**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON,D.C. 20549**

**FORM 10-Q**
| **x****                             ****QUARTERLY REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                    |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                   |
| **For the  quarterly period ended June 30, 2007**                                                                                                                                                                                                                                                      |
|                                                                                                                                                                                                                                                                                                   |
| **or**                                                                                                                                                                                                                                                                                                 |
|                                                                                                                                                                                                                                                                                                   |
| **o****                                ****TRANSITION REPORT PURSUANT TO  SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |

 

**CommissionFile Number 0-556**

**SUREWEST COMMUNICATIONS**

(Exact name ofregistrant as specified in its charter)

| **California**                     |   | **68-0365195**       |
|------------------------------------|--------|----------------------|
| (State or other  jurisdiction      |   | (IRS Employer        |
| of incorporation  or organization) |   | Identification  No.) |

 

| **200 Vernon Street, Roseville, California** |   | **95678**  |
|----------------------------------------------|--------|------------|
| (Address of  principal executive offices)    |   | (Zip Code) |

 

**(916) 786-6141**

(Registrant’s telephonenumber, including area code)

Indicate by checkmark whether the registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.

Yes x    No o

Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer,or a non-accelerated filer.  Seedefinition of “accelerated filer and large accelerated filer” in Rule 12b-2 ofthe Exchange Act. (Check one):
| Large accelerated filer  o | Accelerated filer  x | Non-accelerated filer  o |
|---------------------------------|---------------------------|-------------------------------|

 

Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).

Yes o    No x

Indicate thenumber of shares outstanding of each of the issuer’s classes of common stock,as of the latest practicable date.

As of July 30, 2007,14,465,709 shares of the registrant’s Common Stock were outstanding.

 

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**TABLE OF CONTENTS**
| **PART I - FINANCIAL  INFORMATION** |                                                                                        |   |
|-------------------------------------|---------------------------------------------------------------------------------------------|--------|
| Item 1.                             | Financial Statements                                                                        |   |   |
| Item 2.                             | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |   |   |
| Item 3.                             | Quantitative  and Qualitative Disclosures About Market Risk                                 |   |   |
| Item 4.                             | Controls And  Procedures                                                                    |   |   |
|                                |                                                                                        |   |
|                                |                                                                                        |   |
| **PART II - OTHER  INFORMATION**    |                                                                                        |   |
| Item 1.                             | Legal  Proceedings                                                                          |   |   |
| Item  1A.                           | Risk  Factors                                                                               |   |   |
| Item 2.                             | Unregistered  Sales of Equity Securities and Use of Proceeds                                |   |   |
| Item 3.                             | Defaults Upon  Senior Securities                                                            |   |   |
| Item 4.                             | Submission of  Matters to a Vote of Security Holders                                        |   |
| Item 5.                             | Other Information                                                                           |   |
| Item  6.                            | Exhibits                                                                                    |   |
| SIGNATURES                          |                                                                                        |

 

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**PART 1 – FINANCIAL INFORMATION**

**ITEM1.  FINANCIAL STATEMENTS.**

**SUREWESTCOMMUNICATIONS**

**CONDENSED CONSOLIDATED STATEMENTS OFINCOME**

*(Unaudited; Amounts in thousands,except per share amounts)*
| ** **                                                                  | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------------------------------------------------------|------------|-------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                  | ** ** | **2007**                                  | ** ** | **2006**                                          | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Operating revenues:                                                         |       |                                      |       |                                              |       |   |   |   |   |
| Telecom                                                                     |       | $                                         | 27,249     |                                              | $          | 28,196 |   | $ | 53,610 |   | $ | 55,296 |   |
| Broadband                                                                   |       | 17,069                                    |       | 15,024                                            |       | 33,491 |   | 28,906 |   |
| Wireless                                                                    |       | 8,115                                     |       | 8,144                                             |       | 16,316 |   | 16,538 |   |
| Total operating  revenues                                                   |       | 52,433                                    |       | 51,364                                            |       | 103,417 |   | 100,740 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Operating expenses:                                                         |       |                                      |       |                                              |       |   |   |   |   |
| Cost of services  and products (exclusive of depreciation and amortization) |       | 17,685                                    |       | 17,301                                            |       | 36,435 |   | 34,974 |   |
| Customer  operations and selling                                            |       | 8,355                                     |       | 8,276                                             |       | 17,230 |   | 16,847 |   |
| General and  administrative                                                 |       | 9,696                                     |       | 8,816                                             |       | 18,277 |   | 16,835 |   |
| Depreciation and  amortization                                              |       | 14,275                                    |       | 15,007                                            |       | 28,063 |   | 29,470 |   |
| Total operating  expenses                                                   |       | 50,011                                    |       | 49,400                                            |       | 100,005 |   | 98,126 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Income from operations                                                      |       | 2,422                                     |       | 1,964                                             |       | 3,412 |   | 2,614 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Other income (expense):                                                     |       |                                      |       |                                              |       |   |   |   |   |
| Interest income                                                             |       | 1,157                                     |       | 109                                               |       | 1,662 |   | 179 |   |
| Interest expense                                                            |       | (1,699                                    | )          | (1,715                                            | )          | (3,099 | ) | (3,308 | ) |
| Other, net                                                                  |       | (69                                       | )          | (271                                              | )          | (273 | ) | (379 | ) |
| Total other  income (expense), net                                          |       | (611                                      | )          | (1,877                                            | )          | (1,710 | ) | (3,508 | ) |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Income (loss) from  continuing operations before income taxes               |       | 1,811                                     |       | 87                                                |       | 1,702 |   | (894 | ) |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Income tax expense  (benefit)                                               |       | 26                                        |       | (4                                                | )          | (136 | ) | (425 | ) |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Income (loss) from  continuing operations                                   |       | 1,785                                     |       | 91                                                |       | 1,838 |   | (469 | ) |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Discontinued  operations, net of tax:                                       |       |                                      |       |                                              |       |   |   |   |   |
| Income from discontinued  operations                                        |       | —                                    |       | 1,313                                             |       | 999 |   | 3,072 |   |
| Gain (loss) on  sale of discontinued operations                             |       | (279                                      | )          | —                                            |       | 59,902 |   | — |   |
| Total  discontinued operations                                              |       | (279                                      | )          | 1,313                                             |       | 60,901 |   | 3,072 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Net income                                                                  |       | $                                         | 1,506      |                                              | $          | 1,404 |   | $ | 62,739 |   | $ | 2,603 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Basic earnings (loss)  per common share:                                    |       |                                      |       |                                              |       |   |   |   |   |
| Income (loss)  from continuing operations                                   |       | $                                         | 0.12       |                                              | $          | 0.01 |   | $ | 0.13 |   | $ | (0.03 | ) |
| Discontinued  operations, net of tax                                        |       | (0.02                                     | )          | 0.09                                              |       | 4.22 |   | 0.21 |   |
| Net income per  basic common share                                          |       | $                                         | 0.10       |                                              | $          | 0.10 |   | $ | 4.35 |   | $ | 0.18 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Diluted earnings (loss)  per common share:                                  |       |                                      |       |                                              |       |   |   |   |   |
| Income (loss)  from continuing operations                                   |       | $                                         | 0.12       |                                              | $          | 0.01 |   | $ | 0.13 |   | $ | (0.03 | ) |
| Discontinued  operations, net of tax                                        |       | (0.02                                     | )          | 0.09                                              |       | 4.20 |   | 0.21 |   |
| Net income per  diluted common share                                        |       | $                                         | 0.10       |                                              | $          | 0.10 |   | $ | 4.33 |   | $ | 0.18 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Dividends per share                                                         |       | $                                         | 0.25       |                                              | $          | 0.25 |   | $ | 0.50 |   | $ | 0.50 |   |
|                                                                        |       |                                      |       |                                              |       |   |   |   |   |
| Shares of common stock  used to calculate earnings per share:               |       |                                      |       |                                              |       |   |   |   |   |
| Basic                                                                       |       | 14,440                                    |       | 14,578                                            |       | 14,432 |   | 14,578 |   |
| Diluted                                                                     |       | 14,490                                    |       | 14,609                                            |       | 14,484 |   | 14,578 |   |

 

See accompanyingnotes.

1

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**SUREWESTCOMMUNICATIONS**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

*(Unaudited;Amounts in thousands)*
| ** **                                                                                                                                                         | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                         | ** ** | **2007**          | ** ** | **2006**              | ** ** |
| ** **                                                                                                                                                         |       |              |       |                  |       |
| **ASSETS**                                                                                                                                                         |       |              |       |                  |       |
| Current assets:                                                                                                                                                    |       |              |       |                  |       |
| Cash and cash equivalents                                                                                                                                          |       | $                 | 36,913     |                  | $          | 6,371 |   |
| Short-term investments                                                                                                                                             |       | 30,522            |       | 695                   |       |
| Accounts receivable, net                                                                                                                                           |       | 22,858            |       | 22,014                |       |
| Inventories                                                                                                                                                        |       | 5,358             |       | 5,348                 |       |
| Prepaid expenses                                                                                                                                                   |       | 4,689             |       | 4,275                 |       |
| Deferred income taxes                                                                                                                                              |       | 5,335             |       | 7,285                 |       |
| Assets of discontinued operations                                                                                                                                  |       | —            |       | 6,132                 |       |
| Total current  assets                                                                                                                                              |       | 105,675           |       | 52,120                |       |
|                                                                                                                                                               |       |              |       |                  |       |
| Property, plant  and equipment, net                                                                                                                                |       | 370,794           |       | 376,364               |       |
|                                                                                                                                                               |       |              |       |                  |       |
| Intangible and  other assets:                                                                                                                                      |       |              |       |                  |       |
| Wireless licenses, net                                                                                                                                             |       | 13,566            |       | 13,566                |       |
| Goodwill                                                                                                                                                           |       | 2,171             |       | 2,171                 |       |
| Deferred charges and other assets                                                                                                                                  |       | 1,466             |       | 1,529                 |       |
|                                                                                                                                                               |       | 17,203            |       | 17,266                |       |
|                                                                                                                                                               |       | $                 | 493,672    |                  | $          | 445,750 |   |
|                                                                                                                                                               |       |              |       |                  |       |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**                                                                                                                     |       |              |       |                  |       |
| Current  liabilities:                                                                                                                                              |       |              |       |                  |       |
| Current portion of long-term debt and capital lease  obligations                                                                                                   |       | $                 | 3,642      |                  | $          | 3,642 |   |
| Accounts payable                                                                                                                                                   |       | 2,920             |       | 3,069                 |       |
| Other accrued liabilities                                                                                                                                          |       | 18,966            |       | 21,736                |       |
| Current portion of contractual shareable earnings  obligations                                                                                                     |       | 1,734             |       | 1,707                 |       |
| Advance billings and deferred revenues                                                                                                                             |       | 9,459             |       | 9,374                 |       |
| Accrued income taxes                                                                                                                                               |       | —            |       | 345                   |       |
| Accrued compensation and pension benefits                                                                                                                          |       | 6,780             |       | 5,382                 |       |
| Liabilities of discontinued operations                                                                                                                             |       | —            |       | 298                   |       |
| Total current  liabilities                                                                                                                                         |       | 43,501            |       | 45,553                |       |
|                                                                                                                                                               |       |              |       |                  |       |
| Long-term debt  and capital lease obligations                                                                                                                      |       | 121,828           |       | 121,831               |       |
| Long-term  contractual shareable earnings obligations                                                                                                              |       | 742               |       | 1,891                 |       |
| Deferred income  taxes                                                                                                                                             |       | 31,880            |       | 36,777                |       |
| Other  liabilities and deferred revenues                                                                                                                           |       | 13,745            |       | 13,922                |       |
|                                                                                                                                                               |       |              |       |                  |       |
| Commitments and  contingencies                                                                                                                                     |       |              |       |                  |       |
|                                                                                                                                                               |       |              |       |                  |       |
| Shareholders’  equity:                                                                                                                                        |       |              |       |                  |       |
| Common stock, without par value; 100,000 shares  authorized, 14,466 and 14,465 shares issued and outstanding at June 30, 2007  and December 31, 2006, respectively |       | 158,618           |       | 157,926               |       |
| Accumulated other comprehensive income                                                                                                                             |       | 611               |       | 565                   |       |
| Retained earnings                                                                                                                                                  |       | 122,747           |       | 67,285                |       |
| Total  shareholders’ equity                                                                                                                                   |       | 281,976           |       | 225,776               |       |
|                                                                                                                                                               |       | $                 | 493,672    |                  | $          | 445,750 |   |

 

See accompanyingnotes.

2

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**SUREWESTCOMMUNICATIONS**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

*(Unaudited;Amounts in thousands)*
| ** **                                                          | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                          | ** ** | **2007**                                          | ** ** | **2006** | ** ** |
|                                                                |       |                                              |       |   |   |
| Net cash  provided by continuing operations                         |       | $                                                 | 22,394     |   | $ | 26,475 |   |
| Net cash (used  in) provided by discontinued operations             |       | (42,486                                           | )          | 4,944 |   |
| Net cash (used in) provided by operating activities                 |       | (20,092                                           | )          | 31,419 |   |
|                                                                |       |                                              |       |   |   |
| Cash flows from  investing activities:                              |       |                                              |       |   |   |
| Proceeds from sale of discontinued operations                       |       | 110,123                                           |       | — |   |
| Capital expenditures for property, plant and  equipment             |       | (22,503                                           | )          | (24,647 | ) |
| Purchases of held-to-maturity investments                           |       | (121,275                                          | )          | — |   |
| Maturities of held-to-maturity investments                          |       | 91,525                                            |       | — |   |
| Net cash provided by (used in) investing activities                 |       | 57,870                                            |       | (24,647 | ) |
|                                                                |       |                                              |       |   |   |
| Cash flows from  financing activities:                              |       |                                              |       |   |   |
| Proceeds from issuance of long-term debt                            |       | —                                            |       | 40,000 |   |
| Increase in short-term borrowings                                   |       | —                                            |       | (30,000 | ) |
| Principal payments of long-term debt and capital  lease obligations |       | (3                                                | )          | (24 | ) |
| Dividends paid                                                      |       | (7,233                                            | )          | (7,315 | ) |
| Other, net                                                          |       | —                                            |       | 1 |   |
| Net cash (used in) provided by financing activities                 |       | (7,236                                            | )          | 2,662 |   |
|                                                                |       |                                              |       |   |   |
| Increase in cash  and cash equivalents                              |       | 30,542                                            |       | 9,434 |   |
|                                                                |       |                                              |       |   |   |
| Cash and cash  equivalents at beginning of period                   |       | 6,371                                             |       | 7,633 |   |
|                                                                |       |                                              |       |   |   |
| Cash and cash  equivalents at end of period                         |       | $                                                 | 36,913     |   | $ | 17,067 |   |

 

See accompanyingnotes.

3

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**SUREWEST COMMUNICATIONS**

**NOTES TOCONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

*(Unaudited;Amounts in thousands, except share and per share amounts)*

**1.****                                      SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES**

**Business and Basis of Accounting**

SureWestCommunications (the “Company”) is a holding company with wholly-ownedsubsidiaries that provide communications services in Northern California. TheCompany’s operating subsidiaries are SureWest Telephone, SureWest LongDistance, SureWest Broadband, SureWest TeleVideo, SureWest TeleVideo ofRoseville, SureWest Internet, SureWest Custom Data Services and SureWestWireless. As discussed in Note 2 below, in February 2007 the Company sold itswholly-owned subsidiary SureWest Directories. Accordingly, the financialresults of SureWest Directories have been reported as discontinued operationsfor all periods presented in accordance with Statement of Financial AccountingStandards (“SFAS”) No. 144, *Accounting for theImpairment or Disposal of Long-Lived Assets*.  The notes to condensed consolidated financialstatements reflect historical amounts exclusive of discontinued operations,unless otherwise noted. The Company expects that the sources of its revenuesand its cost structure may be different in future periods, both as a result ofits entry into new communications markets and competitive forces in each of themarkets in which the Company has operations.

In the opinion ofmanagement, the accompanying condensed consolidated balance sheets and relatedinterim statements of income and cash flows include all adjustments, consistingonly of normal recurring items, necessary for their fair presentation inconformity with accounting principles generally accepted in the United States (“U.S.GAAP”) for interim financial information and pursuant to the rules andregulations of the Securities and Exchange Commission (the “SEC”). Certaininformation and footnote disclosures normally included in annual financialstatements prepared in accordance with U.S. GAAP have been condensed or omittedpursuant to such SEC rules and regulations and accounting principles applicablefor interim periods. Management believes that the disclosures made are adequateto make the information presented not misleading. Interim results are not necessarilyindicative of results for a full year. The information presented in this 10-Q should be read in conjunctionwith Management’s Discussion and Analysis of Financial Condition and Results ofOperations and the consolidated financial statements and notes thereto includedin the Company’s 2006 Annual Report on Form 10-K filed with the SEC.

