AT&T Inc (T) 2005 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the SBC third quarter earnings release for 2005 conference call.

At this time all participants are in a listen-only mode.

Later, we will conduct a question and answer session.

Please note that this conference is being recorded.

I will now turn the call over to Mr. Rich Dietz , Vice President of Investor Relations.

Mr. Dietz, you may begin.

Thank you and good morning, everyone.

It's great to have you with us today.

I'm Rich Dietz and with me on the call today is Rick Lindner, SBC's Chief Financial Officer.

Let me start with a quick word about the support documents.

We will speak to a set of presentation slides that are available on the investor relations page of our website, sbc.com.

Our earnings release and investor briefing were issued earlier today and they are also available at the same site.

Before we get started, I first need to cover our safe harbor statement.

Information set forth in this presentation contains financial estimates and other forward-looking statements that are subject to risks and uncertainties and actual results might differ materially.

A discussion of factors that may affect future results is contained in SBC's filings with the Securities and Exchange Commission.

SBC disclaims any obligation to update and revise statements contained in this presentation based on new information or otherwise.

This presentation may contain certain non-GAAP financial measures.

Reconciliations between the non-GAAP financial measures and the GAAP financial measures are also available on the Company's web site at sbc.com, investor relations.

Okay, with that taken care of, let's take a quick look at our EPS comparisons which are on slide 4.

Adjusted EPS for the third quarter was $0.47.

That's reported EPS of $0.38, plus we added back $0.08 of Cingular merger integration and tangible amortization costs, plus one penny for our share of Cingular costs associated with hurricanes Katrina and Rita.

And I should point out there are no lost revenue assumptions in that number, just costs.

The result is an adjusted or operational EPS of $0.47.

Comparable EPS in the second quarter a year ago was $0.38.

So bottom line, our adjusted EPS this quarter was a strong $0.47, up 24% versus comparable EPS in the year ago quarter.

And as Rick will outline for you in detail, there are really two drivers; expanded margins at Cingular are one factor as you saw in their results yesterday and the big driver is impressive execution in our wireline business, resulting in expanded margins and strong cash flow from operations.

Before I turn the call over to Rick, let me offer a quick update on two major initiatives, our planned merger with AT&T and Project Lightspeed.

First on the AT&T transaction, we've made progress on the regulatory reviews.

We have cleared regulatory hurdles in 33 of 36 states and the District of Columbia.

Integration planning is underway, consistent with the legal requirements and we expect approvals to be finalized and the deal closed by the end of this year.

We also continue to make solid progress on Project Lightspeed.

That's our network deployment to deliver next generation integrated IP TV, broadband and IP voice.

We recently completed our technical field trial in San Antonio with residences using IP T V and Lightspeed broadband service.

Using VDS L2 over fiber to the node technology, we experience consistent speeds of at least 20 to 25 megabits per second.

These speeds allow us to deliver four streams of high quality video, high speed internet service and eventually Voice-over-IP.

Our content negotiations continue to go well and we have the channel line up and the video on demand content secured for our controlled launch later this year.

The work of our technology partners is also moving forward.

Microsoft has delivered the code for the platform that will be used for our controlled launch.

So the services is working and the project is on schedule on track.

With those items taken care of, I want to turn to Rick Lindner, SBC's Chief Financial Officer, for a more detailed look at our quarter.

Rick?

Thanks, Rich, and good morning, everyone.

It's great to have you with us this morning.

As Rich outlined for you, we have had a very strong third quarter.

We're competing effectively with great product, service and value, our revenues were up, margins were up substantially, cash flow was strong and in addition to providing share owners a great dividend yield, we're buying back shares, which makes a lot of sense given current stock price levels and the clear strength of our results.

From my point of view the main points I would like you to take from the results this quarter are that number one, our fundamentals are strong and that we're executing our plan with a sense of urgency when it comes to competing in the marketplace, when it comes to taking costs out of the business and when it comes to delivering value to share owners.

Slide 7 gives you a good one page summary of the quarter.

Our cost reduction work has paid off with significant margin expansion.

Operating income margin for the quarter jumped to 19%; that's up 250 basis points year over year.

Operating income grew 15.5%.

And we had similar strong execution at Cingular where normalized EBITDA margins expanded to 31.6 %, up 270 basis points versus second quarter of '05.

This margin expansion has driven strong cash flow.

In the third quarter, cash from operations was 3.3 billion plus we received another 1.4 billion in cash from Cingular.

Year-to-date through third quarter, cash from operations have totaled 8.4 billion with 2.6 billion additional cash from Cingular and free cash flow available after dividends is over $4 billion.

Given this strong cash generation, we purchased more than $500 million of shares in the third quarter and we expect to ramp that up with a fourth quarter buy back of at least $1 billion with continued share repurchases in 2006.

Of course, the foundation for both margin expansion and cash flow is good execution in both of our wireline and wireless operations.

We had record -- we had a record DSL quarter with 528,000 net adds.

Our data revenues grew at a double-digit pace and we posted our sixth consecutive quarter of wireline revenue growth.

That's the best sustained record in our group, something none of our peers have done.

And just to be clear, that's six straight quarters of growth in total wireline revenues, six quarters in business, and six quarters in consumer.

The execution we're seeing at Cingular is every bit as strong, with integration initiatives all on or ahead of schedule and consistent margin improvement at a pace that's better than what we had planned.

All in all, as I said, it was a very strong quarter.

