13.60 13.29 13.05 12.71 12.31Total Asset Turnover Revenue / Total Assets 0.51 0.44 0.55 0.57 0.57 0.59 0.60 0.61Net Working Capital Turnover Revenue/working Capital -20.25 2.74 81.51 -19.39 -16.87 -15.80 -12.14 -10.63

Fixed Asset Turnover Revenue / Property and equipment, net 1.31 1.36 1.41 1.44 1.46 1.48 1.49 1.50

Financial Leverage RatiosDebt/Equity Total debt / Total equity 0.61 0.98 8.28 5.90 5.19 4.35 3.78 3.20Debt/Total Assets Total debt / Total assets 0.23 0.34 0.49 0.48 0.46 0.44 0.42 0.40Interest Coverage EBITA / Interest expense 4.70 11.89 3.94 4.05 4.60 4.75 5.28 5.54Operating CF to Debt Operating cash flows / Total debt 0.61 0.41 0.27 0.33 0.26 0.28 0.30 0.32

Profitability RatiosROA Net income/ Average total assets 0.24% 2.94% 2.78% 2.98% 3.33% 3.43% 3.67% 5.75%ROE Net income / Average Total Equity 0.63% 18.73% 38.11% 34.13% 34.47% 31.62% 30.11% 45.48%Operating Margin Income from operations / Revenue 18.13% 21.12% 21.04% 21.41% 22.37% 22.28% 22.56% 22.74%Profit Margin Net income / Revenue 0.76% 9.54% 7.57% 7.86% 8.69% 8.77% 9.20% 9.43%Cash Flow Margin Net operating cash flows/sales 27.18% 32.20% 24.10% 27.35% 21.19% 21.04% 21.20% 20.97%

Payout Policy Ratios

Payout RatioCash dividends declared per common share /Earnings per common share 654.84% 52.25% 89.26% 87.98% 79.11% 78.92% 75.88% 75.01%

Dividend Coverage Earnings per Share/ Dividends per Share 0.15 1.91 1.12 1.14 1.26 1.27 1.32 1.33

Present Value of Operating Lease Obligations (2014) Present Value of Operating Lease Obligations (2013) Present Value of Operating Lease Obligations (2012)

Operating Operating OperatingFiscal Years Ending Leases Fiscal Years Ending Leases Fiscal Years Ending Leases2015 0.2 2014 2.26 2013 0.182016 0.17 2015 2.02 2014 0.162017 0.08 2016 1.7 2015 0.142018 0.05 2017 1.38 2016 0.112019 0.02 2018 1.09 2017 0.09Thereafter 0.02 Thereafter 3.75 Thereafter 0.09Total Minimum Payments 0.54 Total Minimum Payments 12.2 Total Minimum Payments 0.77Less: Interest 0 Less: Interest 2 Less: Interest 0.10PV of Minimum Payments 0.49 PV of Minimum Payments 10.13 PV of Minimum Payments 0.67

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 4.87% Pre-Tax Cost of Debt 4.87% Pre-Tax Cost of Debt 4.87%Number Years Implied by Year 6 Payment 1.0 Number Years Implied by Year 6 Payment 3.4 Number Years Implied by Year 6 Payment 1.0

Lease PV Lease Lease PV Lease Lease PV LeaseYear Commitment Payment Year Commitment Payment Year Commitment Payment1 0.2 0.2 1 2.26 2.2 1 0.18 0.22 0.17 0.2 2 2.02 1.8 2 0.16 0.13 0.08 0.1 3 1.7 1.5 3 0.14 0.14 0.05 0.0 4 1.38 1.1 4 0.11 0.15 0.02 0.0 5 1.09 0.9 5 0.09 0.16 & beyond 0.02 0.0 6 & beyond 1.09 2.7 6 & beyond 0.09 0.1PV of Minimum Payments 0.5 PV of Minimum Payments 10.1 PV of Minimum Payments 0.7

Present Value of Operating Lease Obligations (2011) Present Value of Operating Lease Obligations (2010) Present Value of Operating Lease Obligations (2009)

Operating Operating OperatingFiscal Years Ending 0.0496959242844836 Leases Fiscal Years Ending 0.0494469091644371 Leases Fiscal Years Ending Leases2012 0.17 2011 1.9 2010 0.122013 0.16 2012 1.72 2011 0.12014 0.14 2013 1.47 2012 0.072015 0.12 2014 1.26 2013 0.042016 0.1 2015 1.01 2014 0.02Thereafter 0.1 Thereafter 5.28 Thereafter 0.05Total Minimum Payments 0.79 Total Minimum Payments 12.64 Total Minimum Payments 0.4Less: Interest 0.11 Less: Interest 3 Less: Interest 0PV of Minimum Payments 0.68 PV of Minimum Payments 10.09 PV of Minimum Payments 0.35

