##### Table of Contents



UNITED
STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM 10-Q
 
 þ
    
    Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For the quarterly period ended: September 30, 2005
 Or
 o
    
    Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For
the transition period from _______ to _______
 Commission
File Number 333-85503
 Telecomunicaciones de Puerto Rico, Inc.
  Commonwealth of Puerto Rico
(STATE OR OTHER JURISDICTION OF
INCORPORATION OR ORGANIZATION)
    
    66-0566178
(IRS EMPLOYER IDENTIFICATION NO.)
 1515 FD Roosevelt Avenue
Guaynabo, Puerto Rico
    
    00968(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
    
    (ZIP CODE)
 787-792-6052
   þ o
  o þ
  o þ
    1




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INDEX
 Telecomunicaciones de Puerto Rico, Inc. and Subsidiaries
 Part I. Financial InformationItem 1.
    
    Financial Statements (Unaudited)
    
    
    3Consolidated Balance SheetsSeptember 30, 2005 and December 31, 2004
    
    
    3Consolidated Statements of Operations Three Months Ended September 30, 2005
and 2004; Nine Months Ended September 30, 2005 and 2004
    
    
    4Consolidated Statements of Changes in Shareholders EquityNine
Months Ended September 30, 2005 and Year Ended December 31, 2004
    
    
    5Consolidated Statements of Cash FlowsNine Months Ended September 30, 2005
and 2004
    
    
    6Notes to Consolidated Financial Statements
    
    
    7Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    29Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    46Item 4.
    
    Controls and Procedures
    
    
    47Part II. Other InformationItem 1.
    
    Legal Proceedings
    
    
    48Item 2.
    
    Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    48Item 3.
    
    Defaults Upon Senior Securities
    
    
    48Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    48Item 5.
    
    Other Information
    
    
    48Item 6.
    
    Exhibits
    
    
    48Signatures
    
    
    49Exhibit Index
    
    
    50Collective Bargaining AgreementCertification of Principal Executive OfficerCertification of Principal Financial OfficerCertification Pursuant to Section 906
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Telecomunicaciones de Puerto Rico, Inc. and Subsidiaries
Consolidated Balance Sheets
 (Unaudited)September 30,
    
    
    December 31,2005
    
    
    2004ASSETSCURRENT ASSETS:Cash and cash equivalents
    
    $
    37,784
    
    
    $
    63,346Accounts receivable, net of allowance for doubtful accounts
of $82,023 and $106,090 in 2005 and 2004, respectively
    
    
    237,851
    
    
    
    270,914Deferred income tax
    
    
    18,665
    
    
    
    28,054Inventory and supplies, net
    
    
    35,805
    
    
    
    28,158Prepaid expenses
    
    
    38,415
    
    
    
    26,616Total current assets
    
    
    368,520
    
    
    
    417,088PROPERTY, PLANT AND EQUIPMENT, net
    
    
    1,384,194
    
    
    
    1,459,459GOODWILL
    
    
    126,927
    
    
    
    126,927INTANGIBLES, net
    
    
    204,976
    
    
    
    196,820DEFERRED INCOME TAX
    
    
    214,806
    
    
    
    235,886OTHER ASSETS
    
    
    97,802
    
    
    
    109,102TOTAL ASSETS
    
    $
    2,397,225
    
    
    $
    2,545,282LIABILITIES AND SHAREHOLDERS EQUITYCURRENT LIABILITIES:Short-term debt
    
    $
    420,040
    
    
    $
    93,168Other current liabilities
    
    
    199,124
    
    
    
    216,187Total current liabilities
    
    
    619,164
    
    
    
    309,355LONG-TERM DEBT, excluding current portion
    
    
    300,308
    
    
    
    703,556PENSION AND OTHER POST-EMPLOYMENT BENEFITS
    
    
    562,506
    
    
    
    607,115OTHER NON-CURRENT LIABILITIES
    
    
    153,795
    
    
    
    186,781Total liabilities
    
    
    1,635,773
    
    
    
    1,806,807MINORITY INTEREST IN CONSOLIDATED SUBSIDIARY
    
    
    17,139
    
    
    
    15,010SHAREHOLDERS EQUITY:Common stock
    
    
    704,386
    
    
    
    704,386Deferred ESOP compensation
    
    
    (25,172
    )
    
    
    (25,172
    )Retained earnings
    
    
    231,804
    
    
    
    210,956Accumulated other comprehensive loss, net of taxes
    
    
    (166,705
    )
    
    
    (166,705
    )Total shareholders equity
    
    
    744,313
    
    
    
    723,465TOTAL LIABILITIES AND SHAREHOLDERS EQUITY
    
    $
    2,397,225
    
    
    $
    2,545,282
 The accompanying notes are an integral part of these financial statements.
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##### Table of Contents



Telecomunicaciones de Puerto Rico, Inc. and Subsidiaries
Consolidated Statements of Operations
 For the Three Months Ended
    
    
    For the Nine Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004(Unaudited)
    
    
    (Unaudited)REVENUES:Local services
    
    $
    154,137
    
    
    $
    146,302
    
    
    $
    452,981
    
    
    $
    437,475Access services
    
    
    61,845
    
    
    
    59,469
    
    
    
    179,834
    
    
    
    206,050Long distance services
    
    
    18,057
    
    
    
    21,844
    
    
    
    50,261
    
    
    
    76,299Cellular services
    
    
    62,012
    
    
    
    49,425
    
    
    
    175,370
    
    
    
    144,882Directory services and other
    
    
    26,340
    
    
    
    23,901
    
    
    
    71,924
    
    
    
    64,797Total revenues
    
    
    322,391
    
    
    
    300,941
    
    
    
    930,370
    
    
    
    929,503OPERATING COSTS AND EXPENSES:Labor and benefits
    
    
    89,864
    
    
    
    88,456
    
    
    
    276,952
    
    
    
    280,637Other operating expenses
    
    
    124,126
    
    
    
    98,272
    
    
    
    344,849
    
    
    
    253,937Early retirement and voluntary separation provision
    
    
    
    
    
    
    
    
    
    
    1,687
    
    
    
    1,635Depreciation and amortization
    
    
    59,521
    
    
    
    64,751
    
    
    
    181,430
    
    
    
    195,136Total operating costs and expenses
    
    
    273,511
    
    
    
    251,479
    
    
    
    804,918
    
    
    
    731,345OPERATING INCOME
    
    
    48,880
    
    
    
    49,462
    
    
    
    125,452
    
    
    
    198,158OTHER INCOME (EXPENSE):Interest expense, net
    
    
    (11,668
    )
    
    
    (11,195
    )
    
    
    (34,136
    )
    
    
    (32,653
    )Equity income from joint venture
    
    
    583
    
    
    
    737
    
    
    
    1,695
    
    
    
    2,072Minority interest in consolidated subsidiary
    
    
    (722
    )
    
    
    (656
    )
    
    
    (2,129
    )
    
    
    (1,874
    )Total other expense, net
    
    
    (11,807
    )
    
    
    (11,114
    )
    
    
    (34,570
    )
    
    
    (32,455
    )INCOME BEFORE INCOME TAX EXPENSE
    
    
    37,073
    
    
    
    38,348
    
    
    
    90,882
    
    
    
    165,703INCOME TAX EXPENSE
    
    
    14,857
    
    
    
    14,388
    
    
    
    35,711
    
    
    
    63,816NET INCOME
    
    $
    22,216
    
    
    $
    23,960
    
    
    $
    55,171
    
    
    $
    101,887
 The accompanying notes are an integral part of these financial statements.
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##### Table of Contents



Telecomunicaciones de Puerto Rico, Inc. and Subsidiaries
Consolidated Statements of Changes in Shareholders Equity
 AccumulatedOtherCommon
    
    
    Deferred ESOP
    
    
    Subscription
    
    
    Retained
    
    
    ComprehensiveStock
    
    
    Compensation
    
    
    Receivable
    
    
    Earnings
    
    
    Loss
    
    
    TotalBALANCE DECEMBER 31, 2003
    
    $
    703,884
    
    
    $
    (26,153
    )
    
    $
    (39,515
    )
    
    $
    164,520
    
    
    $
    (101,385
    )
    
    $
    701,351Dividends paid
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (61,953
    )
    
    
    
    
    
    
    (61,953
    )Dividends declared
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Accretion of discount on subscription
receivable
    
    
    
    
    
    
    
    
    
    
    (485
    )
    
    
    
    
    
    
    
    
    
    
    (485
    )PRTA capital contribution
    
    
    
    
    
    
    
    
    
    
    40,000
    
    
    
    
    
    
    
    
    
    
    
    40,000Release of ESOP shares
    
    
    502
    
    
    
    981
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,483Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    108,389
    
    
    
    
    
    
    
    108,389Other comprehensive loss, net of taxes:Minimum pension liability adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (65,320
    )
    
    
    (65,320
    )Comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    43,069BALANCE DECEMBER 31, 2004
    
    $
    704,386
    
    
    $
    (25,172
    )
    
    $
    
    
    
    $
    210,956
    
    
    $
    (166,705
    )
    
    $
    723,465(UNAUDITED)Dividends paid
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    (18,123
    )
    
    
    
    
    
    
    (18,123
    )Dividends declared
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (16,200
    )
    
    
    
    
    
    
    (16,200
    )Net income for the nine months ended September 30, 2005
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    55,171
    
    
    
    
    
    
    
    55,171BALANCE SEPTEMBER 30, 2005
    
    $
    704,386
    
    
    $
    (25,172
    )
    
    $
    
    
    
    $
    231,804
    
    
    $
    (166,705
    )
    
    $
    744,313
 The accompanying notes are an integral part of these financial statements.
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Telecomunicaciones de Puerto Rico, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
 For the Nine Months EndedSeptember 30,2005
    
    
    2004CASH FLOWS FROM OPERATING ACTIVITIES:Net income
    
    $
    55,171
    
    
    $
    101,887Adjustments to reconcile net income to net
cash provided by operating activities:Depreciation and amortization
    
    
    181,430
    
    
    
    195,136Provision for uncollectible accounts
    
    
    34,898
    
    
    
    39,597Deferred income tax expense
    
    
    29,460
    
    
    
    43,624Employee retirement benefits expense
    
    
    74,101
    
    
    
    82,199Accretion of discount on subscription receivable
    
    
    
    
    
    
    (485
    )Equity income from joint venture
    
    
    (1,695
    )
    
    
    (2,072
    )Early retirement and voluntary separation provision
    
    
    1,687
    
    
    
    1,635Gain on sale of building
    
    
    (207
    )
    
    
    (353
    )Minority interest in consolidated subsidiary
    
    
    2,129
    
    
    
    1,874Changes in assets and liabilities:Accounts receivable
    
    
    (1,836
    )
    
    
    (22,634
    )Inventory and supplies
    
    
    (7,647
    )
    
    
    3,106Prepaid expenses and other assets
    
    
    (499
    )
    
    
    2,362Other current and non-current liabilities
    
    
    (68,537
    )
    
    
    (79,558
    )Pension and other post-employment benefits
    
    
    (118,709
    )
    
    
    (161,429
    )Net cash provided by operating activities
    
    
    179,746
    
    
    
    204,889CASH FLOWS FROM INVESTING ACTIVITIES:Capital expenditures, including removal costs
    
    
    (115,192
    )
    
    
    (104,242
    )Proceeds from sale of fixed assets
    
    
    1,136
    
    
    
    1,073Net cash used in investing activities
    
    
    (114,056
    )
    
    
    (103,169
    )CASH FLOWS FROM FINANCING ACTIVITIES:Capital contribution
    
    
    
    
    
    
    40,000Net issuance (repayments) of short-term debt, including
capital leases
    
    
    (73,129
    )
    
    
    (29,617
    )Dividends Paid
    
    
    (18,123
    )
    
    
    (12,386
    )Net cash used in financing activities
    
    
    (91,252
    )
    
    
    (2,003
    )NET (DECREASE) INCREASE IN CASH
AND CASH EQUIVALENTS
    
    
    (25,562
    )
    
    
    99,717CASH AND CASH EQUIVALENTS AT BEGINNING
OF PERIOD
    
    
    63,346
    
    
    
    21,732CASH AND CASH EQUIVALENTS AT END OF PERIOD
    
    $
    37,784
    
    
    $
    121,449
 The accompanying notes are an integral part of these financial statements.
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##### Table of Contents



TELECOMUNICACIONES DE PUERTO RICO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
  1.
    