Slide 8 gives you some more details on margins.

The chart shows operating income margins on an adjusted basis that excludes the $236 million will tell charge we had in the second quarter of this year and the 244 million of severance and pension costs in fourth quarter '04.

On this basis, our third quarter margin was up 250 basis points year over year and up 450 basis points from fourth quarter of '04.

And we now expect to finish the year with full year margins in the 16.5 to 17% range before charges, well above the guidance we provided to you in January.

Excluding the will tell charges, we have had a sequential decline in operating expenses each of the last three quarters.

We're attacking costs in a number of ways.

We're executing a major transformation of our call centers both in network and sales, and we're transitioning sales and service transactions to the web with good results already and aggressive forward-looking targets.

These process improvements have allowed us to achieve force reductions in a consistent, orderly way that make sense for our business.

We reduce force by more than 3,000 in each of the past two quarters and year-to-date force is down over 8,000.

And we expect our full year force reduction now to approach the 10,000 range, again well beyond the guidance we provided to you at the beginning of the year.

Our progress in these areas has more than offset natural cost pressure from volume growth and in the third quarter, operating expenses were down year over year 2.7%.

And going forward, you can be confident that cost structure improvement will continue to be a key area for us.

Slide 9 gives you a high level look at revenues.

I think these charts say a great deal about our ability to execute in a fast changing marketplace as we continue to make the transition to data and IP-based services.

Consolidated revenues were 10.3 billion, up slightly versus the year ago third quarter.

You may recall that in third quarter a year ago, we had roughly $60 million of net help from some regulatory items, including the California UNIP rate decision.

Adjusting for that year over year revenue growth would have been about 1%.

Year to date, our consolidated revenues are up 1.3% and that's on track with the 2005 guidance we provided at the beginning of the year.

And Cingular revenues, which are not consolidated, were up 6.2% versus pro forma for the year ago quarter.

If you include Cingular with our results on a consolidated basis, revenues total 19.1 billion in the third quarter with 2.9% year over year growth.

Slide 10 gives you some more detail on wireline revenues showing year over year growth rates.

Our consumer revenues were up 3.4%, business revenues up 2.3%.

These categories more than offset an expected decline in wholesale revenues which were down 4.4% and this reflects the UNIP unwind that we're going through, offset somewhat by better purloined economics in local wholesale as UNIP lines transition to either commercial agreements or to resale.

It was also offset by growth in wholesale high cap data with wireless data being a major driver.

As I said earlier, six straight quarters of wireline revenue growth, six in total, six for business, and six for consumer, the best sustained wireline revenue growth record in our group.

The drivers of this growth are pretty clear.

And it starts with excellent results in data revenues and these are on slide 11.

In the third quarter, total wireline data revenues grew 10.1%.

Our high cap revenues grew 7% and that's the best quarterly growth rate in this category in more than three years.

DSL internet revenues were up nearly 23% with good momentum as evidenced by sequential growth of 6%.

SBC's wireline data revenue stream is certainly an area of strength for us and in addition to transport products, we're seeing strong double digit growth in products such as dedicated IP and network VPN.

In total, data now represents nearly a third of our wireline revenues.

And data's also a big part of our success in the business space which is covered on slide 12.

As you see on the left side of this slide we have had a steady and solid growth in our retail high cap data revenues for some time.

In the third quarter, these revenues were up over 7% with good sequential growth above 2%.

At the same time, business access lines have clearly stabilized.

In fact, small me -- small and medium business access lines increased this quarter by 59,000.

Overall, we had a decline of just 2,000 in the quarter, following a 6,000 increase the quarter before.

As you see on this chart, those numbers represent big improvements from the business line declines we were seeing just a year ago.

But what's most impressive is that we have seen this stabilization while we are at the same time migrating many businesses to product sets such as Voice-over-IP, which don't show up in the traditional access line counts.

Based on our research, when you look at the declines in business access lines more than 40% leave for technology reasons.

And we're retaining more than 60% of those customers and access line losses; they're simply migrating over to data revenues.

While we continue to make progress across the business space, small and medium business is a clear area of strength for us, with revenues this quarter up 4.9%.

Switching over to consumer, slide 13 shows the drivers behind our consumer revenue growth.

In the emerging consumer environment, the closest volume correlation to revenue growth is growth in consumer network connections.

These are retail access lines plus DSL lines, plus video customers.

This chart does not include wireless, although that would be the next logical step.

Two years ago, our total consumer connections were declining.

But over the past several quarters, we have turned that around and that's what you see in the bar chart on the left.

In the third quarter, consumer connections were up 3.5% year over year, while revenue growth was up 3.4%.

In fact, over the past four quarters, we have had a net increase in consumer connections of 1.1 million.

And there are two drivers for this growth.

First, better primary line trends.

We show the improving rates in the box on the lower right of this chart and we have made this improvement in the face of cable competition.

The second driver is growth in DSL.

Consumer connections track with key product bundle penetration, which reached 67% at the end of the third quarter.

These bundles include at least one key service; long distance, DSL, jointly billed Cingular wireless or SBC dish network video.

Our consumer connections also track with RPU and in third quarter, revenues per consumer primary line were up 5%.

DSL continues to be the key foundation product for us in the consumer bundle and we have been aggressive in driving penetration, as you know.

Some of the highlights are on slide 14.

We have a very strong DSL growth record, a net increase in DSL lines this quarter of 528,000, the best ever by any by any RBAC by a wide margin.

