UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

FORM 10-Q

(Mark One)

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2007

or

oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period                    to                    

Commission file number 0-15658

LEVEL 3 COMMUNICATIONS, INC.

(Exact name of registrant as specified in its charter)

Delaware	47-0210602
(State of Incorporation)	(I.R.S. Employer
	Identification No.)
1025 Eldorado Blvd., Broomfield, CO	80021
(Address of principal executive offices)	(Zip Code)

(720) 888-1000

(Registrant’s telephone number,

including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of an “accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act (Check One):

Large accelerated filer x Accelerated filer o Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  o  No  x

The number of shares outstanding of each class of the issuer’s common stock, as of August 3, 2007:

Common Stock:  1,534,248,798 shares

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Part I - Financial Information
Item 1.	Unaudited Financial Statements:
	Consolidated Statements of Operations
	Consolidated Balance Sheets
	Consolidated Statements of Cash Flows
	Consolidated Statement of Changes in Stockholders’ Equity
	Consolidated Statements of Comprehensive Loss
	Supplementary Stockholders’ Equity Information
	Notes to Consolidated Financial Statements
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures about Market Risk
Item 4.	Controls and Procedures
Part II - Other Information
Item 1	Legal Proceedings
Item 1A.	Risk Factors
Item 4.	Submission of Matters to a Vote of Security Holders
Item 6.	Exhibits
Signatures
Certifications

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Operations

(unaudited)

	Three Months Ended						Six Months Ended
	June 30,						June 30,
(dollars in millions, except per share data)	2007			2006			2007			2006
Revenue:
Communications	$	1,035		$	819		$	2,072		$	1,623
Coal mining	17			16			36			34
Total revenue	1,052			835			2,108			1,657
Costs and Expenses (exclusive of depreciation and amortization shown separately below):
Cost of revenue:
Communications	437			385			887			781
Coal mining	17			14			33			30
Total cost of revenue	454			399			920			811
Depreciation and amortization	247			164			468			351
Selling, general and administrative	428			283			868			559
Restructuring and impairment charges	2			7			6			11
Total costs and expenses	1,131			853			2,262			1,732
Operating Loss	(79		)	(18)			(154		)	(75		)
Other Income (Expense):
Interest income	12			16			33			25
Interest expense	(138		)	(170		)	(303		)	(320		)
Loss on early extinguishment of debt, net	—			(55		)	(427		)	(28		)
Other, net	3			4			4			8
Total other expense	(123		)	(205		)	(693		)	(315		)
Loss from Continuing Operations Before Income Taxes	(202		)	(223		)	(847		)	(390		)
Income Tax Expense	—			(1		)	(2		)	—
Loss from Continuing Operations	(202		)	(224		)	(849		)	(390		)
Income from Discontinued Operations	—			23			—			21
Net Loss	$	(202	)	$	(201	)	$	(849	)	$	(369	)
Loss Per Share of Common Stock (Basic and Diluted):
Loss from Continuing Operations	$	(0.13	)	$	(0.25	)	$	(0.57	)	$	(0.45	)
Income from Discontinued Operations	—			.02			—			.02
Net Loss	$	(0.13	)	$	(0.23	)	$	(0.57	)	$	(0.43	)

See accompanying notes to consolidated financial statements.

2

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

(unaudited)

(dollars in millions, except share data)	June 30, 2007			December 31, 2006
Assets
Current Assets:
Cash and cash equivalents	$	739		$	1,681
Marketable securities	68			235
Restricted cash and securities	28			46
Receivables, less allowances of $17 and $17, respectively	455			326
Other	133			101
Total Current Assets	1,423			2,389
Property, Plant and Equipment, net	6,729			6,468
Restricted Cash and Securities	92			90
Goodwill	1,295			408
Other Intangibles, net	810			511
Other Assets, net	160			128
Total Assets	$	10,509		$	9,994
Liabilities and Stockholders’ Equity
Current Liabilities:
Accounts payable	$	401		$	391
Current portion of long-term debt	31			5
Accrued payroll and employee benefits	82			92
Accrued interest	124			143
Deferred revenue	171			142
Other	174			156
Total Current Liabilities	983			929
Long-Term Debt, less current portion	6,828			7,357
Deferred Revenue	772			753
Other Liabilities	592			581
Commitments and Contingencies
Stockholders’ Equity:
Preferred stock, $.01 par value, authorized 10,000,000 shares: no shares outstanding	—			—
Common stock, $.01 par value, authorized 2,250,000,000 shares: 1,530,787,724 outstanding in 2007 and 1,178,423,105 outstanding in 2006	15			12
Additional paid-in capital	10,944			9,305
Accumulated other comprehensive income (loss)	163			(4		)
Accumulated deficit	(9,788		)	(8,939		)
Total Stockholders’ Equity	1,334			374
Total Liabilities and Stockholders’ Equity	$	10,509		$	9,994

See accompanying notes to consolidated financial statements.

3

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(unaudited)

	Six Months Ended June 30,
(dollars in millions)	2007			2006
Cash Flows from Operating Activities:
Net loss	$	(849	)	$	(369	)
Income from discontinued operations	—			(21)
Loss from continuing operations	(849		)	(390		)
Adjustments to reconcile loss from continuing operations to net cash (used in) provided by operating activities of continuing operations:
Depreciation and amortization	468			351
Gain on sale of property, plant and equipment and other assets	(2		)	(4		)
Non-cash compensation expense attributable to stock awards	48			34
Loss on extinguishment of debt, net	427			28
Non-cash impairment expenses	1			7
Amortization of debt issuance costs	8			7
Accreted interest on long-term discount debt	15			20
Accrued interest on long-term debt	(9		)	52
Change in working capital items, net of amounts acquired:
Receivables	(42		)	37
Other current assets	(26		)	(15		)
Payables	(79		)	—
Deferred revenue	41			(29		)
Other current liabilities	(68		)	(45		)
Other	3			—
Net Cash (Used in) Provided by Operating Activities of Continuing Operations	(64		)	53
Cash Flows from Investing Activities:
Capital expenditures	(325		)	(131		)
Proceeds from sales and maturities of marketable securities	288			5
Purchases of marketable securities	—			(98		)
Decrease (increase) in restricted cash and securities, net	13			(12		)
Proceeds from sale of property, plant and equipment, and other assets	2			2
Acquisitions, net of cash acquired	(622		)	(82		)
Distributions from discontinued operations	—			2
Net Cash Used in Investing Activities	(644		)	(314		)

(continued)

See accompanying notes to consolidated financial statements.

4

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows (continued)

(unaudited)

	Six Months Ended June 30,
(dollars in millions)	2007			2006
Cash Flows from Financing Activities:
Long-term debt borrowings, net of issuance costs	$	2,352		$	1,007
Proceeds from warrants and stock-based compensation plans	24			—
Equity offering	—			543
Payments and repurchases of long-term debt	(2,615		)	(104		)
Net Cash (Used in) Provided by Financing Activities	(239		)	1,446
Discontinued Operations:
Net cash provided by discontinued operating activities	—			20
Net cash used in investing activities	—			(5		)
Net effect of exchange rates on cash and cash equivalents	—			(1		)
Net Cash Provided by Discontinued Operations	—			14
Effect of Exchange Rates on Cash and Cash Equivalents	5			7
Net Change in Cash and Cash Equivalents	(942		)	1,206
Cash and Cash Equivalents at Beginning of Period:
Cash attributable to continuing operations	1,681			379
Cash attributable to discontinued operations	—			73
Cash and Cash Equivalents at End of Period:
Cash attributable to continuing operations	$	739		$	1,571
Cash attributable to discontinued operations	$	—		$	87
Supplemental Disclosure of Cash Flow Information:
Cash interest paid	$	289		$	241
Income taxes paid	1			2
Noncash Investing and Financing Activities:
Common stock issued for acquisitions	$	692		$	197
Equity issued to retire debt	879			—
Long-Term debt retired by conversion to equity	702			—
Amendment and restatement of $730 million credit facility	—			730
Long-Term debt issued in exchange transaction	—			619
Long-Term debt retired in exchange transaction	—			692

See accompanying notes to consolidated financial statements.

5

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statement of Changes in Stockholders’ Equity

For the six months ended June 30, 2007

(unaudited)

(dollars in millions)	Common Stock		Additional Paid-in Capital		Accumulated Other Comprehensive Income (Loss)			Accumulated Deficit			Total
Balances at December 31, 2006	$	12	$	9,305	$	(4	)	$	(8,939	)	$	374
Common Stock:
Acquisitions	1		691		—			—			692
Exercise of warrants and options	—		24		—			—			24
Stock plan grants	—		33		—			—			33
401(k) plan	—		14		—			—			14
Debt conversion to equity	2		877		—			—			879
Net Loss	—		—		—			(849		)	(849		)
Other Comprehensive Income	—		—		167			—			167
Balances at June 30, 2007	$	15	$	10,944	$	163		$	(9,788	)	$	1,334

See accompanying notes to consolidated financial statements.

6

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Loss

(unaudited)

	Three Months Ended						Six Months Ended
	June 30,						June 30,
(dollars in millions)	2007			2006			2007			2006
Net Loss	$	(202	)	$	(201	)	$	(849	)	$	(369	)
Other Comprehensive Income (Loss) Before Tax:
Foreign currency translation income and adjustment for losses included in net loss	12			23			76			30
Unrealized appreciation of available-for-sale investment	58			—			58			—
Unrealized appreciation of interest rate swap	27			—			28			—
Other	—			(5		)	5			(3		)
Other Comprehensive Income Before Income Tax	97			18			167			27
Income Tax Benefit Related to Items of Other Comprehensive Income	—			—			—			—
Other Comprehensive Income, Net of Income Taxes	97			18			167			27
Comprehensive Loss	$	(105	)	$	(183	)	$	(682	)	$	(342	)

Supplementary Stockholders’ Equity Information

(unaudited)

(dollars in millions)	Net Foreign Currency Translation Adjustment		Unrealized Appreciation of Investment and Interest Rate Swap		Other			Total
Accumulated Other Comprehensive Income (Loss):
Balance at December 31, 2006	$	29	$	—	$	(33	)	$	(4	)
Change	76		86		5			167
Balance at June 30, 2007	$	105	$	86	$	(28	)	$	163

See accompanying notes to consolidated financial statements.