**Statementsof Cash Flows Information**

During the sixmonths ended June 30, 2007, the Company made income tax payments of $44,970. Noincome tax payments were made during the six months ended June 30, 2006. Theincrease in income taxes paid (and corresponding decrease in net cash providedby operating activities) was due to an increase in estimated income taxpayments primarily as a result of the gain on the sale of SureWest Directories,as discussed in Note 2 below.

**Stock-basedCompensation**

***Stock Plans***

The Company hastwo Equity Incentive Plans (the “Stock Plans”) for certain employees, outsidedirectors and consultants of the Company, which were approved by shareholders.The Company authorized for future issuance under the Stock Plans approximately1.7 million shares (subject to upward adjustment based upon the Company’sissued and outstanding shares) of authorized, but unissued, common stock. TheStock Plans permit issuance by the Company of awards in the form of restrictedcommon stock (“RSAs”), restricted common stock units (“RSUs”), performanceshares, stock options and stock appreciation rights. The exercise price pershare of the Company’s common stock to be purchased under any incentive stockoption shall not be less than 100% of the fair market value of a share of theCompany’s common stock on the date of the grant, and the exercise price under anon-qualified stock option shall not be less than 85% of the fair market valueof the Company’s common stock at the date of the grant. The term of any stockoption shall not exceed 10 years.

***Adoption of Statement of Financial Accounting Standards No. 123(R)***

Effective January2006, the Company adopted SFAS No. 123(R), *Share-Based Payment*,using the modified-prospective-transition method. Since the fair valuerecognition provisions of SFAS No. 123, *Accounting for Stock-BasedCompensation* and SFAS No. 123(R) were materiallyconsistent under the Company’s Stock Plans, the adoption of SFAS No. 123(R) didnot have a significant impact on the Company’s financial position or results ofoperations.

Prior to theadoption of SFAS No. 123(R), the Company presented all tax benefits ofdeductions resulting from the exercise of share-based payments as operatingcash flows in its statement of cash flows. In accordance with guidance in SFASNo. 123(R), the cash flows resulting from excess tax benefits (tax benefitsrelated to the excess of proceeds from employee’s exercises of share basedpayments over the stock-based compensation cost recognized for those shares)are classified as financing cash flows.

4

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***Restricted Common Stock Awards and Units***

The following tablesummarizes the RSAs and RSUs granted to certain eligible participants duringthe quarters and six-month periods ended June 30, 2007 and 2006:

** **
| ** **    | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------|------------|-------------------------------------------|------------|---------------------------------------------------|------------|
| ** **    | ** ** | ** **                                | ** ** | **Grant Date**                               | ** ** | ** ** | ** ** | **Grant Date** | ** ** | ** ** | ** ** | **Grant Date** | ** ** | ** ** | ** ** | **Grant Date** | ** ** |
| ** **    | ** ** | **2007**                                  | ** ** | **Fair Value**                               | ** ** | **2006** | ** ** | **Fair Value** | ** ** | **2007** | ** ** | **Fair Value** | ** ** | **2006** | ** ** | **Fair Value** | ** ** |
|          |       |                                      |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| RSAs Granted  |       | —                                    |       | $                                                 | —     |   | — |   | $ | — |   | 1,338 |   | $ | 23.97 |   | 3,000 |   | $ | 27.63 |   |
| RSUs Granted  |       | 5,000                                     |       | $                                                 | 26.21      |   | 5,000 |   | $ | 22.54 |   | 5,000 |   | $ | 26.21 |   | 6,500 |   | $ | 22.54 - 27.63 |   |
| RSU Dividends |       | —                                    |       | $                                                 | —     |   | 101 |   | $ | 18.75 - 19.62 |   | — |   | $ | — |   | 101 |   | $ | 18.75 - 19.62 |   |
| Total         |       | 5,000                                     |       |                                              |       | 5,101 |   |   |   | 6,338 |   |   |   | 9,601 |   |   |   |

 

Stock-based compensation expense for both RSAs andRSUs of $477 and $654 was recorded during the quarter and six-month periodended June 30, 2007, respectively. During the same prior year periods, theCompany recorded stock-based compensation expense of $259 and $548,respectively.  RSAs and RSUs areamortized over their respective vesting periods, which range from immediatevesting to a five-year vesting period. In connection with the adoption of SFASNo. 123(R), the Company records stock-based compensation for RSAs and RSUs on astraight-line basis. The Company will continue to recognize stock-basedcompensation on RSAs and RSUs granted prior to 2006 using the graded vestingmethod. In accordance with the provisions of SFAS No. 123(R), the Company hasestimated expected forfeitures based on historical experience and isrecognizing compensation expense only for those RSAs and RSUs expected to vest.

The following tablesummarizes the RSAs activity during the six-month period ended June 30, 2007:

** **
|                            | ** ** | ** ** | ** ** | **Weighted Average**                | ** ** |
|----------------------------|------------|------------|------------|------------------------------------------|------------|
| **Nonvested Shares**  | ** ** | **Shares** | ** ** | **Grant Date Fair Value** | ** ** |
|                       |       |       |       |                                     |       |
| Nonvested-January  1, 2007 |       | 125,467    |       | $                                        | 27.00      |   |
| Granted                    |       | 6,338      |       | $                                        | 25.74      |   |
| Vested                     |       | (33,245    | )          | $                                        | 25.36      |   |
| Forfeited                  |       | (224       | )          | $                                        | 30.55      |   |
| Nonvested-June 30, 2007    |       | 98,336     |       | $                                        | 26.79      |   |

 

As of June 30, 2007, total unrecognized compensationcost related to nonvested restricted stock was $1,373 and will be recognizedover a weighted-average period of approximately three years. The total fairvalue of RSAs and RSUs vested during the six-month period ended June 30, 2007was $843.

***Stock Options Expense***

The Company issues newshares of common stock upon exercise of stock options.  The followingtable summarizes stock option activity for the Company’s stock option plans forthe six-month period ended June 30, 2007:

** **
|                                              | ** ** | ** ** | ** ** | **Weighted** | ** ** | **Weighted**              | ** ** |
|----------------------------------------------|------------|------------|------------|--------------|------------|---------------------------|------------|
| ** **                                   | ** ** | ** ** | ** ** | **Average**  | ** ** | **Average**               | ** ** |
| ** **                                   | ** ** | ** ** | ** ** | **Exercise** | ** ** | **Remaining**             | ** ** |
| **Options**                                  | ** ** | **Shares** | ** ** | **Price**    | ** ** | **Contractual Life** | ** ** |
| ** **                                   | ** ** | ** ** | ** ** | ** **   | ** ** | ** **                | ** ** |
| Outstanding-January  1, 2007                 |       | 383,714    |       | $            | 40.28      |                      |       |   |
| Forfeited                                    |       | (11,975    | )          | —       |       |                      |       |
| Outstanding-June  30, 2007                   |       | 371,739    |       | $            | 40.29      |                      | 4          |   |
| Vested or  Expected to Vest at June 30, 2007 |       | 371,739    |       | $            | 40.29      |                      | 4          |   |
| Exercisable at June 30,  2007                |       | 371,665    |       | $            | 40.29      |                      | 4          |   |

 

5

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There were nostock options granted, exercised or expired during the six-month period endedJune 30, 2007. In addition, there were no stock options with an exercise pricebelow the market price of the Company’s stock at that date.

**Per ShareAmounts**

Shares used in thecomputation of basic earnings per share are based on the weighted averagenumber of unrestricted common stock shares, RSAs and RSUs outstanding,excluding unvested RSAs and unvested RSUs. Shares used in the computation ofdiluted earnings per share are based on the weighted average number ofunrestricted common stock shares, RSAs and RSUs outstanding, plus the effect ofdilutive potential common shares outstanding during the period using thetreasury stock method, which includes outstanding unvested RSAs and RSUs,unless their inclusion would be anti-dilutive.

Cash dividends pershare are based on the actual dividends per share (including RSAs but excludingRSUs), as declared by the Company’s Board of Directors. On each date that theCompany pays a cash dividend to the holders of the Company’s common stock, theCompany credits to the holders of RSUs an additional number of RSUs equal tothe total number of whole RSUs and additional RSUs previously credited to theholders multiplied by the dollar amount of the cash dividend per share ofcommon stock. Any fractional RSUs resulting from such calculation are includedin the additional RSUs.

**Change in Estimate**

During the firstquarter of 2007, the Company completed its triennial review of asset lives thatevaluated the appropriateness of the estimated useful lives of its property,plant and equipment for all segments. The evaluation considered the Company’s investment and businessstrategy, reliability and historical performance data of certain assets, aswell as the impacts of competition and anticipated technological change. As aresult of this evaluation, effective January 1, 2007, the Companyincreased the estimated useful lives of certain of its customer premiseequipment, circuit equipment, cable plant and towers primarily in the Broadbandsegment. The increase in asset lives primarily ranged between 1 to 4 years,although the change in estimated useful lives for towers was 8 years.  The Company’s revisions to its estimateduseful lives have been supported by an assessment and report from anindependent party with expertise in this area that found the revisions to bereasonable in light of the Company’s plan and useful life estimates incomparable businesses. During the quarter and six-month period ended June 30,2007, this change in estimate decreased consolidated depreciation expense by$933 and $1,881 and increased consolidated net income by $640 ($0.04 per share)and $1,295 (0.09 per share), respectively.

**Reclassifications**

Certain amounts inthe Company’s 2006 condensed consolidated financial statements have beenreclassified to conform to the presentation of the Company’s 2007 condensedconsolidated financial statements.

**2.     DISCONTINUED OPERATIONS**

In January 2007,the Company entered into a definitive agreement with GateHouse Media to sellSureWest Directories, its directory publishing business.  As part of the transaction, GateHouse Mediabecame the publisher of the official directory of SureWest Telephone. Thetransaction was consummated on February 28, 2007.  Under the agreement, GateHouse Media acquired100% of the stock of SureWest Directories for an aggregate cash purchase price of$110,123, resulting in a gain of $101,286, less estimated income taxes of$41,384.

The following tablesummarizes the financial information for SureWest Directories’ operations forthe quarters and six-month periods ended June 30, 2007 and 2006:

** **
|                                      | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                           | ** ** | **2007**                                            | ** ** | **2006**                                          | ** ** | **2007** | ** ** | **2006** | ** ** |
| Directory  advertising revenues      |       | $                                                   | —     |                                              | $          | 3,993 |   | $ | 2,939 |   | $ | 8,781 |   |
| Income before  income taxes          |       | —                                              |       | 2,211                                             |       | 1,682 |   | 5,173 |   |
| Income tax  expense                  |       | —                                              |       | 898                                               |       | 683 |   | 2,101 |   |
| Income from  discontinued operations |       | $                                                   | —     |                                              | $          | 1,313 |   | $ | 999 |   | $ | 3,072 |   |

 

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**3.     BUSINESS SEGMENTS**

The Company hasthree reportable business segments: Telecommunications (“Telecom”), Broadbandand Wireless. The Telecom segment includes SureWest Telephone and SureWest LongDistance, which provide landline telecommunications services, DigitalSubscriber Line (“DSL”) service, long distance services and certainnon-regulated services. SureWest Telephone, which is the principal operatingsubsidiary of the Telecom segment, provides local services, toll telephoneservices, network access services and certain non-regulated services.  SureWest Long Distance provides long distanceservices.

The Broadbandsegment provides various services, including: high-speed and dial-up Internet,digital video, voice, network access, toll telephone and managed services inthe greater Sacramento area, principally to customers residing outside ofSureWest Telephone’s service area. The Company offers high-speed Internet,digital video, voice and long distance phone service as a bundled packagesometimes referred to as fiber-to-the-premise (“FTTP”). The Broadband segmentincludes the Company’s subsidiaries SureWest Broadband, SureWest TeleVideo,SureWest TeleVideo of Roseville, SureWest Internet, SureWest Custom DataServices; and a division of SureWest Telephone operating as a Competitive LocalExchange Carrier.

The Wirelesssegment consists of the Company’s subsidiary SureWest Wireless, which provideswireless services. Wireless revenues include wireless voice services, sales ofhandsets and related accessories, long distance, roaming service and customcalling features. Wireless services are provided on a month-to-month basis andare generally billed in advance for non-contract subscribers and in arrears forcontract subscribers.

In accordance withthe provisions of SFAS No. 131, *Disclosure About Segmentsof an Enterprise and Related Information*, the Company has aggregatedcertain of its operating segments within the Telecom and Broadband segmentsbecause it believes that such operating segments share similar economiccharacteristics.

CorporateOperations are allocated to the appropriate segment, except for cash;investments; certain property, plant, and equipment; and miscellaneous otherassets, which are not allocated to the segments. However, the investment incomeassociated with cash and investments held by Corporate Operations is includedin the results of the operations of the Company’s segments. The Companyevaluates the performance of its segments based on income (loss) fromoperations.

These segments arestrategic business units that offer different products and services. TheCompany accounts for intersegment revenues and expenses at prevailing marketrates. The Company’s business segment information is as follows:

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** **
| ** **                                               | ** ** | ** **  | ** ** | ** **    | ** ** | ** **   | ** ** | **Corporate**  | ** ** | **Intercompany** | ** ** | ** **       | ** ** |
|----------------------------------------------------------|------------|-------------|------------|---------------|------------|--------------|------------|----------------|------------|------------------|------------|------------------|------------|
| ** **                                               | ** ** | **Telecom** | ** ** | **Broadband** | ** ** | **Wireless** | ** ** | **Operations** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| ** **                                               |       |        |       |          |       |         |       |           |       |             |       |             |       |
| **As of  and for the three months ended June 30, 2007:** |       |        |       |          |       |         |       |           |       |             |       |             |       |
| Operating  revenues from external customers              |       | $           | 27,249     |          | $          | 17,069       |       | $              | 8,115      |             | $          | —           |       | $ | — |   | $ | 52,433 |   |
| Intersegment  revenues                                   |       | 5,918       |       | 475           |       | 781          |       | —         |       | (7,174           | )          | —           |       |
| Operating  expenses*                                     |       | 16,008      |       | 16,661        |       | 10,241       |       | —         |       | (7,174           | )          | 35,736           |       |
| Depreciation and  amortization                           |       | 5,678       |       | 5,431         |       | 3,166        |       | —         |       | —           |       | 14,275           |       |
| Income (loss)  from operations                           |       | 11,481      |       | (4,548        | )          | (4,511       | )          | —         |       | —           |       | 2,422            |       |
| Income (loss)  from continuing operations                |       | $           | 8,047      |          | $          | (3,435       | )          | $              | (2,827     | )                | $          | —           |       | $ | — |   | $ | 1,785 |   |
|                                                     |       |        |       |          |       |         |       |           |       |             |       |             |       |
| **As of  and for the three months ended June 30, 2006:** |       |        |       |          |       |         |       |           |       |             |       |             |       |
| Operating  revenues from external customers              |       | $           | 28,196     |          | $          | 15,024       |       | $              | 8,144      |             | $          | —           |       | $ | — |   | $ | 51,364 |   |
| Intersegment  revenues                                   |       | 7,450       |       | 312           |       | 695          |       | —         |       | (8,457           | )          | —           |       |
| Operating  expenses*                                     |       | 16,950      |       | 16,327        |       | 9,573        |       | —         |       | (8,457           | )          | 34,393           |       |
| Depreciation and  amortization                           |       | 6,309       |       | 5,721         |       | 2,977        |       | —         |       | —           |       | 15,007           |       |
| Income (loss)  from operations                           |       | 12,387      |       | (6,712        | )          | (3,711       | )          | —         |       | —           |       | 1,964            |       |
| Income (loss) from  continuing operations                |       | $           | 7,286      |          | $          | (4,777       | )          | $              | (2,418     | )                | $          | —           |       | $ | — |   | $ | 91 |   |

 