    Business / Corporate Structure
   2.
    
    Summary of Significant Accounting Policies
 Basis of Presentation
  Impairment or Disposal of Long-lived Assets
  7




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Business Combinations and Accounting for Goodwill and Other Intangibles
   Reclassifications
  3.
    
    Summary of Recent Accounting Pronouncements
 Accounting for Conditional Asset Retirement Obligations
  8




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4.
    
    Property, Plant and Equipment
 Property, plant and equipment consist of:
 Remaining Useful
    
    
    September 30,
    
    
    December 31,Lives (Yrs)
    
    
    2005
    
    
    2004(In thousands)Current
    
PreviousOutside plant
    
    
    9.0
    
    
    
    9.2
    
    
    $
    2,189,529
    
    
    $
    2,148,244Central office and transmission equipment
    
    
    3.8
    
    
    
    4.4
    
    
    
    1,274,222
    
    
    
    1,228,001Equipment and other
    
    
    2.7
    
    
    
    2.7
    
    
    
    281,210
    
    
    
    304,716Buildings
    
    
    14.6
    
    
    
    15.0
    
    
    
    324,808
    
    
    
    321,928Land
    
    
    N/A
    
    
    
    N/A
    
    
    
    25,861
    
    
    
    26,003Gross plant in service
    
    
    
    
    
    
    
    
    
    
    4,095,630
    
    
    
    4,028,892Less: accumulated depreciation
    
    
    
    
    
    
    
    
    
    
    2,747,575
    
    
    
    2,637,434Net plant in service
    
    
    
    
    
    
    
    
    
    
    1,348,055
    
    
    
    1,391,458Construction in progress
    
    
    
    
    
    
    
    
    
    
    36,139
    
    
    
    68,001Total
    
    
    
    
    
    
    
    
    
    $
    1,384,194
    
    
    $
    1,459,459
 Effective July 2005, the Company performed its periodic review of plant useful lives estimates
based on a comprehensive analysis of the useful lives underlying the depreciation rates. The
review incorporates the impact of technology, future competition and assumptions employed in the
industry relative to depreciation and retirement rates. For the nine months ended September 30,
2005, the revision resulted in lower depreciation expense of approximately $5 million than would
have been recognized under the previous useful lives estimate.
 5.
    
    Goodwill
 The following is a breakdown of our goodwill.
 Carrying ValueSeptember 30,
    
    
    December 31,2005
    
    
    2004(In thousands)Wireline (PRTC)
    
    $
    102,731
    
    
    $
    102,731Dial-up Internet (Coqui.net)
    
    
    24,196
    
    
    
    24,196Total
    
    $
    126,927
    
    
    $
    126,927
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6.
    
    Intangibles
 Carrying ValueSeptember 30,
    
    
    December 31,2005
    
    
    2004(In thousands)Indefinite Life:Wireline concession
    
    $
    85,120
    
    
    $
    85,120FCC Cellular licenses
    
    
    23,855
    
    
    
    23,855Total Indefinite Life
    
    $
    108,975
    
    
    $
    108,975
 September 30, 2005
    
    
    December 31, 2004(In thousands)Definite Life:
    
    Cost
    
    
    Acc. Amort
    
    
    Book Value
    
    
    Cost
    
    
    Acc. Amort
    
    
    Book ValueWireline trade name
    
    $
    48,400
    
    
    $
    12,734
    
    
    $
    35,666
    
    
    $
    48,400
    
    
    $
    11,282
    
    
    $
    37,118Software licenses
    
    
    115,958
    
    
    
    55,623
    
    
    
    60,335
    
    
    
    91,759
    
    
    
    41,032
    
    
    
    50,727Total Definite Life
    
    
    164,358
    
    
    
    68,357
    
    
    
    96,001
    
    
    
    140,159
    
    
    
    52,314
    
    
    
    87,845Plus: Total Indefinite Life
    
    
    
    
    
    
    
    
    
    
    108,975
    
    
    
    
    
    
    
    
    
    
    
    108,975Total
    
    $
    164,358
    
    
    $
    68,357
    
    
    $
    204,976
    
    
    $
    140,159
    
    
    $
    52,314
    
    
    $
    196,820
 SFAS No. 142, Goodwill and Other Intangible Assets, no longer permits the amortization of
goodwill and other indefinite-lived intangible assets. Instead, these assets must be reviewed
annually (or, under certain conditions, more frequently) for impairment in accordance with this
statement. This impairment test uses a fair value approach.Intangible assets that do not have indefinite lives continue to be amortized over their useful
lives and reviewed for impairment in accordance with SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. For 2004, the Company has evaluated its assets
using the fair value approach for the wireline and wireless reporting units to determine if
there is an impairment exposure and the impact it would have on the Companys results of
operations. The evaluation of the reporting units revealed no impairment exposure.The Company is currently undergoing its annual evaluation of assets to determine if there is an
impairment exposure and related impact, if any, to the Companys 2005 results of operations.The following table presents current and expected amortization expense of existing intangible
assets as of September 30, 2005 and for each of the following years:
 Aggregate amortization expense:For the nine months ended September 30, 2005
    
    
    
    
    
    $
    16,155Expected amortization expense:For the remainder of 2005
    
    
    
    
    
    $
    5,860For the years ending December 31,2006
    
    
    
    25,0912007
    
    
    
    20,8642008
    
    
    
    6,7762009
    
    
    
    6,776
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7.
    
    Other assets
 Other assets consist of:
 September 30,
    
    
    December 31,2005
    
    
    2004(In thousands)Deferred activation and installation costs
    
    $
    64,434
    
    
    $
    72,775Notes receivable-equipment sales
    
    
    3,740
    
    
    
    5,675Deferred pension asset
    
    
    23,744
    
    
    
    23,747Deferred financing costs, net
    
    
    1,588
    
    
    
    2,307Other deferred costs
    
    
    3,190
    
    
    
    1,516Other assets
    
    
    1,106
    
    
    
    3,082Total
    
    $
    97,802
    
    
    $
    109,102
 8.
    
    Pension Plan
 The Company has noncontributory pension plans for full-time employees, which are tax qualified
as they meet Employee Retirement Income Security Act of 1974 (the ERISA) requirements.
Pension plan contributions are tax deductible and deposited in a trust. The trusts invest in
equity and fixed income securities to meet the benefit obligations.The pension benefit is composed of two elements. First, an employee receives an annuity at
retirement when they reach the rule of 85 (age plus years of service). The annuity is
calculated by applying a percentage times years of service to the last three years of salary.
The second element is a lump sum based on years of service, up to a maximum of nine months of
salary for hourly employees, and twelve months of salary for salaried employees.There are separate trusts for the annuity and the lump sum benefit, with a further separation of
the annuity benefit into a plan for the UIET union, the HIETEL union, and management employees.
Health care and life insurance benefits are provided to retirees.The components of the net pension and other post-employment benefit expenses for the quarters
ended September 30, 2005 and 2004 are presented below.
 (In thousands)
    
    Pension and Lump Sum Benefits
    
    
    Post-Retirement BenefitsFor the Three Months Ended
    
    
    For the Nine Months Ended
    
    
    For the Three Months Ended
    
    
    For the Nine Months EndedSeptember 30,
    
    
    September 30,
    
    
    September 30,
    
    
    September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004
    
    
    2005
    
    
    2004
    
    
    2005
    
    
    2004Service cost
    
    $
    5,714
    
    
    $
    5,041
    
    
    $
    17,142
    
    
    $
    15,413
    
    
    $
    1,556
    
    
    $
    (187
    )
    
    $
    4,668
    
    
    $
    4,943Interest cost
    
    
    18,259
    
    
    
    19,316
    
    
    
    54,777
    
    
    
    54,450
    
    
    
    8,218
    
    
    
    5,193
    
    
    
    24,654
    
    
    
    24,497Expected return on plan assets
    
    
    (18,135
    )
    
    
    (14,718
    )
    
    
    (54,405
    )
    
    
    (44,538
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Amortization of unrecognized:Transition obligation
    
    
    90
    
    
    
    12,576
    
    
    
    270
    
    
    
    12,756
    
    
    
    551
    
    
    
    9,586
    
    
    
    1,653
    
    
    
    10,688Prior service cost (benefit)
    
    
    783
    
    
    
    1,585
    
    
    
    2,349
    
    
    
    3,943
    
    
    
    (2,463
    )
    
    
    (2,253
    )
    
    
    (7,389
    )
    
    
    (3,509
    )Actuarial loss, net
    
    
    5,549
    
    
    
    (6,767
    )
    
    
    16,647
    
    
    
    269
    
    
    
    4,579
    
    
    
    (7,190
    )
    
    
    13,737
    
    
    
    1,652Net amortization and deferral
    
    
    12,260
    
    
    
    17,033
    
    
    
    36,780
    
    
    
    42,293
    
    
    
    12,441
    
    
    
    5,149
    
    
    
    37,323
    
    
    
    38,271Effect of early retirement program
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    939
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    696Total
    
    $
    12,260
    
    
    $
    17,033
    
    
    $
    36,780
    
    
    $
    43,232
    
    
    $
    12,441
    
    
    $
    5,149
    
    
    $
    37,323
    
    
    $
    38,967
 11




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Cash FlowsThe Company expects to contribute $144 million to the pension and lump sum plans, and $31
million for post-retirement benefits in year 2005. As of September 30, 2005, the Company has
contributed $98 million to the pension and lump sum plans and has sufficient liquid resources to
fund the remainder of the expected contribution.Medicare Drug ActOn December 8, 2003, the Medicare Prescription Drug Improvement and Modernization Act of 2003
(Medicare Drug Act) was signed into law. The Medicare Drug Act introduces a prescription drug
benefit under Medicare (Medicare Part D) as well as a federal subsidy to sponsors of retiree
health care benefit plans that provide a benefit that is at least actuarially equivalent to
Medicare Part D. The Companys plan provides prescription drug benefits that are deemed
actuarially equivalent to the Medicare Part D and elected to recognize the impact of the federal
subsidy on our accumulated postretirement benefit obligation and net postretirement benefit
costs in the third quarter of 2004. The reduction in the APBO for the subsidy related to
benefits attributed to past service is $77.4 million for year 2004. The effect of the subsidy
on the measurement of net periodic postretirement benefit cost of $10.7 million for the 2004
period consists of the following (in millions):
 Amortization of the actuarial experience gain
    
    $
    4.3Reduction in current period service cost
    
    
    1.6Resulting reduction in interest cost on APBO
    
    
    4.8Total
    
    $
    10.7
 9.
    