7

LEVEL 3 COMMUNICATIONS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

1. Summary of Significant Accounting Policies

The consolidated financial statements include the accounts of Level 3 Communications, Inc. and subsidiaries (the “Company” or “Level 3”) in which it has control, which are enterprises primarily engaged in the communications and coal mining businesses.  Fifty-percent-owned mining joint ventures are consolidated on a pro rata basis.  All significant intercompany accounts and transactions have been eliminated.

The Company acquired Progress Telecom, LLC (“Progress Telecom”) on March 20, 2006; ICG Communications, Inc. (“ICG Communications”) on May 31, 2006; TelCove, Inc. (“TelCove”) on July 24, 2006; Looking Glass Networks Holding Co., Inc. (“Looking Glass”) on August 2, 2006; Broadwing Corporation (“Broadwing”) on January 3, 2007; and the Content Delivery Network services business (“CDN Business”) of SAVVIS, Inc. on January 23, 2007.  The results of operations, cash flows and financial position attributable to these acquisitions are included in the consolidated financial statements from the respective dates of their acquisition (See Note 2).

On September 7, 2006, Level 3 sold Software Spectrum, Inc. (“Software Spectrum”), the Company’s software reseller business, to Insight Enterprises, Inc. (“Insight Enterprises”).  This business comprised the remaining operations of Level 3’s information services segment in 2006.  The results of operations and cash flows for the Software Spectrum business have been classified as discontinued operations in the consolidated financial statements for all periods presented in this report (See Note 3).

The consolidated balance sheet of Level 3 at December 31, 2006 has been audited.  All other financial statements contained herein are unaudited and, in the opinion of management, contain all adjustments (consisting only of normal recurring accruals) necessary for a fair presentation of financial position, results of operations and cash flows for the periods presented. The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) and with the instructions to Form 10-Q and Article 10 of Regulation S-X for interim financial information. Accordingly, these statements do not include all of the information and notes required for complete financial statements.

The Company’s accounting policies and certain other disclosures are set forth in the notes to the consolidated financial statements contained in the Company’s Form 10-K for the year ended December 31, 2006.  These financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto.  The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities and the reported amount of revenue and expenses during the reported period.  Actual results could differ from these estimates.

The results of operations for the three and six months ended June 30, 2007 are not necessarily indicative of the results expected for the full year.

Recently Issued Accounting Pronouncements

The significant accounting policies set forth in Note 1 to the consolidated financial statements in the Company’s Form 10-K for the year ended December 31, 2006 appropriately represent, in all material respects, the current status of the Company’s critical accounting policies, and are incorporated herein by reference.

In June 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—An Interpretation of FASB Statement No. 109” (“FIN No. 48”), which was effective for Level 3 starting January 1, 2007. FIN No. 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes”. FIN No. 48 also prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return that results in a tax benefit. Additionally, FIN No. 48 provides guidance on de-recognition, income statement classification of interest and penalties, accounting in interim periods and disclosure. The Company’s policy is to recognize interest and penalty expense associated with uncertain tax positions as a component of income tax expense in the

8

consolidated statements of operations. The adoption of FIN No. 48 did not have an effect on the Company’s consolidated results of operations or financial condition for the three and six months ended and as of June 30, 2007.

In June 2006, the FASB ratified the consensus on EITF Issue No. 06-3, “How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement” (“EITF No. 06-3”), which was effective for Level 3 starting January 1, 2007.  The scope of EITF No. 06-3 includes any tax assessed by a governmental authority that is directly imposed on a revenue-producing transaction between a seller and a customer and may include, but is not limited to, sales, use, value added, Universal Service Fund (“USF”) contributions and some excise taxes. The Task Force concluded that entities should present these taxes in the income statement on either a gross or a net basis, based on their accounting policy, which should be disclosed pursuant to APB Opinion No. 22, “Disclosure of Accounting Policies”. If such taxes are significant and are presented on a gross basis, the amounts of those taxes should be disclosed. The Company records USF contributions on a gross basis in its consolidated statements of operations, but records sales, use, value added and excise taxes billed to its customers on a net basis in its consolidated statements of operations. Communications revenue on the consolidated statements of operations includes USF contributions totaling $17 million and $30 million for the three and six months ended June 30, 2007 and $5 million and $9 million for the three and six months ended June 30, 2006, respectively.  The adoption of EITF No. 06-3 did not have a material effect on the Company’s consolidated results of operations or financial condition for the three and six months ended and as of June 30, 2007 as the policy followed was consistent before and after adoption.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS No. 157 does not require any new fair value measurements, but provides guidance on how to measure fair value by providing a fair value hierarchy used to classify the source of the information. This statement is effective for fiscal years beginning after November 15, 2007 and interim periods within that fiscal year. The Company is currently assessing the potential effect that the adoption of SFAS No. 157 will have on its consolidated results of operations or financial condition.

On February 15, 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No. 159”). This standard permits an entity to choose to measure many financial instruments and certain other items at fair value. Most of the provisions in SFAS No. 159 are elective; however, the amendment to FASB Statement No. 115, “Accounting for Certain Investments in Debt and Equity Securities”, applies to all entities with available-for-sale and trading securities. The FASB’s stated objective in issuing this standard is as follows: “to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions.”  The fair value option established by SFAS No. 159 permits all entities to choose to measure eligible items at fair value at specified election dates. A business entity will report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date.  SFAS No. 159 is effective for fiscal years beginning after November 15, 2007.  The Company is currently assessing whether fair value accounting is appropriate for any of its eligible items and is assessing the potential effect that the adoption of SFAS No. 159 will have on its consolidated results of operations or financial condition.

2. Acquisitions

In 2006, the Company embarked on strategies to both expand its presence in metropolitan markets and begin offering services to enterprise customers through its Business Markets Group. This strategy will allow the Company to terminate traffic over its owned facilities rather than paying third parties to terminate the traffic. The expansion into new metro markets should also provide additional opportunities to sell services to bandwidth intensive businesses on the Company’s national and international networks. In order to expedite the expansion of its metro presence and its enterprise business, Level 3 acquired Progress Telecom, ICG Communications, TelCove and Looking Glass in 2006 and Broadwing in the first quarter of 2007.  Level 3 has also embarked on a strategy to expand its content delivery network services with the acquisition of the CDN Business in the first quarter of 2007.  The results of operations attributable to each acquisition are included in the consolidated financial statements from the date of acquisition. The value of Level 3 common stock issued in connection with the acquisitions was determined based on the average closing price for Level 3 common stock two days before and two days after the date the acquisition was announced multiplied by the number of shares issued.

CDN Business Acquisition:  On January 23, 2007, Level 3 completed the acquisition of the Content Delivery Network  services business of SAVVIS, Inc. Level 3 paid $134 million in cash (including transaction costs) to acquire the assets of the

9

CDN Business, including network elements, customer contracts and intellectual property used in the CDN Business.  The purchase price was subsequently increased by less than $1 million for working capital and other contractual matters.  The Company paid this adjustment in April 2007.

Broadwing Acquisition:  On January 3, 2007, Level 3 acquired Broadwing Corporation, a publicly held provider of optical network communications services.  Under the terms of the merger agreement dated October 16, 2006, Level 3 paid $8.18 of cash plus 1.3411 shares of Level 3 common stock for each share of Broadwing common stock outstanding at closing.  In total, Level 3 initially paid approximately $752 million of cash, including $8 million of transaction costs, and issued approximately 123 million shares of the Company’s common stock, valued at $688 million.  As part of the Broadwing acquisition, approximately 3.8 million previously issued Broadwing warrants (valued at approximately $4 million) became exercisable for approximately 5.1 million shares of Level 3 common stock.  In the second quarter of 2007, the Company subsequently reduced the total consideration paid by $4 million for insurance proceeds received in June 2007 that related to the settlement of an insurance claim that occurred prior to acquisition.

In connection with the acquisition of Broadwing, the Company guaranteed $180 million in aggregate principal amount of Broadwing Corporation’s 3.125% Convertible Senior Debentures due 2026 (the “Broadwing Debentures”) and the transaction included $24 million in capital lease obligations related primarily to a metro fiber IRU agreement.  As of February 16, 2007, the holders of $179 million in aggregate principal amount of the Broadwing Debentures converted their Broadwing Debentures into a total of 17 million shares of Level 3 common stock and approximately $105 million in cash pursuant to the terms of the indenture governing the Broadwing Debentures and the agreement whereby Level 3 acquired Broadwing.  The remaining $1 million in aggregate principal amount of the Broadwing Debentures was repurchased by Broadwing at 100% of par as required by the indenture governing the Broadwing Debentures.

Looking Glass Acquisition:  On August 2, 2006, Level 3 completed the acquisition of Looking Glass, a privately held Illinois-based telecommunications company.  The consideration paid by Level 3 consisted of approximately $13 million in cash, including $4 million of transaction costs, and approximately 21 million shares of Level 3 common stock valued at $84 million.  In addition, at the closing, Level 3 repaid approximately $67 million of Looking Glass liabilities.

Level 3 entered into certain transactions with Looking Glass prior to the acquisition of Looking Glass by Level 3, whereby Level 3 received cash for communications services to be provided in the future and which was originally recognized as deferred revenue.  As a result of the acquisition, Level 3 can no longer amortize this deferred revenue into earnings and, accordingly, reduced the purchase price applied to the net assets acquired in the Looking Glass transaction by $2 million, which was the amount of the unamortized deferred revenue balance on August 2, 2006.

TelCove Acquisition:  On July 24, 2006, Level 3 completed the acquisition of TelCove, a privately held Pennsylvania-based telecommunications company. Under the terms of the agreement, Level 3 paid $446 million in cash and issued approximately 150 million shares of Level 3 common stock, valued at $623 million.  In addition, Level 3 repaid $132 million of TelCove debt.  The transaction also included $12 million in TelCove capital leases.  Also, the Company paid third party costs of approximately $15 million related to the transaction, which included certain costs incurred by TelCove.