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*Exclusive of depreciation and amortization
| ** **                                             | ** ** | ** **  | ** ** | ** **    | ** ** | ** **   | ** ** | **Corporate**  | ** ** | **Intercompany** | ** ** | ** **       | ** ** |
|--------------------------------------------------------|------------|-------------|------------|---------------|------------|--------------|------------|----------------|------------|------------------|------------|------------------|------------|
| ** **                                             | ** ** | **Telecom** | ** ** | **Broadband** | ** ** | **Wireless** | ** ** | **Operations** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **As of  and for the six months ended June 30, 2007:** | ** ** | ** **  | ** ** | ** **    | ** ** | ** **   | ** ** | ** **     | ** ** | ** **       | ** ** | ** **       | ** ** |
| Operating  revenues from external customers            |       | $           | 53,610     |          | $          | 33,491       |       | $              | 16,316     |             | $          | —           |       | $ | — |   | $ | 103,417 |   |
| Intersegment  revenues                                 |       | 12,890      |       | 995           |       | 1,566        |       | —         |       | (15,451          | )          | —           |       |
| Operating  expenses*                                   |       | 32,439      |       | 34,439        |       | 20,515       |       | —         |       | (15,451          | )          | 71,942           |       |
| Depreciation and  amortization                         |       | 11,243      |       | 10,618        |       | 6,202        |       | —         |       | —           |       | 28,063           |       |
| Income (loss)  from operations                         |       | 22,818      |       | (10,571       | )          | (8,835       | )          | —         |       | —           |       | 3,412            |       |
| Income (loss)  from continuing operations              |       | $           | 15,025     |          | $          | (7,530       | )          | $              | (5,657     | )                | $          | —           |       | $ | — |   | $ | 1,838 |   |
| Total assets                                           |       | $           | 802,382    |          | $          | 447,576      |       | $              | 156,329    |             | $          | 679,528          |       | $ | (1,592,143 | ) | $ | 493,672 |   |
| ** **                                             | ** ** | ** **  | ** ** | ** **    | ** ** | ** **   | ** ** | ** **     | ** ** | ** **       | ** ** | ** **       | ** ** |
| **As of  and for the six months ended June 30, 2006:** | ** ** | ** **  | ** ** | ** **    | ** ** | ** **   | ** ** | ** **     | ** ** | ** **       | ** ** | ** **       | ** ** |
| Operating  revenues from external customers            |       | $           | 55,296     |          | $          | 28,906       |       | $              | 16,538     |             | $          | —           |       | $ | — |   | $ | 100,740 |   |
| Intersegment  revenues                                 |       | 14,778      |       | 736           |       | 1,375        |       | —         |       | (16,889          | )          | —           |       |
| Operating  expenses*                                   |       | 33,968      |       | 32,998        |       | 18,579       |       | —         |       | (16,889          | )          | 68,656           |       |
| Depreciation and  amortization                         |       | 12,612      |       | 10,918        |       | 5,940        |       | —         |       | —           |       | 29,470           |       |
| Income (loss)  from operations                         |       | 23,494      |       | (14,274       | )          | (6,606       | )          | —         |       | —           |       | 2,614            |       |
| Income (loss)  from continuing operations              |       | $           | 13,747     |          | $          | (9,866       | )          | $              | (4,350     | )                | $          | —           |       | $ | — |   | $ | (469 | ) |
| Total assets                                           |       | $           | 695,859    |          | $          | 352,920      |       | $              | 149,953    |             | $          | 412,969          |       | $ | (1,152,458 | ) | $ | 459,243 |   |

 

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*Exclusive ofdepreciation and amortization

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**4.****     ESTIMATED SHAREABLE EARNINGSOBLIGATIONS**

Significantportions of the SureWest Telephone’s rates and charges are subject toregulation by the Federal Communications Commission (“FCC”) and the CaliforniaPublic Utilities Commission (“CPUC”). Rates and charges are based on various tariffs filed by SureWest andothers, including those filed by the National Exchange Carrier Association (“NECA”)for interstate common line (“CL”) charges. Pending and future regulatory actions, with respect to these and other mattersand the filing of new or amended tariffs, may have a material impact on theCompany’s consolidated financial position and results of operations.

As a result ofperiodic cost separation studies required by the FCC, SureWest Telephonechanged its estimates for certain NECA CL accounts receivable balances relatedto current and prior year monitoring periods. For the quarter and six-month period ended June 30, 2007, these changesin estimates increased the Company’s consolidated revenues by $688 and $806 andnet income by $473 ($0.03 per share) and $555 ($0.04 per share),respectively.  The Company did not recordany significant changes in estimates during the quarter and six-month periodended June 30, 2006.

In 2004, theCompany entered into a settlement agreement (the “settlement agreement”), whichwas ultimately approved by the CPUC, to resolve an ongoing regulatoryproceeding with various parties.  Thesettlement agreement resolved past sharing liabilities and suspended futuresharing requirements in the intrastate jurisdiction.  In accordance with the settlement agreement,SureWest Telephone is returning approximately $6,500 (“Dividend A”), plusinterest at the 90-day commercial paper rate for non-financial institutions,which was 5.23% as of June 30, 2007, and an imputed rate of 3.15%, to its endusers through a consumer dividend over a period of approximately four years,which began January 1, 2005.  Inaddition, SureWest Telephone paid a one-time consumer dividend of $2,600 (“DividendB”), to consumers to settle the monitoring periods 2000 to 2004 payable overapproximately two years, which began January 1, 2005 and was completed in March2007.  The consumer dividend included anannual imputed interest rate of 3.15% (no stated contractual interestrate).  The consumer dividends wererecorded as a reduction of the Company’s contractual shareable earningsobligations.  At June 30, 2007, theaggregate contractual shareable earnings obligation for these surcredits was$2,476 (which is net of an unamortized discount pertaining to imputed interestof $66 at that date).

The following tablesummarizes the amounts returned to end users through consumer dividends for thequarters and six-month periods ended June 30, 2007 and 2006.

** **
|            | ** ** | **Quarter Ended** | ** ** | **Six Months Ended** | ** ** |
|------------|------------|------------------------|------------|--------------------------------|------------|
| ** ** | ** ** | **June 30,**      | ** ** | **June 30,**              | ** ** |
| ** ** | ** ** | **2007**               | ** ** | **2006**                       | ** ** | **2007** | ** ** | **2006** | ** ** |
| Dividend A |       | $                      | 475        |                           | $          | 505 |   | $ | 961 |   | $ | 1,020 |   |
| Dividend B |       | —                 |       | 295                            |       | 210 |   | 596 |   |
| Total      |       | $                      | 475        |                           | $          | 800 |   | $ | 1,171 |   | $ | 1,616 |   |

 

As part of thesettlement agreement, SureWest Telephone was to implement an additional annualconsumer dividend of $1,300 on January 1, 2007 to end-users receiving SureWestTelephone services subject to sharing on or after that date.  However, this consumer dividend was subjectto reduction based upon the results of other pending regulatoryproceedings.  Pursuant to a CPUC order inDecember 2006, beginning in 2007 this dividend was offset by a reduction in theCompany’s interim draw from the California High Cost Fund (“CHCF”), which waspreviously authorized by a CPUC decision in August 2005 which allowed SureWestTelephone to continue receiving $11,500 annually from the CHCF to offset itsintrastate regulated operating expenses on an interim basis. In August 2006,the Company requested permission from the CPUC to implement a graduated phasedown of its $11,500 draw and in December 2006, the CPUC authorized the Companyto offset its interim draw from the CHCF with the aforementioned $1,300consumer dividend.  The Division ofRatepayer Advocates (“DRA”) filed comments on the Company’s request andrecommended that SureWest Telephone immediately discontinue receipt of itsentire annual $11,500 interim CHCF fund draw. In July 2007, the CPUC released a Proposed Decision which if adoptedwould deny the DRA request, grant SureWest Telephone’s Petition and commencethe phase down of SureWest Telephone’s interim CHCF draw over a five-yearperiod, a phase down that would end on January 1, 2012. The phase down of the interimdraw is proposed to begin in 2007, initially reducing the annual $11,500interim draw by the aforementioned $1,300 consumer dividend to $10,200. In eachsubsequent year the interim CHCF draw would be incrementally reduced byapproximately $2,000 annually.  The finalresults of this proceeding,

9

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a pendingrulemaking proceeding reviewing the entire CHCF and the resultant potentialeffects on SureWest Telephone could impact future support through the CHCF.

In an ongoingproceeding relating to the New Regulatory Framework (under which SureWestTelephone has been regulated under since 1996), the CPUC adopted decision06-08-030 in 2006, which grants carriers broader pricing freedom in theprovision of telecommunications services, bundling of services, promotions andcustomer contracts.  This decisionadopted a new regulatory framework, the Uniform Regulatory Framework (“URF”),which among other things (i) eliminates price regulation and allows fullpricing flexibility for all new and retail services except lifeline and basicresidential services, (ii) allows new forms of bundles and promotional packagesof telecommunication services, (iii) allocates all gains and losses from thesale of assets to shareholders, and (iv) eliminates almost all elements of rateof return regulation, including the calculation of shareable earnings.

In January 2007,The Utility Reform Network filed a petition for writ of review in the Court ofAppeal of the State of California seeking an order that the CPUC’s decision beset aside.  In May 2007, the Court ofAppeal denied The Utility Reform Network’s Petition for Writ of review and theCPUC’s decision has become final.

As of June 30,2007, the Company’s consolidated balance sheet reflected aggregate liabilitiesof $73 relating to SureWest Telephone’s estimated interstate shareable earningsobligations. The calculations supporting these liabilities are very complex andinvolve a variety of estimates prior to the ultimate settlement of suchobligations. In addition, SureWest Telephone’s interstate shareable earningsobligations lapse over time if SureWest Telephone’s interexchange carriers andother customers do not claim the amounts ascribed to them. Accordingly, it isreasonably possible that management’s estimates of the Company’s liabilitiesfor interstate shareable earnings obligations could change in the near term,and the amounts involved could be material.

**5.****     INCOME TAXES**

On January 1,2007, the Company adopted Financial Accounting Standards Board (“FASB”)Interpretation (“FIN”) No. 48, *Accounting for Uncertaintyin Income Taxes*.  FIN No. 48clarifies the accounting for uncertainty in income taxes recognized in acompany’s financial statements in accordance with FASB No. 109, *Accounting for Income Taxes*. Specifically, the pronouncementprescribes a recognition threshold and a measurement attribute for thefinancial statement recognition and measurement of a tax position taken orexpected to be taken in a tax return. FIN No. 48 also provides guidance on de-recognition,classification, interest and penalties, accounting in interim periods,disclosure and transition of uncertain tax positions.

The adoption ofFIN No. 48 did not have a material impact on the Company’s financial positionor results of operations.  The Companyhad a liability for unrecognized tax benefits of approximately $1,511 and$1,003 at the date of adoption and June 30, 2007, respectively.  Unrecognized tax benefits were reduced by$374 and $523 during the quarter and six month period ended June 30, 2007,respectively, due to lapses in the statute of limitations.  There were no changes due to tax positionstaken or settlements with taxing authorities.

The total amountof unrecognized tax benefits that, if recognized, would affect the effectivetax rate were $1,008 and $500 at January 1, 2007 and June 30, 2007,respectively and include approximately $284 of income tax benefits relating toresearch and development credits and accrued interest that are affected bystatute of limitations expiring within the next 12 months.

The Company’spolicy is to recognize interest and penalties related to uncertain taxpositions in income tax expense.  As ofJune 30, 2007, the Company had approximately $167 of accrued interest andpenalties in the unrecongnized tax benefits above.

As of June 30, 2007, the following tax years and related taxingjurisdictions were open:

** **

| Tax Year | ** ** | **Taxing Jurisdiction** | ** ** |
|---------------|------------|------------------------------|------------|
| 2000          |       | California                   |       |
| 2002 - 2006   |       | Federal and California       |       |

 

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**6.****     PENSION AND OTHERPOST-RETIREMENT BENEFITS**

The Companysponsors a noncontributory defined benefit pension plan (the “Pension Plan”)covering substantially all of its employees. Benefits are based on years ofservice and the employee’s average compensation during the five highestconsecutive years of the last ten years of credited service. The Company’sfunding policy is to contribute annually an actuarially determined amountconsistent with applicable federal income tax regulations. Contributions areintended to provide for benefits attributed to service to date. Pension Planassets are primarily invested in domestic equity securities, United Statesgovernment and agency securities and international equity securities.

The Company alsohas an unfunded Supplemental Executive Retirement Plan (“SERP”), which providessupplemental retirement benefits to certain former executives of the Company.The SERP provides for incremental pension payments to partially offset thereduction in amounts that would have been payable under the Pension Plan if itwere not for limitations imposed by federal income tax regulations.

In addition, theCompany provides certain post-retirement benefits other than pensions (“OtherBenefits”) to substantially all employees, including medical expensereimbursement, continuation of active medical plan, life insurance benefits anda stated reimbursement for Medicare supplemental insurance.

In January 2007,the Company amended the Pension Plan, SERP and Other Benefits (collectively the“Plans”).  As a result, effective April1, 2007, the Company froze the Pension Plan so that no person is eligible tobecome a new participant in the Plans on or following that date and all futurebenefit accruals for existing employees under the Plans cease.  The amendments to the Plans were accountedfor as plan curtailments, resulting in the recognition of a $574 non-cashpretax curtailment loss ($0.04 per share) reflected in operating expenses inthe Company’s consolidated statement of operations during the quarter endedDecember 31, 2006.

In March 2007, theCompany amended the Other Benefits Plan effectively reinstating nearly allpost-retirement benefits previously offered, as described above, for allemployee’s hired on or before March 1, 2007. Life insurance benefits and a stated reimbursement for Medicaresupplemental insurance were available to employee’s who retired prior to June1, 2007 and April 1, 2007, respectively.

InSeptember 2006, the FASB issued SFAS No. 158, *Employers’Accounting for Defined Benefit Pension and Other Postretirement Plans*,an Amendment of FASB Statements No’s 87, 88, 106 and 132(R).  SFAS No. 158 requires an employer torecognize the funded status of a defined benefit postretirement plan as anasset or liability in its statement of financial position and to recognizechanges in that funded status in the year in which the changes occur throughcomprehensive income.  SFAS No. 158requires an employer with publicly traded equity securities to initiallyrecognize the funded status of a defined benefit postretirement plan and therequired disclosures as of the end of the fiscal year ending after December 15,2006.  The Company adopted SFASNo. 158 on December 31, 2006.

**Componentsof Net Periodic Benefit Cost**

Net periodic pensioncosts recognized in the condensed consolidated statements of income for thequarters and six-month periods ended June 30, 2007 and 2006 under the Plansincluded the following components:

** **
|                                                 | ** ** | **Pension Plan and SERP** | ** ** | **Other Benefits** | ** ** |
|-------------------------------------------------|------------|------------------------------------------|------------|-------------------------|------------|
| ** **                                      | ** ** | **2007**                                 | ** ** | **2006**                | ** ** | **2007** | ** ** | **2006** | ** ** |
| **Quarter ended June 30,**       |       |                                     |       |                    |       |   |   |   |   |
| Service  cost-benefits earned during the period |       | $                                        | (107       | )                       | $          | 690 |   | $ | 64 |   | $ | 167 |   |
| Interest cost on  projected benefit obligation  |       | 1,829                                    |       | 1,753                   |       | 238 |   | 185 |   |
| Expected return  on plan assets                 |       | (2,330                                   | )          | (2,150                  | )          | (192 | ) | (80 | ) |
| Amortization of  prior service cost             |       | 1                                        |       | 21                      |       | (46 | ) | 12 |   |
| Recognized net  actuarial (gain)/loss           |       | 10                                       |       | 166                     |       | (31 | ) | 12 |   |
| Net pension and other benefits (income)/cost    |       | $                                        | (597       | )                       | $          | 480 |   | $ | 33 |   | $ | 296 |   |
|                                            |       |                                     |       |                    |       |   |   |   |   |
| **Six  months ended June 30,**                  | ** ** | ** **                               | ** ** | ** **              | ** ** | ** ** | ** ** | ** ** | ** ** |
| Service  cost-benefits earned during the period |       | $                                        | 1,093      |                    | $          | 2,236 |   | $ | 64 |   | $ | 333 |   |
| Interest cost on  projected benefit obligation  |       | 3,629                                    |       | 3,793                   |       | 238 |   | 370 |   |
| Expected return  on plan assets                 |       | (4,630                                   | )          | (4,315                  | )          | (192 | ) | (160 | ) |
| Amortization of  prior service cost             |       | 1                                        |       | 47                      |       | (46 | ) | 25 |   |
| Recognized net  actuarial (gain)/loss           |       | 10                                       |       | 464                     |       | (31 | ) | 25 |   |
| Net pension and  other benefits cost            |       | $                                        | 103        |                    | $          | 2,225 |   | $ | 33 |   | $ | 593 |   |

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**7.****     COMMITMENTS AND CONTINGENCIES**

**CreditArrangements**

In May 2006, theCompany completed an unsecured Credit Agreement for a Term Loan facility and aRevolving Loan facility (collectively “Loan Facilities”) in principal amountsup to $75,000 and $25,000, respectively. Interest on the Loan Facilities is payable quarterly and based on aLIBOR, variable interest rate, or a fixed interest rate pricing formula, or acombination, as defined in the Credit Agreement. Principal payments on theoutstanding amounts borrowed under the Term Loan facility as of December 31, 2007were due in equal quarterly installments commencing March 31, 2008 through June30, 2016.  The Revolving Loan facilityhad an expiration date of June 30, 2013. In May 2007, the Company amended and restated its Credit Agreement forboth the Term Loan facility and the Revolving Loan facility to principalamounts of $40,000 and up to $60,000, respectively.  Principal payments on the outstanding amountsborrowed under the Loan Facilities are now due and payable on May 1, 2012.  There were no material changes to interestcalculations, interest payments, or financial covenants.  As of June 30, 2007 and December 31, 2006,$40,000 was outstanding under the Term Loan Facility and no amounts wereoutstanding under the Revolving Loan facility.

Certain of theCompany’s credit arrangements contain financial and operating covenants thatrestrict, among other things, the payment of cash dividends, repurchase of theCompany’s capital stock, the making of certain other restricted payments andthe incurrence of additional indebtedness. The covenants also require theCompany to maintain certain financial ratios and minimum levels of tangible networth. At June 30, 2007 and December 31, 2006, retained earnings ofapproximately $121,976 and $65,776, respectively, were available for thepayment of cash dividends or other restricted payments under the terms of theCompany’s credit arrangements.