    Early Retirement and Voluntary Separation Provision
 In May 2005, 33 eligible HIETEL employees accepted the voluntary separation program offered by
the Company in March 2005. In March 2005, 46 eligible management employees accepted the
voluntary separation program offered by the Company in December 2004. These programs resulted
in a provision of $1.7 million during the nine months ended September 30, 2005.On September 30, 2004, the Company offered a voluntary separation program, expiring on December
3, 2004, to eligible management employees, resulting in a provision of $1.2 million covering 24
employees who accepted the separation plan.In January 2004, the Company recorded a provision of $1.6 million associated with 19 eligible
management employees who accepted the early retirement program offered by the Company in
December 2003.
 10.
    
    Deferred ESOP Compensation
 The Employee Stock Ownership Plan (ESOP) acquired a 3% interest in the Company in 1999 with a
$26 million, twenty-year note borrowed from the Company to establish a contributory investment
fund for employees. The ESOP only invests in shares of the Companys common stock. Shares are
held by the ESOPs trustee and maintained in a suspense account until they are released to
employee participants. The yearly release of shares to participants is based on the greater of
participant contributions plus a Company match of 30% up to 5% of wages or a minimum based on an
amortization schedule. The minimum is based on the ratio of annual debt service to total debt
service multiplied by the initial 750,000 shares.Also, during the years 2000 and 2001, subsequent to ESOPs commencement, the ESOP entered into
various loan agreements with the Company amounting to $4.9 million to finance the ESOPs
acquisition of Company stock from former employees.
 12




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##### Table of Contents



Salaried, regular, full and part-time employees of the Company actively employed on March 2,
1999 were eligible to receive a portion of the Initial Grant of the Companys stock. Employees
that were not actively employed on March 2, 1999 were also eligible to receive the Initial Grant
provided that they met the condition below.Employees who were on short-term disability, workers compensation, Family and Medical Care
Leave Act (FMLA) leave, layoff with recall rights, or other Company approved leave of absence;
and the employees returned to active employment with the Company as soon as they were eligible
to do so and within 180 days after March 2, 1999.Compensation expense is recorded based on the release of shares at market value, which is based
on an independent appraisal performed annually. The ESOP released approximately 32,000 shares in
2004. This release resulted in compensation expense of $1 million for the year ended December
31, 2004 reflecting the market value of the shares. The release of shares, based upon the per
share price established at the Acquisition, amounted to $1.5 million for December 31, 2004,
which is reflected as a reduction of deferred ESOP compensation in equity.
 11.
    
    Other Current Liabilities
 Other current liabilities consist of:
 September 30,
    
    
    December 31,2005
    
    
    2004(In thousands)Accounts payable
    
    $
    24,335
    
    
    $
    33,380Accrued expenses
    
    
    76,226
    
    
    
    105,128Employee benefit accruals
    
    
    68,245
    
    
    
    52,630Carrier payables
    
    
    12,122
    
    
    
    16,812Taxes
    
    
    667
    
    
    
    1,868Interest
    
    
    17,529
    
    
    
    6,369Total
    
    $
    199,124
    
    
    $
    216,187
 12.
    
    Debt
 Debt consists of:
 September 30,
    
    
    December 31,2005
    
    
    2004(In thousands)Senior notes:Due May 15, 2006 at 6.65%
    
    
    399,984
    
    
    
    399,966Due May 15, 2009 at 6.80%
    
    
    299,924
    
    
    
    299,910Term credit facilities:Due May 16, 2005 at 57 basis points over LIBOR
    
    
    
    
    
    
    30,000Due August 19, 2005 at 70 basis points over LIBOR
    
    
    
    
    
    
    63,000Commercial paper
    
    
    20,000
    
    
    
    Deferred derivative and Interest rate swap
    
    
    378
    
    
    
    3,657Capital leases
    
    
    62
    
    
    
    191Total
    
    
    720,348
    
    
    
    796,724Less short-term debt
    
    
    420,040
    
    
    
    93,168Long-term debt
    
    $
    300,308
    
    
    $
    703,556
 13




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##### Table of Contents



The senior notes and term credit facilities are unsecured and non-amortizing. PRTC is the
guarantor of these debt instruments. The senior notes indentures and term credit facility
agreements do not contain dividend restrictions.The Company has a $400 million commercial paper program with maturities not to exceed 364 days,
which is backed by one of our working capital facilities.In March 2005, the Companys existing $360 million bank note credit facility matured. On March
1, 2005 the Company entered into a new unsecured, $400 million 364-day revolving credit facility
with a syndicate of banks and other lenders for whom Citibank, N.A. acts as administrative
agent, Banco Bilbao Vizcaya Argentaria Puerto Rico and Bank of Nova Scotia act as co-syndication
agents and Banco Popular de Puerto Rico and FirstBank Puerto Rico act as co-documentation
agents. Amounts borrowed under this facility are guaranteed by PRTC, and bear interest at the
applicable LIBOR rate plus a margin or at the base rate; which is the higher of the base rate
publicly announced by the administrative agent from time to time or the Federal Funds rate plus
0.5%, plus a margin. The Company is also required to pay a quarterly facility fee on
commitments under the facility and a quarterly utilization fee on borrowed amounts that exceed
50% of the commitments under the facility. Accrued interest on Eurodollar rate borrowings is
payable based on elected intervals of one, two, three or six months or other interest period as
the Company may select, subject to certain conditions. Accrued interest on base rate borrowings
is payable quarterly. This facility matures on February 28, 2006, on which date the Company has
the right to convert outstanding amounts into a term loan that mature on February 28, 2007.
This facility contains negative covenants, including covenants which limit the Companys ability
to grant or permit liens on its or subsidiaries properties, merge or sell all or substantially
all of its assets and permit its subsidiaries to incur debt. This facility also requires that
the Company maintain certain financial ratios. Upon the occurrence of a default or an event of
default, the lenders have various remedies or rights, which may include termination of the
lenders obligations to make advances and declare all borrowed amounts and interest thereon
immediately due and payable. The intended purpose of this facility is for working capital
purposes and serves as backstop facility for the commercial paper program. At September 30,
2005, the Company had no outstanding debt balance under this facility.The Company has a $40 million working capital credit facility with Banco Popular de Puerto Rico,
an affiliate of Popular, Inc. that matured on June 30, 2005. In June 2005, the Company renewed
the undrawn $40 million working capital credit facility maturing on June 30, 2006. Amounts
outstanding under this facility bear interest at a rate of 40 basis points over LIBOR. This
facility also serves as additional backstop for the commercial paper program. At September 30,
2005, the Company had no outstanding debt balance under this facility.By November 22, 2004, the Company repaid the $30 million term loan that had a maturity date of
June 24, 2005. On May 16, 2005, the Company renewed one of the $30 million term loan at an
interest rate of 57 basis points over LIBOR at a maturity date of July 29, 2005. The Companys
two term loans matured on July 29, 2005 and August 19, 2005 which totaled $30 million and $63
million, respectively. At September 30, 2005, the Company had no outstanding debt balance under
term credit facility.On August 31, 2001, the Company entered into an interest rate swap contract with a notional
amount of $150 million. In September 2002, the Company drew the value out of the hedge position
without changing the fixed/floating funding mix of the original swap transaction. This
transaction resulted in cash proceeds of $11 million, reflected in cash from operations as
required by SFAS No. 104, and created a deferred derivative, which will be amortized until 2006.
As of September 30, 2005, the unamortized balance of the deferred derivative is $1.6 million.
The purpose of the swap is to hedge against changes in the fair market value of the Companys
senior notes to achieve a targeted mix of fixed and variable rate debt. The swap receives
interest at a fixed rate of 6.65% and pays interest at a net variable rate equal to six month
LIBOR plus 170 basis points, with semiannual settlements and reset dates every May 15 and
November 15 until maturity of the May 15, 2006 senior notes. The swap was entered into at
market and as a result, there was no exchange of premium at the initial date of the swap. The
Company designates the swap as a hedge of the changes in fair market value of the senior notes
due to changes in the designated benchmark interest rate. PRTC is the guarantor of the interest
rate swap.
 14




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##### Table of Contents



Aggregate maturities of the senior notes and term credit facilities are as follow:
 Year
    
    
    
    Amount(In thousands)2006
    
    Senior note
    
    
    400,0002009
    
    Senior note
    
    
    300,000Total
    
    
    
    $
    700,000
 The Company is in compliance with debt covenant agreements and with the financial ratios as
specified by term facilities.
 13.
    
    Other Non-Current Liabilities
 Other non-current liabilities consist of:
 September 30,
    
    
    December 31,2005
    
    
    2004(In thousands)Deferred activation and installation revenues
    
    $
    64,434
    
    
    $
    72,775Deferred directory-publishing revenues
    
    
    1,056
    
    
    
    14,065Customer deposits
    
    
    27,781
    
    
    
    26,521Other liabilities
    
    
    60,524
    
    
    
    73,420Total
    
    $
    153,795
    
    
    $
    186,781
 14.
    
    Shareholders Equity
 Common StockCommon stock consists of fifty million authorized shares, no par value, of which twenty five
million shares were outstanding at September 30, 2005 and December 31, 2004.Subscription ReceivableThe subscription receivable reflects receipts from the PRTA originally recorded at its present
value (at an 8% discount rate). As part of the Acquisition Agreement, the PRTA agreed to
contribute a total of $200 million in cash or stock as a capital contribution in equal
installments of $40 million over five years beginning on March 2, 2000. The Company employed
the $200 million capital contribution to partially fund its underfunded pension and other
post-employment benefit obligations, as agreed. The stock purchase agreement required the
Company to contribute $66 million, including the $40 million received from the PRTA, to the
pension plan immediately upon receipt of the proceeds. The Company received the fifth and final
$40 million installment in March 2004 and made the required pension payment of $66 million. All
installments were made in cash.Accumulated Other Comprehensive LossThe accumulated other comprehensive loss represents unrecognized losses, other than unrecognized
prior service costs which are reflected as an other asset, associated with the hourly employee
pension fund since the accumulated benefit obligation exceeds the fair value of plan assets.The accumulated other comprehensive loss amount as of December 31, 2004 has been adjusted in the
amount of $65.3 million in order to reflect the after-tax amount in accordance with the
provisions of SFAS No.130 Reporting Comprehensive Income.
 15




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##### Table of Contents



DividendsTo the extent funds are legally available, the Companys shareholders agreement requires the
payment of dividends equal to at least 50% of consolidated net income to be paid in the
following quarter.Declared dividends for financial reporting purposes were the following:
 2005(In thousands)4th Quarter
    
    $
    3rd Quarter
    
    
    16,2002nd Quarter
    
    
    14,8751st Quarter
    
    
    3,248Total
    
    $
    34,323
 2004(In thousands)4th Quarter
    
    $
    22,9903rd Quarter
    
    
    26,5772nd Quarter
    
    
    12,3861st Quarter
    
    
    Total
    
    $
    61,953
   The senior notes indentures and credit facility agreements do not contain dividend restrictions.
 15.
    