Level 3 entered into certain transactions with TelCove prior to the acquisition of TelCove by Level 3, whereby Level 3 received cash for communications services to be provided in the future and which was originally recognized as deferred revenue.  As a result of the acquisition, Level 3 can no longer amortize this deferred revenue into earnings and, accordingly, reduced the purchase price applied to the net assets acquired in the TelCove transaction by $3 million, which was the amount of the unamortized deferred revenue balance on July 24, 2006.

ICG Communications:  On May 31, 2006, Level 3 acquired all of the outstanding stock of ICG Communications, a privately held Colorado-based telecommunications company, from MCCC ICG Holdings, LLC excluding certain assets and liabilities.  Under the terms of the purchase agreement, Level 3 purchased ICG Communications for consideration consisting of approximately 26 million shares of Level 3 common stock, valued at $131 million, and approximately $45 million in cash.  The Company also incurred costs of less than $1 million related to the transaction.  Post-closing adjustments, primarily working capital and other contractual matters resulted in additional consideration of approximately $3 million.

Level 3 entered into certain transactions with ICG Communications prior to the acquisition of ICG Communications by Level 3, whereby Level 3 received cash for communications services to be provided in the future and which was originally recognized as deferred revenue.  As a result of the acquisition, Level 3 can no longer amortize this deferred revenue into earnings and,

10

accordingly, reduced the purchase price applied to the net assets acquired in the ICG Communications transaction by $1 million, which was the amount of the unamortized deferred revenue balance on May 31, 2006.

Progress Telecom:  On March 20, 2006, Level 3 completed its acquisition of all of the membership interests of Progress Telecom from PT Holding Company LLC (“PT Holding”) excluding certain specified assets and liabilities of Progress Telecom.  Progress Telecom was owned by PT Holding which is jointly owned by Progress Energy, Inc. and Odyssey Telecorp, Inc.  Under the terms of the purchase agreement, Level 3 purchased Progress Telecom for a purchase price consisting of approximately $69 million in cash and approximately 20 million shares of Level 3 common stock, valued at $66 million.  The purchase price was subsequently reduced by $2 million for working capital and other contractual matters.  The Company received payment of the $2 million adjustment in July 2006.

Level 3 entered into certain transactions with Progress Telecom prior to the acquisition of Progress Telecom by Level 3, whereby Level 3 received cash for communications services to be provided in the future and which was originally recognized as deferred revenue.  As a result of the acquisition, Level 3 can no longer amortize this deferred revenue into earnings and, accordingly, reduced the purchase price applied to the net assets acquired in the Progress Telecom transaction by $4 million, which was the amount of the unamortized deferred revenue balance on March 20, 2006.

Pro Forma Financial Information

The unaudited financial information in the table below summarizes the combined results of operations of Level 3 and the acquired businesses, on a pro forma basis, as though the companies acquired in 2006 and 2007 had been combined as of the beginning of each of the periods presented. The pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisitions had taken place at the beginning of each of the periods presented. The pro forma financial information for all periods presented includes the preliminary business combination accounting effect on historical revenues of the acquired companies, adjustments to depreciation on acquired property, amortization charges from acquired intangible assets, restructuring costs and acquisition costs reflected in the historical statements of operations for periods prior to Level 3’s acquisition.

	Unaudited Pro Forma Three Months Ended June 30,						Unaudited Pro Forma Six Months Ended June 30,
	2007			2006			2007			2006
	(dollars in millions, except per share data)
Revenue	$	1,052		$	1,187		$	2,109		$	2,376
Loss from Continuing Operations	$	(202	)	$	(248	)	$	(849	)	$	(440	)
Income from Discontinued Operations	—			23			—			21
Net Loss	$	(202	)	$	(225	)	$	(849	)	$	(419	)
Per share:
Loss from continuing operations	$	(0.13	)	$	(0.21	)	$	(0.57	)	$	(0.38	)
Income from discontinued operations	—			0.02			—			0.02
Net loss	$	(0.13	)	$	(0.19	)	$	(0.57	)	$	(0.36	)
Pro Forma Weighted Shares Outstanding (in thousands)	1,529,614			1,188,150			1,502,156			1,165,645

The fair value of the assets acquired and the liabilities assumed in the Broadwing and CDN Business transactions are based upon preliminary valuations as of their respective acquisition dates after reflecting other contractual purchase price adjustments and are subject to change due to further analysis of the assets acquired and liabilities assumed as well as integration plans.

During the second quarter of 2007, the Company received a revised valuation for the CDN Business that indicates a significantly higher value of the identifiable intangible assets, primarily patents and customer-related intangible assets. The identifiable intangible assets for the CDN Business increased from $23 million in the preliminary valuation to $133 million in the revised valuation as a result of additional analysis of the estimated cash flows expected to be generated from the patents and customers acquired in the CDN Business acquisition.  The increase in the value of the identifiable intangible assets for the CDN Business eliminated the $110 million of goodwill originally recorded on the transaction.

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During the second quarter of 2007, the Company also recorded purchase price allocation adjustments for the Broadwing acquisition that resulted in a net increase of $4 million to goodwill, resulting in total goodwill of $943 million for the Broadwing acquisition as of June 30, 2007.  The purchase price allocation adjustments included increases in goodwill of $8 million to record liabilities incurred by Broadwing prior to the acquisition and decreases to goodwill for the receipt of $4 million in insurance proceeds related to the settlement of an insurance claim that occurred prior to the acquisition.

The fair value of assets acquired and liabilities assumed in the Progress Telecom, ICG Communications, TelCove and Looking Glass transactions are based upon final valuations after reflecting other contractual purchase price adjustments.

During the second quarter of 2007, the Company received the final valuation for the ICG Communications acquisition that included revised valuations for both the identifiable tangible and intangible assets. The fixed assets acquired for ICG Communications increased from $10 million in the preliminary valuation to $93 million in the final valuation as a result of a detailed analysis to physically identify and estimate the fair value of the fixed assets acquired. As a result of the changes to the valuation of the fixed assets, the valuation of the identifiable intangible assets decreased from $49 million in the preliminary valuation to $18 million in the final valuation.

The adjusted fair values of the assets acquired and the liabilities assumed for the companies Level 3 acquired in 2006 and 2007 are as follows. 

	CDN Business		Broadwing		Looking Glass			TelCove			ICG Communications			Progress Telecom
	(dollars in millions)
Assets:
Cash and cash equivalents	$	—	$	257	$	3		$	3		$	6		$	—
Marketable securities	—		46		—			—			—			—
Accounts receivable	—		82		8			23			7			3
Other current assets	—		19		2			5			2			2
Property, plant and equipment, net	2		240		183			796			93			77
Goodwill	—		943		—			179			73			30
Identifiable intangible assets	133		254		9			273			18			36
Other assets	—		31		1			—			5			—
Total Assets	$	135	$	1,872	$	206		$	1,279		$	204		$	148
Liabilities:
Accounts payable	$	1	$	42	$	5		$	21		$	6		$	1
Accrued payroll	1		15		1			6			2			1
Other current liabilities	—		120		9			20			10			7
Current portion of capital leases	—		2		—			3			—			1
Long-term debt	—		203		—			—			—			—
Capital leases	—		22		—			9			3			8
Deferred revenue—Acquired Company	—		13		1			—			4			—
Deferred revenue—Level 3	—		—		(2		)	(3		)	(1		)	(4		)
Other liabilities	—		15		28			7			2			—
Total Liabilities	2		432		42			63			26			14
Purchase Price	$	133	$	1,440	$	164		$	1,216		$	178		$	134

(3) Discontinued Operations

Level 3’s information services segment was comprised of Software Spectrum in 2006.  The Company sold Software Spectrum in September 2006 and, as a result, has presented it as discontinued operations in these financial statements.

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Software Spectrum

On September 7, 2006, Level 3 sold Software Spectrum, Inc. to Insight Enterprises, a leading provider of information technology products and services.  In connection with the transaction, Level 3 received total proceeds of $353 million in cash, consisting of a base purchase price of $287 million and a working capital adjustment of approximately $66 million.  The purchase price was subject to working capital and certain other post-closing adjustments.  During the fourth quarter of 2006, the Company paid $2 million to Insight Enterprises as the final working capital adjustment.  Level 3 recognized a $33 million gain on the transaction in the third quarter of 2006 after transaction costs.

The following is the summarized results of operations of the Software Spectrum business for the three and six month periods ended June 30, 2006:

	Three Months			Six Months
	Ended			Ended
	June 30, 2006			June 30, 2006
	(dollars in millions)
Revenues	$	695		$	1,140
Costs and Expenses:
Cost of revenue	627			1,032
Depreciation and amortization	3			6
Selling, general and administrative	43			80
Restructuring and impairment charges	—			1
Total costs and expenses	673			1,119
Income from Operations	22			21
Other Income, Net	3			3
Income from Operations Before Income Taxes	25			24
Income Tax Expense	(2		)	(3		)
Income from Discontinued Operations	$	23		$	21

(4) Restructuring and Impairment Charges

Restructuring Charges

During the period from December 23, 2005 through June 30, 2007, the Company initiated cumulative workforce reductions expected to affect approximately 2,200 employees in its North American communications business related to the integration of businesses acquired since December 2005.  Of the 2,200 employees, approximately 23% were expected to be legacy Level 3 employees and approximately 77% were expected to be employees of acquired businesses.

In December 2005 and during 2006, the Company initiated cumulative workforce reductions expected to affect approximately 1,200 employees in its North American communications business related to the integration of WilTel Communications Group, LLC (“WilTel”), Progress Telecom, ICG Communications, TelCove and Looking Glass into Level 3’s operations. Of the 1,200 employees, approximately 22% were expected to be employees of legacy Level 3 and 78% were expected to be employees of the acquired companies.  Separately, in January 2005, Level 3 initiated and completed workforce reductions affecting 472 employees in the legacy Level 3 business that were not related to integration of acquired businesses.

In the first quarter of 2007, Level 3 initiated additional workforce reductions expected to affect approximately 1,000 employees in its North American communications business related to the integration of Broadwing and the previous acquisitions. Of the 1,000 employees, approximately 25% were expected to be employees of legacy Level 3 and approximately 75% were expected to be employees of the acquired companies.