Over the past four quarters, we have increased our DSL line base by 1.8 million and we are now at 6.5 million and our revenues continue to grow.

They were up a strong 6% sequentially and at this point, DSL and internet is a 2.8 billion plus annual revenue stream for us.

Our consumer DSL penetration of primary lines is at 24% Company-wide; all regions have penetrations above 20% and our best region, the west, has a DSL penetration of primary lines above 29%.

As I said, it's a key foundation product for us in the consumer market; we have been a leader in driving broadband penetration and it will continue to be a major emphasis for us.

We also continue to generate good growth in long distance, you can see that on slide 15.

We added more than half a million LD lines in the quarter, putting us over 23 million.

Retail line penetration is now 56% overall and higher than that in consumer.

Our LD revenues are approaching an annualized run rate of $4 billion.

Continuing to focus on profitability, we now have 93% of our consumer base on plans with monthly recurring charges and that's up from 77% just a year ago.

And our business base is also at 93%.

Wireline execution I think has been very good, but so has the execution of Cingular and we put some of the highlights on slide 16.

As you heard in their conference call yesterday, Cingular is on or ahead of schedule in every one of their merger initiatives.

Margins are ahead of projections and on their way to the goal of industry-leading metrics in 2007.

While we always want the needle to move faster on things like churn and RPU, we know the keys to success are in completing the network integration and in the migration of customers to Cingular GSM rate plans.

There, Cingular is clearly on the right track.

Gross adds continue to be very strong at 4.4 million, leading the industry in flow share by a good distance.

Even with very high gross adds, Cingular has improved margins dramatically.

Adjusted operating income is up sequentially, more than 40%.

Integration of local networks is well underway; we expect all line networks and nearly 50% of the GSM networks in the overlap markets to be consolidated by the end of this year.

Our network augmentation to replace our T-Mobile joint venture is complete in New York, with customers migrated to the Cingular network and it's moving ahead in California and in Nevada.

Our UMTS HSDPA deployment is on schedule, with 15 to 20 markets set to launch by the end of this year and as you may have seen in announcement earlier this week, Cingular has deployed HSDPA in Seattle, Phoenix and Dallas.

These are the first three markets in the world to receive this technology.

They're also doing a terrific job in the high-end business base, with 700 new contracts signed in the quarter.

And there are obviously significant opportunities going forward, we believe, in services that integrate wireless and wireline.

And that's the idea behind the announcements you may have seen earlier this week at both Cingular and SBC that we are working with Lucent on IMS technology to tie together wireline and wireless services and deliver next generation IP-based solutions.

The bottom line of all this is we have great assets at Cingular and they will deliver significant growth in earnings and cash flow going forward to SBC.

And speaking of cash flow, I would like to comment briefly on our directory business which continues to deliver solid results.

Our directory business is the United States largest based on revenues, 3.7 billion annuallized, publishing more than 700 titles and 100 million copies.

It's also the most profitable directory publisher with mid-50% operating margins.

But what's impressive about the business, aside from its stability and cash flow are its innovations.

To drive growth and usage, we have introduced new products such as-mini books, which increase coverage for advertisers with a smaller, convenient-sized book that's used in additional rooms in the home or by people on the go.

For businesses and other large customers, SBC produces directories on CD-ROMs.

Most important, the directory business is a leader in internet yellow pages, providing content to major search engines and through our joint venture with Bell South, operating yellowpages.com, the premiere brand in this space.

This new platform provides increased electronic content with leading search engine technology.

Based on current run rates, our 2005 electronic searches are more than triple results in 2004 and in the third quarter, electronic pages advertising grew 50% year over year.

I commented on cash flow and share repurchase at the beginning of the presentation; slide 18 provides a detailed summary on both the quarter and the year.

In the third quarter, cash from operations totaled 3.3 billion plus cash from Cingular 1.4 billion, combining to provide 4.8 billion.

Year to date, cash from operations totaled 8.4 with an additional 2.6 billion from Cingular, for a total of 11 billion.

Our capital expenditures are tracking at the low end of the full year guidance we provided to you in January, 5.4 to 5.7 billion.

And year to date, free cash flow after dividends and CapEx is 4.1 billion, again well above the updated guidance we provided to you just last quarter.

Let me underscore one point.

Our execution in the marketplace and in reshaping our cost structure is very sound and it's plain to see in our results.

Our cash flow is strong, the initiatives we have underway in the Company are prudent in the use of capital and very manageable.

Cingular's integration is solidly on track and margins are moving up, and the AT&T merger comes with large, clearly identified synergies.

So putting this together and given our current stock price, which we believe to be significantly undervalued based on the strength of our current results and our fundamentals, the best use of our free cash flow is to purchase our own shares.

In short, we believe SBC is a great value.

We bought back $507 million of shares in the third quarter, we are continuing repurchases in the fourth quarter with an additional one billion of buy backs planned by year end.

And we will continue repurchase activity as we go into 2006.

And in addition, have the financial flexibility that gives our board the opportunity to maintain our historical approach to dividend growth.

SBC, as you know, has increased its dividend every year in its history.

By way of closing, I would like to provide you a current profile of SBC on slide 19.

SBC today is a Company with premier assets.

A wireline business with over 50 million access lines, number one in DSL, number one in overall data revenues.

We have an agreement to merge with AT&T and that will add world-class IP-based networks and product sets.

We're 60% owner of Cingular, the nation's largest wireless provider with significant upside opportunity.