    Fair Value of Financial Instruments
 The carrying amounts and fair values of the Companys financial instruments are as follows:
 September 30,
    
    
    December 31,2005
    
    
    2004Carrying
    
    
    Fair
    
    
    Carrying
    
    
    FairAmount
    
    
    Value
    
    
    Amount
    
    
    Value(In thousands)Assets:Cash and cash equivalents
    
    $
    37,784
    
    
    $
    37,784
    
    
    $
    63,346
    
    
    $
    63,346Accounts receivable
    
    
    237,851
    
    
    
    237,851
    
    
    
    270,914
    
    
    
    270,914Liabilities:Other current liabilities
    
    $
    199,124
    
    
    $
    199,124
    
    
    $
    216,187
    
    
    $
    216,187Short-term debt
    
    
    420,040
    
    
    
    424,816
    
    
    
    93,168
    
    
    
    93,168Long-term debt, including interest rate swap
    
    
    300,308
    
    
    
    312,564
    
    
    
    703,556
    
    
    
    739,470
 16




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##### Table of Contents



16.
    
    Segment Reporting
 The Company has two reportable segments: Wireline and Wireless.The Wireline segment consists of:
 
    
    Local services, including basic voice, telephone and telecommunications equipment
rentals, value-added services, high-speed private line services, Internet access and public
phone service;
    
    Access services to long distance carriers, competitive local exchange carriers, and
cellular and paging operators to originate and terminate calls on our network;
    
    Long distance services, including direct dial on-island and off-island, operator
assisted calls, prepaid calling card and high-speed private line services;
    
    Directory publishing rights services; and
    
    Telecommunication equipment sales and billing and collection services to competing long
distance operators in Puerto Rico.
 The Wireless segment consists of:
 
    
    Cellular service; and
    
    Wireless equipment sales.
 The accounting policies of the segments are the same as those followed by the Company (see Note
2). The Company accounts for intersegment revenues at market prices.
 17




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##### Table of Contents



Segment results for the Company are as follow:
 For the Three Months
    
    
    For the Nine MonthsEnded September 30,
    
    
    Ended September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004(In thousands)Wireline:Revenues-Local services
    
    $
    158,858
    
    
    $
    148,343
    
    
    $
    465,091
    
    
    $
    444,504Access services
    
    
    62,739
    
    
    
    59,843
    
    
    
    183,376
    
    
    
    207,521Long distance services
    
    
    17,817
    
    
    
    21,217
    
    
    
    48,474
    
    
    
    73,872Directory services and other
    
    
    18,689
    
    
    
    17,901
    
    
    
    48,589
    
    
    
    50,748Total revenues
    
    $
    258,103
    
    
    $
    247,304
    
    
    $
    745,530
    
    
    $
    776,645Operating income
    
    $
    46,045
    
    
    $
    53,374
    
    
    $
    121,145
    
    
    $
    203,576Wireless:Revenues-Cellular services
    
    $
    63,784
    
    
    $
    50,840
    
    
    $
    177,911
    
    
    $
    146,557Equipment sales and other
    
    
    8,905
    
    
    
    7,020
    
    
    
    26,855
    
    
    
    17,761Total revenues
    
    $
    72,689
    
    
    $
    57,860
    
    
    $
    204,766
    
    
    $
    164,318Operating income (loss)
    
    $
    2,835
    
    
    $
    (3,912
    )
    
    $
    4,307
    
    
    $
    (5,418
    )Consolidated:Revenues for reportable segments
    
    $
    330,792
    
    
    $
    305,164
    
    
    $
    950,296
    
    
    $
    940,963Elimination of intersegment revenues
    
    
    (8,401
    )
    
    
    (4,223
    )
    
    
    (19,926
    )
    
    
    (11,460
    )Consolidated revenues
    
    $
    322,391
    
    
    $
    300,941
    
    
    $
    930,370
    
    
    $
    929,503Operating income
    
    $
    48,880
    
    
    $
    49,462
    
    
    $
    125,452
    
    
    $
    198,158
 As of
    
    
    As ofSeptember 30,
    
    
    December 31,Assets
    
    2005
    
    
    2004Wireline assets
    
    $
    2,324,800
    
    
    $
    2,474,296Wireless assets
    
    
    390,237
    
    
    
    357,290Segment assets
    
    $
    2,715,037
    
    
    $
    2,831,586Elimination of intersegment assets
    
    
    (317,812
    )
    
    
    (286,304
    )Consolidated assets
    
    $
    2,397,225
    
    
    $
    2,545,282
 18




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##### Table of Contents



17.
    
    Condensed Consolidating Information
 The following summarizes the unaudited condensed consolidating financial information as of
September 30, 2005 and December 31, 2004 and for the quarters then ended presents the financial
position, results of operations and cash flows of (i) the Company as if it had accounted for its
subsidiaries using the equity method, (ii) the Guarantor Subsidiary (as defined below); and
(iii) the Non-Guarantor Subsidiaries (as defined below) on a combined basis. The consolidation
entries eliminate investments in subsidiaries and intercompany balances and transactions.The Notes are guaranteed by PRTC (the Guarantor Subsidiary), a wholly-owned subsidiary of the
Company, but not guaranteed by the Companys other subsidiaries, Coqui.net, PRTLD and Datacom
(the Non-Guarantor Subsidiaries). The guarantee by the Guarantor Subsidiary is full and
unconditional.
 19




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##### Table of Contents



Condensed Consolidating Balance Sheets
 Guarantor
    
    
    Non-Guarantor
    
    
    
    
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    ConsolidatedASSETSCURRENT ASSETS:Cash and cash equivalents
    
    $
    (236
    )
    
    $
    17,011
    
    
    $
    21,009
    
    
    $
    
    
    
    $
    37,784Intercompany accounts receivable
    
    
    481,761
    
    
    
    47,499
    
    
    
    59,662
    
    
    
    (588,922
    )
    
    
    Accounts receivable, net
    
    
    
    
    
    
    237,477
    
    
    
    374
    
    
    
    
    
    
    
    237,851Deferred income tax
    
    
    718
    
    
    
    17,914
    
    
    
    33
    
    
    
    
    
    
    
    18,665Inventory and supplies, net
    
    
    
    
    
    
    35,804
    
    
    
    1
    
    
    
    
    
    
    
    35,805Prepaid expenses
    
    
    
    
    
    
    37,733
    
    
    
    682
    
    
    
    
    
    
    
    38,415Total current assets
    
    
    482,243
    
    
    
    393,438
    
    
    
    81,761
    
    
    
    (588,922
    )
    
    
    368,520PROPERTY, PLANT AND EQUIPMENT, net
    
    
    
    
    
    
    1,375,205
    
    
    
    8,989
    
    
    
    
    
    
    
    1,384,194GOODWILL AND OTHER INTANGIBLES, net
    
    
    
    
    
    
    307,407
    
    
    
    24,496
    
    
    
    
    
    
    
    331,903DEFERRED INCOME TAX
    
    
    
    
    
    
    215,911
    
    
    
    
    
    
    
    (1,105
    )
    
    
    214,806INVESTMENT IN SUBSIDIARIES
    
    
    730,733
    
    
    
    
    
    
    
    
    
    
    
    (730,733
    )
    
    
    OTHER ASSETS
    
    
    301,766
    
    
    
    97,999
    
    
    
    
    
    
    
    (301,963
    )
    
    
    97,802TOTAL ASSETS
    
    $
    1,514,742
    
    
    $
    2,389,960
    
    
    $
    115,246
    
    
    $
    (1,622,723
    )
    
    $
    2,397,225LIABILITIES AND SHAREHOLDERS EQUITYCURRENT LIABILITIES:Short-term debt
    
    $
    420,000
    
    
    $
    420,040
    
    
    $
    
    
    
    $
    (420,000
    )
    
    $
    420,040Intercompany accounts payable
    
    
    32,697
    
    
    
    102,277
    
    
    
    39,956
    
    
    
    (174,930
    )
    
    
    Other current liabilities
    
    
    17,446
    
    
    
    173,435
    
    
    
    8,039
    
    
    
    204
    
    
    
    199,124Total current liabilities
    
    
    470,143
    
    
    
    695,752
    
    
    
    47,995
    
    
    
    (594,726
    )
    
    
    619,164LONG-TERM DEBT, excluding current portion
    
    
    300,286
    
    
    
    299,928
    
    
    
    
    
    
    
    (299,906
    )
    
    
    300,308OTHER NON-CURRENT LIABILITIES
    
    
    
    
    
    
    712,316
    
    
    
    1,339
    
    
    
    2,646
    
    
    
    716,301Total liabilities
    
    
    770,429
    
    
    
    1,707,996
    
    
    
    49,334
    
    
    
    (891,986
    )
    
    
    1,635,773MINORITY INTEREST
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    17,139
    
    
    
    17,139SHAREHOLDERS EQUITY:Common stock, Additional paid in capital and Treasury stock
    
    
    704,386
    
    
    
    645,298
    
    
    
    41,143
    
    
    
    (686,441
    )
    
    
    704,386Deferred ESOP compensation
    
    
    (25,172
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (25,172
    )Retained earnings
    
    
    231,804
    
    
    
    203,369
    
    
    
    24,769
    
    
    
    (228,138
    )
    
    
    231,804Accumulated other comprehensive loss
    
    
    (166,705
    )
    
    
    (166,703
    )
    
    
    
    
    
    
    166,703
    
    
    
    (166,705
    )Total shareholders equity
    
    
    744,313
    
    
    
    681,964
    
    
    
    65,912
    
    
    
    (747,876
    )
    
    
    744,313TOTAL LIABILITIES AND SHAREHOLDERS EQUITY
    
    $
    1,514,742
    
    
    $
    2,389,960
    
    
    $
    115,246
    
    
    $
    (1,622,723
    )
    
    $
    2,397,225
 20




---



##### Table of Contents



Condensed Consolidating Balance Sheets
 Guarantor
    
    
    Non-Guarantor
    
    
    
    
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    ConsolidatedASSETSCURRENT ASSETS:Cash and cash equivalents
    
    $
    (149
    )
    
    $
    44,658
    
    
    $
    18,837
    
    
    $
    
    
    
    $
    63,346Intercompany accounts receivable
    
    
    342,749
    
    
    
    86,340
    
    
    
    47,423
    
    
    
    (476,512
    )
    
    
    Accounts receivable, net
    
    
    
    
    
    
    270,807
    
    
    
    107
    
    
    
    
    
    
    
    270,914Deferred income tax
    
    
    718
    
    
    
    27,303
    
    
    
    33
    
    
    
    
    
    
    
    28,054Inventory and supplies, net
    
    
    
    
    
    
    28,157
    
    
    
    1
    
    
    
    
    
    
    
    28,158Prepaid expenses
    
    
    
    
    
    
    25,228
    
    
    
    1,388
    
    
    
    
    
    
    
    26,616Total current assets
    
    
    343,318
    
    
    
    482,493
    
    
    
    67,789
    
    
    
    (476,512
    )
    
    
    417,088PROPERTY, PLANT AND EQUIPMENT, net
    
    
    
    
    
    
    1,449,809
    
    
    
    9,650
    
    
    
    
    
    
    