**Litigation,Regulatory Proceedings and Other Contingencies**

The Company issubject to certain legal and regulatory proceedings, Internal Revenue Serviceexaminations and other income tax exposures, and other claims arising in theordinary course of its business. In the opinion of management, the ultimateoutcome of these matters will not materially affect the consolidated financialposition, results of operations or cash flows of the Company.

**8.****     RECENT ACCOUNTINGPRONOUNCEMENTS**

In February 2007,the FASB issued SFAS No. 159, *The Fair Value Option forFinancial Assets and Financial Liabilities - Including an Amendment of FASBStatement No. 115*. This standard permits an entity to elect tomeasure many financial instruments and certain other items at fair value.Unrealized gains and losses on items for which the fair value option has beenelected will be recognized in earnings at each subsequent reporting date. SFASNo. 159 is effective as of the beginning of an entity’s first fiscal year thatbegins after November 15, 2007.  Early adoption is permitted as of thebeginning of the previous fiscal year provided that the entity makes thatchoice in the first 120 days of that fiscal year and also elects to apply theprovisions of FASB Statement No. 157, *Fair Value Measurements*.The Company is currently evaluating the impact, if any, the adoption of SFASNo. 159 will have on its consolidated financial statements.

In September 2006,the FASB issued SFAS No. 157, *Fair Value Measurements*,which defines fair value, establishes a framework for measuring fair value ingenerally accepted accounting principles, and expands disclosures about fairvalue measurements.  SFAS No. 157 iseffective for financial statements issued for fiscal years beginning afterNovember 15, 2007, and for interim periods within those fiscal years. TheCompany is currently evaluating the impact, if any, the adoption of SFAS No.157 will have on its consolidated financial statements.

12

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**ITEM 2.****  MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.**

*(Amountsin thousands, except selected operating metrics and share and per shareamounts)*

Certaininformation included in this quarterly report on Form 10-Q of SureWestCommunications (the “Company”), including that which relates to the impact onfuture revenue sources and potential sharing obligations of pending and futureregulatory orders, continued expansion of the telecommunications network andexpected changes in the sources of the Company’s revenue and its cost structureresulting from its entrance into new communications markets, are forwardlooking statements and are made pursuant to the safe harbor provisions of theSecurities Litigation Reform Act of 1995. Such forward looking statements aresubject to a number of risks, assumptions and uncertainties that could causethe Company’s actual results to differ from those projected in such forwardlooking statements.

Important factorsthat could cause actual results to differ from those set forth in the forwardlooking statements include, but are not limited to: advances intelecommunications technology, changes in the telecommunications regulatoryenvironment, changes in the financial stability of other telecommunicationsproviders that are customers of the Company, changes in competition in marketsor businesses in which the Company operates, adverse circumstances affectingthe economy in California in general, and in the Sacramento, CaliforniaMetropolitan area in particular, the availability of future financing, changesin the demand for services and products, new product and service developmentand introductions, pending and future litigation, and unanticipated changes inthe growth of the Company’s emerging businesses, including the wireless andbroadband business segments.

**CorporateStructure**

The Company is aholding company with wholly-owned subsidiaries operating in theTelecommunications (“Telecom”), Broadband and Wireless segments.

The Telecomsegment includes SureWest Telephone and SureWest Long Distance, which providelandline telecommunications services, Digital Subscriber Line (“DSL”) service,long distance services and certain non-regulated services. SureWest Telephone,which is the principal operating subsidiary of the Telecom segment, provideslocal services, toll telephone services, network access services and certainnon-regulated services.  SureWest LongDistance is a reseller of long distance services.

Effective February28, 2007, GateHouse Media acquired 100% of the stock of SureWest Directories(previously included in the Telecom segment), its directory publishing businessfor an aggregate cash purchase price of $110,123, resulting in a gain of $101,286,less estimated income taxes of $41,384. As part of the transaction, GateHouse Media became the publisher of theofficial directory of SureWest Telephone. The Company continues to evaluate itsbusinesses and product lines and believes this transaction will permit theCompany to focus more on the strategic growth of its core business of being afull-service integrated communications provider.

The Broadbandsegment includes the Company’s subsidiaries SureWest Broadband, SureWestTeleVideo, SureWest TeleVideo of Roseville, SureWest Internet, SureWest CustomData Services; and a division of SureWest Telephone operating as a CompetitiveLocal Exchange Carrier (“CLEC”). The Broadband segment provides variousservices, including high-speed and dial-up Internet, digital video, voice,network access, long distance and managed services in the greater Sacramentoarea, principally to customers residing outside of SureWest Telephone’s servicearea.

The Wirelesssegment consists of the Company’s subsidiary SureWest Wireless, which provideswireless services. Wireless revenues include wireless voice services, sales ofhandsets and related accessories, long distance, roaming service and customcalling features. Wireless services are provided on a month-to-month basis andare generally billed in advance for non-contract subscribers and in arrears forcontract subscribers.

The Companyexpects that the sources of its revenues and its cost structure may bedifferent in future periods, both as a result of its entry into newcommunications markets and competitive forces in each of the markets in whichthe Company has operations.

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**ConsolidatedNet Income**

Net income for thesix-month period ended June 30, 2007 was $62,739, or $4.35 per share,substantially all of which ($60,901, or $4.22 per share, net of tax) resultedfrom the sale of SureWest Directories on February 28, 2007.  In the same prior year period, the Company’snet income was $2,603 ($0.18 per share), of which $3,072 ($0.21 per share) wasattributable to the operations of SureWest Directories (now reported as adiscontinued operation).  In the firstquarter of 2007, income from operations of SureWest Directories (for thetwo-months ended February 28, 2007) was $999.

Income fromcontinuing operations in the six-month period ended June 30, 2007 was $1,838($0.13 per share), compared to a loss of $469 ($0.03 per share) in the sameperiod of 2006.

**Resultsof Operations**

**ConsolidatedOverview**

The tables belowreflect certain financial data (on a consolidated and segment basis) andselected operating metrics for each reportable segment as of and for thequarters and six-month periods ended June 30, 2007 and 2006.

**FinancialData**
| ** **                                   | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|----------------------------------------------|------------|-------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                   | ** ** | **2007**                                  | ** ** | **2006**                                          | ** ** | **$  Change** | ** ** | **%  Change** | ** ** | **2007** | ** ** | **2006** | ** ** | **$  Change** | ** ** | **%  Change** | ** ** |
| **Operating  revenues (1)**                  | ** ** | ** **                                | ** ** | ** **                                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Telecom                                      |       | $                                         | 27,249     |                                              | $          | 28,196 |   | $ | (947 | ) | (3 | )% |   | $ | 53,610 |   | $ | 55,296 |   | $ | (1,686 | ) | (3 | )% |   |
| Broadband                                    |       | 17,069                                    |       | 15,024                                            |       | 2,045 |   | 14 |   |   | 33,491 |   | 28,906 |   | 4,585 |   | 16 |   |   |
| Wireless                                     |       | 8,115                                     |       | 8,144                                             |       | (29 | ) | — |   |   | 16,316 |   | 16,538 |   | (222 | ) | (1 | ) |   |
| Operating revenues                           |       | 52,433                                    |       | 51,364                                            |       | 1,069 |   | 2 |   |   | 103,417 |   | 100,740 |   | 2,677 |   | 3 |   |   |
|                                         |       |                                      |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Income (loss) from operations**            | ** ** | ** **                                | ** ** | ** **                                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Telecom                                      |       | 11,481                                    |       | 12,387                                            |       | (906 | ) | (7 | ) |   | 22,818 |   | 23,494 |   | (676 | ) | (3 | ) |   |
| Broadband                                    |       | (4,548                                    | )          | (6,712                                            | )          | 2,164 |   | 32 |   |   | (10,571 | ) | (14,274 | ) | 3,703 |   | 26 |   |   |
| Wireless                                     |       | (4,511                                    | )          | (3,711                                            | )          | (800 | ) | (22 | ) |   | (8,835 | ) | (6,606 | ) | (2,229 | ) | (34 | ) |   |
| Income from operations                       |       | 2,422                                     |       | 1,964                                             |       | 458 |   | 23 |   |   | 3,412 |   | 2,614 |   | 798 |   | 31 |   |   |
|                                         |       |                                      |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Income (loss) from continuing operations** | ** ** | ** **                                | ** ** | ** **                                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Telecom                                      |       | 8,047                                     |       | 7,286                                             |       | 761 |   | 10 |   |   | 15,025 |   | 13,747 |   | 1,278 |   | 9 |   |   |
| Broadband                                    |       | (3,435                                    | )          | (4,777                                            | )          | 1,342 |   | 28 |   |   | (7,530 | ) | (9,866 | ) | 2,336 |   | 24 |   |   |
| Wireless                                     |       | (2,827                                    | )          | (2,418                                            | )          | (409 | ) | (17 | )% |   | (5,657 | ) | (4,350 | ) | (1,307 | ) | (30 | )% |   |
| Income (loss)  from continuing operations    |       | $                                         | 1,785      |                                              | $          | 91 |   | $ | 1,694 |   | NA |   |   | $ | 1,838 |   | $ | (469 | ) | $ | 2,307 |   | NA |   |   |

 

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(1) Externalcustomers only

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**Selected Operating Metrics**
| ** **                                     | ** ** | **As of June 30,** | ** ** |
|------------------------------------------------|------------|--------------------|------------|
| ** **                                     | ** ** | **2007**           | ** ** | **2006** | ** ** | **Change** | ** ** | **% Change** | ** ** |
| **Telecom**                                    | ** ** | ** **         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Incumbent Local  Exchange Carrier access lines |       | 120,969            |       | 127,278 |   | (6,309 | ) | (5 | )% |
| Long distance lines                            |       | 58,175             |       | 55,637 |   | 2,538 |   | 5 |   |
|                                           |       |               |       |   |   |   |   |   |   |
| **Broadband**                                  | ** ** | ** **         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total subscribers (1)                          |       | 62,130             |       | 53,505 |   | 8,625 |   | 16 |   |
| Broadband  Revenue-generating units (2)        |       | 100,657            |       | 85,907 |   | 14,750 |   | 17 |   |
| Data                                           |       | 59,792             |       | 51,038 |   | 8,754 |   | 17 |   |
| Video                                          |       | 19,747             |       | 17,110 |   | 2,637 |   | 15 |   |
| Voice                                          |       | 21,118             |       | 17,759 |   | 3,359 |   | 19 |   |
| Business Voice-grade  equivalents (3)          |       | 946,900            |       | 696,500 |   | 250,400 |   | 36 |   |
|                                           |       |               |       |   |   |   |   |   |   |
| **Wireless**                                   | ** ** | ** **         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Subscribers                                    |       | 51,568             |       | 52,993 |   | (1,425 | ) | (3 | )% |

 

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(1)   Total subscribersare customers who receive one or more of data, video or voice services fromSureWest Broadband.

(2)          The Broadband segmentcan deliver multiple services to a customer. Accordingly, the Company maintainsstatistical data regarding Revenue-generating units for digital video, voiceand data, in addition to the number of subscribers. For example, a singlesubscriber who purchases digital video, voice and data services would bereflected as three Revenue-generating units.

(3)          Business Voice-gradeequivalents (“VGEs”) are calculated by dividing the capacity of all circuits inuse by 64 kilobits (bandwidth representing a voice access line).  DSL VGEsare counted as two 64 kbps channels.

Operating revenues fromexternal customers in the Telecom segment decreased $947 and $1,686 during thequarter and six-month period ended June 30, 2007, respectively, compared to thesame periods in 2006. SureWest Telephone continues to experience decreases inlocal and network access revenues due to competition from wireless (includingSureWest Wireless) and wireline competitors, contributing to an approximate 5%decline in access lines.  In addition, network access revenues decreaseddue to a decline in the rate base, which affects the interstate poolsettlements from the National Exchange Carrier Association (“NECA”) (see *Regulatory Matters* within the *TelecomSegment Results of Operations and Critical Accounting Estimates*sections below).  SureWest Telephone’s revenues are also impacted byshareable earnings obligations and changes in funding levels authorized by theCalifornia Public Utilities Commission (“CPUC”), which are also discussed belowin the Telecom Segment Results of Operations.

While the Telecom segmentsteadily continues to generate a majority of the Company’s revenues, cash flowsand net income, the Company believes that the results of the Telecom segment inrecent years (reflected in declining revenues and access lines) support, inpart, the Company’s efforts to continue to develop its other business segments.

Broadband operatingrevenues from external customers increased $2,045 and $4,585 during the quarterand six-month period ended June 30, 2007, respectively, compared to the sameperiods in 2006 primarily as a result of the continued expansion of thebroadband network and growth in the demand for data and video services. During the six-month period ended June 30, 2007, the Broadband segmentexperienced a 16% increase in the number of subscribers compared to the sameprior year period.  In addition,broadband business services realized a 36% increase in VGEs compared to theprior year. While continuing to produce significant revenue increases, theexpansion of the broadband residential services has and will continue torequire significant capital and expense commitments.

Operating revenues fromexternal customers in the Wireless segment for the quarter and six-month periodended June 30, 2007 decreased $29 and $222, respectively, compared to the sameperiods in 2006.  The decrease in operating revenues was attributable to adecline in equipment revenue as a result of a reduction in the average sellingprice per handset offset in part by an increase in the quantity of handsetssold.  As the Company deemphasizes theprepaid market and migrates toward contract subscribers, the number of wirelesssubscribers decreased to 51,568 at June 30, 2007, a 3% decline compared to thesame prior year period.  Despite the subscriber decline, access andfeature revenues increased from the prior year as a result of an increase inthe average revenue per subscriber and the introduction of new features during2006.

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The Company’sconsolidated operating expenses, excluding depreciation and amortization,increased $1,343 and $3,286 during the quarter and six-month period ended June30, 2007, respectively, compared to the same periods in 2006.  Cost of services and products expenseincreased $384 and $1,461, respectively, in the current year periods as aresult of (i) the continued growth in subscribers and services within theBroadband segment and (ii) an increase in the cost of equipment sales due to anincrease in the quantity of wireless handsets sold.  Customer operations and selling expenseincreased $79 and $383 for the quarter and six-month period ended June 30,2007, respectively, compared to the same periods in 2006 due primarily to anincrease in sales and advertising costs to promote subscriber growth and newproduct offerings within the Broadband and Wireless segments.  General andadministrative expenses increased $880 and $1,442 for the quarter and six-monthperiod ended June 30, 2007 compared to the same periods in 2006 primarily as aresult of an increase in consulting and advisory fees related to strategicinitiatives and the commencement in 2007 of a project to evaluate thefeasibility to outsource certain non-core processes.

The increase inoperating expenses was offset in part by a decline in costs associated with theCompany’s defined benefit pension plan (the “Pension Plan”), SupplementalExecutive Retirement Plan (“SERP”) and certain post-retirement benefits otherthan pensions (“Other Benefits”) (collectively the “Plans”) as a result ofamendments to the Plans.  The Planamendments, effective April 1, 2007, froze the Pension Plan so that no personis eligible to become a new participant in the Plans on or following that dateand all future benefit accruals for existing participants under the Planscease.  The amendments to the Plans wereaccounted for as plan curtailments, resulting in the recognition of a $574non-cash pretax curtailment loss ($0.04 per share) reflected in operatingexpenses in the Company’s consolidated statement of operations during thequarter ended December 31, 2006.  As aresult of the Pension Plan freeze and final actuarial calculations, the Companyrecorded income of $686 and expense of $13 related to the Pension and Other BenefitsPlans during the quarter and six months ended June 30, 2007, respectively,representing a $1,249 and $2,114 decrease in costs associated with the Pensionand Other Benefits Plans compared to the same prior year periods.

The Company’sconsolidated depreciation and amortization expense decreased $732 and $1,407during the quarter and six-month period ended June 30, 2007, respectively,compared to the same periods in 2006, despite the continued network build-outand success-based capital projects undertaken within the residential broadbandservice territories, due to a change in accounting estimate recorded during2007, as described below.

During the firstquarter of 2007, the Company completed its triennial review of asset lives thatevaluated the appropriateness of the estimated useful lives of its property,plant and equipment for all segments. The evaluation considered the Company’s investment and businessstrategy, reliability and historical performance data of certain assets, aswell as the impacts of competition and anticipated technological change. As aresult of this evaluation, effective January 1, 2007, the Companyincreased the estimated useful lives of certain of its customer premiseequipment, circuit equipment, cable plant and towers primarily in the Broadbandsegment. The increase in asset lives primarily ranged between 1 to 4 years,although the change in estimated useful lives for towers was 8 years.  The Company’s revisions to its estimateduseful lives have been supported by an assessment and report from anindependent party with expertise in this area that found the revisions to bereasonable in light of the Company’s plan and useful life estimates in comparablebusinesses. During the quarter and six-month period ended June 30, 2007, thischange in estimate decreased consolidated depreciation expense by $933 and$1,881 and increased consolidated net income by $640 ($0.04 per share) and$1,295 ($0.09 per share), respectively.