And we have the nation's largest and most profitable directory business.

We have an outstanding record of execution and I think that's evidenced by our margin expansion and our sustained wireline revenue growth.

And our demonstrated ability to compete, driven by our bundling strategy and made stronger by the addition of local market leadership which was put in place across our operations earlier this year.

SBC is also a Company with strong cash flow and a heritage of returning cash to our share owners.

More than 4 billion of free cash flow after dividends year to date, a record of dividend increases each year and a superior dividend yield, plus 1.5 billion in stock repurchases expected for the second half of 2005 with repurchases expected to continue in 2006.

In short, when you combine all these elements, we believe SBC offers a terrific value to investors.

That concludes my prepared remarks, Rich, I believe we're ready to do Q&A.

Thanks Rick.

Operator, if you would now open up the question and answer session, please.

Thank you.

We will now begin the question and answer session.

[OPERATOR INSTRUCTIONS]

The first question comes from John Hodulik from UBS, please go ahead.

Okay.

Thanks, morning guys.

Can we talk a little bit about the top line, especially as it relates to the wireline segment?

You know, you showed some impressive growth over the last few quarters; how sustainable is that, and if you could reference what the trends on the local voice side looks like.

The decline there, accelerated a little bit more than we expected in the third quarter and I guess talk about the trend behind that in terms of price and volume.

Then secondly, you didn't seem to mention dish in the prepared remarks; could you talk about the new relationship there, how you expect the strategy to unfold with the new agency deal and specifically as it relates to HomeZone?

Thanks.

A lot of questions John, I'll try to kind of take them top to bottom there.

Okay.

First of all, on wireline top line growth, third quarter was positive in growth, but it was at a lower level than we have seen in recent quarters.

As we mentioned in the remarks and as we have disclosed really previously over the last year, third quarter '04 included about 60 to 70 million of net positive adjustments due to a number of items, but primarily it was a decision in California in the third quarter of last year that allowed us to retroactively increase UNIP rates.

So that was a benefit last year that, you know, it's obviously not repeated in this year's -- this quarter's numbers.

And the fact is that any particular quarter we're going to have some items like that.

Either positive or negative, they're regulatory decisions, billing adjustments, resolution of billing disputes, just the level of our CPE sales which varies by quarter can impact it.

But overall, when you look at it for the year, you know, we're growing between the 1 and 2% range, which is what our expectation has been for the year and the guidance we provided.

And as we move forward, you know, I think we continue to have opportunities to sustain that based on the trends we're seeing in the business, the gross -- the growth in broadband, the growth in high cap services, as well as looking ahead to the future, the growth in video.

You also mentioned the local voice decline; the local voice decline year over year is -- for the quarter is up versus year to date.

And really two things impacting that.

One is some of the loss of UNIP lines and the unwind of UNIP and that's reflected in that voice revenue line.

Then the other item that I talked about, the California UNIP rate decision last year third quarter, that was booked in that voice line as well.

So those are really the two things impacting that.

With respect to dish, as you know, we've renegotiated our dish agreement and we're happy with that.

I think that's -- I think that agreement is good both for SBC as well as for EchoStar.

That agreement went into effect really just at the beginning of the fourth quarter.

So you don't see really much if any impact of that in our third quarter numbers.

Dish was up somewhat in the quarter.

We did about 15,000 net in the quarter, but I would expect that to ramp up as we start to ramp up marketing particularly in areas where we will not initially have Lightspeed available.

I guess that gets back to the HomeZone initiative.

How extensive will that be and how much promotion will go into support of that product?

On HomeZone, I think that will be a terrific product for us outside, again outside of the Lightspeed areas, because it will really give us a nice way to integrate both dish and DSL and do some interesting things with it.

And we will start to roll that out right around Christmas time this year.

We will be doing some, you know, typical marketing and promotion with it.

Great, thanks.

The next question comes from Jeff Halpern from Sanford Bernstein, please go ahead.

Morning, Rick.

Morning, Rich.

Morning.

Got a couple questions for you really on two different fronts.

One is another sustainability question but on a different side which is on the cost side.

As you look at what the drivers of your wireline operating expense reductions were this quarter, can you give us some color on how much of that is really coming out of the effect of the business support system and operating support system work you have been doing over the last year or two and how much of it is things like cut backs on in pushing forward with enterprise, understanding that you're obviously planning on owning AT&T in the near future, so it's redundant for you to go out and aggressively push, ramp up your enterprise business.

Then the second question is as you look at your CapEx it's a little bit lighter than we were looking for and I'm just wondering where are we on Lightspeed in terms of enabling neighborhoods and the targets you have laid out for the next year and a half to two years.

And how do we think about homes past and other metrics like that?

Okay Jeff, first of all on the cost sustainability, when you look at what's driven margin improvement in cost reduction, first of all a big driver of it has been lower employee costs.

And that's due to the fact that we have reduced force over time.

If you go back over the last 12 months, our force is down 11,000.

And that's been done primarily through attrition.

I think we have done a good job of rebalancing force, using attrition to continue to pair down costs.

On top of that, we have made over the last year or so, a number of benefit plan changes, really all designed around trying to better control our -- things like our medical costs, better control our post-employment benefit costs, and those are things, like for example, rolling out a whole new medical plan to all of our management employees as well as our management retirees.

It includes the changes we made in bargaining last year on non-management plans which increased co-pays, increased deductibles and I think did some things very subtly that incent the right kind of behavior in terms of how medical expenses are made and how medical services are purchased.