    1,459,459GOODWILL AND OTHER INTANGIBLES, net
    
    
    
    
    
    
    299,164
    
    
    
    24,583
    
    
    
    
    
    
    
    323,747DEFERRED INCOME TAX
    
    
    
    
    
    
    236,755
    
    
    
    
    
    
    
    (869
    )
    
    
    235,886INVESTMENT IN SUBSIDIARIES
    
    
    550,178
    
    
    
    
    
    
    
    
    
    
    
    (550,178
    )
    
    
    OTHER ASSETS
    
    
    706,035
    
    
    
    108,986
    
    
    
    
    
    
    
    (705,919
    )
    
    
    109,102TOTAL ASSETS
    
    $
    1,599,531
    
    
    $
    2,577,207
    
    
    $
    102,022
    
    
    $
    (1,733,478
    )
    
    $
    2,545,282LIABILITIES AND SHAREHOLDERS EQUITYCURRENT LIABILITIES:Short-term debt
    
    $
    93,000
    
    
    $
    93,168
    
    
    $
    
    
    
    $
    (93,000
    )
    
    $
    93,168Intercompany accounts payable
    
    
    73,335
    
    
    
    280,296
    
    
    
    36,298
    
    
    
    (389,929
    )
    
    
    Other current liabilities
    
    
    6,195
    
    
    
    202,879
    
    
    
    7,218
    
    
    
    (105
    )
    
    
    216,187Total current liabilities
    
    
    172,530
    
    
    
    576,343
    
    
    
    43,516
    
    
    
    (483,034
    )
    
    
    309,355LONG-TERM DEBT, excluding current portion
    
    
    703,536
    
    
    
    699,895
    
    
    
    
    
    
    
    (699,875
    )
    
    
    703,556OTHER NON-CURRENT LIABILITIES
    
    
    
    
    
    
    793,177
    
    
    
    1,103
    
    
    
    (384
    )
    
    
    793,896Total liabilities
    
    
    876,066
    
    
    
    2,069,415
    
    
    
    44,619
    
    
    
    (1,183,293
    )
    
    
    1,806,807MINORITY INTEREST
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    15,010
    
    
    
    15,010SHAREHOLDERS EQUITY:Common stock, Additional paid in capital and Treasury stock
    
    
    704,386
    
    
    
    485,590
    
    
    
    41,143
    
    
    
    (526,733
    )
    
    
    704,386Deferred ESOP compensation
    
    
    (25,172
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (25,172
    )Retained earnings
    
    
    210,956
    
    
    
    188,905
    
    
    
    16,260
    
    
    
    (205,165
    )
    
    
    210,956Accumulated other comprehensive loss, net of taxes
    
    
    (166,705
    )
    
    
    (166,703
    )
    
    
    
    
    
    
    166,703
    
    
    
    (166,705
    )Total shareholders equity
    
    
    723,465
    
    
    
    507,792
    
    
    
    57,403
    
    
    
    (565,195
    )
    
    
    723,465TOTAL LIABILITIES AND SHAREHOLDERS EQUITY
    
    $
    1,599,531
    
    
    $
    2,577,207
    
    
    $
    102,022
    
    
    $
    (1,733,478
    )
    
    $
    2,545,282
 21




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##### Table of Contents



Condensed Consolidating Statements of Operations
 Guarantor
    
    
    Non-Guarantor
    
    
    
    
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    ConsolidatedREVENUES:Local services
    
    $
    
    
    
    $
    148,589
    
    
    $
    8,210
    
    
    $
    (2,662
    )
    
    $
    154,137Access services
    
    
    
    
    
    
    63,513
    
    
    
    
    
    
    
    (1,668
    )
    
    
    61,845Long distance services
    
    
    
    
    
    
    8,111
    
    
    
    10,973
    
    
    
    (1,027
    )
    
    
    18,057Cellular services
    
    
    
    
    
    
    63,204
    
    
    
    
    
    
    
    (1,192
    )
    
    
    62,012Directory and other services and sales
    
    
    
    
    
    
    28,605
    
    
    
    332
    
    
    
    (2,597
    )
    
    
    26,340Total revenues
    
    
    
    
    
    
    312,022
    
    
    
    19,515
    
    
    
    (9,146
    )
    
    
    322,391OPERATING COSTS AND EXPENSES:Labor and benefits
    
    
    
    
    
    
    89,444
    
    
    
    752
    
    
    
    (332
    )
    
    
    89,864Other operating expenses
    
    
    3
    
    
    
    118,482
    
    
    
    14,455
    
    
    
    (8,814
    )
    
    
    124,126Depreciation and amortization
    
    
    
    
    
    
    59,082
    
    
    
    439
    
    
    
    
    
    
    
    59,521Total operating costs and expenses
    
    
    3
    
    
    
    267,008
    
    
    
    15,646
    
    
    
    (9,146
    )
    
    
    273,511OPERATING INCOME (LOSS)
    
    
    (3
    )
    
    
    45,014
    
    
    
    3,869
    
    
    
    
    
    
    
    48,880OTHER INCOME (EXPENSE), NET
    
    
    22,219
    
    
    
    (11,427
    )
    
    
    345
    
    
    
    (22,944
    )
    
    
    (11,807
    )INCOME BEFORE INCOME TAX EXPENSE
    
    
    22,216
    
    
    
    33,587
    
    
    
    4,214
    
    
    
    (22,944
    )
    
    
    37,073INCOME TAX EXPENSE
    
    
    
    
    
    
    13,288
    
    
    
    1,569
    
    
    
    
    
    
    
    14,857NET INCOME
    
    $
    22,216
    
    
    $
    20,299
    
    
    $
    2,645
    
    
    $
    (22,944
    )
    
    $
    22,216
 22




---



##### Table of Contents



Condensed Consolidating Statements of Operations
 Guarantor
    
    
    Non-Guarantor
    
    
    
    
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    ConsolidatedREVENUES:Local services
    
    $
    
    
    
    $
    140,760
    
    
    $
    8,473
    
    
    $
    (2,931
    )
    
    $
    146,302Access services
    
    
    
    
    
    
    61,033
    
    
    
    
    
    
    
    (1,564
    )
    
    
    59,469Long distance services
    
    
    
    
    
    
    13,258
    
    
    
    8,639
    
    
    
    (53
    )
    
    
    21,844Cellular services
    
    
    
    
    
    
    49,425
    
    
    
    
    
    
    
    
    
    
    
    49,425Directory and other services and sales
    
    
    
    
    
    
    26,237
    
    
    
    
    
    
    
    (2,336
    )
    
    
    23,901Total revenues
    
    
    
    
    
    
    290,713
    
    
    
    17,112
    
    
    
    (6,884
    )
    
    
    300,941OPERATING COSTS AND EXPENSES:Labor and benefits
    
    
    
    
    
    
    87,621
    
    
    
    835
    
    
    
    
    
    
    
    88,456Other operating expenses
    
    
    
    
    
    
    91,509
    
    
    
    13,646
    
    
    
    (6,883
    )
    
    
    98,272Depreciation and amortization
    
    
    
    
    
    
    64,184
    
    
    
    567
    
    
    
    
    
    
    
    64,751Total operating costs and expenses
    
    
    
    
    
    
    243,314
    
    
    
    15,048
    
    
    
    (6,883
    )
    
    
    251,479OPERATING INCOME
    
    
    
    
    
    
    47,399
    
    
    
    2,064
    
    
    
    (1
    )
    
    
    49,462OTHER INCOME (EXPENSE), NET
    
    
    24,496
    
    
    
    (10,568
    )
    
    
    121
    
    
    
    (25,163
    )
    
    
    (11,114
    )INCOME BEFORE INCOME TAX EXPENSE
    
    
    24,496
    
    
    
    36,831
    
    
    
    2,185
    
    
    
    (25,164
    )
    
    
    38,348INCOME TAX EXPENSE
    
    
    536
    
    
    
    12,994
    
    
    
    858
    
    
    
    
    
    
    
    14,388NET INCOME
    
    $
    23,960
    
    
    $
    23,837
    
    
    $
    1,327
    
    
    $
    (25,164
    )
    
    $
    23,960
 23




---



##### Table of Contents



Condensed Consolidating Statements of Operations
 Guarantor
    
    
    Non-Guarantor
    
    
    
    
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    ConsolidatedREVENUES:Local services
    
    $
    
    
    
    $
    436,314
    
    
    $
    24,291
    
    
    $
    (7,624
    )
    
    $
    452,981Access services
    
    
    
    
    
    
    184,344
    
    
    
    
    
    
    
    (4,510
    )
    
    
    179,834Long distance services
    
    
    
    
    
    
    23,913
    
    
    
    28,172
    
    
    
    (1,824
    )
    
    
    50,261Cellular services
    
    
    
    
    
    
    176,562
    
    
    
    
    
    
    
    (1,192
    )
    
    
    175,370Directory and other services and sales
    
    
    
    
    
    
    78,888
    
    
    
    1,116
    
    
    
    (8,080
    )
    
    
    71,924Total revenues
    
    
    
    
    
    
    900,021
    
    
    
    53,579
    
    
    
    (23,230
    )
    
    
    930,370OPERATING COSTS AND EXPENSES:Labor and benefits
    
    
    
    
    
    
    275,377
    
    
    
    2,691
    
    
    
    (1,116
    )
    
    
    276,952Other operating expenses
    
    
    (4
    )
    
    
    330,302
    
    
    
    36,665
    
    
    
    (22,114
    )
    
    
    344,849Depreciation and amortization
    
    
    
    
    
    
    179,937
    
    
    
    1,493
    
    
    
    
    
    
    
    181,430Total operating costs and expenses
    
    
    (4
    )
    
    
    787,303
    
    
    
    40,849
    
    
    
    (23,230
    )
    
    
    804,918OPERATING INCOME
    
    
    4
    
    
    
    112,718
    
    
    
    12,730
    
    
    
    
    
    
    
    125,452OTHER INCOME (EXPENSE), NET
    
    
    55,167
    
    
    
    (33,289
    )
    
    
    856
    
    
    
    (57,304
    )
    
    
    (34,570
    )INCOME BEFORE INCOME TAX EXPENSE
    
    
    55,171
    
    
    
    79,429
    
    
    
    13,586
    
    
    
    (57,304
    )
    
    
    90,882INCOME TAX EXPENSE
    
    
    
    
    
    
    30,633
    
    
    
    5,078
    
    
    
    
    
    
    
    35,711NET INCOME
    
    $
    55,171
    
    
    $
    48,796
    
    
    $
    8,508
    
    
    $
    (57,304
    )
    
    $
    55,171
 24




---



##### Table of Contents



Condensed Consolidating Statements of Operations
 Guarantor
    
    
    Non-Guarantor
    
    
    
    
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    ConsolidatedREVENUES:Local services
    
    $
    
    
    
    $
    421,422
    
    
    $
    25,261
    
    
    $
    (9,208
    )
    
    $
    437,475Access services
    
    
    
    
    
    
    211,366
    
    
    
    
    
    
    
    (5,316
    )
    
    
    206,050Long distance services
    
    
    
    
    
    
    47,976
    
    
    
    28,418
    
    
    
    (95
    )
    
    
    76,299Cellular services
    
    
    
    
    
    
    144,882
    
    
    
    
    
    
    
    
    
    
    