The accounting treatment for the severance costs associated with the workforce reductions is dependent on whether those individuals affected are former employees of the acquired companies or legacy Level 3 employees. For the period from January 1, 2006 through June 30, 2007, the Company had notified or terminated a total of 1,538 employees (430 employees of legacy Level 3 and 1,108 employees of acquired businesses) pursuant to integration activities.

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The estimated severance costs earned by employees of the acquired companies as of the acquisition date are included as a liability in the balance sheet as of the acquisition date.  The Company expects cumulative severance and related costs to total approximately $63 million for former WilTel, Progress Telecom, ICG Communications, TelCove, Looking Glass and Broadwing employees.  During the six months ended June 30, 2007, Level 3 paid $14 million of severance and related costs for these employees resulting in cumulative payments from January 1, 2006 to June 30, 2007 of $33 million for severance and related charges.

The workforce reduction attributable to the WilTel integration activity was substantially complete by the end of 2006. The workforce reductions attributable to the Progress Telecom, ICG Communications, TelCove, Looking Glass and Broadwing integration activities are expected to be substantially completed in 2007.

An analysis of the liability for the severance and related activity associated with the integration of the acquired companies follows:

	Severance and Related Costs for Acquired Company Employees
	Number of Employees		Amount
			(in millions)
Balance December 31, 2004	—		$	—
2005 Accruals	765		26
Balance December 31, 2005	765		26
2006 Accruals	445		12
2006 Change in Estimate	(277	)	(8		)
2006 Payments	(547	)	(19		)
Balance December 31, 2006	386		11
2007 Accruals	750		33
2007 Payments	(561	)	(14		)
Balance June 30, 2007	575		$	30

Severance costs attributable to legacy Level 3 employees are recorded as a restructuring charge in the statement of operations once the employees are notified that their position will be eliminated and the severance arrangements are communicated to the employee.  For the three and six months ended June 30, 2007, the Company recorded approximately $1 million and $5 million, respectively, in restructuring charges for affected legacy Level 3 employees.  As of June 30, 2007, the Company had remaining obligations of less than $1 million for those legacy Level 3 employees terminated or notified.

A summary of the restructuring charges and related activity for legacy Level 3 employees follows:

	Severance and Related Costs for Legacy Level 3 Employees
	Number of Employees		Amount			Facilities Related Amount
			(in millions)			(in millions)
Balance December 31, 2004	—		$	—		$	16
2005 Charges	472		15			(1		)
2005 Payments	(472	)	(15		)	(3		)
Balance December 31, 2005	—		—			12
2006 Charges	248		5			—
2006 Payments	(242	)	(5		)	(2		)
Balance December 31, 2006	6		—			10
2007 Charges	182		5			—
2007 Payments	(153	)	(5		)	—
Balance June 30, 2007	35		$	—		$	10

Impairment Charges

The Company recognized non-cash impairment charges of $1 million in both the three and six months ended June 30, 2007, respectively.  These non-cash impairment charges resulted from the decision to terminate certain information technology projects in the communications business which had been previously capitalized. These projects have identifiable costs which Level 3 can separately evaluate for impairment. The costs incurred for these projects, including capitalized labor, were impaired as the carrying value of these projects were not expected to provide any future benefit to the Company.

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Non-cash impairment charges were $4 million and $7 million for the three and six months ended June 30, 2006, respectively.  In the second quarter of 2006, Level 3 recognized $4 million of non-cash impairment charges primarily related to excess land of the communications business held for sale in Germany.  This charge resulted from the difference between the recorded carrying value and the estimated market value of the land.  In addition, the Company recognized $3 million of non-cash impairment charges in the first quarter of 2006 that resulted from the decision to terminate projects for certain voice services and certain information technology projects in the communications business.

(5) Loss Per Share

The Company had a loss from continuing operations for the three and six months ended June 30, 2007 and 2006. Therefore, the effect of the approximately 314 million and 480 million shares issuable pursuant to the convertible debt securities outstanding at June 30, 2007 and 2006, respectively, have not been included in the computation of diluted loss per share because their inclusion would have been anti-dilutive to the computation. In addition, the effect of approximately 54 million and 52 million stock options, outperform stock options, restricted stock units and warrants outstanding at June 30, 2007 and 2006, respectively, have not been included in the computation of diluted loss per share because their inclusion would have been anti-dilutive to the computation.

The following details the loss per common share calculations for Level 3 for the three and six months ended June 30, 2007 and 2006 (dollars in millions, except per share data):

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2007			2006			2007			2006
Loss from Continuing Operations	$	(202	)	$	(224	)	$	(849	)	$	(390	)
Income from Discontinued Operations	—			23			—			21
Net Loss	$	(202	)	$	(201	)	$	(849	)	$	(369	)
Total Number of Weighted Average Common Shares Outstanding used to Compute Basic and Diluted Earnings (Loss) Per Share (in thousands)	1,529,614			881,155			1,499,555			851,700
Earnings (Loss) Per Share of Level 3 Common Stock (Basic and Diluted):
Loss from Continuing Operations	$	(0.13	)	$	(0.25	)	$	(0.57	)	$	(0.45	)
Income from Discontinued Operations	—			0.02			—			0.02
Net Loss	$	(0.13	)	$	(0.23	)	$	(0.57	)	$	(0.43	)

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(6) Marketable Securities

In 2005, the Company invested $10 million in Infinera Corporation (“Infinera”) and accounted for this investment using the cost method and included the investment in long-term other assets. On June 7, 2007, Infinera completed its initial public offering (“IPO”) and its common stock began trading publicly on the NASDAQ Global Market.

As a result of the Infinera IPO on June 7, 2007, the Company has classified the Infinera investment on its balance sheet as a current marketable security that is available for sale, subject to compliance with applicable U.S. federal securities laws. The fair value of the Infinera common stock as of June 30, 2007 is approximately $68 million. An unrealized gain on the investment in Infinera totaling $58 million was recorded in the second quarter of 2007 and is included in Other Comprehensive Income. In connection with Infinera’s IPO, Level 3 entered into a “lock-up” agreement with Infinera’s underwriters which restricts the Company’s ability to sell the stock until December 7, 2007.

(7) Receivables

Receivables at June 30, 2007 and December 31, 2006 were as follows:

	Communications			Coal		Total
	(dollars in millions)
June 30, 2007
Accounts Receivable—Trade	$	465		$	7	$	472
Allowance for Doubtful Accounts	(17		)	—		(17		)
Total	$	448		$	7	$	455
December 31, 2006
Accounts Receivable—Trade	$	337		$	6	$	343
Allowance for Doubtful Accounts	(17		)	—		(17		)
Total	$	320		$	6	$	326

The Company recognized bad debt expense in selling, general and administrative expenses of $3 million and $6 million in the three and six months ended June 30, 2007, respectively, and less than $1 million in each of the three and six month periods ended June 30, 2006, respectively. The Company reduced accounts receivable and the allowance for doubtful accounts by $7 million in the six months ended June 30, 2007 for previously reserved amounts the Company wrote off as uncollectible.

(8) Property, Plant and Equipment, net

Costs associated directly with expansions and improvements to the communications network and customer installations, including employee related costs, have been capitalized. The Company generally capitalizes costs associated with network construction, provisioning of services and software development.

Capitalized labor and related costs associated with employees and contract labor working on capital projects were approximately $28 million and $54 million for the three and six months ended June 30, 2007, respectively.

Capitalized labor and related costs associated with employees and contract labor working on capital projects were approximately $16 million and $26 million for the three and six months ended June 30, 2006, respectively.

The Company continues to develop business support systems required for its business. The external direct costs of software, materials and services, and payroll and payroll related expenses for employees directly associated with the project incurred when developing the business support systems are capitalized and included in the capitalized costs above. Upon completion of a project, the total cost of the business support system is amortized over an estimated useful life of three years.

During the second quarter of 2007, the Company received the final valuation for the ICG Communications acquisition that included revised valuations for identifiable tangible assets. As a result, the fixed assets acquired for ICG Communications

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increased from $10 million in the preliminary valuation to $93 million in the final valuation as a result of a detailed analysis to physically identify and estimate the fair value of the fixed assets acquired.

During the second quarter of 2006, Level 3 determined that the period the Company expects to use its existing fiber is longer than the remaining useful life as originally estimated.  As a result, the Company extended the depreciable life of its existing fiber from 7 years to 12 years.  This change in estimate, effected as of April 1, 2006, was accounted for prospectively, in accordance with SFAS No. 154, “Accounting Changes and Error Corrections — A Replacement of APB Opinion No. 20 and FASB Statement No. 3” (“SFAS No. 154”), and reduced depreciation expense by $18 million in the second quarter of 2006.  In addition, this change in estimate reduced net loss from continuing operations and net loss by $18 million, or approximately $0.02 cents per share in the second quarter of 2006.

Depreciation expense was $213 million and $410 million for the three and six months ended June 30, 2007, respectively.  Depreciation expense was $149 million and $316 million for the three and six months ended June 30, 2006, respectively.

(9) Goodwill

Goodwill at June 30, 2007 and December 31, 2006 was as follows (dollars in millions):

	June 30, 2007		December 31, 2006
XCOM	$	30	$	30
McLeod	40		40
Progress Telecom	30		32
ICG Communications	73		127
TelCove	179		179
Broadwing	943		—
	$	1,295	$	408

The Company segregates identifiable intangible assets acquired in a business combination from goodwill. Goodwill is not amortized and the carrying amount of the goodwill and indefinite-lived intangible assets must be evaluated at least annually for impairment using a fair value based test. An assessment of the carrying value of the goodwill and indefinite-lived intangible assets attributable to the communications business was performed as of December 31, 2006 and indicated that the assets were not impaired.

The final purchase price valuations for the Progress Telecom, ICG Communications and TelCove acquisitions indicated that the purchase price exceeded the fair value of the identifiable assets acquired and liabilities assumed and resulted in goodwill of $30 million, $73 million and $179 million, respectively. The final purchase price valuation for ICG Communications was received in the second quarter of 2007.  As a result of the revisions to the fixed asset and customer-related intangible asset valuations described in Note 2, the goodwill recorded in connection with the ICG Communications acquisition was reduced from $127 million based on the preliminary valuation to $73 million based on the final valuation.