On top of that, along with the employee-related costs, we put in a number of cost controls across the business, we have continued to look at consolidated -- consolidating functions and operations, simplifying processes and so that lower -- those lower force levels have also carried with it reductions in other cash expenses.

And then on top of that, depreciation is down because of the lower CapEx.

Those are the things really driving the margin improvement and the cost reduction.

If you look at it in terms of sustainability and going forward with AT&T, first of all, we have continued to compete and will continue to be active in the enterprise space.

We have, as we have gone through this year knowing that the merger was approaching, we have taken the opportunity again primarily through attrition to scale down some force levels there.

But overall, if you look out over the last year, those force reductions related to enterprise have been less than 10% of the total force reductions.

The real benefits are coming to a large degree out of our wireline regions, and when you go to the next level below those numbers, it's coming out of our call center channels.

And it's the processes and the improvements in those channels that we have put in place.

We're also scaling back in areas where we have less business activity in -- in industry markets with the unwind of UNIP and in operator services.

And we have consolidated and scaled back in areas like network engineering and IT.

So pretty across the board and that gives me a lot of comfort in terms of the sustainability.

Thank you for the details there.

On the CapEx side?

I'm sorry.

CapEx.

I forgot -- I forgot your last question.

I think we're on track, as I mentioned in the remarks, Jeff, to be at the lower end of our guidance range of 5.4 to 5.7.

You know, fourth quarter CapEx typically ramps up a little bit primarily in portfolio type projects.

We will see some ramp in the second half of the year related to Lightspeed.

In terms of Lightspeed, I would expect that our deployment this year in terms of fiber, we will have fiber out and -- and patched, essentially, to facilitate 2 million homes on Lightspeed.

Great.

Thank you.

The next question comes from Blake Bath from Lehman Brothers, please go ahead.

Good morning.

Maybe just two questions following up on Jeff's questions.

Question on margins.

Is there something that makes this the quote-unquote high watermark on margins as you think about it over the next year or two or, you know, are there some additional things, you know, on a going forward basis that make you comfortable that cash expenses can't decline six, as they are doing in '05, assuming, as you said, the revenue growth on wireline continues roughly 1 to -- 1 to 2%.

Then the second question, would be can you just help us with the pace and mind-set on share repurchases for '06, how you're thinking about those now and when you might codify how you feel about doing those, on what concrete basis in 06?

Thanks.

Okay, Blake.

Good questions.

I think with respect to margins, as we mentioned this morning, we -- we have increased our guidance for this year, which was originally in the 15 to 16% range up to 16.5 to 17%.

And I believe, going forward there are still -- still opportunities in the business to simplify our processes, to take more costs out of the business, and to continue to generate some margin improvement.

And some operating income improvement.

It will be mitigated somewhat by our rollout of Project Lightspeed over the next couple of years, but I think we're confident that we have enough cost opportunities in other areas of the business to more than offset that.

The quarter obviously at 19% was a high quarter.

Second and third quarters for us seasonly tend to be higher quarters.

But overall, if you look at being in the 16.5, 17% range this year, I think we have some opportunities going over into the next couple years to continue to improve margins.

With respect to share repurchase, I will tell you very simply this, we will -- our plans will be to utilize certainly available free cash flow after dividends for share repurchase in 2006; in addition to that, we will -- we'll augment those funds and augment those share repurchase plans with monetization of some non-strategic assets as we have those opportunities.

We are doing that as well in fourth quarter.

For example, as you may know, we recently in Cingular sold a partnership interest we had in India.

Those dollars are going into our fourth quarter share repurchase plan.

We have been, as you know, reducing force significantly.

That puts us in a position where we are managing down our real estate holdings.

And we have done a lot of that through, you know, not renewing leases as they expire and moving out of lease space, but we're also looking at some real estate transactions that will generate cash.

That will be used for share repurchase.

We have -- we have a leverage lease portfolio of assets that we kind of inherited from some acquisitions.

We have been going through that portfolio and are in process of selling some of those leases, again, where we're in a position where we can unwind them at a good value, we will take that cash and that value, return it to share owners through share repurchase And as we close with AT&T, we will have the same situation there.

They likewise have been reducing their real estate assets.

They have a leveraged lease portfolio; we will be looking at some of the same opportunities there.

Thank you very much.

The next question comes from Simon Flannery from Morgan Stanley, please go ahead.

Okay, thank you, good morning.

First on DSL, very good numbers this quarter.

Can you give us a little bit more color around what was going on with the gross adds and the churn and any sense of whether this is you are increasing flow share here versus the cable companies?

Then also revisiting the share repurchase point, you didn't mention changing your leverage.

Maybe, Rick, you can just address what the target leverage is and what you're comfortable is because clearly your after-tax cost of borrowing is well below current dividend yield, thanks.

Sure, Simon.

On DSL it was a great quarter and we're seeing really good growth in -- on the growth side.

We have seen a little bit of an uptick in churn and I think as we have dug into it, it has to do with the fact that as we're starting to penetrate some users who may have previously been dial-up users, what we're finding is they may not have current computer models and capabilities and technology that are giving the best experience from a DSL standpoint.

So we're working through that as we work through, you know, those situations in our help desk.

But growth activities, very good, we're encouraged with the net growth and the penetration.

We will see where everyone else comes out this quarter.