    144,882Directory and other services and sales
    
    
    
    
    
    
    71,724
    
    
    
    
    
    
    
    (6,927
    )
    
    
    64,797Total revenues
    
    
    
    
    
    
    897,370
    
    
    
    53,679
    
    
    
    (21,546
    )
    
    
    929,503OPERATING COSTS AND EXPENSES:Labor and benefits
    
    
    
    
    
    
    278,132
    
    
    
    2,505
    
    
    
    
    
    
    
    280,637Other operating expenses
    
    
    178
    
    
    
    234,954
    
    
    
    40,351
    
    
    
    (21,546
    )
    
    
    253,937Early retirement provision
    
    
    
    
    
    
    1,635
    
    
    
    
    
    
    
    
    
    
    
    1,635Depreciation and amortization
    
    
    
    
    
    
    193,436
    
    
    
    1,700
    
    
    
    
    
    
    
    195,136Total operating costs and expenses
    
    
    178
    
    
    
    708,157
    
    
    
    44,556
    
    
    
    (21,546
    )
    
    
    731,345OPERATING INCOME (LOSS)
    
    
    (178
    )
    
    
    189,213
    
    
    
    9,123
    
    
    
    
    
    
    
    198,158OTHER INCOME (EXPENSE), NET
    
    
    101,707
    
    
    
    (30,864
    )
    
    
    294
    
    
    
    (103,592
    )
    
    
    (32,455
    )INCOME BEFORE INCOME TAX EXPENSE
    
    
    101,529
    
    
    
    158,349
    
    
    
    9,417
    
    
    
    (103,592
    )
    
    
    165,703INCOME TAX EXPENSE (BENEFIT)
    
    
    (358
    )
    
    
    60,498
    
    
    
    3,676
    
    
    
    
    
    
    
    63,816NET INCOME
    
    $
    101,887
    
    
    $
    97,851
    
    
    $
    5,741
    
    
    $
    (103,592
    )
    
    $
    101,887
 25




---



##### Table of Contents



Condensed Consolidating Statements of Cash Flows
 Guarantor
    
    
    Non-Guarantor
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    ConsolidatedCASH PROVIDED BY OPERATING ACTIVITIES:
    
    $
    
    
    
    $
    176,832
    
    
    $
    2,914
    
    
    $
    179,746CASH FLOWS FROM INVESTING ACTIVITIES:Capital expenditures, including removal costs
    
    
    
    
    
    
    (114,450
    )
    
    
    (742
    )
    
    
    (115,192
    )Proceeds from sale of fixed assets
    
    
    
    
    
    
    1,136
    
    
    
    
    
    
    
    1,136Net cash used in investing activities
    
    
    
    
    
    
    (113,314
    )
    
    
    (742
    )
    
    
    (114,056
    )CASH FLOWS FROM FINANCING ACTIVITIES:Net repayments of short-term debt, including capital leases
    
    
    (73,000
    )
    
    
    (129
    )
    
    
    
    
    
    
    (73,129
    )Dividends paid
    
    
    (18,123
    )
    
    
    
    
    
    
    
    
    
    
    (18,123
    )Borrowings/(repayment) intercompany loans
    
    
    91,036
    
    
    
    (91,036
    )
    
    
    
    
    
    
    Net cash used in financing activities
    
    
    (87
    )
    
    
    (91,165
    )
    
    
    
    
    
    
    (91,252
    )NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    
    
    (87
    )
    
    
    (27,647
    )
    
    
    2,172
    
    
    
    (25,562
    )CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
    
    
    (149
    )
    
    
    44,658
    
    
    
    18,837
    
    
    
    63,346CASH AND CASH EQUIVALENTS AT END OF PERIOD
    
    $
    (236
    )
    
    $
    17,011
    
    
    $
    21,009
    
    
    $
    37,784
 26




---



##### Table of Contents



Condensed Consolidating Statements of Cash Flows
 Guarantor
    
    
    Non-Guarantor
    
    
    TotalParent
    
    
    Subsidiary
    
    
    Subsidiaries
    
    
    ConsolidatedCASH PROVIDED BY (USED IN) OPERATING ACTIVITIES:
    
    $
    (106
    )
    
    $
    198,567
    
    
    $
    6,428
    
    
    $
    204,889CASH FLOWS FROM INVESTING ACTIVITIES:Capital expenditures, including removal costs
    
    
    
    
    
    
    (104,216
    )
    
    
    (26
    )
    
    
    (104,242
    )Proceeds from sale of fixed assets
    
    
    
    
    
    
    1,073
    
    
    
    
    
    
    
    1,073Net cash used in investing activities
    
    
    
    
    
    
    (103,143
    )
    
    
    (26
    )
    
    
    (103,169
    )CASH FLOWS FROM FINANCING ACTIVITIES:Capital contribution
    
    
    40,000
    
    
    
    
    
    
    
    
    
    
    
    40,000Net repayments of short-term debt, including capital leases
    
    
    (29,470
    )
    
    
    (147
    )
    
    
    
    
    
    
    (29,617
    )Dividends paid
    
    
    (12,386
    )
    
    
    
    
    
    
    
    
    
    
    (12,386
    )Borrowings/(repayment) intercompany loans
    
    
    1,971
    
    
    
    (1,971
    )
    
    
    
    
    
    
    Net cash provided by (used in) financing activities
    
    
    115
    
    
    
    (2,118
    )
    
    
    
    
    
    
    (2,003
    )NET INCREASE IN CASH AND CASH EQUIVALENTS
    
    
    9
    
    
    
    93,306
    
    
    
    6,402
    
    
    
    99,717CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
    
    
    
    
    
    
    12,438
    
    
    
    9,294
    
    
    
    21,732CASH AND CASH EQUIVALENTS AT END OF PERIOD
    
    $
    9
    
    
    $
    105,744
    
    
    $
    15,696
    
    
    $
    121,449
 27




---



##### Table of Contents



18.
    
    Contingencies and Regulatory and Other Matters
 The Company is involved in various legal matters and regulatory proceedings arising in the
ordinary course of business. Management, after consultation with legal counsel, believes at
this time that, except as disclosed in the section entitled Managements Discussion and
Analysis of Financial Condition and Results of Operations  Regulatory and Other Matters, the
resolution of these matters will not have a material adverse effect on the Companys financial
condition and results of operations.The Company is regulated by the United States Federal Communications Commission (the FCC) for
inter-state wireline services and by the Telecommunications Regulatory Board of Puerto Rico
(TRB) for intra-island wireline services.
 28




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##### Table of Contents



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 OVERVIEW
    
    
    Revenue Growth  Our emphasis is on revenue transformation, devoting more resources
from traditional services, where we have been experiencing access line erosion, to higher
growth markets such as wireless and local data services, including digital subscriber lines
(DSL), as well as expanded data services to enterprise markets. In the quarter and nine
months ended September 30, 2005, our revenues from the growth of wireless areas, in
particular post-paid cellular services and sale of wireless equipment increased by 26% and
24%, respectively, compared to the same periods in 2004. The local data service revenues
for the quarter ended September 30, 2005, increased by 4% compared to the same period in
2004 and for the nine months ended September 30, 2005, increased by 5% compared to the same
period in 2004. These increases were driven by strong DSL revenue growth.For the quarter and nine months ended September 30, 2005, our wireless and local data
services revenues represented 32% of the total revenues, up from 29% of total revenues for
the three months ended September 30, 2004 and up from 27% for the nine months ended
September 30, 2004. Our revenue growth was driven by the addition of approximately 109,000
wireless customers and approximately 35,000 DSL customers compared to the nine month period
ended September 30, 2004. For the quarter ended September 30, 2005, our revenue growth was
driven by the net addition of approximately 15,000 wireless customers and approximately
8,000 DSL customers compared to the same period in 2004.
 
    
    Operational Efficiency  While focusing resources on growth markets, we are continually
challenging our management team to reduce expenses, particularly through
technology-assisted productivity improvements. The Company has significantly reduced
workforce levels compared to the same period in 2004, which we expect will provide future
benefits. At September 30, 2004, the Company had approximately 5,215 employees compared to
4,874 at September 30, 2005. Labor and benefits expenses declined by approximately $4
million, or 1.4%, for the nine months ended September 30, 2005 compared to the same period
in 2004, largely as a result of the early retirement program offered during 2004 and the
voluntary separation program offered during 2005.
    
    Capital Allocation  Capital spending has been, and will continue to be, directed
toward growth markets, such as High-speed wireless data or Evolution Data Optimized (EV-DO)
technologies. Replacement of the TDMA network and expanded services offered to enterprise
markets are some examples of areas of capital spending which support theses growth markets.
    
    Cash Flow Generation  The financial statements reflect the managements focus on using
cash provided by our operating and investing activities to strategically reduce debt and to
fund our pension plans.
 29




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CONSOLIDATED RESULTS OF OPERATIONS
   For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    % Change
    
    
    2005
    
    
    2004
    
    
    % Change(In millions)
    
    
    (In millions)Local
    
    $
    154
    
    
    $
    146
    
    
    
    5
    %
    
    $
    453
    
    
    $
    438
    
    
    
    3
    %Network Access
    
    
    62
    
    
    
    60
    
    
    
    3
    
    
    
    180
    
    
    
    206
    
    
    
    (13
    )Long Distance
    
    
    18
    
    
    
    22
    
    
    
    (18
    )
    
    
    50
    
    
    
    76
    
    
    
    (34
    )Cellular
    
    
    62
    
    
    
    49
    
    
    
    27
    
    
    
    175
    
    
    
    145
    
    
    
    21Directory and Other
    
    
    26
    
    
    
    24
    
    
    
    8
    
    
    
    72
    
    
    
    65
    
    
    
    11Consolidated revenues
    
    $
    322
    
    
    $
    301
    
    
    
    7
    
    
    $
    930
    
    
    $
    930
    
    
    
    
    30




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For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    %Change
    
    
    2005
    
    
    2004
    
    
    %Change(In millions)
    
    
    (In millions)Labor and benefits
    
    $
    90
    
    
    $
    88
    
    
    
    2
    %
    
    $
    277
    
    
    $
    281
    
    
    
    (1
    )%Other operating expenses
    
    
    124
    
    
    
    98
    
    
    
    27
    
    
    
    345
    
    
    
    254
    
    
    
    36Total consolidated operating expenses
    
    $
    214
    
    
    $
    186
    
    
    
    15
    
    
    $
    622
    
    
    $
    535
    
    
    
    16
     31




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##### Table of Contents



For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    %Change
    
    
    2005
    
    
    2004
    
    
    %Change(In millions)
    
    
    (In millions)Retirement and voluntary separation provision
    
    $
    
    
    
    $
    
    
    
    
    
    %
    
    $
    2
    
    
    $
    2
    
    
    
    
    %Depreciation and amortization
    
    
    60
    
    
    
    65
    
    
    
    (8
    )
    
    
    181
    
    
    
    195
    
    
    
    (7
    )Interest expense and others
    
    
    12
    
    
    
    11
    
    
    
    9
    
    
    
    34
    
    
    
    33
    
    
    
    3Equity income in joint venture
    
    
    (1
    )
    
    
    (1
    )
    
    
    
    
    
    
    (2
    )
    
    
    (2
    )
    
    
    Minority interest in consolidated subsidiary
    
    
    1
    
    
    
    1
    
    
    
    
    
    
    
    2
    
    
    
    2
    
    
    
    Income tax expense
    
    
    15
    
    
    
    14
    
    
    
    7
    
    
    
    36
    
    
    
    64
    
    
    
    (44
    )Total Other Consolidated Results
    
    $
    87
    
    
    $
    90
    
    
    
    (3
    )
    
    $
    253
    
    
    $
    294
    
    
    
    (14
    )
 Retirement and voluntary separation provisions
   Depreciation and amortization expense
  Interest expense, net
  Equity income from joint venture
  Minority interest in consolidated subsidiary
  Income taxes
  32




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SEGMENT RESULTS OF OPERATIONS
   
    
    Local services, including basic voice, telephone and telecommunications equipment
rentals, value-added services, high-speed data services, Internet access and public phone
service;
    
    Long distance services including direct dial on-island and off-island, operator assisted
calls, and prepaid calling card;
    
    Access services to long distance carriers, competitive local exchange carriers, and
wireless operators for originating and terminating calls on the Companys network;
    
    Directory publishing rights services; and
    
    Telecommunication equipment sales and billing and collection services to competing long
distance operators in Puerto Rico.
  