The preliminary purchase price valuation for the Broadwing acquisition indicated that the purchase price exceeded the fair value of the identifiable assets acquired and liabilities assumed and resulted in goodwill of $943 million as of June 30, 2007. As described in Note 2, the Company made purchase price allocation adjustments for the Broadwing acquisition in the second quarter of 2007 that resulted in a net increase of $4 million to the goodwill recorded for Broadwing.

As also described Note 2, the Company received a revised valuation report for the CDN Business that resulted in increased valuations for patents and customer-related intangible assets and resulted in the elimination of the $110 million of goodwill preliminarily recorded for the CDN Business acquisition in the first quarter of 2007.

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The final valuation of the assets acquired and liabilities assumed in the Looking Glass transaction indicated that the fair value of the identifiable net assets acquired exceeds the consideration paid to the former owners by $24 million which reduced the fair value of long-lived assets acquired in the transaction on a pro-rata basis. Also, during the fourth quarter of 2006 Level 3 recorded a $24 million liability for unfavorable leases attributable to Looking Glass.

(10) Other Intangibles, net

Other Intangibles, net at June 30, 2007 and December 31, 2006 were as follows (dollars in millions):

	June 30, 2007		December 31, 2006
360networks	$	2	$	3
Sprint	—		5
Telverse	7		10
Genuity	3		6
WilTel	127		135
Progress Telecom	31		33
ICG Communications	15		47
TelCove	251		264
Looking Glass	8		8
Broadwing	240		—
CDN Business	126		—
	$	810	$	511

On January 23, 2007, Level 3 completed the acquisition of the CDN Business. In the first quarter of 2007, the preliminary valuation of the assets acquired in the CDN Business transaction indicated a value of $23 million for patents and customer-related intangible assets. As described in Note 2, during the second quarter of 2007 the Company received a revised valuation for the CDN Business that indicated a significant increase in the value of the identifiable intangible assets, primarily patents and customer-related intangible assets. The identifiable intangible assets for the CDN Business increased from $23 million in the preliminary valuation to $133 million in the revised valuation as a result of additional analysis of the estimated cash flows expected to be generated from the patents and customers acquired in the CDN Business acquisition.  The increase in the value allocated to the identifiable intangible assets for the CDN Business eliminated the $110 million of goodwill recorded on the transaction in the first quarter of 2007. The estimated useful lives for the patent and customer-related intangible assets range from four to ten years.

On January 3, 2007, Level 3 completed the acquisition of Broadwing. A preliminary valuation of the assets acquired in the Broadwing transaction indicated a value of $254 million for wholesale and enterprise customer-related intangible assets. Level 3 had initially assigned an estimated useful life of ten years to the customer-related intangible assets. During June 2007, the Company completed a review of the estimated useful lives of the customer-related intangible assets for the Broadwing acquisition that resulted in a reduction of the estimated useful lives from ten years to six to eight years.  This change in estimate, effected as of June 1, 2007, was accounted for prospectively and increased amortization expense by approximately $1 million during the second quarter of 2007.

On August 2, 2006, Level 3 completed the acquisition of Looking Glass. The final valuation of the assets acquired in the Looking Glass transaction as of the acquisition date, indicated wholesale customer-related intangibles of approximately $9 million with an estimated useful life of eight years. During June 2007, the Company completed a review of the estimated useful life of the customer-related intangible asset for the Looking Glass acquisition that resulted in a reduction of the estimated useful life from eight years to six years. This change in estimate, effected as of June 1, 2007, was accounted for prospectively and increased amortization expense by less than $1 million during the second quarter of 2007.

On July 24, 2006, Level 3 completed the acquisition of TelCove. The final valuation of the assets acquired in the TelCove transaction as of the acquisition date, indicated wholesale and enterprise customer-related intangible assets of approximately $253 million, with lives ranging from nine to 13 years and other intangible assets of approximately $20 million with an indefinite life.  During June 2007, the Company completed a review of the estimated useful lives of the customer-related intangible assets for the TelCove acquisition that resulted in a reduction of the estimated useful lives from nine to 13 years to six

18

to eight years. This change in estimate, effected as of June 1, 2007, was accounted for prospectively and increased amortization expense by approximately $1 million during the second quarter of 2007.

On May 31, 2006, Level 3 completed the acquisition of ICG Communications. A preliminary valuation of the assets acquired in the ICG Communications transaction indicated a value of $49 million for wholesale customer-related intangible assets with an estimated useful life of 15 years.  As described in Note 2, during the second quarter of 2007 the Company received the final valuation for the ICG Communications acquisition that included revised valuations for both the identifiable tangible and intangible assets. As a result of the changes to the valuation of the fixed assets, the valuation of the identifiable intangible assets decreased from $49 million in the preliminary valuation to $18 million in the final valuation.  During June 2007, the Company completed a review of the estimated useful life of the customer-related intangible asset for the ICG Communications acquisition that resulted in a reduction in the estimated useful life from 15 years to six years. This change in estimate, effected as of June 1, 2007, was accounted for prospectively and increased amortization expense by less than $1 million during the second quarter of 2007 after taking into consideration the reduced valuation of the ICG Communications customer-related intangible assets.

On March 20, 2006, Level 3 completed the acquisition of Progress Telecom. A final valuation of the assets acquired in the Progress Telecom acquisition resulted in a value of $36 million for customer-related intangible assets with an estimated useful life of eight years.

As described above, in June 2007 the Company completed a review of the estimated useful lives used for amortization of the customer-related intangible assets for the ICG Communications, Looking Glass, TelCove and Broadwing acquisitions.  As a result of the review, the Company revised the useful lives used for amortization of customer-related intangible assets as described above.  This change in estimate, effected as of June 1, 2007, was accounted for prospectively in accordance with SFAS No. 154, and increased amortization expense in the aggregate by approximately $2 million in total during the second quarter of 2007.

Intangible asset amortization expense was $34 million and $58 million for the three and six months ended June 30, 2007, respectively.  Intangible asset amortization expense was $15 million and $35 million for the three and six months ended June 30, 2006, respectively.  The amortization expense related to intangible assets currently recorded on the Company’s books for each of the five succeeding years is estimated to be the following for the years ended December 31: second half of 2007—$66 million; 2008—$124 million; 2009—$120 million; 2010—$119 million; 2011—$118 million and thereafter—$211 million.

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(11) Long-Term Debt

At June 30, 2007 and December 31, 2006, long-term debt was as follows:

(dollars in millions)	June 30, 2007			December 31, 2006
Senior Secured Term Loan due 2014 (7.605%)	$	1,400		$	—
Senior Secured Term Loan due 2011	—			730
Senior Notes due 2008 (11.0%)	20			78
Senior Euro Notes due 2008 (10.75%)	5			65
Senior Discount Notes due 2010	—			488
Senior Euro Notes due 2010	—			137
Senior Notes due 2010	—			96
Senior Notes due 2010 (11.5%)	13			692
Fair value adjustment on Senior Notes due 2010	(1		)	(60		)
Senior Notes due 2011 (10.75%)	3			3
Floating Rate Senior Notes due 2011 (11.705%)	6			150
Issue discount on Senior Notes due 2011	—			(4		)
Senior Notes due 2013 (12.25%)	550			550
Issue discount on Senior Notes due 2013	(2		)	(2		)
Senior Notes due 2014 (9.25%)	1,250			1,250
Issue premium on Senior Notes due 2014	11			11
Floating Rate Senior Notes due 2015 (9.15%)	300			—
Senior Notes due 2017 (8.75%)	700			—
Convertible Senior Notes due 2010 (2.875%)	374			374
Convertible Senior Notes due 2011 (5.25%)	345			345
Convertible Senior Notes due 2011 (10.0%)	275			880
Convertible Senior Notes due 2012 (3.5%)	335			335
Convertible Senior Discount Notes due 2013 (9.0%)	287			275
Convertible Subordinated Notes due 2009 (6.0%)	362			362
Convertible Subordinated Notes due 2010 (6.0%)	514			514
Commercial Mortgage due 2015 (6.86%)	70			70
Capital leases	42			23
	6,859			7,362
Less current portion	(31		)	(5		)
	$	6,828		$	7,357

Debt for Equity Exchanges

In January 2007, in two separate transactions, Level 3 completed the exchange of $605 million in aggregate principal amount of its 10% Convertible Senior Notes due 2011 for a total of 197 million shares of Level 3’s common stock. The shares of the Company’s common stock issued pursuant to these announced exchanges are exempt from registration pursuant to Section 3(a)(9) under the Securities Act of 1933, as amended. The Company recognized a $177 million loss on extinguishment of debt for the exchanges.  Included in the loss was approximately $1 million of unamortized debt issuance costs.

Senior Note Issuance

On February 14, 2007, Level 3 Financing, Inc., a wholly owned subsidiary of Level 3 (“Level 3 Financing”), issued $700 million of its 8.75% Senior Notes due 2017 and $300 million of its Floating Rate Senior Notes due 2015 and received net proceeds of $982 million. The proceeds from these private offerings were used to refinance certain Level 3 Financing debt and to fund the cost of construction, installation, acquisition, lease, development or improvement of other assets to be used in Level 3’s communications business.  See a detailed description of the notes below.

Senior Secured Term Loan Refinancing

In March 2007, Level 3 Financing refinanced its senior secured credit agreement and received net proceeds of $1.382 billion. The proceeds from this transaction were used to repay the existing $730 million Senior Secured Term Loan due 2011 and

20

other debt. The effect of this transaction was to increase the amount of senior secured debt from $730 million to $1.4 billion, reduce the interest rate on that debt from the London Interbank Offering Rate (“LIBOR”) plus 3.00% to LIBOR plus 2.25% and extend the final maturity from 2011 to 2014. The Company recognized a $10 million loss on this transaction related to unamortized debt issuance costs.  See a detailed description of the Senior Secured Term Loan due 2014 below.