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**SegmentResults of Operations**

**Telecom**

** **
| ** **                                        | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------|------------|-------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                        | ** ** | **2007**                                  | ** ** | **2006**                                          | ** ** | **$  Change** | ** ** | **%  Change** | ** ** | **2007** | ** ** | **2006** | ** ** | **$  Change** | ** ** | **%  Change** | ** ** |
|                                              |       |                                      |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Local service                                     |       | $                                         | 14,653     |                                              | $          | 15,581 |   | $ | (928 | ) | (6 | )% |   | $ | 29,432 |   | $ | 31,162 |   | $ | (1,730 | ) | (6 | )% |   |
| Network access  service                           |       | 10,062                                    |       | 9,966                                             |       | 96 |   | 1 |   |   | 19,254 |   | 19,883 |   | (629 | ) | (3 | ) |   |
| Long distance  service                            |       | 1,457                                     |       | 1,334                                             |       | 123 |   | 9 |   |   | 2,883 |   | 2,718 |   | 165 |   | 6 |   |   |
| Other                                             |       | 1,077                                     |       | 1,315                                             |       | (238 | ) | (18 | ) |   | 2,041 |   | 1,533 |   | 508 |   | 33 |   |   |
| Total operating  revenues from external customers |       | 27,249                                    |       | 28,196                                            |       | (947 | ) | (3 | ) |   | 53,610 |   | 55,296 |   | (1,686 | ) | (3 | ) |   |
| Intersegment  revenues                            |       | 5,918                                     |       | 7,450                                             |       | (1,532 | ) | (21 | ) |   | 12,890 |   | 14,778 |   | (1,888 | ) | (13 | ) |   |
| Operating  expenses*                              |       | 16,008                                    |       | 16,950                                            |       | (942 | ) | (6 | ) |   | 32,439 |   | 33,968 |   | (1,529 | ) | (5 | ) |   |
| Depreciation and  amortization                    |       | 5,678                                     |       | 6,309                                             |       | (631 | ) | (10 | ) |   | 11,243 |   | 12,612 |   | (1,369 | ) | (11 | ) |   |
| Income from  operations                           |       | 11,481                                    |       | 12,387                                            |       | (906 | ) | (7 | ) |   | 22,818 |   | 23,494 |   | (676 | ) | (3 | ) |   |
| Income from  continuing operations                |       | $                                         | 8,047      |                                              | $          | 7,286 |   | $ | 761 |   | 10 | % |   | $ | 15,025 |   | $ | 13,747 |   | $ | 1,278 |   | 9 | % |   |

 

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*Exclusive of depreciation and amortization

*Operating Revenues*

Operating revenuesfrom external customers in the Telecom segment decreased $947 and $1,686 in thequarter and six-month period ended June 30, 2007, respectively, compared to thesame periods in 2006.  SureWest Telephonecontinues to experience decreases in local and network access revenues due tocompetition from wireless (including SureWest Wireless) and wirelinecompetitors, contributing to an approximate 5% decline in access lines. In addition, network access revenues decreased due to a decline in the ratebase, which affects the interstate pool settlements from the NECA (see *Regulatory Matters* and Critical Accounting Estimatessections below).  SureWest Telephone’s revenues can also be impacted byshareable earnings obligations and changes in funding levels authorized by theCPUC, which are discussed below in the *Regulatory Matters*section.

*Operating Expenses*

Operating expensesfor the Telecom segment decreased $942 and $1,529 for the quarter and six-monthperiod ended June 30, 2007, compared to the same periods in 2006.  Thisdecrease in operating expenses was primarily due to a $630 and $1,163 declinein the costs related to the Pension Plan and Other Benefits (collectively “post-retirementbenefits”), for the quarter and six month periods ended June 30, 2007,respectively, as described in the Consolidated Overview section above.  Inaddition, the number of full time equivalent employees in the Telecom segmentdecreased approximately 15% from June 2006 to June 2007.

Cost of servicesand products (exclusive of depreciation and amortization) decreased $2,135 and$2,776 for the quarter and six-month period ended June 30, 2007, respectively,compared to the same periods in 2006.  The decrease was mostlyattributable to the decrease in post-retirement benefits costs as describedabove and decreases in network operations and support expenses as a result ofreductions in the number of employees. The decreases were partially offset by increases in long distance accessexpense as a result of the InfinitAccessTM bundle program and an increase in minutes ofuse.

Customeroperations and selling expense increased $152 and $246 for the quarter andsix-month period ended June 30, 2007, respectively, compared to the sameperiods in 2006, due primarily to an increase in billing and collection costs,which were impacted by the increase in long distance access expense previouslydiscussed. The increase was partially offset by a decrease in labor costs as aresult of a reduction in the number of employees and internal efficienciesresulting from integrated customer support systems and productivity gains.

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General andadministrative expense increased $1,041 and $1,001 for the quarter andsix-month period ended June 30, 2007, respectively, compared to the sameperiods in 2006.  The increase was due inlarge part to an increase in consulting and advisory fees related to strategicinitiatives and the commencement in 2007 of a project to evaluate thefeasibility to outsource certain non-core processes.

Depreciation and amortization decreased $631 and$1,369 for the quarter and six-month period ended June 30, 2007, respectively,compared to the same periods in 2006 due primarily to a significant portion ofcomputer software becoming fully depreciated during 2006.

*RegulatoryMatters*

Revenues fromservices subject to regulation constituted approximately 47% of the Company’s totaloperating revenues from continuing operations for the quarter and six-monthperiod ended June 30, 2007, respectively. For the same prior year periods,revenues from services subject to regulation constituted approximately 50% and51%, respectively, of the Company’s total operating revenues from continuingoperations.  Local service, networkaccess service and toll service are included in revenues from services subjectto regulation, and are derived from various sources including:

·                  business andresidential subscribers, for basic exchange services;

·                  surcharges,mandated by the CPUC;

·                  long distancecarriers, for network access service;

·                  competitiveaccess providers and subscribers, for network access service;

·                  interstate poolsettlements from NECA;

·                  support paymentsfrom federal or state programs; and

·                  supportpayments from the California High Cost Fund (“CHCF”), recovering costs ofservices including extended area service (“EAS”).

Significantportions of the SureWest Telephone’s rates and charges are subject toregulation by the Federal Communications Commission (“FCC”) and the CPUC.  Rates and charges are based on varioustariffs filed by SureWest and others, including those filed by the NECA forinterstate common line (“CL”) charges. Pending and future regulatory actions, with respect to these and othermatters and the filing of new or amended tariffs, may have a material impact onthe Company’s consolidated financial position and results of operations.

As a result ofperiodic cost separation studies required by the FCC, SureWest Telephonechanged its estimates for certain NECA CL accounts receivable balances relatedto current and prior year monitoring periods. For the quarter and six-month period ended June 30, 2007, these changesin estimates increased the Company’s consolidated revenues by $688 and $806 andnet income by $473 ($0.03 per share) and $555 ($0.04 per share),respectively.  The Company did not recordany significant changes in estimates during the quarter and six-month periodended June 30, 2006.

In 2004, theCompany entered into a settlement agreement (the “settlement agreement”), whichwas ultimately approved by the CPUC, to resolve an ongoing regulatoryproceeding with various parties.  Thesettlement agreement resolved past sharing liabilities and suspended futuresharing requirements in the intrastate jurisdiction.  In accordance with the settlement agreement,SureWest Telephone is returning approximately $6,500 (“Dividend A”), plusinterest at the 90-day commercial paper rate for non-financial institutions toits end users through a consumer dividend over a period of approximately fouryears, which began January 1, 2005.  Inaddition, SureWest Telephone paid a one-time consumer dividend of $2,600 (“DividendB”), to consumers to settle the monitoring periods 2000 to 2004 payable overapproximately two years, which began January 1, 2005 and was completed in March2007.

As part of thesettlement agreement SureWest Telephone was to implement an additional annualconsumer dividend of $1,300 on January 1, 2007 to end-users receiving SureWestTelephone services subject to sharing on or after that date.  However, this consumer dividend was subjectto reduction based upon the results of other pending regulatoryproceedings.  Pursuant to a CPUC order inDecember 2006, beginning in 2007 this dividend was offset by a reduction in theCompany’s interim draw from the CHCF, which was previously authorized by a CPUCdecision in August 2005 which allowed SureWest Telephone to continue receiving$11,500 annually from the CHCF to offset its intrastate regulated operatingexpenses on an interim basis. In August 2006, the Company requested permissionfrom the CPUC to implement a graduated phase down of its annual $11,500 interimdraw and in December 2006, the CPUC authorized the Company to offset itsinterim draw from the CHCF with the aforementioned $1,300 consumerdividend.  The Division of RatepayerAdvocates (“DRA”) filed comments on the Company’s request and recommended thatSureWest Telephone immediately discontinue receipt of its entire annual $11,500interim CHCF fund draw.  In July 2007,the CPUC released

18

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a ProposedDecision which if adopted would deny the DRA request, grant SureWest Telephone’sPetition and commence the phase down of SureWest Telephone’s interim CHCF drawover a five-year period, a phase down that would end on January 1, 2012. Thephase down of the interim draw is proposed to begin in 2007, initially reducingthe annual $11,500 interim draw by the aforementioned $1,300 consumer dividendto $10,200. In each subsequent year the interim CHCF draw would beincrementally reduced by approximately $2,000 annually.  The final results of this proceeding, apending rulemaking proceeding reviewing the entire CHCF and the resultant potentialeffects on SureWest Telephone could impact future support through the CHCF.

In an ongoingproceeding relating to the New Regulatory Framework (under which SureWestTelephone has been regulated under since 1996), the CPUC adopted decision 06-08-030in 2006, which grants carriers broader pricing freedom in the provision oftelecommunications services, bundling of services, promotions and customercontracts.  This decision adopted a newregulatory framework, the Uniform Regulatory Framework (“URF”), which amongother things (i) eliminates price regulation and allows full pricingflexibility for all new and retail services except lifeline and basicresidential services, (ii) allows new forms of bundles and promotional packagesof telecommunication services, (iii) allocates all gains and losses from thesale of assets to shareholders, and (iv) eliminates almost all elements of rateof return regulation, including the calculation of shareable earnings.

In January 2007,The Utility Reform Network filed a petition for writ of review in the Court ofAppeal of the State of California seeking an order that the CPUC’s decision beset aside.  In May 2007, the Court ofAppeal denied The Utility Reform Network’s Petition for Writ of review and theCPUC’s decision has become final.

As of June 30,2007, the Company’s consolidated balance sheet reflected aggregate liabilitiesof $73 relating to SureWest Telephone’s estimated interstate shareable earningsobligations. The calculations supporting these liabilities are very complex andinvolve a variety of estimates prior to the ultimate settlement of suchobligations. In addition, SureWest Telephone’s interstate shareable earningsobligations lapse over time if SureWest Telephone’s interexchange carriers andother customers do not claim the amounts ascribed to them. Accordingly, it isreasonably possible that management’s estimates of the Company’s liabilitiesfor interstate shareable earnings obligations could change in the near term,and the amounts involved could be material.

**Broadband**

** **
| ** **                                        | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------|------------|-------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                        | ** ** | ** **                                | ** ** | ** **                                        | ** ** | **$** | ** ** | **%** | ** ** | ** ** | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
| ** **                                        | ** ** | **2007**                                  | ** ** | **2006**                                          | ** ** | **Change** | ** ** | **Change** | ** ** | **2007** | ** ** | **2006** | ** ** | **Change** | ** ** | **Change** | ** ** |
|                                              |       |                                      |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Data                                              |       | $                                         | 8,219      |                                              | $          | 7,240 |   | $ | 979 |   | 14 | % |   | $ | 16,101 |   | $ | 14,145 |   | $ | 1,956 |   | 14 | % |   |
| Video                                             |       | 3,777                                     |       | 3,093                                             |       | 684 |   | 22 |   |   | 7,404 |   | 5,849 |   | 1,555 |   | 27 |   |   |
| Voice                                             |       | 2,191                                     |       | 1,856                                             |       | 335 |   | 18 |   |   | 4,340 |   | 3,585 |   | 755 |   | 21 |   |   |
| Network access                                    |       | 2,346                                     |       | 2,360                                             |       | (14 | ) | (1 | ) |   | 4,589 |   | 4,374 |   | 215 |   | 5 |   |   |
| Other                                             |       | 536                                       |       | 475                                               |       | 61 |   | 13 |   |   | 1,057 |   | 953 |   | 104 |   | 11 |   |   |
| Total operating  revenues from external customers |       | 17,069                                    |       | 15,024                                            |       | 2,045 |   | 14 |   |   | 33,491 |   | 28,906 |   | 4,585 |   | 16 |   |   |
| Intersegment  revenues                            |       | 475                                       |       | 312                                               |       | 163 |   | 52 |   |   | 995 |   | 736 |   | 259 |   | 35 |   |   |
| Operating  expenses*                              |       | 16,661                                    |       | 16,327                                            |       | 334 |   | 2 |   |   | 34,439 |   | 32,998 |   | 1,441 |   | 4 |   |   |
| Depreciation and  amortization                    |       | 5,431                                     |       | 5,721                                             |       | (290 | ) | (5 | ) |   | 10,618 |   | 10,918 |   | (300 | ) | (3 | ) |   |
| Loss from  operations                             |       | (4,548                                    | )          | (6,712                                            | )          | 2,164 |   | 32 |   |   | (10,571 | ) | (14,274 | ) | 3,703 |   | 26 |   |   |
| Loss from continuing  operations                  |       | $                                         | (3,435     | )                                                 | $          | (4,777 | ) | $ | 1,342 |   | 28 | % |   | $ | (7,530 | ) | $ | (9,866 | ) | $ | 2,336 |   | 24 | % |   |

 

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*Exclusive of depreciation andamortization

*Operating Revenues*

Operating revenues fromexternal customers in the Broadband segment increased $2,045 and $4,585 for thequarter and six-month period ended June 30, 2007, respectively, compared to thesame periods in 2006. The increase in Broadband revenues was due to thecombined effects of (i) a 17% increase in Revenue-generating units of broadbandservices and (ii) the continued expansion of business broadband services asevidenced by a 36% increase in VGEs.

19

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*Operating Expenses*

Total operatingexpenses in the Broadband segment increased $334 and $1,441 for the quarter andsix-month period ended June 30, 2007, respectively, compared to the sameperiods in 2006. The increase in operating expenses was offset in part bya decline in the costs related to the Pension Plan and Other Benefits of $452and $637 for the quarter and six month periods ended June 30, 2007,respectively, as described in the Consolidated Overview section above.

Cost of servicesand products (exclusive of depreciation and amortization) increased $958 and$1,592 for the quarter and six-month period ended June 30, 2007, respectively,compared to the same periods in 2006, due primarily to (i) an increase inprogramming and transport costs related to the growth in Broadband subscribersand residential broadband Revenue-generating units and (ii) an increase inaccess expense and maintenance costs corresponding to the increased subscribercount, as well as the expanded network footprint.

Customeroperations expense increased $89 and $193 for the quarter and six-month periodended June 30, 2007, respectively, compared to the same periods in 2006. The increase was attributable to an increase in sales and advertising costs topromote new and existing product offerings within the Broadband segment.

General andadministrative expense decreased $713 and $344 for the quarter and six-monthperiod ended June 30, 2007, respectively, compared to the same periods in 2006.The decrease was primarily due to a reduction in information technologyexpenses which was offset in part by an increase in consulting and advisoryfees related to strategic initiatives and the commencement in 2007 of a projectto evaluate the feasibility to outsource certain non-core processes.

Depreciation andamortization decreased $290 and $300 for the quarter and six-month period endedJune 30, 2007, respectively, compared to the same periods in 2006.  Depreciation expense in the Broadband segmentincreased due to the continued network build-out and success-based capitalprojects undertaken within the residential broadband service territorieshowever was offset by a change in accounting estimate recorded during 2007, asdiscussed below.

During the firstquarter of 2007, the Company completed its triennial review of asset lives thatevaluated the appropriateness of the estimated useful lives of its property,plant and equipment for all segments. The evaluation considered the Company’s investment and businessstrategy, reliability and historical performance data of certain assets, aswell as the impacts of competition and anticipated technological change. As aresult of this evaluation, effective January 1, 2007, the Companyincreased the estimated useful lives of certain of its customer premiseequipment, circuit equipment, cable plant and towers primarily in the Broadbandsegment. The increase in asset lives primarily ranged between 1 to 4 years,although the change in estimated useful lives for the towers was 8 years.  The Company’s revisions to its estimateduseful lives have been supported by an assessment and report from anindependent party with expertise in this area that found the revisions to bereasonable in light of the Company’s plan and useful life estimates incomparable businesses. During the quarter and six-month period ended June 30,2007, this change in estimate decreased the Broadband segment depreciationexpense by $933 and $1,881 and increased consolidated net income by $640 ($0.04per share) and $1,295 ($0.09 per share), respectively.