    
    Postpaid and Prepaid services; and
    
    Wireless equipment sales.
 33




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For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    %Change
    
    
    2005
    
    
    2004
    
    
    % Change(In millions)Local
    
    $
    159
    
    
    $
    148
    
    
    
    7
    %
    
    $
    465
    
    
    $
    445
    
    
    
    4
    %Network Access
    
    
    63
    
    
    
    60
    
    
    
    5
    
    
    
    183
    
    
    
    208
    
    
    
    (12
    )Long Distance
    
    
    18
    
    
    
    21
    
    
    
    (14
    )
    
    
    48
    
    
    
    74
    
    
    
    (35
    )Directory and Other
    
    
    19
    
    
    
    18
    
    
    
    6
    
    
    
    49
    
    
    
    51
    
    
    
    (4
    )Total Wireline
    
    $
    259
    
    
    $
    247
    
    
    
    5
    
    
    $
    745
    
    
    $
    778
    
    
    
    (4
    )
  For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    %Change
    
    
    2005
    
    
    2004
    
    
    % ChangeAccess Lines in Service (000s):Residential
    
    
    863
    
    
    
    897
    
    
    
    (4
    )%
    
    
    863
    
    
    
    897
    
    
    
    (4
    )%Business
    
    
    273
    
    
    
    284
    
    
    
    (4
    )
    
    
    273
    
    
    
    284
    
    
    
    (4
    )Total
    
    
    1,136
    
    
    
    1,181
    
    
    
    (4
    )
    
    
    1,136
    
    
    
    1,181
    
    
    
    (4
    )
  Local Services
   34




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Network Access
   Long Distance
   Directory and Other
   35




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For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    %Change
    
    
    2005
    
    
    2004
    
    
    %Change(In millions)
    
    
    (In millions)Labor and benefits
    
    $
    82
    
    
    $
    80
    
    
    
    3
    %
    
    $
    253
    
    
    $
    257
    
    
    
    (2
    )%Other operating expenses
    
    
    79
    
    
    
    63
    
    
    
    25
    
    
    
    215
    
    
    
    161
    
    
    
    34Total Wireline
    
    $
    161
    
    
    $
    143
    
    
    
    13
    
    
    $
    468
    
    
    $
    418
    
    
    
    12
 .
 Labor and benefits
   Other operating expenses
   36




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For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    %Change
    
    
    2005
    
    
    2004
    
    
    % Change(In millions)
    
    
    (In millions)Postpaid Cellular
    
    $
    60
    
    
    $
    46
    
    
    
    30
    %
    
    $
    166
    
    
    $
    132
    
    
    
    26
    %Prepaid Cellular
    
    
    4
    
    
    
    5
    
    
    
    (20
    )
    
    
    12
    
    
    
    15
    
    
    
    (20
    )Total Cellular
    
    
    64
    
    
    
    51
    
    
    
    25
    
    
    
    178
    
    
    
    147
    
    
    
    21Wireless Equipment
    
    
    9
    
    
    
    7
    
    
    
    29
    
    
    
    26
    
    
    
    18
    
    
    
    44Total Wireless
    
    $
    73
    
    
    $
    58
    
    
    
    26
    
    
    $
    204
    
    
    $
    165
    
    
    
    24
  For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    % Change
    
    
    2005
    
    
    2004
    
    
    % ChangeCellular Customers (000s):Postpaid
    
    
    362
    
    
    
    262
    
    
    
    38
    %
    
    
    362
    
    
    
    262
    
    
    
    38
    %Prepaid
    
    
    97
    
    
    
    89
    
    
    
    9
    
    
    
    97
    
    
    
    89
    
    
    
    9Total
    
    
    459
    
    
    
    351
    
    
    
    31
    
    
    
    459
    
    
    
    351
    
    
    
    31Postpaid Cellular Average Revenue Per Unit (ARPU)
    
    $
    52
    
    
    $
    58
    
    
    
    (10
    )%
    
    $
    53
    
    
    $
    56
    
    
    
    (5
    )%Prepaid Cellular ARPU
    
    
    12
    
    
    
    16
    
    
    
    (25
    )
    
    
    14
    
    
    
    17
    
    
    
    (18
    )Combined Cellular ARPU
    
    
    44
    
    
    
    47
    
    
    
    (6
    )
    
    
    44
    
    
    
    45
    
    
    
    (2
    )
  Cellular Services
  Wireless Equipment and other
  37




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For the Three Months Ended September 30,
    
    
    For the Nine Months Ended September 30,2005
    
    
    2004
    
    
    % Change
    
    
    2005
    
    
    2004
    
    
    %Change(In millions)
    
    
    (In millions)Labor and benefits
    
    $
    8
    
    
    $
    8
    
    
    
    
    %
    
    $
    24
    
    
    $
    23
    
    
    
    4
    %Other operating expenses
    
    
    54
    
    
    
    39
    
    
    
    38
    
    
    
    150
    
    
    
    105
    
    
    
    43Total Wireless
    
    $
    62
    
    
    $
    47
    
    
    
    32
    
    
    $
    174
    
    
    $
    128
    
    
    
    36
    %
  Labor and benefits
   Other operating expenses
   38




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LIQUIDITY AND CAPITAL RESOURCES
 CONSOLIDATED FINANCIAL CONDITION
 NINE MONTHS ENDED SEPTEMBER 30, 2005 COMPARED WITH NINE MONTHS ENDED SEPTEMBER 30, 2004
 Nine Months Ended September 30,2005
    
    
    2004
    
    
    Change(in millions)Cash flows from (used in):Operations
    
    $
    180
    
    
    $
    205
    
    
    
    ($25
    )Investing
    
    
    (114
    )
    
    
    (103
    )
    
    
    (11
    )Financing
    
    
    (91
    )
    
    
    (2
    )
    
    
    (89
    )
           39




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40




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##### Table of Contents



REGULATORY AND OTHER MATTERS
 REGULATORY AND COMPETITIVE TRENDS
   INTRA-ISLAND LONG DISTANCE ACCESS RATE DISPUTE (K-2)
  SINGLE ZONE
    PUBLIC TELEPHONE SERVICE PROVIDER  ANTI COMPETITIVE ACTIONS
 .
 41




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##### Table of Contents



TOUCHTONE CHARGES
     CTI ASSET TRANSFER
   42




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##### Table of Contents



PRICE CAP REGULATION
    UNION OF INDEPENDENT TELEPHONE WORKERS AGREEMENT
  43




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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
     CRITICAL ACCOUNTING POLICIES
 General
    Allowance for Doubtful Accounts
  44




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Deferred Taxes
     Property, Plant and Equipment and Depreciation
   RECENT ACCOUNTING PRONOUNCEMENTS
  45




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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
    Fair ValueAssuming 100 Basis PointBook Value
    
    
    Fair Value
    
    
    Increase
    
    
    Decrease(In Thousands)September 30, 2005Senior Notes
    
    $
    699,908
    
    
    $
    716,940
    
    
    $
    704,698
    
    
    $
    729,586Interest rate swap
    
    
    (1,266
    )
    
    
    (1,266
    )
    
    
    (2,367
    )
    
    
    461Total
    
    $
    698,642
    
    
    $
    715,674
    
    
    $
    702,331
    
    
    $
    730,047December 31, 2004Senior Notes
    
    $
    699,876
    
    
    $
    735,790
    
    
    $
    718,569
    
    
    $
    753,663Interest rate swap
    
    
    3
    
    
    
    3
    
    
    
    (1,813
    )
    
    
    1,834Total
    
    $
    699,879
    
    
    $
    735,793
    
    
    $
    716,756
    
    
    $
    755,497
 46




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ITEM 4. CONTROLS AND PROCEDURES
   47




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PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
  
 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
  48




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SIGNATURES
  TELECOMUNICACIONES DE PUERTO RICO, INC.By:
    
    /s/ Cristina M. LambertName:
    
    Cristina M. LambertTitle:
    
    President and Chief Executive OfficerDate:
    
    November 14, 2005By:
    
    /s/ Héctor HoussayName:
    
    Héctor HoussayTitle:
    
    Vice President Finance and Chief
Financial OfficerDate:
    
    November 14, 2005By:
    
    /s/ Rafael OtañoName:
    
    Rafael OtañoTitle:
    
    ControllerDate:
    
    November 14, 2005
 49




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##### Table of Contents



EXHIBIT INDEX
 EXHIBITNUMBER
    
    DESCRIPTION3.1
    
    Certificate of Incorporation of Telecomunicaciones de Puerto
Rico, Inc. (Incorporated by reference to Exhibit 3.1 of the
Companys Registration Statement filed on Form S-4, as amended
(File 333-85503)).3.2
    
    Certificate of Amendment to the Certificate of Incorporation
of Telecomunicaciones de Puerto Rico, Inc. (Incorporated by
reference to Exhibit 3.2 of the Companys Annual Report on
Form 10-K for the year ended December 31, 1999 (File
333-85503)).3.3
    
    By-Laws of Telecomunicaciones de Puerto Rico, Inc.
(Incorporated by reference to Exhibit 3.4 of the Companys
Registration Statement filed on Form S-4, as amended (File
333-85503)).4.1
    
    Trust Indenture dated as of May 20, 1999 between
Telecomunicaciones de Puerto Rico, Inc. and The Bank of New
York. (Incorporated by reference to Exhibit 4.1 of the
Companys Registration Statement filed on Form S-4, as amended
(File 333-85503)).10.1
    
    Shareholders Agreement, dated as of March 2, 1999, by and
among Telecomunicaciones de Puerto Rico, Inc., GTE Holdings
(Puerto Rico) LLC, GTE International Telecommunications
Incorporated, Popular, Inc., Puerto Rico Telephone Authority
and the shareholders of Telecomunicaciones de Puerto Rico,
Inc., who shall from time to time be parties thereto as
provided therein. (Incorporated by reference to Exhibit 10.5
of the Companys Registration Statement filed on Form S-4, as
amended (File 333-85503)).10.2
    