Interest Rate Swap

Level 3 has floating rate long-term debt.  These obligations expose the Company to variability in interest payments due to changes in interest rates.  If interest rates increase, interest expense increases.  Conversely, if interest rates decrease, interest expense also decreases.  On March 13, 2007, Level 3 Financing entered into two interest rate swap agreements to hedge the interest payments on $1 billion notional amount of floating rate debt.  The two interest rate swap agreements are with different counterparties and are for $500 million each.  The transactions are effective beginning April 13, 2007 and mature on January 13, 2014.  Under the terms of the interest rate swap transactions, Level 3 receives interest payments based on rolling three month LIBOR terms and pays interest at the fixed rate of 4.93% under one arrangement and 4.9175% under the other.  Level 3 has designated the interest rate swap agreements as a cash flow hedge on the interest payments for $1 billion of floating rate debt.  Level 3 evaluates the effectiveness of the hedge on a quarterly basis.  The Company does not enter into derivative instruments for any purpose other than cash flow hedging.

The fair market value of the interest rate swap agreements was $28 million as of June 30, 2007.  The change in the fair market value of the interest rate swap agreements is reflected in Other Comprehensive Income due to the fact that the interest rate swap agreements are designated as an effective cash flow hedge of $1 billion notional amount of the Company’s floating rate debt. The interest rate swap agreements have resulted in interest savings of $1 million in each of the three and six month periods ended June 30, 2007.

Redemptions and Repurchases

On March 13, 2007, the Company redeemed using cash the entire $722 million of outstanding principal amount of the following debt issuances and recognized a loss on extinguishment of debt totaling $54 million on the redemption transactions:

·Redeemed $488 million of outstanding 12.875% Senior Notes due 2010 at a price equal to 102.146% of the principal amount and recognized a $12 million loss on extinguishment of debt consisting of a $10 million cash loss and $2 million in unamortized debt issuance costs.  Accrued interest paid at the time of redemption totaled less than $1 million.

·Redeemed $96 million of outstanding 11.25% Senior Notes due 2010 at a price equal to 101.875% of the principal amount and recognized a $3 million loss on extinguishment of debt consisting of a $2 million cash loss and $1 million in unamortized debt issuance costs.  Accrued interest paid at the time of redemption totaled less than $1 million.

·Redeemed $138 million (€104 million) of outstanding 11.25% Senior Euro Notes due 2010 at a price equal to €101.875 per €1,000 of principal amount and recognized a $39 million loss on extinguishment of debt consisting of a $38 million cash loss and $1 million in unamortized debt issuance costs.  Accrued interest paid at the time of redemption totaled less than $1 million (less than €1 million).

On March 15, 2007, the respective issuers repurchased using cash, through tender offers, $941 million of the outstanding principal amounts of the following debt issuances and recognized a loss on extinguishment of debt totaling $186 million on the repurchase transactions:

·Repurchased $144 million of its outstanding Floating Rate Senior Notes due 2011 at a price equal to $1,080 per $1,000 principal amount of the notes, which included $1,050 as the tender offer consideration and $30 as a consent payment, and recognized an $18 million loss on extinguishment of debt consisting of a $12 million cash loss and $6 million in unamortized debt issuance costs and unamortized discount.  Accrued interest paid at the time of repurchase totaled $8 million.

·Repurchased $59 million of its outstanding 11% Senior Notes due 2008 at a price equal to $1,054.28 per $1,000 principal amount of the notes, which included $1,024.28 as the tender offer consideration and $30 as a consent payment, and recognized a $3 million loss on extinguishment of debt consisting of a $3 million cash loss and less than $1 million in unamortized debt issuance costs.  Accrued interest paid at the time of repurchase totaled $3 million.

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·Repurchased $677 million of its outstanding 11.5% Senior Notes due 2010 at a price equal to $1,115.26 per $1,000 principal amount of the notes, which included $1,085.26 as the tender offer consideration and $30 as a consent payment, and recognized a $141 million loss on extinguishment of debt consisting of a $78 million cash loss and $63 million in unamortized debt issuance costs and unamortized discount.  Accrued interest paid at the time of repurchase totaled $3 million.

·Repurchased $61 million (€46 million) of its outstanding 10.75% Senior Euro Notes due 2008 at a price equal to €1,061.45 per €1,000 of principal amount of the notes, which included €1,031.45 as the tender offer consideration and €30 as a consent payment, and recognized a $24 million loss on extinguishment of debt consisting of a $24 million cash loss and less than $1 million in unamortized debt issuance costs.  Accrued interest paid at the time of repurchase totaled $3 million (€2 million).

In connection with the tender offers completed in the first quarter of 2007, Level 3 and Level 3 Financing obtained consents to certain proposed amendments to the respective indentures governing the notes that are subject to the tender offer transactions described above to eliminate substantially all of the covenants, amend certain repurchase rights, certain discharge rights and certain events of default and related provisions contained in those indentures.

On February 23, 2007, Level 3 Financing completed a consent solicitation with respect to certain amendments to the indenture governing Level 3 Financing’s outstanding 12.25% Senior Notes due 2013 that allowed for the incurrence of debt based upon a multiple of cash flow available for fixed charges on a “pro forma” basis giving effect to any acquisition, merger or consolidation completed prior to February 1, 2007.  Additional debt as permitted under the amended indenture was incurred in March 2007.  In connection with the consent solicitation, the Company paid consent fees totaling approximately $2 million which were capitalized as additional debt issuance costs and will be amortized over the remaining life of the related debt issuances using the effective interest method.

Conversion of Broadwing Corporation 3.125% Convertible Senior Debentures due 2026

On February 17, 2007, Level 3’s wholly-owned subsidiary, Broadwing, completed the repurchase of $1 million aggregate principal amount of Broadwing’s outstanding 3.125% Convertible Senior Debentures due 2026 (the “Debentures”). The indenture governing the Debentures required Broadwing to make the offer to repurchase the Debentures as a result of the Company’s acquisition of Broadwing on January 3, 2007.

As a result of the acquisition, each $1,000 principal amount of the Debentures was convertible at the option of the holder into $492.77 in cash and 80.789 shares of Level 3 common stock, representing a conversion price equal to the consideration payable to Broadwing stockholders in the acquisition of (i) $8.18 in cash per share of Broadwing, multiplied by 60.241, and (ii) 1.3411 shares of Level 3 common stock, multiplied by 60.241.  Additionally, as a result of the acquisition, a make-whole premium was payable on Debentures converted prior to February 17, 2007, consisting of (i) 14.969 additional shares of Level 3 common stock and (ii) an additional $91.31 in cash per $1,000 principal amount of Debentures.

Holders owning $179 million aggregate principal amount of the Debentures converted those Debentures into a total of approximately 17 million shares of Level 3 common stock and also received approximately $105 million in cash.  As a result of these conversions and the repurchase discussed above, as of February 17, 2007, the Debentures are no longer outstanding.  There was no gain or loss recognized due to the fact that, under purchase accounting, the liability for the notes was valued at the total cost to retire the obligation.

Capital Leases

As part of the Broadwing transaction completed on January 3, 2007, the Company now includes in its financial statements certain capital lease obligations of Broadwing totaling $24 million, related primarily to a metro fiber IRU agreement.  The capital leases mature at various dates through 2022.

Debt Instruments

Senior Secured Term Loan due 2014

On March 13, 2007, Level 3, as guarantor, Level 3 Financing, as borrower, Merrill Lynch Capital Corporation, as administrative agent and collateral agent, and certain other agents and certain lenders entered into a Credit Agreement, pursuant to which the

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lenders extended a $1.4 billion senior secured term loan (“Senior Secured Term Loan due 2014”) to Level 3 Financing. The term loan matures on March 13, 2014 and has an interest rate of LIBOR plus an applicable margin of 2.25% per annum.

Interest on the Senior Secured Term Loan due 2014 accrues at the three month LIBOR plus 2.25% per annum and is payable in cash quarterly on April 13, July 13, October 13 and January 13 of each year, in arrears, beginning July 13, 2007. The interest rate was 7.605% at June 30, 2007.  See discussion of the interest rate swap agreement earlier in this footnote.

Level 3 Financing’s obligations under this term loan are, subject to certain exceptions, secured by certain assets of the Company; and certain of the Company’s material domestic subsidiaries that are engaged in the telecommunications business. The Company and these subsidiaries have also guaranteed the obligations of Level 3 Financing under the Senior Secured Term Loan due 2014. During the second quarter of 2007, Level 3 Communications, LLC and its material domestic subsidiaries obtained all material governmental authorizations and consents required in order for them to pledge certain of their assets and guarantee the Senior Secured Term Loan due 2014.  The guarantee was entered into by Level 3 Communications, LLC and its material domestic subsidiaries on June 28, 2007.

The Senior Secured Term Loan due 2014 includes certain negative covenants which restrict the ability of the Company, Level 3 Financing and any restricted subsidiary to engage in certain activities. The Senior Secured Term Loan due 2014 also contains certain events of default. It does not require the Company or Level 3 Financing to maintain specific financial ratios or other financial metrics.

Level 3 used a portion of the original net proceeds after transaction costs to repay Level 3 Financing’s $730 million Senior Secured Term Loan due 2011 under that certain credit agreement dated June 27, 2006.  In addition, Level 3 used a portion of the net proceeds to fund the purchase of certain of its existing debt securities.

Debt issuance costs of $18 million were capitalized and are being amortized to interest expense over the term of the Senior Secured Term Loan due 2014 using the effective interest method.

8.75% Senior Notes Due 2017 and Floating Rate Senior Notes Due 2015

On February 14, 2007, Level 3 Financing received $982 million of net proceeds after transaction costs, from a private offering of $700 million aggregate principal amount of its 8.75% Senior Notes due 2017 (the “8.75% Senior Notes”) and $300 million aggregate principal amount of its Floating Rate Senior Notes due 2015 (the “2015 Floating Rate Senior Notes”). The 8.75% Senior Notes and the 2015 Floating Rate Senior Notes are senior unsecured obligations of Level 3 Financing, ranking equal in right of payment with all other senior unsecured obligations of Level 3 Financing. Level 3 Communications, Inc. and Level 3 Communications, LLC have guaranteed the 8.75% Senior Notes and the 2015 Floating Rate Senior Notes. Interest on the 8.75% Senior Notes accrues at 8.75% interest per year and is payable semi-annually in cash on February 15th and August 15th beginning August 15, 2007. The principal amount of the 8.75% Senior Notes will be due on February 15, 2017. Interest on the 2015 Floating Rate Senior Notes accrues at LIBOR plus 3.75% per annum, reset semi-annually. The interest rate was 9.15% at June 30, 2007. Interest on the 2015 Floating Rate Senior notes is payable semi-annually in cash on February 15th and August 15th beginning August 15, 2007. The principal amount of the 2015 Floating Rate Senior Notes will be due on February 15, 2015.