But we have been generally in the low to mid-50s in terms of flow share in our regions and -- and I would expect with these numbers that we will stay in that range.

I think the other thing that's been encouraging is that we continue to sell DSL into our business customer base.

We continue to sell higher speed tiers and we're also approaching a period of time where, as we get into fourth quarter, we will start to see customers coming off of promotions from a year ago where we were offering at that time a $19 price and then we will start to see some of the $15 customers come off and they will begin migrating up to standard pricing.

So I think we have some upsides there.

I would also note on DSL, we -- as we mentioned in the second quarter, we had some reduction of DSL that occurred as AOL and AOL's base was unwinding and we have completed that in the third quarter, so we are through that now.

But there was as many as 50,000 AOL DSL lines on a wholesale basis that came out of our base.

So some of those obviously moved over and became retail customers of ours.

But we were able to produce the 528 even with that -- that activity going on.

With respect to target leverage frankly cash flow has been strong enough that we have actually gone below where we had originally planned and expected to be in the year.

And so we will see some of that adjust in the fourth quarter.

But our expectation for this year going into the year is that we are going to reduce debt by about $2 billion and we will still finish the year slightly better than that.

But that's a leverage level for us that I think we're very comfortable with.

Going into '06, we will have some debt maturities that will refinance and in fact, we may get a head start on doing some of that before year end.

But I don't see us decreasing debt at SBC persae next year.

We will have some debt reduction that will occur at Cingular, I think about a1.5 billion or so in '06.

So that will -- that will reduce, you know -- our proportion share of that will reduce our leverage position.

Thank you.

The next question comes from David Barden from Banc of America Securities, please go ahead.

Morning, guys.

Just wanted to follow up on a -- a couple follow-up questions on some of these issues.

Number one, was just, Rick, obviously some improvement that we have been seeing fall through on the retail line side.

On the wholesale line side, that business seems to have continued to erode, slight acceleration this quarter.

Are you detecting any shift where those wholesale lines are going to at the margin?

Is it increasingly cable or is it still mostly wireless?

Just trying to get a sense of if we're starting to see some incremental impact from the cable guys in the margins now.

Second question just real quick, kind of on the Lightspeed, a lot of interest in this topic both in how it's going to affect the CapEx dollars in '06 and how it's going to affect expenses in '06.

We talked about it I think in some depth about a year ago, but if you could get more specific as to what exactly we should be anticipating, it's going to be the Lightspeed effect in '06 upgrades.

And then just a last question on your comments about the non-strategic assets; one thing that's come up obviously with the -- with the valuations we have seen in the directories business in this Dex-Donnelly deal has been that there's a tremendous amount of value in those assets today.

How strategic do you see directories as being to SBC over the next few years?

Why does this business belong with SBC as opposed to, say, separate from SBC?

Thanks a lot.

Okay.

David, let me try to kind of quickly hit on all of those.

First of all, you're exactly right, retail lines continue to improve.

Retail line loss.

And if you dig kind of a layer below that, there's two different things happening there that actually will tell you that the retail line trends are better than you see just from the raw numbers.

First of all, as I mentioned on the business side, what we're seeing there is those retail lines have pretty well stabilized and -- at kind of a very small net gain or loss number.

But embedded in there is the fact that we are actually growing small and medium business lines while at the same time larger business customers, the line counts are reducing, but we're not really necessarily losing those customers and revenues; they're just migrating to IP-based solutions that fall out of the line counts.

So the results there are even better than they would be portrayed.

On the consumer side we reached a point in third quarter indicative of that, where over 50% of the consumer line loss is in additional lines.

And the majority of those additional lines are going, are being taken out because they're being replaced with DSL.

So again, when you step back and look at it in terms of the total business, the trend there is even better.

You see a big decrease obviously in wholesale lines and I think we're, you know, we're frankly working through the unwind of UNIP.

About 40% of UNIP lines that come out of the UNIP line counts stay on our network, the majority of those as retail customers.

The rest of those lines it's -- frankly, it's difficult for us to track because most of those customers are not porting their number.

So it may be customers that are moving, they may fall out because of non-pay disconnects, but, you know, I would say that the majority of those lines are showing up or will show up other places and they will show up either with cable and VoIP providers or they will show up as wireless substitution.

I don't have -- again, because of not having porting information, I don't have good percentages and ranges to give you, but I would say that overall in that mix, I think there has been some increase in those customers moving to cable and VoIP.

In some respects, you know, what you have to do is step back from this, though, and look at it from the standpoint that in this quarter, over 70% of our switched access line loss were UNIP customers, over 70%.

So what are those customers?

Number one, it shouldn't be too surprising because those customers from a retail standpoint had already left us and they are -- they were now -- or they were then the customer of a provider who in many cases was ramping down that business and not -- certainly not marketing into that base.

At the same time, from our standpoint, that is a -- roughly a $19 line.

It's a customer that we -- we had $19 of UNIP wholesale revenues from, we don't have DSL, we don't have long distance, we don't have opportunities to jointly bill wireless.

So if there are areas where, you know, you're going to lose lines, that's really the place to lose it.

And the last thing, last comment on lines, is as we all know, this business is changing and it's changing pretty rapidly.

And, you know, five years ago, ten years ago, access line trends and numbers were the key driver behind revenues.

Today, that's simply not the case.

And I think we still focus too much of our volume metrics around access lines.