**Wireless**

** **
| ** **                                 | ** ** | **Quarter Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------------------|------------|-------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                 | ** ** | ** **                                | ** ** | ** **                                        | ** ** | **$** | ** ** | **%** | ** ** | ** ** | ** ** | ** ** | ** ** | **$** | ** ** | **%** | ** ** |
| ** **                                 | ** ** | **2007**                                  | ** ** | **2006**                                          | ** ** | **Change** | ** ** | **Change** | ** ** | **2007** | ** ** | **2006** | ** ** | **Change** | ** ** | **Change** | ** ** |
|                                       |       |                                      |       |                                              |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Wireless  revenues from external customers |       | $                                         | 8,115      |                                              | $          | 8,144 |   | $ | (29 | ) | — | % |   | $ | 16,316 |   | $ | 16,538 |   | $ | (222 | ) | (1 | )% |   |
| Intersegment  revenues                     |       | 781                                       |       | 695                                               |       | 86 |   | 12 |   |   | 1,566 |   | 1,375 |   | 191 |   | 14 |   |   |
| Operating  expenses*                       |       | 10,241                                    |       | 9,573                                             |       | 668 |   | 7 |   |   | 20,515 |   | 18,579 |   | 1,936 |   | 10 |   |   |
| Depreciation and  amortization             |       | 3,166                                     |       | 2,977                                             |       | 189 |   | 6 |   |   | 6,202 |   | 5,940 |   | 262 |   | 4 |   |   |
| Loss from  operations                      |       | (4,511                                    | )          | (3,711                                            | )          | (800 | ) | (22 | ) |   | (8,835 | ) | (6,606 | ) | (2,229 | ) | (34 | ) |   |
| Loss from continuing operations            |       | $                                         | (2,827     | )                                                 | $          | (2,418 | ) | $ | (409 | ) | (17 | )% |   | $ | (5,657 | ) | $ | (4,350 | ) | $ | (1,307 | ) | (30 | )% |   |

                        

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*Exclusive of depreciation andamortization

20

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*Operating Revenues*

Operating revenuesfrom external customers in the Wireless segment decreased $29 and $222 for thequarter and six-month period ended June 30, 2007, respectively, compared to thesame periods in 2006.  The decrease in revenue was due primarily to (i) adecline in equipment revenue resulting from a decrease in the average sellingprice of handsets offset in part by an increase in the quantity of handsetssold and (ii) an increase in bad debt expense. The decrease in revenue was partially offset by an increase in (i)access and roaming revenues as a result of the introduction of higher pricedplans in 2006 and (ii) feature revenue as a result of new features introducedin 2006.

*Operating Expenses*

Operating expensesfor the Wireless segment increased $668 and $1,936 for the quarter andsix-month period ended June 30, 2007, respectively, compared to the sameperiods in 2006. The increase in operating expenses was offset in part bya decline in the costs related to the Pension Plan and Other Benefits of $167and $314 for the quarter and six month periods ended June 30, 2007,respectively, as described in the Consolidated Overview section above.

Cost of servicesand products (exclusive of depreciation and amortization) increased $128 and$950 for the quarter and six-month period ended June 30, 2007, respectively,compared to the same periods in 2006, primarily due to increases in (i) thequantity of handsets sold, (ii) costs associated with additional featuresintroduced in 2006, (iii) interconnect expense due to an increase in lines usedand (iv) long distance expense due to an increase in the minutes of use.

Customeroperations expense increased $206 for the six-month period ended June 30, 2007compared to the same periods in 2006, due primarily to an increase in sales andadvertising expense as a result of increased promotional campaigns.

General andadministrative expense increased $561 and $780 for the quarter and six-monthperiod ended June 30, 2007, respectively, as compared to the same periods in2006.  The increase was primarily due toan increase in consulting and advisory fees related to strategic initiativesand the commencement in 2007 of a project to evaluate the feasibility tooutsource certain non-core processes.

**Non-operatingItems**

*Other Income and Expense, Net*

Consolidatedinterest income increased $1,048 and $1,483 during the quarter and six-monthperiod ended June 30, 2007, respectively, compared to the same periods in 2006,due to the increase in cash, cash equivalents and short-term investmentsresulting primarily from the proceeds received from the sale of the directorypublishing business, as described above.

*Income Taxes*

Income taxbenefits decreased $30 and $289 for the quarter and six-month period ended June30, 2007, respectively, compared to the same periods in 2006, due primarily toa reduction of the income tax liability for unrecognized income tax benefitsrelated to fiscal year 2000 federal research and development credits. Theeffective federal and state income tax rates for continuing operations wereapproximately 8.0% and 47.5% for the six-month periods ended June 30, 2007 and2006, respectively.

**Liquidityand Capital Resources**

As reflected inthe Condensed Consolidated Statements of Cash Flows, net cash used in operatingactivities was $20,092 for the six-month period ended June 30, 2007 dueprimarily to (i) net cash used in discontinued operations of $42,486, whichconsisted primarily of income tax payments of $44,970 related to the gain onthe sale of SureWest Directories, (ii) a decrease in accounts payable andaccrued liabilities of approximately $2,500 due primarily to a decrease in outstandingobligations related to professional fees and capital project expenditures and(iii) a decrease in deferred income taxes of $2,947.  Cash used in operating activities was offsetin part by (i) net income from continuing operations of $1,838 and (ii) non-cashcharges of $28,063 consisting primarily of depreciation and amortization due tocapital investments principally in the Broadband segment.

Net cash providedby investing activities for the six-month period ended June 30, 2007 was$57,870 due primarily to the proceeds from the sale of SureWest Directories of$110,123, offset by capital expenditures pertaining to ongoing plantconstruction projects of $22,503 and a net increase in held-to-maturityinvestments of $29,750.

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Net cash used infinancing activities was $7,236 for the six-month period ended June 30, 2007due primarily to the payment of dividends.

The Company’sworking capital was $62,174 at June 30, 2007. The increase in working capital during the six months ended June 30,2007 was substantially attributable to the sale of the directory publishingbusiness to Gatehouse Media on February 28, 2007 for an aggregate cash purchaseprice of $110,123.  The sale of thedirectory publishing business resulted in an increase in cash, cash equivalentsand short-term investments.  The increasein working capital was also partially attributable to a decrease in contractualshareable earnings obligations, deferred income taxes and accrued liabilities.  As discussed below, the Company believes thatits working capital position, the proceeds from the sale of SureWestDirectories, operating cash flows and borrowing capacity are sufficient tosatisfy its liquidity requirements in the next twelve months.

The Company’s mostsignificant use of funds in the remainder of 2007 is expected to be for(i) budgeted capital expenditures of approximately $32,500,(ii) scheduled payments of long-term debt of $3,636 and (iii) supportof the operations of SureWest Wireless up to an anticipated $2,100. In addition,during 2007 the payment of dividends, which is at the discretion of the Company’sBoard of Directors, could be as much as $7,200 based on the Company’s mostrecent dividend payments. A substantial portion of the 2007 budgeted capitalexpenditures is at the discretion of the Company, and dependent upon theCompany’s working capital position, operating cash flows and ability to borrow,as described below. The Company is required to comply with its cable franchiseagreements to continue its build-out in the franchise areas.

The Companycontributes to the Pension Plan and Other Benefits Plans, which provideretirement benefits to all employees. Contributions are intended to provide forbenefits attributed to service to date. The Company’s funding policy is tocontribute annually an actuarially determined amount consistent with applicablefederal income tax regulations. As discussed in the Consolidated Overviewsection above, the Company stopped accruing benefits for active participantseffective April 1, 2007.  The Company believesthat future funding requirements will decrease significantly as a result of thefreeze of the Plans.  The Company willcontinue to evaluate the future funding requirements of the Plans and fund themas deemed necessary.  As of June 30,2007, the Company had not made any contributions to the Plans and does notexpect to make any contributions during the remainder of 2007.

As discussed morefully in the *Regulatory Matters* section above,the CPUC has been reviewing whether SureWest Telephone should continuereceiving the annual $11,500 interim draw from the CHCF and the advisabilityand impacts of phasing out the payments gradually over a period of years.  The Company has proposed to phase down its$11,500 annual interim CHCF draw over a five-to-ten year period.  In December 2006, the CPUC issued an interimdecision providing for the Company to reduce its interim annual draw from theCHCF by $1,300 on a monthly prorated basis, to $10,200 in the aggregate from$11,500, to reflect a “consumer dividend” required in another regulatoryproceeding which was to be effective January 1, 2007. In July 2007, the CPUCreleased a Proposed Decision which if adopted would grant SureWest Telephone’sPetition and phase down its interim CHCF draw over a five-year period to end onJanuary 1, 2012.  The phase down of theinterim draw is proposed to begin in 2007, initially reducing the annual$11,500 interim draw by the aforementioned $1,300 consumer dividend to $10,200.  In each subsequent year, the interim CHCFdraw would be reduced by approximately $2,000 annually.  The Company will seek to recover theeliminated revenues through operating efficiencies and/or rate increases. For amore detailed discussion, see *Regulatory Matters*within the Telecom Segment Results of Operations.

In May 2006, theCompany completed an unsecured Credit Agreement for a Term Loan facility and aRevolving Loan facility (collectively “Loan Facilities”) in principal amountsup to $75,000 and $25,000, respectively. Interest on the Loan Facilities is payable quarterly and based on aLIBOR, variable interest rate, or a fixed interest rate pricing formula, or acombination, as defined in the Credit Agreement. Principal payments on theoutstanding amounts borrowed under the Term Loan facility as of December 31,2007 were due in equal quarterly installments commencing March 31, 2008 throughJune 30, 2016.  The Revolving Loanfacility had an expiration date of June 30, 2013.  In May 2007, the Company amended and restatedits Credit Agreement for both the Term Loan facility and the Revolving Loanfacility to principal amounts of $40,000 and up to $60,000, respectively.  Principal payments on the outstanding amountsborrowed under the Loan Facilities are now due and payable on May 1, 2012.  There were no material changes to interestcalculations, interest payments, or financial covenants.  As of June 30, 2007, $40,000 was outstandingunder the Term Loan Facility and no amounts were outstanding under theRevolving Loan facility.

The Company had aliability of $1,003 for unrecognized tax benefits as of June 30, 2007 for whichit cannot at this time make a reasonably reliable estimate of the period ofrelated future payments, if any.

22

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TheCompany’s Board of Directors has authorized the repurchase of up to 2.5 millionshares of the Company’s common stock. Shares are purchased from time to time in the open market or throughprivately negotiated transactions, subject to overall financial and marketconditions. Through June 30, 2007, approximately 1.2 million shares of commonstock had been repurchased.

TheCompany had cash, cash equivalents and short-term investments at June 30, 2007,of $67,435. On February 28, 2007, the Company received the pre-tax proceedsfrom the sale of its directory publishing business of approximately $110,123,as described above.  Accordingly, theCompany believes that its working capital position, the proceeds from the sale ofthe directory publishing business, operating cash flows and borrowing capacityare sufficient to satisfy its liquidity requirements for the next twelvemonths. This includes capital expenditures as required by the Company’s cablefranchise agreements, while maintaining adequate cash and cash equivalents. TheCompany believes, given its financial position and debt-to-equity position, ithas substantial additional short-and long-term borrowing capacity. As indicatedabove, a substantial portion of the Company’s 2007 budgeted capitalexpenditures and cash dividend payments is at the discretion of the Company.Accordingly, the Company believes that it can modify its planned constructionand commitments and cash dividend payments if the results of operations oravailable capital so require.

Dividendsare declared at the discretion of the Company’s Board of Directors. However,the Note Purchase Agreement under which the Company issued its Series Aand Series B Senior Notes, and the Credit Agreement contain financial andoperating covenants that restrict, among other things, the payment of cashdividends, the repurchase of the Company’s capital stock, the making of certainother restricted payments and the incurrence of additional indebtedness. Inaddition, the Company is required to maintain certain financial ratios andminimum levels of tangible net worth. At June 30, 2007, retained earnings ofapproximately $121,976 would have been available for the payments describedimmediately above, under the Company’s Note Purchase Agreement and the CreditAgreement.

**Critical Accounting Estimates**

Belowis a summary of the Company’s critical accounting policies and estimates, whichare more fully described in the referenced Notes to the Company’s ConsolidatedFinancial Statements. Management has discussed development and selection ofcritical accounting policies and estimates with the Company’s Audit Committee.

·                                          Inaccordance with Statement of Financial Accounting Standards (“SFAS”)No. 142, *Goodwill and Other Intangible Assets*,goodwill and wireless licenses are reviewed for impairment annually or morefrequently if an event occurs or circumstances change that would reduce thefair value below its carrying value. The impairment test for goodwill requiresthe Company to estimate the fair value at the reporting unit level. Todetermine the fair value in 2006, the Company obtained an independent valuationof the Company’s goodwill using a discounted cash flow model. Assumptions usedin this model include the following:

·                  cashflow assumptions regarding investment in network facilities, distributionchannels and customer base (the assumptions underlying these inputs are basedupon a combination of historical results and trends, new industry developmentsand the Company’s business plans);

·                  a15% weighted average cost of capital based on industry weighted averaged costof capital; and

·      noterminal growth rate.

The carrying value of theCompany’s goodwill was $2,171 as of December 31, 2006. The fair value ofthe Company’s goodwill is based on the value associated with the telephonereporting unit, which benefits from the goodwill. The telephone reporting unitincludes SureWest Telephone and certain related non-regulated services. Whendetermining the fair value, the use of different estimates or assumptionswithin the discounted cash flow model could result in a different fair value.For example, the Company used a discount rate of 15.0% and no terminal growthrate in its assessment of fair value in 2006. At November 30, 2006 the fairvalue of the telephone reporting unit was $199,900 and the associated carryingvalue was $22,800. If the discount rate were to increase 2%, the fair value ofthe telephone reporting unit would decrease by approximately $24,000, but wouldnot result in an impairment of goodwill.

The Company’s wirelesslicenses include Personal Communications Services (“PCS”) and Local MultipointDistribution System (“LMDS”) licenses. The carrying values at December 31,2006 of the PCS and LMDS licenses were $8,925 and $4,641, respectively. Inassessing the recoverability of the Company’s PCS licenses, the Companyobtained an independent valuation in 2006, which reviewed transactionsinvolving sales of comparable wireless licenses in the aftermarket, usingcharacteristics of the license and the related market, including geographiclocation, market size and megahertz frequency.

23

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In assessing therecoverability of the Company’s LMDS licenses, the Company obtained anindependent valuation, as comparable license sales data was not available. Theindependent valuation estimates fair value of the Company’s LMDS licenses usinga discounted cash flow model. Assumptions used in this model include thefollowing:

·                  cashflow assumptions regarding investment in network facilities, distributionchannels and customer base (the assumptions underlying these inputs are basedupon a combination of historical results and trends, new industry developmentsand the Company’s business plans);

·                  a20% weighted average cost of capital based on industry weighted averaged costof capital adjusted to reflect the inherent risks associated with theintroduction of a new service offering; and

·      a 5%terminal value growth rate.

The use of differentestimates or assumptions within the discounted cash flow model when determiningfair value of the Company’s LMDS licenses could result in different values forthese licenses. For example, the Company used a discount rate of 20% and aterminal growth rate of 5% in its assessment of fair value in 2006. If thediscount rate were to increase 1%, the fair value of the LMDS licenses woulddecrease by $1,000, which would result in an impairment charge of approximately$242 based on the carrying value of the LMDS licenses as of December 31,2006. In addition, the Company’s LMDS licenses may be impaired in the future ifthe estimates and assumptions used in the 2006 LMDS license discounted cashflow model are not met.

If the estimated fairvalue is less than the carrying value, then the carrying value is written downto the fair value. As a result of the Company’s annual test for 2006, noimpairment of either goodwill or PCS or LMDS licenses was indicated. During thesix-month period ended June 30, 2007, the Company was unaware of any events orchanges in circumstance that would require a test of impairment that may potentiallyreduce the fair value below the carrying value.

·                                          Totalrevenues from telephone services are affected by rates authorized by variousregulatory agencies. The FCC monitors SureWest Telephone’s interstate earningsthrough its tariff review procedures and the use of annual cost separationstudies prepared by SureWest Telephone. The FCC establishes rules thatcarriers must follow in the filing of tariffs and the preparation of the annualstudies. Based on these rules, the Company is required to prospectively set itsannual interstate rates based on the aforementioned cost separation studies.These cost studies include estimates and assumptions regarding variousfinancial data including operating expenses, taxes and investment in property,plant and equipment. Non-financial data estimates are also utilized in thepreparation of these cost studies, including projected demand usage anddetailed network information. The Company must also make estimates of thejurisdictional separation of this data to assign current financial andoperating data to the interstate or intrastate jurisdiction. These estimatesare finalized in future periods as actual data becomes available to completethe separation studies. The Company also participates in the NECA pool for certaininterstate services and derives revenues from that pool. In addition to theestimates noted above, the Company’s earned rate-of-return from itsparticipation in the NECA pool can also be impacted by the earnings and data ofother carriers who participate in the pool.

As a result of estimatesand assumptions, it is reasonably possible that management’s estimates ofSureWest Telephone’s shareable earnings obligations could change in the nearterm, and the amounts involved could be material.