On February 14, 2006, Level 3, Level 3 Financing and the initial purchasers of the 8.75% Senior Notes and the 2015 Floating Rate Senior Notes entered into a registration rights agreement relating to the 8.75% Senior Notes and the 2015 Floating Rate Senior Notes pursuant to which Level 3 and Level 3 Financing agreed to file an exchange offer registration statement with the Securities and Exchange Commission.  The Company’s exchange offer registration statement for these notes was declared effective by the Securities and Exchange Commission on July 6, 2007. Under the terms of the registration rights agreement, Level 3 Financing would have been required to pay “Special Interest” in the event of a registration default. The exchange offer expired on August 7, 2007, and is expected to be completed on August 13, 2007. As a result, Level 3 will have met the requirements of the registration rights agreement.

A portion of the debt represented by the 8.75% Senior Notes and the 2015 Floating Rate Senior Notes will constitute purchase money indebtedness under the indentures of Level 3 and the portion of the net proceeds that constitutes purchase money indebtedness will be used solely to fund the cost of construction, installation, acquisition, lease, development or improvement of

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any assets to be used in the Company’s communications business, including the cash purchase price of any past, pending or future acquisitions.

At any time prior to February 15, 2012, Level 3 Financing may redeem all or a part of the 8.75% Senior Notes upon not less than 30 nor more than 60 days’ prior notice, at a redemption price equal to 100% of the principal amount of the 8.75% Senior Notes so redeemed plus the 8.75% Applicable Premium as of, and accrued and unpaid interest thereon (if any) to, the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date).

With respect to the 8.75% Senor Notes, “8.75% Applicable Premium” means on any redemption date, the greater of (1) 1.0% of the principal amount of such 8.75% Senior Notes and (2) the excess, if any, of (a) the present value at such redemption date of (i) 104.375% of the principal amount of such 8.75% Senior Notes plus (ii) all required interest payments due on such 8.75% Senior Notes through February 15, 2012 (excluding accrued but unpaid interest to the redemption date), computed using a discount rate equal to the Treasury Rate (as defined in the indenture governing the 8.75% Senior Notes) as of such redemption date plus 50 basis points, over (b) the principal amount of such 8.75% Senior Notes.

The 8.75% Senior Notes are subject to redemption at the option of Level 3 Financing in whole or in part, at any time or from time to time, on or after February 15, 2012 at the redemption prices (expressed as a percentage of principal amount) set forth below, plus accrued and unpaid interest thereon to the redemption date, if redeemed during the twelve months beginning February 15, of the years indicated below:

Year	Redemption Price
2012	104.375	%
2013	102.917	%
2014	101.458	%
2015	100.000	%

At any time or from time to time on or prior to February 15, 2010, Level 3 Financing may redeem up to 35% of the original aggregate principal amount of the 8.75% Senior Notes at a redemption price equal to 108.75% of the principal amount of the 8.75% Senior Notes so redeemed, plus accrued and unpaid interest thereon (if any) to the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), with the net cash proceeds contributed to the capital of Level 3 Financing of one or more private placements to persons other than affiliates of Level 3 or underwritten public offerings of common stock of Level 3 resulting, in each case, in gross proceeds of at least $100 million in the aggregate; provided, however, that at least 65% of the original aggregate principal amount of the 8.75% Senior Notes would remain outstanding immediately after giving effect to such redemption. Any such redemption shall be made within 90 days of such private placement or public offering upon not less than 30 nor more than 60 days’ prior notice.

At any time prior to February 15, 2009, Level 3 Financing may redeem all or a part of the Floating Rate Senior Notes, upon not less than 30 nor more than 60 days’ prior notice, at a redemption price equal to 100% of the principal amount of the Floating Rate Senior Notes so redeemed plus the Applicable Premium as of, and accrued and unpaid interest thereon (if any) to, the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date).

With respect to the Floating Rate Senior Notes, “Applicable Premium” means, on any redemption date, the greater of (1) 1.0% of the principal amount of such Floating Rate Senior Notes and (2) the excess, if any, of (a) the present value at such redemption date of (i) the redemption price of 102% of the principal amount of such Floating Rate Senior Notes, plus (ii) all required interest payments due on such Floating Rate Senior Notes through February 15, 2009 (excluding accrued but unpaid interest to the redemption date), such interest payments to be determined in accordance with the indenture governing the Floating Rate Senior Notes assuming that LIBOR in effect on the date of the applicable redemption notice would be the applicable LIBOR in effect through February 15, 2009, computed using a discount rate equal to the Treasury Rate (as defined in the indenture governing the Floating Rate Senior Notes) as of such redemption date plus 50 basis points, over (b) the principal amount of such Floating Rate Senior Notes.

The Floating Rate Senior Notes are subject to redemption at the option of Level 3 Financing in whole or in part, at any time or from time to time, on or after February 15, 2009 at the redemption prices (expressed as a percentage of principal amount) set forth below, plus accrued and unpaid interest thereon to the redemption date, if redeemed during the twelve months beginning February 15, of the years indicated below:

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Year	Redemption Price
2009	102.0	%
2010	101.0	%
2011	100.0	%

At any time or from time to time on or prior to February 15, 2009, Level 3 Financing may redeem up to 35% of the original aggregate principal amount of the Floating Rate Senior Notes at a redemption price equal to 100.0% of the principal amount of the Floating Rate Senior Notes so redeemed, plus a premium equal to the interest rate on the Floating Rate Senior Notes applicable on the date that notice of the redemption is given, plus accrued and unpaid interest thereon (if any) to the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), with the net cash proceeds contributed to the capital of Level 3 Financing of one or more private placements to persons other than affiliates of Level 3 or underwritten public offerings of common stock of Level 3 resulting, in each case, in gross proceeds of at least $100 million in the aggregate; provided, however, that at least 65% of the original aggregate principal amount of the Floating Rate Senior Notes would remain outstanding immediately after giving effect to such redemption. Any such redemption shall be made within 90 days of such private placement or public offering upon not less than 30 nor more than 60 days’ prior notice.

9.25% Senior Notes Due 2014

On October 30, 2006 and December 28, 2006, Level 3, Level 3 Financing and the initial purchasers of the 9.25% Senior Notes Due 2014 entered into a registration rights agreement relating to the 9.25% Senior Notes Due 2014 pursuant to which Level 3 and Level 3 Financing agreed to file an exchange offer registration statement with the Securities and Exchange Commission.  The Company’s exchange offer registration statement for these notes was declared effective by the Securities and Exchange Commission on May 17, 2007 and the exchange offer relating to these notes was subsequently completed. Level 3 has met the requirements of the registration rights agreement as of June 30, 2007.

Debt Maturities

The Company’s contractual obligations at June 30, 2007 related to debt, including capital leases and excluding issue discounts and fair value adjustments,  will require estimated cash payments during each of the five succeeding years of the following for the years ended December 31:  2007—$4 million; 2008—$31 million; 2009—$366 million; 2010—$971 million; 2011—$631 million and thereafter—$4,848 million.

(12) Employee Benefit Plans

The Company recognized in net loss from continuing operations a total of $24 million and $48 million of non-cash compensation for the three and six months ended June 30, 2007, respectively.  The Company recognized in net loss from continuing operations a total of $20 million and $34 million of non-cash compensation for the three and six months ended June 30, 2006, respectively. In addition, included in discontinued operations for the three and six months ended June 30, 2006, is non-cash compensation expense of $1 million and $2 million, respectively.

During the second quarter of 2006, the October 2005 and January 2006 grants of Outperform Stock Option (“OSO”) units were revalued using May 15, 2006 as the grant date, in accordance with SFAS No. 123R, and resulted in a $6 million increase in non-cash compensation expense.  As stated in the Company’s proxy materials for its 2006 Annual Meeting of Stockholders, over the course of the years since April 1, 1998, the compensation committee of the Company’s Board of Directors had administered the 1995 Stock Plan under the belief that the action of the Company’s Board of Directors to amend and restate that plan effective April 1, 1998 had the effect of extending the original term of the Plan to April 1, 2008.  After a further review of the terms of the plan, however, the compensation committee determined that an ambiguity could exist as to the date of the expiration of the plan. To remove any ambiguity, the Board of Directors sought the approval of the Company’s stockholders to amend the plan to extend the term of the plan by five years to September 25, 2010.  This approval was obtained at the 2006 Annual Meeting of Stockholders held on May 15, 2006.

The Company capitalized $1 million of non-cash compensation for those employees and contractors directly involved in the construction of the network, installation of customers or development of the business support systems for each of the three and six month periods ended June 30, 2007.  The Company capitalized $1 million of non-cash compensation for those employees and contractors directly involved in the construction of the network, installation of customers or development of the business support systems for each of the three and six month periods ended June 30, 2006.

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SFAS No. 123R requires the benefit of tax deductions in excess of recognized compensation expense be reported as a financing cash flow if the tax benefits are expected to be realizable. As the Company is currently in a net operating loss position and does not expect to generate net income in the near term, Level 3’s management does not expect to realize tax benefits from share-based compensation for the foreseeable future.

The following table summarizes non-cash compensation expense and capitalized non-cash compensation for the three and six months ended June 30, 2007 and 2006.

	Three Months Ended June 30,						Six Months Ended June 30,
(dollars in millions)	2007			2006			2007			2006
OSO	$	9		$	13		$	18		$	17
Restricted Stock	8			4			15			10
401(k) Match Expense	8			5			16			9
401(k) Discretionary Grant Plan	—			—			—			1
	25			22			49			37
Capitalized Non-cash Compensation	(1		)	(1		)	(1		)	(1		)
	24			21			48			36
Discontinued Operations	—			(1		)	—			(2		)
	$	24		$	20		$	48		$	34

Non-qualified Stock Options and Warrants

The Company has not granted non-qualified stock options (“NQSOs”) since 2000. As of June 30, 2007, all NQSOs previously granted were fully vested and the compensation expense had been fully recognized in the consolidated statements of operations. At June 30, 2007, there were approximately 4.5 million NQSOs outstanding with exercise prices ranging from $1.76 to $8.00. The weighted average exercise price of the NQSOs outstanding was $5.81 at June 30, 2007.