    Non-Competition Agreement, dated as of March 2, 1999, by and
among Telecomunicaciones de Puerto Rico, Inc, GTE Holdings
(Puerto Rico) LLC, GTE International Telecommunications
Incorporated, Popular, Inc., Puerto Rico Telephone Authority,
and the Government Development Bank for Puerto Rico.
(Incorporated by reference to Exhibit 10.9 of the Companys
Registration Statement filed on Form S-4, as amended (File
333-85503)).10.3
    
    Trust Agreement of the Employee Stock Ownership Plan of
Telecomunicaciones de Puerto Rico, Inc., dated as of March 2,
1999, by and between U.S. Trust, National Association and
Telecomunicaciones de Puerto Rico, Inc. (Incorporated by
reference to Exhibit 10.12 of the Companys Registration
Statement filed on Form S-4, as amended (File 333-85503)).10.4
    
    ESOP Loan Agreement, dated as of March 2, 1999, by and between
the Trust of the Employee Stock Ownership Plan of
Telecomunicaciones de Puerto Rico, Inc. and Telecomunicaciones
de Puerto Rico, Inc. (Incorporated by reference to Exhibit
10.13 of the Companys Registration Statement filed on Form
S-4, as amended (File 333-85503)).10.5
    
    Pledge Agreement, dated as of March 2, 1999, by and between
the Trust of the Employee Stock Ownership Plan of
Telecomunicaciones de Puerto Rico, Inc. and Telecomunicaciones
de Puerto Rico, Inc. (Incorporated by reference to Exhibit
10.15 of the Companys Registration Statement filed on Form
S-4, as amended (File 333-85503)).10.6
    
    Tag Along Agreement, dated as of March 2, 1999, by and among
GTE Holdings (Puerto Rico) LLC, GTE International
Telecommunications Incorporated, and the Trust of the Employee
Stock Ownership Plan of Telecomunicaciones de Puerto Rico,
Inc. (Incorporated by reference to Exhibit 10.16 of the
Companys Registration Statement filed on Form S-4, as amended
(File 333-85503)).10.7
    
    Commercial Paper Dealer Agreement 4(2) Program among
Telecomunicaciones de Puerto Rico, Inc., as Issuer; Puerto
Rico Telephone Company, Inc. and Celulares Telefónica, Inc.,
as Guarantors; and Merrill Lynch Money Markets Inc., as Dealer
for notes with maturities up to 240 days; Merrill Lynch,
Pierce, Fenner & Smith Incorporated, as Dealer for notes with
maturities over 270 days up to 365 days. Concerning notes to
be issued pursuant to an Issuing and Paying Agency Agreement
dated as of November 9, 2000 between the Issuer and The Chase
Manhattan Bank, as Issuing and Paying Agent. (Incorporated by
reference to Exhibit 10.25 of the Companys Annual Report on
Form 10-K for the year ended December 31, 2000 (File
333-85503)).
 50




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##### Table of Contents



EXHIBITNUMBER
    
    DESCRIPTION10.8
    
    Commercial Paper Dealer Agreement 4(2) Program among
Telecomunicaciones de Puerto Rico, Inc., as Issuer; Puerto
Rico Telephone Company, Inc. and Celulares Telefónica, Inc.,
as Guarantors; and Salomon Smith Barney Inc., as Dealer.
Concerning notes to be issued pursuant to an Issuing and
Paying Agency Agreement dated as of November 9, 2000 between
the Issuer and The Chase Manhattan Bank, as Issuing and Paying
Agent. (Incorporated by reference to Exhibit 10.26 of the
Companys Annual Report on Form 10-K for the year ended
December 31, 2000 (File 333-85503)).10.9
    
    Commercial Paper Dealer Agreement 4(2) Program among
Telecomunicaciones de Puerto Rico, Inc., as Issuer; Puerto
Rico Telephone Company, Inc. and Celulares Telefónica, Inc.,
as Guarantors; and Banc of America Securities LLC. Concerning
notes to be issued pursuant to an Issuing and Paying Agency
Agreement dated as of November 9, 2000 between the Issuer and
The Chase Manhattan Bank, as Issuing and Paying Agent.
(Incorporated by reference to Exhibit 10.27 of the Companys
Annual Report on Form 10-K for the year ended December 31,
2000 (File 333-85503)).10.10
    
    Commercial Paper Dealer Agreement 4(2) Program among
Telecomunicaciones de Puerto Rico, Inc., as Issuer; Puerto
Rico Telephone Company, Inc. and Celulares Telefónica, Inc.,
as Guarantors; and Popular Securities, Inc., as Dealer for
notes with maturities up to 365 days. Concerning notes to be
issued pursuant to an Issuing and Paying Agency Agreement
dated as of November 9, 2000 between the Issuer and The Chase
Manhattan Bank, as Issuing and Paying Agent. (Incorporated by
reference to Exhibit 10.28 of the Companys Annual Report on
Form 10-K for the year ended December 31, 2000 (File
333-85503)).10.11
    
    Issuing and Paying Agency Agreement dated as of November 9,
2000, by and among Telecomunicaciones de Puerto Rico, Inc., as
Issuer, Puerto Rico Telephone Company and Celulares
Telefónica, Inc., as Guarantors, and The Chase Manhattan Bank,
as Issuing and Paying Agent. (Incorporated by reference to
Exhibit 10.29 of the Companys Annual Report on Form 10-K for
the year ended December 31, 2000 (File 333-85503)).10.12
    
    Letter Amendment, to the March 2, 1999 Shareholders Agreement,
dated as of May 25, 2001, by and among Telecomunicaciones de
Puerto Rico, Inc., GTE Holdings (Puerto Rico) LLC, GTE
International Telecommunications Incorporated, Popular, Inc.,
and the Puerto Rico Telephone Authority. (Incorporated by
reference to Exhibit 10.25 of the Companys Quarterly Report
on Form 10-Q for the period ended June 30, 2001 (File
333-85503)).10.13
    
    ISDA Master Agreement, dated August 29, 2001, by and among
Telecomunicaciones de Puerto Rico, Inc., as the Counterparty,
Puerto Rico Telephone Company and Celulares Telefónica, Inc.,
as Guarantors, and Bank of America, N.A., as the Bank.
(Incorporated by reference to Exhibit 10.27 of the Companys
Quarterly Report on Form 10-Q for the period ended September
30, 2001 (File 333-85503)).10.14
    
    ISDA Master Agreement, dated August 29, 2001, by and among
Telecomunicaciones de Puerto Rico, Inc., as the Counterparty,
Puerto Rico Telephone Company and Celulares Telefónica, Inc.,
as Guarantors, and Citibank, N.A., as the Bank. (Incorporated
by reference to Exhibit 10.28 of the Companys Quarterly
Report on Form 10-Q for the period ended September 30, 2001
(File 333-85503)).10.15
    
    $75,000,000 3-Year term credit agreement dated as of August
19, 2002, among Telecomunicaciones de Puerto Rico, Inc., as
Borrower, Puerto Rico Telephone Company, Inc., as Guarantor,
and The Bank of Nova Scotia, as Lender and Administrative
Agent. (Incorporated by reference to Exhibit 10.28 of the
Companys Quarterly Report on Form 10-Q for the period ended
September 30, 2002 (File 333-85503)).10.16
    
    Collective Bargaining Agreement between the Puerto Rico
Telephone Company and the Independent Union of Telephone
Employees of Puerto Rico effective from January 18, 2003 until
January 17, 2006. Approved on February 13, 2003.
(Incorporated by reference to Exhibit 10.30 of the Companys
Annual Report on Form 10-K for the year ended December 31,
2002 (File 333-85503)).10.17
    
    Collective Bargaining Agreement between the Puerto Rico
Telephone Company and the Independent Brotherhood of Telephone
Company Employees effective from January 1, 2004 until
December 31, 2008. Approved on April 15, 2004. (Incorporated
by reference to Exhibit 10.29 of the Companys Quarterly
Report on Form 10-Q for the quarter ended March 31, 2004 (File
333-85503)).
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##### Table of Contents



EXHIBITNUMBER
    
    DESCRIPTION10.18
    
    $40,000,000 working capital revolving credit agreement dated
as of June 30, 2004, among Telecomunicaciones de Puerto Rico,
Inc., as Borrower, Puerto Rico Telephone Company, Inc., as
Guarantor and Banco Popular de Puerto Rico, as Lender and
Administrative Agent. (Incorporated by reference to Exhibit
10.30 of the Companys Quarterly Report on Form 10-Q for the
quarter ended June 30, 2004 (File 333-85503)).10.19
    
    Collective Bargaining Agreement between the Puerto Rico
Telephone Company and the Independent Union of Telephone
Employees of Puerto Rico effective from January 18, 2003 until
January 17, 2006. Approved on February 13, 2003. English
Version. (Incorporated by reference to Exhibit 10.31 of the
Companys Quarterly Report on Form 10-Q for the quarter ended
June 30, 2004 (File 333-85503)).10.20
    
    Collective Bargaining Agreement between the Puerto Rico
Telephone Company and the Independent Brotherhood of Telephone
Company Employees effective from January 1, 2004 until
December 31, 2008. Approved on April 15, 2004.
English Version. (Incorporated by reference to Exhibit 10.32
of the Companys Quarterly Report on Form 10-Q for the quarter
ended June 30, 2004 (File 333-85503)).10.21
    
    $30,000,000 1-Year term credit agreement dated as of May 17,
2004, among Telecomunicaciones de Puerto Rico, Inc., as
Borrower, Puerto Rico Telephone Company, Inc., as Guarantor
and Banco Bilbao Vizcaya Argentaria Puerto Rico, as
Administrative Agent. (Incorporated by reference to Exhibit
10.33 of the Companys Quarterly Report on Form 10-Q for the
quarter ended June 30, 2004 (File 333-85503)).10.22
    
    364-Day Credit Agreement dated as of March 1, 2005, among
Telecomunicaciones de Puerto Rico, Inc., as Borrower, Puerto
Rico Telephone Company, Inc., as Guarantor, the Initial
Lenders named therein, Citibank, N.A., as Administrative
Agent, Banco Bilbao Vizcaya Argentaria Puerto Rico and Bank of
Nova Scotia, as Syndication Agents, and Banco Popular de
Puerto Rico and Firstbank Puerto Rico, as Co-documentation
Agents. (Incorporated by reference to Exhibit 10.34 of the
Companys Annual Report on Form 10-K for the year ended
December 31, 2004 (File 333-85503)).10.23
    
    First amendment dated June 30, 2005 to the $40,000,000
revolving credit agreement dated as of June 30, 2004, among
Telecomunicaciones de Puerto Rico, Inc., as Borrower, Puerto
Rico Telephone Company, Inc., as Guarantor and Banco Popular
de Puerto Rico, as Lender and Administrative Agent.
(Incorporated by reference to Exhibit 10.23 of the Companys
Quarterly Report on Form 10-Q for the quarter ended June 30,
2005 (File 333-85503)).10.24
    
    Collective Bargaining Agreement between the Puerto Rico
Telephone Company and the Independent Union of Telephone
Employees of Puerto Rico effective from January 18, 2006 until
January 17, 2011. Approved on October 20, 2005. (Filed
herewith).31.1
    
    Certification of Principal Executive Officer (Filed herewith).31.2
    
    Certification of Principal Financial Officer (Filed herewith).32.1
    
    Certification Required by 18 U.S.C. Section 1350 as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(Filed herewith).
 52