·                                          TheCompany recognizes revenue when (i) persuasive evidence of an arrangementbetween the Company and the customer exists, (ii) delivery of the productto the customer has occurred or service has been provided to the customer,(iii) the price to the customer is fixed or determinable and (iv)collectibility of the sales price is reasonably assured. Revenues based on aflat fee, derived principally from local telephone, dedicated network access,data communications, Internet access service, residential/business broadband serviceand non-contract wireless services, are billed in advance and recognized insubsequent periods when the services are provided. Contract wireless servicesare billed in arrears. Revenues based on usage, derived primarily from networkaccess, roaming and long distance services, are recognized monthly as servicesare provided. Incremental direct costs of telecommunications service activationare charged to expense in the period in which they are incurred.

The Company applies theFinancial Accounting Standards Board’s (“FASB”) Emerging Issues Task Force (“EITF”)Issue No. 00-21, *Revenue Arrangements withMultiple Deliverables*, to all wireless handset sales below cost,which approximates fair value in the absence of an activation “subsidy”, whenreceiving an up-front

24

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fee of any kind (e.g., aservice activation fee). The application of EITF Issue No. 00-21results in the immediate recognition of all or a portion of such up-front feesas equipment sales revenue. Additionally, when the Company activates wirelessservice for a customer, but does not concurrently provide the customer with ahandset, any up-front fees received continue to be deferred and amortized overthe expected term of the customer relationship. The Company provides a generalright of return within the first 30 days of service for a full refund of thehandset price. The estimated equipment return allowance associated with thisright of return is estimated based on historical experience.

·                                          TheCompany maintains allowances for doubtful accounts for estimated lossesresulting from the potential inability of its customers to make requiredpayments. In evaluating the collectibility of its accounts receivable, theCompany assesses a number of factors including a specific customer’s or carrier’sability to meet its financial obligations to the Company, the length of timethe receivable has been past due and historical and future expectations ofconditions that may impact the Company’s ability to collect its accountsreceivable. If circumstances change or economic conditions worsen such that theCompany’s past collection experience is no longer relevant, the Company’sestimate of the recoverability of its accounts receivable could be furtherreduced from the levels reflected in the Company’s consolidated balance sheet.If uncollectibility of the Company’s billed revenue changes by 1%, the Companywould expect an increase in uncollectible expense of approximately $2,200. Asof June 30, 2007, the Company had three customers that accounted forapproximately 5% of consolidated accounts receivable, net of allowances.Although management believes that these customers are creditworthy, a severeadverse impact on their business operations could have a corresponding materialeffect on their ability to pay timely and, therefore, on the Company’s resultsof operations, cash flows and financial condition. In addition, certainrevenues are subject to refund if the customer terminates services or returnsequipment within a stipulated time period, or if certain performance criteriaare not met. Accordingly, the Company maintains accounts receivable allowancesand recognizes certain customer refund liabilities, through charges torevenues, based on the Company’s best estimates of the resolution of thesecontingencies, which are based on historical experience.

·                                          TheCompany states its inventories held for sale, primarily wireless handsets, atlower of cost or market. In assessing the ultimate recoverability ofinventories, the Company is required to make estimates regarding futurecustomer demand and technological advances of equipment.

·                                          Property,plant and equipment are recorded at cost. Retirements and other reductions ofregulated telephone plant and equipment are charged against accumulateddepreciation with no gain or loss recognized in accordance with the compositegroup remaining life methodology utilized for telephone plant assets. Whenproperty applicable to non-telephone operations is sold or retired, the assetand related accumulated depreciation are removed from the accounts and theassociated gain or loss is recognized. Property, plant and equipment isdepreciated or amortized using the straight-line method over their estimatedeconomic lives. The economic lives are estimated at the time the assets areacquired and are based on historical experience with similar assets, as well asanticipated technological or other changes. If technological changes were tooccur more rapidly than anticipated or differently than anticipated, theeconomic lives assigned to these assets may need to be shortened, resulting inthe recognition of increased depreciation and amortization expense in futureperiods. Likewise, if the anticipated technological or other changes occur moreslowly than anticipated, the life of the asset group could be extended based onthe life assigned to new assets added to the group. This could result in areduction of depreciation and amortization expense in future periods. Asdiscussed above in the Broadband segment results of operations, in January 2007the Company revised the estimated useful lives of certain of its central officeand cable and wire facilities assets. During the quarter and six-month periodended June 30, 2007, this change in estimate decreased the Broadband segmentdepreciation expense by $933 and $1,881 and increased consolidated net incomeby $640 ($0.04 per share) and $1,295 ($0.09 per share), respectively. TheCompany reviews the estimated useful lives of its property, plant and equipmentonce every three years, or when events or circumstances indicate that thecarrying amount may not be recoverable over the remaining lives of the assets.In assessing the recoverability of the Company’s property, plant and equipment,the Company must make assumptions regarding estimated future cash flows andother factors to determine the fair value of the respective assets.

·                                          TheCompany accounts for asset retirement obligations in accordance with SFASNo. 143, *Accounting for AssetRetirement Obligations* and FASB Interpretation (“FIN”) No. 47, *Accounting for Conditional Retirement Obligations*,which requires the Company to recognize a retirement obligation when a legalobligation exists to remove an asset at some point in the future or iflegislation exists that requires special disposal procedures of

25

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the asset. The Companybelieves it may have potential retirement obligations relating to its wirelesscell sites and disposal obligations relating to the removal of tenantimprovements at certain of its leased facilities and certain building materialscontaining asbestos. **** ********With respect to its cell tower site leases, theCompany believes it has certain obligations to restoreland and/or tower facilities at the end of the applicable leaseterm.   Based on the Company’s estimates, it believes that thedisposal requirement relating to tenant improvements at certain of theseleased facilities and in certain building materials containing asbestos isthe lease termination date or expected retirement date of the underlyingassets.****The Company has used a probability-weightedcash flow approach in estimating its potential retirement obligations. TheCompany calculates the net present value of the retirement obligation assumingan inflation rate of 3%, a discount rate of 7% and a market risk premium of 4%.****The Company has alsoassumed a settlement date for its wireless tower siteleases of 25 years from the date the lease commences and theasset is placed into service.**** The Company hasvarious tenant improvements at its leased facilities which expire over the nexttwo to four years. The Company has estimated that the expected retirement dateof its buildings that contain asbestos is 2025. The Company has also used aprobability-weighted assessment to address the uncertainty regarding the timingof future cash flows to settle the potential liability. The Company believesthat utilizing probabilities for its wireless towers of less than 100% isappropriate because the Company believes the likelihood of incurring materialasset retirement expenditures is remote. The Company used a probability factorof 100% for its tenant improvements and building materials containing asbestos.The Company monitors the estimates and assumptions used in determining itspotential asset retirement obligations for its cell sites, tenant improvements atits various leased facilities and buildings containing asbestos. However, theCompany believes it is remote that any future adjustment to its assetretirement liability for obligations existing as of June 30, 2007 will bematerial to the Company’s consolidated financial statements.

·                                          TheCompany accounts for income taxes using the liability method. Under thismethod, deferred tax assets and liabilities are determined based on differencesbetween the financial reporting and tax bases of assets and liabilities and aremeasured using the enacted tax rates and laws that are expected to be in effectwhen the differences are expected to reverse. Upon the adoption of FIN No. 48*, Accounting for Uncertainty in Income Taxes*, effectiveJanuary 1, 2007, the Company changed its methodology for estimating itspotential liability for income tax positions for which uncertainty existsregardless of whether taxing authorities will challenge its interpretation ofthe income tax laws.  Under FIN No. 48,the Company does not recognize any benefit in its financial statements for anyuncertain income tax position if it believes the position in the aggregate hasless than a 50% likelihood of being sustained. If the Company believes there is greater than 50% likelihood that theposition will be sustained, a benefit would be recognized in the financialstatements equal to the largest amount that is believed more likely than not tobe sustained upon an audit.

·                                          TheCompany has pension and post-retirement benefit costs and obligations. TheCompany’s pension and post-retirement benefit obligations are actuariallydetermined based on estimates of discount rates and long-term rates of returnon plan assets. Changes in these estimates and other factors couldsignificantly impact the Company’s pension and post-retirement benefit costsand obligations. Assumed health care cost trend rates have a significant effecton the amounts reported for the health care plans. A one-percentage-pointchange in assumed health care cost trend rates would have the followingeffects:
|                                                                     | ** ** | **1-Percentage-  Point Increase** | ** ** | **1-Percentage-  Point Decrease** | ** ** |
|---------------------------------------------------------------------|------------|----------------------------------------|------------|----------------------------------------|------------|
| Effect on total  2007 post-retirement service and interest cost     |       | $                                      | 5          |                                   | $          | (6 | ) |
|                                                                |       |                                   |       |                                   |       |
| Effect on  post-retirement benefit obligation as of January 1, 2007 |       | $                                      | 105        |                                   | $          | (105 | ) |

 

For 2007, the discountrates used for the Company’s pension and post-retirement benefit obligationswere 6.00% and 5.50%, respectively. The discount rates were determined based oncurrent yields on high quality corporate fixed-income investments withmaturities corresponding to the expected duration of the benefit obligations.The rate used for the post-retirement benefit obligation reflects heavierweighting for retired participants of shorter durations.  A one percentage-point increase or decreasein the discount rate used to determine net periodic benefit cost related to thepension plan would decrease pension income by $112 and 380, respectively.

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The Company’s decision tofreeze the Pension Plan also affected the Company’s financial statements andresults of operations beginning in 2007. The freeze, which was effective April 1, 2007, will reduce the Company’soperating expenses by approximately $4,100 for the year ended December 31,2007, however this cost savings may be offset in part by new enhancements toother employee benefit programs.  Inaddition, the Company does not expect to fund the pension plan in 2007.  Historically, for the fiscal years 2003through 2006, the Company’s cash contributions to the Pension Plan ranged from$3,000 to $9,000.

·                                          TheCompany is a party to a variety of litigation, regulatory proceedings and othercontingencies that arise in the ordinary course of business. The Company isrequired to assess the likelihood of any adverse judgments or outcomes to thesematters, as well as potential ranges of probable losses for certain of thesematters. The determination of the liabilities required, if any, for losscontingencies is made after careful analysis of each individual issue. In theopinion of management, the ultimate outcome of these matters will notmaterially affect the Company’s consolidated financial position and results ofoperations.

·                                          TheCompany currently sponsors two Equity Incentive Plans (the “Stock Plans”) forcertain employees, outside directors and consultants of the Company, which wereapproved by the Company’s shareholders. The Stock Plans permit issuance by theCompany of awards in the form of restricted shares, stock units, performanceshares, stock options and stock appreciation rights.

Effective January 1,2006, the Company adopted SFAS No. 123(R), *Share-Based Payment*,using the modified-prospective-transition method.  Since the fair value recognition provisionsof SFAS No. 123, *Accounting for Stock-Based Compensation*and SFAS No. 123(R) were materially consistent under the Company’s Plans, theadoption of SFAS No. 123(R) did not have a significant impact on the Company’sfinancial position or results of operations. The Company has not made any stock option grants since 2003 and consequentlythe compensation expense resulting from stock option grants prior to 2003 waseither fully expensed as of January 1, 2006, or not material to the Company’sfinancial statements.

Prior to January 1, 2006,the Company accounted for the Stock Plans under the fair value recognitionprovisions of SFAS No. 123.  Under theprovisions of SFAS No. 148, *Accounting for Stock-BasedCompensation – Transition and Disclosure*, the fair value method ofaccounting was applied to all employee awards granted, modified, or settledafter January 1, 2003.

As of June 30, 2007,total unrecognized compensation cost related to nonvested restricted stock was$1,373 and will be recognized over a weighted-average period of approximatelythree years.  The total fair value of therestricted common stock and restricted common stock units that vested for thequarter and six-month period ended June 30, 2007 was $730 and $843,respectively.

Stock based compensationfor restricted stock reflects the cost of restricted stock that is expected tovest.  The Company calculated anestimated forfeiture rate based on historic forfeiture experience to date.  If actual forfeitures are not consistent withthe Company’s estimated forfeiture rate, it will be required to recordadjustments to compensation expense.

The Black-Scholes-Mertonoption-pricing model used to value stock option grants includes assumptionsregarding dividend yields, expected volatility, expected lives and risk-freeinterest rates. These assumptions reflect management’s best estimates, butthese items involve inherent uncertainties based on market conditions generallyoutside of the control of the Company.

**Recent Accounting Pronouncements**

InFebruary 2007, the FASB issued SFAS No. 159, *The FairValue Option for Financial Assets and Financial Liabilities - Including anAmendment of FASB Statement No. 115*. This standard permits an entityto elect to measure many financial instruments and certain other items at fairvalue. Unrealized gains and losses on items for which the fair value option hasbeen elected will be recognized in earnings at each subsequent reporting date.SFAS No. 159 is effective as of the beginning of an entity’s first fiscal yearthat begins after November 15, 2007.  Early adoption is permitted as ofthe beginning of the previous fiscal year provided that the entity makes thatchoice in the first 120 days of that fiscal year and also elects to apply theprovisions of FASB Statement No. 157, Fair Value Measurements. The Company iscurrently evaluating the impact, if any, the adoption of SFAS No. 159 will haveon its consolidated financial statements.

InSeptember 2006, the FASB issued SFAS No. 157, *Fair ValueMeasurements*, which defines fair value, establishes a framework formeasuring fair value in generally accepted accounting principles, and expandsdisclosures about fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscalyears beginning after November 15,

27

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2007,and for interim periods within those fiscal years. The Company is currentlyevaluating the impact, if any, the adoption of SFAS No. 157 will have on itsconsolidated financial statements.

InSeptember 2006, the FASB issued SFAS No. 158, *Employers’Accounting for Defined Benefit Pension and Other Postretirement Plans, an Amendmentof FASB Statements No. 87, 88, 106 and 132(R)*.  SFAS No. 158 requires an employer torecognize the funded status of a defined benefit postretirement plan as anasset or liability in its statement of financial position and to recognizechanges in that funded status in the year in which the changes occur throughcomprehensive income.  SFAS No. 158requires an employer with publicly traded equity securities to initiallyrecognize the funded status of a defined benefit postretirement plan and therequired disclosures as of the end of the fiscal year ending after December 15,2006.  The Company adopted SFASNo. 158 on December 31, 2006.  SeeNote 6 for a more detailed discussion of the effects of applying the provisionsof SFAS No. 158 to the Company’s consolidated financial statements.

EffectiveJanuary 1, 2007, the Company adopted FIN No. 48*, Accountingfor Uncertainty in Income Taxes*. FIN No. 48 clarifies the accounting for uncertainty in income taxesrecognized in a company’s financial statements in accordance with FASB No. 109,*Accounting for Income Taxes*.  Specifically, the pronouncement prescribes arecognition threshold and a measurement attribute for the financial statementrecognition and measurement of a tax position taken or expected to be taken ina tax return.  This interpretation alsoprovides guidance on de-recognition, classification, interest and penalties,accounting in interim periods, disclosure and transition of uncertain taxpositions.  The interpretation waseffective for fiscal years beginning after December 15, 2006. The adoption ofFIN No. 48 did not have a material effect on the Company’s consolidatedfinancial position, results of operations or cash flow.

**Regulatory and Legal Matters**

Significantportions of the SureWest Telephone’s rates and charges are subject toregulation by the FCC and the CPUC. Rates and charges are based on various tariffs filed by SureWest andothers, including those filed by the NECA for CL charges.  Pending and future regulatory actions, withrespect to these and other matters and the filing of new or amended tariffs,may have a material impact on the Company’s consolidated financial position andresults of operations.

TheCompany’s financial condition and results of operations have been and will beaffected by recent and future proceedings before the CPUC and FCC. Pendingbefore the FCC and CPUC are proceedings, which are considering:

·                              additionalrules governing the opening of markets to competition and the regulationof the competing telecommunications providers;

·                              thenature and extent of the compensation, if any, to be paid by carriers and otherproviders to one another for network use, and the sums to be recovered throughend users and other sources;

·                              thegoals and definition of universal telephone service in a changing environment,including examination of subsidy support mechanisms for subscribers ofdifferent carriers (including incumbent carriers) and in various geographicareas;

·                              rules thatwill provide non-discriminatory access by competing service providers to thenetwork capabilities of local exchange carriers; and

·                              theregulated rates and earnings of SureWest Telephone.

Thereare a number of pending and anticipated other regulatory proceedings occurringat the federal and state levels that may have a material impact on SureWestTelephone. These regulatory proceedings include, but are not limited to,consideration of changes to the interstate universal service fund, intercarriercompensation reform, broadband deployment and the regulation of local exchangecarriers and their competitors, and regulation of IP-enabled services. Theoutcomes and impact on SureWest Telephone’s operations of these proceedings andrelated court matters cannot be determined at this time.

Theeventual impact on the Company of the effect of all the proceedings describedabove cannot presently be determined.