And the reality is today, we're not just selling lines, we're selling DSL, broadband, we're selling long distance, we're selling video, we're selling wireless, all of those things represent connections to the customer and represent revenue sources.

And when you look at our results, very frankly, what you see is access lines have declined.

They will continue to decline for a variety of reasons.

But at the same time, revenues have been stable to increasing.

On Lightspeed, let me address CapEx and OpEx.

As we have said previously, rolling out Lightspeed in '06 will provide some pressure to the capital budget.

Frankly, at -- at SBC I would tell you we have been pretty frugal with our capital expenditure dollars and in fact, we're running in the low, you know, low-double digits, low teens rate of capital expenditures as a percent of revenues in our wireline business and that's pretty much best in class across our peer companies.

As we go forward into next year with Lightspeed, we will see some pressure on that number.

But it's -- I think as I mentioned before, I think it's going to be at a very manageable level and what we'll do, David, is as we get into -- and after closing with AT&T and we have had a chance to assess the capital needs and requirements there, what we'll provide for '06 is overall guidance on consolidated capital expenditures.

But what I can tell you today is that our expectation is that our cash flow next year will cover all of our capital needs including Lightspeed, it will cover the integration cost, the first year integration cost at AT&T.

And in addition to that, provide solid free cash flow after capital expenditures and after dividends.

So we feel very good about our cash position.

On operating expenses and expenditures, you know, to some degree on Lightspeed both in CapEx and OpEx, it will be dependent upon success in the marketplace.

But in general, I can give you some guidance here on -- for example this year, on Lightspeed, we expected about $0.05 to $0.06 of dilution related to rolling out the Lightspeed project.

I think the end number is actually going to be a little less than that, probably in the $0.04 range.

As we go into next year, again, it depends on kind of levels of penetration and so forth.

But I think we will add something in the neighborhood of another $0.04 to $0.06 to that in next year as we roll it out on a scaled launch basis.

But again, I think a very manageable number and one that -- that's looking at the project on kind of a stand alone basis.

One that we're committed to, you know, reallocating resources, cutting costs in other areas of the business to cover, so as you go forward, again, the expectation going into '06 and beyond is that we will roll out Lightspeed and continue to produce, nice improvement relative to margins and solid growth in adjusted EPS.

You mentioned along with non-strategic assets and the directory asset, you know, I would just simply say this, directory and yellow page publishing is a business that we like.

It throws off a lot of cash flow.

We're excited, frankly, about the opportunities on the electronic yellow page side and we believe as we go forward that database and the sales force selling into businesses across our region has some synergy and some opportunity related to both what we may be doing in wireless, as well as what we're -- what we will be doing in Lightspeed and advertising over our video service.

So there are some corollaries there.

However, the other thing that I would say is given values in the marketplace today, we're always looking at opportunities to convert assets at a strong value and take those cash and those -- and -- and generate those returns for the share owners.

So I would just say we continue to look at all alternatives, there's nothing off the table at this point.

That's tons of detail.

Thank you so much.

The next question comes from Mike McCormack from Bear Stearns.

Please go ahead.

Good morning, thanks, Rick.

Just a couple things.

One, I don't want to beat the dead horse here on UNIP, but if I look at the win back rates and I apply sort of that 40% win back rate for the past three quarters it looks like if you're looking at sort of on an organic basis you would have lost about 107,000 lines in the first quarter, second quarter about 412, which obviously, we're impacted by seasonality, then 318 in the third quarter.

So just wondering, did we get a benefit from seasonality in the third quarter?

And then just lastly on Cingular cash flow, given their CapEx needs in the fourth quarter and potential or usual seasonality margin pressure there, should we expect -- what kind of levels should we expect for cash flow coming out of Cingular?

And just lastly, housekeeping item on other income below the line looked a little bit out of trend.

Anything in there we should be thinking about?

Thanks.

Okay, Mike.

Relative to access lines in total in terms of was there seasonality benefit in third quarter, I think there was some benefit there.

But if you go back again historically, it always seems like third quarter does not come back as strong as you would expect after second quarter.

And at the same time, first and fourth quarters are generally better quarters from an access line growth perspective.

And, you know, I think this was no exception this year.

You know, again, I think you have to step back from it and don't worry as much about the quarter to quarter deviations, what you see is what I talked about earlier, continued improvement in retail line loss.

We talked about the factors there, and on the wholesale side, again, where we are losing lines, those are customers that we had generally lost previously and they're low RPU lines.

On Cingular cash flow, Cingular's CapEx will ramp up in the fourth quarter and so, in total, as we talked about today, free cash flow after dividends, including cash from Cingular, is a little over $4 billion.

I would expect in the fourth quarter, while Cingular returned a lot of cash in the third quarter that we will use some of that cash and they will require some of that cash to fund some CapEx in the fourth quarter and I would expect overall for the year this year to end free cash flow after dividends, you know, in that 4 billion -- little over 4 billion plus range.

Other income, there is -- there's an unusual item there, there is a -- several years ago, we set up a separate subsidiary, that subsidiary had an outside third-party investor and the structure was used to repurchase SBC shares and provide a hedge against exposure from stock options.

And as you know, in recent years, we have significantly cut back our use of stock options in incentive compensation.

There was no reason to keep that entity out there any longer and so we're unwinding the entity and as part of that unwind, there's some costs and some level of return we have to provide to the outside investor.

We booked that in the third quarter and that's what you see in other income and expense.

That's great, thanks Rick.

Operator, this will have to be our last question for this morning.