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 4.87% Pre-Tax Cost of Debt 4.87% Pre-Tax Cost of Debt 4.87%Number Years Implied by Year 6 Payment 1.0 Number Years Implied by Year 6 Payment 5.2 Number Years Implied by Year 6 Payment 2.5

Lease PV Lease Lease PV Lease Lease PV LeaseYear Commitment Payment Year Commitment Payment Year Commitment Payment1 0.17 0.2 1 1.9 1.8 1 0.12 0.12 0.16 0.1 2 1.72 1.6 2 0.1 0.13 0.14 0.1 3 1.47 1.3 3 0.07 0.14 0.12 0.1 4 1.26 1.0 4 0.04 0.05 0.1 0.1 5 1.01 0.8 5 0.02 0.06 & beyond 0.1 0.1 6 & beyond 1.01 3.6 6 & beyond 0.02 0.0PV of Minimum Payments 0.7 PV of Minimum Payments 10.1 PV of Minimum Payments 0.4

Present Value of Operating Lease Obligations (2008) Present Value of Operating Lease Obligations (2007) Present Value of Operating Lease Obligations (2006)

Operating Operating OperatingFiscal Years Ending 0.0575729821996096 Leases Fiscal Years Ending Leases Fiscal Years Ending Dec. 31 Leases2009 0.03 2008 0.03 2007 1.742010 0.02 2009 0.02 2008 1.192011 0.01 2010 0.02 2009 12012 0.01 2011 0.01 2010 0.722013 0.01 2012 0.01 2011 0.46Thereafter 0.01 Thereafter 0.02 Thereafter 1.73Total Minimum Payments 0.09 Total Minimum Payments 0.11 Total Minimum Payments 6.84Less: Interest 0 Less: Interest 0 Less: Interest 1PV of Minimum Payments 0.08 PV of Minimum Payments 0.09 PV of Minimum Payments 5.79

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 4.87% Pre-Tax Cost of Debt 4.87% Pre-Tax Cost of Debt 4.87%Number Years Implied by Year 6 Payment 1.0 Number Years Implied by Year 6 Payment 2.0 Number Years Implied by Year 6 Payment 3.8

Lease PV Lease Lease PV Lease Lease PV LeaseYear Commitment Payment Year Commitment Payment Year Commitment Payment1 0.03 0.0 1 0.03 0.0 1 1.74 1.72 0.02 0.0 2 0.02 0.0 2 1.19 1.13 0.01 0.0 3 0.02 0.0 3 1 0.94 0.01 0.0 4 0.01 0.0 4 0.72 0.65 0.01 0.0 5 0.01 0.0 5 0.46 0.46 & beyond 0.01 0.0 6 & beyond 0.01 0.0 6 & beyond 0.46 1.2PV of Minimum Payments 0.1 PV of Minimum Payments 0.1 PV of Minimum Payments 5.8

Present Value of Operating Lease Obligations (2005)

OperatingFiscal Years Ending Leases2006 1.182007 0.792008 0.652009 0.52010 0.32Thereafter 1.05Total Minimum Payments 4.49Less: Interest 1PV of Minimum Payments 3.82

Capitalization of Operating Leases

Pre-Tax Cost of Debt 4.87%Number Years Implied by Year 6 Payment 3.3

Lease PV LeaseYear Commitment Payment1 1.18 1.12 0.79 0.73 0.65 0.64 0.5 0.45 0.32 0.36 & beyond 0.32 0.7PV of Minimum Payments 3.8

Effects of ESOP Exercise and Share Repurchases on Common Stock Balance Sheet Account and Number of Shares Outstanding

Cost of Equity: 6.03%Current Stock Price: $49.39

2015E 2016E 2017E 2018E 2019E

Change in Treasury Stock 5Expected Price of Repurchased Shares: $49.39Number of Shares Repurchased: 0.101235 - - - -

Shares Outstanding (beginning of the year) 4.15 4.05 4.05 4.05 4.05Less: Shares Repurchased in Treasury 0.1012 - - - - Shares Outstanding (end of the year) 4.0537 4.0537 4.0537 4.0537 4.0537