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**ITEM 3.  QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK.**

TheCompany’s 2006 Annual Report on Form 10-K contains certain disclosures aboutthe Company’s limited exposure to market risk for changes in interestrates.  There have been no material changes to the information providedwhich would require additional disclosures as of the date of this filing.

**ITEM 4.  CONTROLS AND PROCEDURES.**

**Change inInternal Control over Financial Reporting**

Therehas been no change in the Company’s internal control over financial reportingduring the period ended June 30, 2007 that has materially affected, or isreasonably likely to materially affect, the Company’s control over financialreporting. Beginning in the second quarter of 2007, the Company commencedcertain strategic projects to outsource non-core processes.  The Company is assessing the feasibility ofoutsourcing the payroll, cash disbursement and cash remittance processes.  The Company anticipates that these processesmay be outsourced by December 31, 2007. As part of the outsourcing assessment process management will bereviewing the controls in place at the outsource providers location andevaluating the Company’s internal controls over financial reporting afterconversion.  It is likely that thecontrols over financial reporting will change due to the outsourcing of thesesignificant processes.

TheCompany’s management is responsible for establishing and maintaining adequateinternal control over financial reporting. The Company’s internal controlsystem was designed to provide reasonable assurance to the Company’smanagement, Board of Directors and Audit Committee regarding the reliability offinancial reporting and the preparation of published financial statements inaccordance with generally accepted accounting principles.

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**PART II –OTHER INFORMATION**

**ITEM 1**.      **LEGAL PROCEEDINGS. ***(Dollars in thousands)*

Exceptfor the proceedings described below, SureWest Communications (the “Company”) isnot aware of any material pending legal proceedings, other than ordinaryroutine litigation incidental to its business, to which it is a party or towhich any of its property is subject.

In2004, the Company entered into a settlement agreement (the “settlementagreement”), which was ultimately approved by the California Public UtilitiesCommission (“CPUC”), to resolve an ongoing regulatory proceeding with variousparties.  The settlement agreementresolved past sharing liabilities and suspended future sharing requirements inthe intrastate jurisdiction.  Inaccordance with the settlement agreement, SureWest Telephone is returningapproximately $6,500 (“Dividend A”), plus interest at the 90-day commercialpaper rate for non-financial institutions to its end users through a consumerdividend over a period of approximately four years, which began January 1,2005.  In addition, SureWest Telephonepaid a one-time consumer dividend of $2,600 (“Dividend B”), to consumers tosettle the monitoring periods 2000 to 2004 payable over approximately twoyears, which began January 1, 2005 and was completed in March 2007.

Aspart of the settlement agreement SureWest Telephone was to implement anadditional annual consumer dividend of $1,300 on January 1, 2007 to end-usersreceiving SureWest Telephone services subject to sharing on or after thatdate.  However, this consumer dividendwas subject to reduction based upon the results of other pending regulatory proceedings.  Pursuant to a CPUC order in December 2006,beginning in 2007 this dividend was offset by a reduction in the Company’sinterim draw from the California High Cost Fund (“CHCF”), which was previouslyauthorized by a CPUC decision in August 2005 which allowed SureWest Telephoneto continue receiving $11,500 annually from the CHCF to offset its intrastateregulated operating expenses on an interim basis. In August 2006, the Companyrequested permission from the CPUC to implement a graduated phase down of itsannual $11,500 interim draw and in December 2006, the CPUC authorized theCompany to offset its interim draw from the CHCF with the aforementioned $1,300consumer dividend.  The Division ofRatepayer Advocates (“DRA”) filed comments on the Company’s request andrecommended that SureWest Telephone immediately discontinue receipt of itsentire annual $11,500 interim CHCF fund draw. In July 2007, the CPUC released a Proposed Decision which if adoptedwould deny the DRA request, grant SureWest Telephone’s Petition and commencethe phase down of SureWest Telephone’s interim CHCF draw over a five-yearperiod, a phase down that would end on January 1, 2012. The phase down of theinterim draw is proposed to begin in 2007, initially reducing the annual$11,500 interim draw by the aforementioned $1,300 consumer dividend to $10,200.In each subsequent year the interim CHCF draw would be incrementally reduced byapproximately $2,000 annually.  The finalresults of this proceeding, a pending rulemaking proceeding reviewing theentire CHCF and the resultant potential effects on SureWest Telephone couldimpact future support through the CHCF.

In anongoing proceeding relating to the New Regulatory Framework (under whichSureWest Telephone has been regulated under since 1996), the CPUC adopteddecision 06-08-030 in 2006, which grants carriers broader pricing freedom inthe provision of telecommunications services, bundling of services, promotionsand customer contracts.  This decisionadopted a new regulatory framework, the Uniform Regulatory Framework (“URF”),which among other things (i) eliminates price regulation and allows fullpricing flexibility for all new and retail services except lifeline and basicresidential services, (ii) allows new forms of bundles and promotional packagesof telecommunication services, (iii) allocates all gains and losses from thesale of assets to shareholders, and (iv) eliminates almost all elements of rateof return regulation, including the calculation of shareable earnings.

InJanuary 2007, The Utility Reform Network filed a petition for writ of review inthe Court of Appeal of the State of California seeking an order that the CPUC’sdecision be set aside.  In May 2007, theCourt of Appeal denied The Utility Reform Network’s Petition for Writ of reviewand the CPUC’s decision has become final.

Giventhe ongoing activities of the Federal Communications Commission (“FCC”) topromulgate rules and regulations on competition, interconnection, accesscharges, broadband deployment and universal service reform, and the variouson-going legal challenges considering the validity of these FCC orders, it isnot yet possible to determine fully the impact of the Act and related FCCregulations on SureWest Telephone’s operations.

Thereare a number of other regulatory proceedings occurring at the federal and statelevels that may have a material impact on SureWest Telephone. These regulatoryproceedings include, but are not limited to, consideration of changes to thejurisdictional separations process, the interstate universal service fund,intercarrier compensation access charge

30

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reform,broadband deployment and the regulation of local exchange carriers and theircompetitors, including providers of Internet protocol-enabled services. Theoutcomes and impact on SureWest Telephone’s operations of these proceedings andrelated court matters cannot be determined at this time.

Theregulatory proceedings occurring at the state and federal levels describedabove may also authorize new competition in the provision of regulated servicesand change the rates and rate structure for regulated services furnished bySureWest Telephone, the effects of which on SureWest Telephone cannot yet bedetermined.

**ITEM 1A.     RISKFACTORS.**

Therehave been no material changes from risk factors disclosed in the Company’sAnnual Report on Form 10-K for the year ended December 31, 2006, identified inItem 1A of Part I of the Form 10-K.

**ITEM 2.        UNREGISTEREDSALES OF EQUITY SECURITIES AND USE OF PROCEEDS.**

Notapplicable.

**ITEM 3.        DEFAULTSUPON SENIOR SECURITIES.**

Notapplicable.

**ITEM 4.        SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS.**

(a)          OnMay 10, 2007, the Company held its Annual Meeting of Shareholders, at which theshareholders elected a Board of seven Directors.

(b)         The sevennominees to serve as directors, which constituted the entire Board of Directorsas of the meeting date, were all reelected to serve as directors by thefollowing votes (out of 14,465,772).
| Director             | ** ** | **Votes For** | ** ** | **Votes Withheld** | ** ** | **Broker  Non-Votes  and Abstentions** | ** ** |
|----------------------|------------|--------------------|------------|-------------------------|------------|---------------------------------------------|------------|
| Kirk C. Doyle        |       | 10,139,358         |       | 260,344                 |       | 4,066,070                                   |       |
| Steven C. Oldham     |       | 10,118,868         |       | 280,834                 |       | 4,066,070                                   |       |
| John R. Roberts III  |       | 10,084,479         |       | 315,223                 |       | 4,066,070                                   |       |
| Timothy D. Taron     |       | 10,135,431         |       | 264,271                 |       | 4,066,070                                   |       |
| Guy R. Gibson        |       | 10,133,764         |       | 265,938                 |       | 4,066,070                                   |       |
| Roger J. Valine      |       | 10,105,428         |       | 294,274                 |       | 4,066,070                                   |       |
| Robert D.  Kittredge |       | 10,048,737         |       | 350,965                 |       | 4,066,070                                   |       |

 

**ITEM 5.        OTHERINFORMATION.**

Notapplicable.

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**ITEM6.  EXHIBITS.**

(a)          Index to Exhibits.
| Exhibit  No. | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                                                                                                                 | ** ** | **Method  of Filing**     |
|--------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------|
| 3.1          |       | Articles of Incorporation of Registrant, together  with Certificate of Amendment of Articles of Incorporation dated  January 25, 1996 and Certificate of Amendment of Articles of  Incorporation dated June 21, 1996 (Filed as Exhibit 3(a) to  Form 10-Q Quarterly Report for the quarter ended  September 30, 1996)                                                                                             |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 3.2          |       | Certificate of Amendment of Articles of  Incorporation dated May 18, 2001 (Filed as Exhibit 3(b) to  Form 10-Q Quarterly Report for the quarter ended June 30,  2001)                                                                                                                                                                                                                                                  |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 3.3          |       | Bylaws of Registrant (Filed as  Exhibit 3(b) to Form 10-K Annual Report of the  Registrant for the year ended December 31, 2000)                                                                                                                                                                                                                                                                                            |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 4.1          |       | Shareholder Rights Plan (Filed as Exhibit 2.1  to Form 8-A Registration Statement under the Securities Act of  1934)                                                                                                                                                                                                                                                                                                                  |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.1         |       | Note Purchase Agreement for Series A Senior  Notes in the aggregate amount of $40,000,000 dated December 9, 1998  (Filed as Exhibit 10(b) to Form 10-K Annual Report of  Registrant for the year ended December 31, 1998)                                                                                                                                                                                         |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.2         |       | Supplement to Note Purchase Agreement for  Series B Senior Notes in the aggregate amount of $60,000,000 dated  March 13, 2003 (Filed as Exhibit 99.1 to the Form 8-K  filed March 13, 2003)                                                                                                                                                                                                                            |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.3         |       | Credit agreement dated as of May 1, 2006  between SureWest Communications and CoBank, ACB (Filed as Exhibit 99.1  to Form 8-K filed May 2, 2006)                                                                                                                                                                                                                                                                            |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.4         |       | Amended and Restated Credit Agreement dated as of  May 14, 2007 between SureWest Communications and CoBank, ACB (Filed as  Exhibit 10.1 to Form 8-K filed May 15, 2007)                                                                                                                                                                                                                                                          |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.5         |       | Share Purchase Agreement among SureWest Communications,  SureWest Directories and Gatehouse Media, Inc., dated as of  January 28, 2007. Pursuant to Item 601(b)(2) of Regulation S-K,  the Registrant agrees to furnish, supplementally, a copy of any exhibit or  schedule omitted from the Share Purchase Agreement to the Commission upon  request (Filed as Exhibit 10.1 to Form 8-K filed  January 29, 2007) |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.6         |       | 1999 Restricted Stock Bonus Plan (Filed as Exhibit  10(d) to Form 10-K Annual Report of Registrant for the year ended  December 31, 1998)                                                                                                                                                                                                                                                                                             |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.7         |       | 2000 Equity Incentive Plan, as amended (Filed as  Exhibit 10.6 to Form 10-K Annual Report of Registrant for the year ended  December 31, 2006)                                                                                                                                                                                                                                                                                             |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.8         |       | SureWest KSOP (Filed as Exhibit 4.1 to  Registration Statement on Form S-8 [No. 333-87222])                                                                                                                                                                                                                                                                                                                                      |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                                                                                                                                                            |       |                      |
| 10.9         |       | Letter agreement dated January 16, 2001 between  Registrant and Bill M. DeMuth (Filed as Exhibit 10.14 to Form 10-K/A  Annual Report of Registrant for the year ended December 31, 2003)                                                                                                                                                                                                                                    |       | Incorporated by reference |

 

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| Exhibit  No. | ** ** | **Description**                                                                                                                                                                                                                                                                                            | ** ** | **Method  of Filing**     |
|--------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------|
| 10.10        |       | Letter agreement dated January 16, 2001 between  Registrant and Fred A. Arcuri (Filed as Exhibit 10.15 to Form 10-K/A  Annual Report of Registrant for the year ended December 31, 2003)                                                                                               |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.11        |       | Steven C. Oldham Employment Agreement dated  December 15, 2005 (Filed as Exhibit 99.1 to Form 8-K  filed December 16, 2005)                                                                                                                                                            |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.12        |       | Letter agreement dated December 15, 2005  between Registrant and Steven C. Oldham (Filed as Exhibit 99.5 to Form 8-K  filed December 16, 2005)                                                                                                                                              |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.13        |       | Letter agreement dated January 16, 2001,  between Registrant and Scott K. Barber (Filed as Exhibit 10.12 to Form  10-K Annual Report of Registrant for the year ended December 31, 2006)                                                                                                    |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.14        |       | Release agreement dated December 15, 2005  between Registrant and Fred A. Arcuri (Filed as Exhibit 99.1 to  Form 8-K filed December 21, 2005)                                                                                                                                          |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.15        |       | Letter agreement dated October 4, 2004 between  Registrant and Philip A. Grybas                                                                                                                                                                                                                       |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.16        |       | Summary of Board of Directors’ Compensation (Filed  as Exhibit 10.15 to Form 10-K Annual Report of Registrant for the year ended  December 31, 2006)                                                                                                                                             |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.17        |       | Summary of Executive Compensation (Filed under  Form 8-K filed on December 11, 2006)                                                                                                                                                                                                             |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.18        |       | Restricted Stock Unit Award, dated December 21,  2004, between Registrant and Roger J. Valine (Filed as Exhibit 10.15 to  Form 10-K Annual Report of Registrant for the year ended  December 31, 2004)                                                                                 |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.19        |       | Form of Restricted Stock Unit Award, dated  December 21, 2004, between Registrant and each of Guy R. Gibson, Steven  C. Oldham, John R. Roberts III and Timothy D. Taron (Filed as  Exhibit 10.16 to Form 10-K Annual Report of Registrant for the  year ended December 31, 2004) |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.20        |       | Form of Restricted Stock Unit Award, dated  January 26, 2005, between Registrant and Timothy D. Taron and Roger J.  Valine (Filed as Item 1.01 to Form 8-K filed January 27,  2006)                                                                                                    |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.21        |       | Form of Restricted Stock Unit Award, dated  February 23, 2005, between Registrant and each of Fred A. Arcuri, Bill  M. DeMuth and Jay B. Kinder (Filed as Exhibit 10.18 to Form 10-K  Annual Report of Registrant for the year ended December 31, 2004)                           |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.22        |       | Form of Restricted Stock Unit Award for  Registrant’s 2000 Equity Incentive Plan (Filed as Exhibit 10.19 to  Form 10-K Annual Report of Registrant for the year ended  December 31, 2004)                                                                                         |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.23        |       | Form of Stock Option Agreement for Registrant’s  2000 Equity Incentive Plan (Filed as Exhibit 10.20 to Form 10-K  Annual Report of Registrant for the year ended December 31, 2004)                                                                                               |       | Incorporated by reference |
|         |       |                                                                                                                                                                                                                                                                                                       |       |                      |
| 10.24        |       | Form of Restricted Stock Agreement for  Registrant’s 2000 Equity Incentive Plan (Filed as Exhibit 10.21 to  Form 10-K Annual Report of Registrant for the year ended  December 31, 2004)                                                                                          |       | Incorporated by reference |

 

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| Exhibit  No. | ** ** | **Description**                                                                                                                                                                                             | ** ** | **Method  of Filing** |
|--------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|
| 31.1         |       | Certification of Steven C. Oldham, President and  Chief Executive Officer, as adopted pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002                                                       |       | Filed herewith        |
|         |       |                                                                                                                                                                                                        |       |                  |
| 31.2         |       | Certification of Philip A. Grybas, Senior Vice  President and Chief Financial Officer, as adopted pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                           |       | Filed herewith        |
|         |       |                                                                                                                                                                                                        |       |                  |
| 32.1         |       | Certification of Steven C. Oldham, President and  Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002              |       | Filed herewith        |
|         |       |                                                                                                                                                                                                        |       |                  |
| 32.2         |       | Certification of Philip A. Grybas, Senior Vice  President and Chief Financial Officer, pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley  Act of 2002 |       | Filed herewith        |

 

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**SIGNATURES**

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned, thereunto duly authorized.
|                  |   | SUREWEST COMMUNICATIONS    |   |
|-----------------------|--------|----------------------------|--------|
|                  |   | (Registrant)               |
|                  |   |                       |
|                  |   |                       |
|                  | By:    | /s/ STEVEN C. OLDHAM       |   |
|                  |   | Steven C. Oldham,          |   |
|                  |   | President and Chief        |   |
|                  |   | Executive  Officer    |   |
|                  |
|                  |
|                  | By:    | /s/ PHILIP A. GRYBAS       |   |
|                  |   | Philip A.  Grybas,         |   |
|                  |   | Senior Vice  President and |   |
|                  |   | Chief Financial  Officer   |   |
|                  |
| Date: August 1,  2007 |
|                       |        |                            |        |  |  |

 

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