Thank you.

The last question comes from Jason Armstrong from Goldman Sachs, please go ahead.

Great, thanks for taking the question.

A couple quick questions.

First, there really seems to be an increasing level of press attention on the secular threats to the wireline business, in particular primarily consumer wireline voice.

I think what this misses, obviously, is the progress you guys have made in transforming the revenue mix, effectively reducing exposure to this segment.

But I'm wondering if you can give us more detail here, just to put in in terms of percent of revenues you currently have coming from consumer wireline voice business and also if you could give it to us as a percent of EBITDA that comes from that segment.

I think realistically, or ideally, we have sort of this put in the context of Cingular and the AT&T acquisition as well.

Then second question, to just go back to the share buy back issue, and maybe put a little more granularity around '06.

You have talked about monetization continuing, you have talked about leveraging being a little bit below where you want it to be, but it almost seems like the $1 billion that you're targeting for fourth quarter could be sort of a good run rate number to think about going into 2006.

I'm wondering if you agree with that?

Then just final question, if we could follow up on the last point in terms of the other income impact, can you quantify the exact dollar amount from shutting down that business?

Thanks.

Good questions Jason, as always.

The -- I agree with you first of all, I think -- I think the business and the industry has been, you know, hammered to some degree by all kinds of concerns and worries about future threats.

And I think it's gotten to, you know, a point of that it's irrational.

In some cases, those threats are coming from technologies that are still largely unproven or new entrants that are, you know, not clearly in the space.

If you look at our business, including Cingular, and for purpose -- for this purpose, you know, if I just include Cingular on a proportionate basis and if you include post-AT&T, the wireline -- consumer wireline voice business represents about, about mid-teens of total revenues.

And so, you know, I think it's a much smaller piece of the overall puzzle than I think most people believe until they start actually sitting down with pen and paper and working the numbers.

With respect to margins on that, we do some costing analysis where, you know, we allocate out all the direct costs to our products and to our segments, consumer business.

So these would be -- including the use of network depreciation and everything.

So these would be operating margins, but they would not include allocations of things like corporate overhead.

Generally, there's about a 10%, ten percentage point spread between consumer and business.

So on that basis business operating margins are in the mid-20s, consumer operating margins are in kind of the mid-teens.

So hopefully, the combination of those numbers gives you kind of an opportunity to really quantify what that threat is.

And those are the numbers in total.

So, you know, while there are new entrants in this space, they are going to take some share in this space, but it gives you the ability to kind of put some ranges around those numbers.

We have done share repurchase, we will do -- actually between August and December, we will do a $1.5 billion worth.

We will provide -- we will provide additional guidance related to '06 again once we have completed the AT&T acquisition, have a chance to look at their numbers and combine those so we have got a good consolidated view to show you.

But as I said, we will continue to -- particularly at current market levels, I mean we just -- we believe undervalued in the marketplace makes all the sense in the world to do some share repurchase and ramp those levels up.

So that will be how we will allocate free cash flow and we will look at and execute on some other opportunities to monetize some assets and augment that program.

Other income, last question, you know, the impact of the unwind of this subsidiary that I talked to you about is a little over $80 million.

That was recorded in this quarter.

Okay, so that's another penny and a half on EPS that could have been normalized out?

It is, Jason, but I don't want to mislead you here.

Let me just say this, we -- number one, we do some of these normalizations because of the -- because of the impact that acquisitions have had on the numbers and the comparability and we're trying to provide in our adjusted EPS number a good reasonable apples to apples comparison from year to year.

So this -- but this number would generally fall below the scope of what kind of thing that we would normalize out.

But in addition to that, we had a couple of benefits that were in a similar range that were embedded in our G&A cost that involved some changes that we made to our out of region concession plan and some valuation of our worker's comp liabilities.

And, you know, there when you put the two of them together, they're in a range that's pretty close to this -- to this hit that we took in other income.

And so those are the kind of things that happen in the business every quarter and they net out and so it makes no sense to normalize them.

Okay, makes sense, thanks.

Folks, before we end the call I would like to just make a final comment.

And, you know, we're going through -- we're going through what is a really unprecedented period of change in the industry.

Just about everything you look at is changing, from regulation to technology to the marketplace.

And that change has created a lot of uncertainty.

And it seems the financial markets at times, because of that uncertainty, are trading on, as I said earlier, a level of fear about the future that I think is irrational and trading on that at times versus the results and the fundamentals.

At SBC, we're going through a lot of change as well.

And we're going through changes that are occurring through acquisitions as well as through internal initiatives that we have got underway and all of these things are designed and geared to position the Company for long-term success and to position it for long-term success in each one of our major market segments.

What I would tell you is that we're very encouraged by our results so far in 2005.

And we're encouraged by the results in this quarter, because I think it demonstrates two things; it demonstrates, one, that the strategies and initiatives that we're working on are delivering, they're working and they’re delivering value that you can see in the results.

And two, I think it's important because it demonstrates that we can successfully navigate through this period of substantial change while at the same time producing very solid and improving financial results for the owners.

And that's what our goal and objective is as we go forward.

I want to thank you again for your attention this morning.

And as always for your interest in SBC.

So Rich, with that I'll turn it back to you.

Thank you Rick.

And thank all of you for your participation this morning, this does conclude our presentation this morning.

Thanks.

Thank you for participating in this SBC third quarter earnings release conference call for 2005.

This concludes your conference for today; you may all disconnect at this time.