In connection with the acquisition of Broadwing, approximately 4 million previously issued Broadwing warrants were convertible into approximately 5 million shares of Level 3 common stock at a weighted average exercise price of $5.76 per share of Level 3 common stock.  During the first quarter of 2007, approximately 3 million of the Broadwing warrants were exercised to purchase approximately 4 million shares of Level 3 common stock and resulted in proceeds to the Company totaling approximately $23 million.  As of June 30, 2007, approximately 700,000 Broadwing warrants remain outstanding and are convertible into approximately 1 million shares of Level 3 common stock at a weighted average exercise price of $5.38 per share.

Outperform Stock Options

The fair value of the OSO units granted is calculated by applying a modified Black-Scholes model with the assumptions identified below. The Company utilized a modified Black-Scholes model due to the additional variables required to calculate the effect of the success multiplier of the OSO program. The Company believes that given the relative short life of the options and the other variables used in the model, the modified Black-Scholes model provides a reasonable estimate of the fair value of the OSO units at the time of grant.

	Six Months Ended June 30
	2007		2006
S&P 500 Expected Dividend Yield Rate	1.78	%	1.78	%
Expected Life	3 years		3.4 years
S&P 500 Expected Volatility Rate	12	%	12	%
Level 3 Common Stock Expected Volatility Rate	55	%	55	%
Expected S&P 500 Correlation Factor	.28		.28
Calculated Theoretical Value	146	%	153	%
Estimated Forfeiture Rate	11.88	%	10.19	%

The fair value of each OSO grant equals the calculated theoretical value multiplied by the Level 3 common stock price on the grant date.

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The expected life data was stratified based on levels of responsibility within the Company prior to April 1, 2007. The theoretical value used was determined using the weighted average exercise behavior for these groups of employees. Volatility assumptions were derived using historical data as well as current market data.

As part of a comprehensive review of its long-term compensation program completed in the first quarter of 2007, beginning on April 1, 2007, OSO units are awarded monthly to employees in mid-management level and higher positions, have a three year life, will vest 100% on the third anniversary of the date of the award and will fully settle on that date. OSO units awarded beginning April 1, 2007 are valued as of the first day of each month. Recipients have no discretion on the timing to exercise OSO units granted on or after April 1, 2007, thus the expected life of all such OSO units is three years.

As a result of the long-term compensation review that was being completed, OSO units were not awarded to participants during the first quarter of 2007.  During the second quarter of 2007, the Company awarded 2.1 million OSO units to participants. As of June 30, 2007, the Company had not reflected $24 million of unamortized compensation expense in its financial statements for previously granted OSO units. The weighted average period over which this cost will be recognized is 2.15 years.

Transactions involving OSO units in the six months ended June 30, 2007 are summarized in the table below. The Option Price per Unit identified in the table below represents the initial strike price, as determined on the day prior to the OSO grant date for those grants.

	Units		Option Price Per Unit		Weighted Average Initial Strike Price		Aggregate Intrinsic Value		Weighted Average Remaining Contractual Term
							(in millions)
Balance January 1, 2007	15,285,495		$	2.03 - $6.66	$	3.93	$	82.7	2.54 years
OSO’s granted	2,151,561		$	5.56 - $6.10	$	5.96
OSO’s cancelled	(302,738	)	$	2.03 - $6.66	$	4.61
OSO’s expired	(1,039,522	)	$	2.03 - $6.66	$	5.04
OSO’s exercised	(1,417,881	)	$	2.03 - $5.39	$	2.85
Balance June 30, 2007	14,676,915		$	2.03 - $6.66	$	4.24	$	62.4	2.32 years
OSO’s exercisable (“vested”):
June 30, 2007	8,621,732		$	2.03 - $6.66	$	3.57	$	54.8	1.89 years

In the table above, the weighted average initial strike price represents the values used to calculate the theoretical value of OSO units on the grant date and the intrinsic value represents the value of OSO units that have outperformed the S&P 500® Index as of June 30, 2007.

The total realized value of OSO units exercised for the three and six months ended June 30, 2007 was approximately $3 million and $15 million, respectively. The number of shares of Level 3 stock issued upon exercise of an OSO unit varies based upon the relative performance of Level 3’s stock price and the S&P 500® Index between the initial grant date and exercise date of the OSO unit.

At June 30, 2007, based on the Level 3 common stock price and post-multiplier values, the Company was obligated to issue 9.4 million shares for vested and exercisable OSOs as the percentage increase in the Level 3 stock price exceeded the percentage increase in the S&P 500® Index for certain grants.

Restricted Stock and Units

Employees will continue to receive restricted stock units under the revised compensation program. During the first six months of 2007, approximately 5.5 million restricted stock shares or restricted stock units were awarded to certain employees and non-employee members of the Board of Directors. The restricted stock units and shares were granted to the recipients at no cost. Restrictions on transfer lapse over one to four year periods. The fair value of restricted stock units and shares awarded in the first six months of 2007 of $34 million was calculated using the value of Level 3 common stock on the grant date and is being amortized over the restriction lapse periods of the awards. As of June 30, 2007, the total compensation cost related to nonvested restricted stock or restricted stock units not yet recognized was $42 million, and the weighted average period over which this cost will be recognized is 2.92 years.

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For the six months ended June 30, 2007, the changes in restricted stock and restricted stock units are shown in the following table:

	Number		Weighted Average Grant Date Fair Value Per Share
Nonvested at December 31, 2006	19,450,727		$	2.76
Stock and units granted	5,502,905		6.10
Lapse of restrictions	(6,099,382	)	2.43
Stock and units forfeited	(1,009,403	)	3.22
Nonvested at June 30, 2007	17,844,847		$	3.88

The Weighted Average Grant Date Fair Value of restricted stock and restricted stock units granted during the six months ended June 30, 2007 and 2006 was $6.10 and $4.03, respectively. The total fair value of restricted stock and restricted stock units for which restrictions lapsed during the six months ended June 30, 2007 and 2006 were $15 million and $15 million, respectively.

401(k) Plan

The Company and its subsidiaries offer their qualified employees the opportunity to participate in a defined contribution retirement plan qualifying under the provisions of Section 401(k) of the Internal Revenue Code (“401(k) Plan”). Each employee is eligible to contribute, on a tax deferred basis, a portion of annual earnings generally not to exceed $15,500 in 2007. The Company matches 100% of employee contributions up to 7% of eligible earnings or applicable regulatory limits for employees of the communications businesses.

The Company’s matching contributions are made with Level 3 common stock based on the closing stock price on each pay date. The Company’s matching contributions are made through units in the Level 3 Stock Fund, which represent shares of Level 3 common stock. The Level 3 Stock Fund is the mechanism that is used for Level 3 to make employer matching and other contributions to employees through the Level 3 401(k) plan. Employees are not able to purchase units in the Level 3 Stock Fund. Employees are able to diversify the Company’s matching contribution as soon as it is made, even if they are not fully vested. The Company’s matching contributions will vest ratably over the first three years of service or over such shorter period until the employee has completed three years of service at such time the employee is then 100% vested in all Company matching contributions. The Company made 401(k) Plan matching contributions of $8 million and $16 million for the three and six months ended June 30, 2007, respectively, and $5 million and $9 million for the three and six months ended June 30, 2006, respectively. The Company’s matching contributions were recorded as selling, general and administrative expenses.

The Company made a discretionary contribution to the 401(k) plan in Level 3 common stock for the year ended December 31, 2006 equal to three percent of eligible employees’ earnings. The 2006 discretionary contribution was made into the employees’ 401(k) accounts during the first quarter of 2007.

The Company merged the TelCove 401(k) plan assets into the Level 3 plan on January 2, 2007.

The Broadwing employees began contributing to the Level 3 plan on March 1, 2007. There were no matching cash contributions for Broadwing for the period of January 3, the date of acquisition, through March 1, 2007. The Broadwing plan assets were merged into the Level 3 plan on March 1, 2007.

The CDN Business employees began contributing to the Level 3 plan on January 23, 2007, the date of acquisition. The CDN Business did not have a separate 401(k) plan and as a result no assets will be merged into the Level 3 plan.

(13) Income Taxes

The Company adopted the provisions of FIN No. 48 on January 1, 2007. The adoption of FIN No. 48 did not affect the Company’s liability for unrecognized tax benefits as no new uncertain tax positions were recognized. The Company’s liability for unrecognized tax benefits totaled $22 million and $18 million at June 30, 2007 and January 1, 2007, respectively. The Company increased the liability for unrecognized tax benefits by $4 million during the first six months of 2007 to reflect liabilities for unrecognized tax benefits related to acquired companies and to reflect accrued interest and penalties for the period.

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The Company or at least one of its subsidiaries files income tax returns in the U.S. federal jurisdiction and various states and foreign jurisdictions. With few exceptions, the Company is no longer subject to U.S. federal, state and local, or non-U.S. income tax examinations by tax authorities for years before 1999. The Internal Revenue Service commenced an examination of the Company’s U.S. income tax returns for 1999 through 2001. The audit is currently in the appeals process and a resolution is possible within the next 12 months. The Company does not expect that any settlement or payment that may result from the audit will have a material effect on the Company’s results of operations or cash flows.

The Company recognizes accrued interest and penalties related to unrecognized tax benefits in income tax expense on the consolidated statements of operations. The Company recognized interest and penalties of $1 million and $1 million during the three and six months ended June 30, 2007, respectively and $1 million and $1 million during the three and six months ended June 30, 2006, respectively. The Company’s liability for unrecognized tax benefits includes approximately $10 million and $8 million of accrued interest and penalties at June 30, 2007 and January 1, 2007, respectively.

Included in the balance at June 30, 2007 and January 1, 2007, is $4 million and $1 million of tax positions related to recently acquired companies, the disallowance of which would affect the valuation of the assets and or liabilities acquired and therefore would not affect the annual effective income tax rate. The Company does not expect the liability for unrecognized tax benefits will change significantly during the next twelve months ended June 30, 2008; however, actual changes in the liability for unrecognized tax benefits could be different than currently expected.

(14) Industry and Geographic Data

SFAS No. 131 “Disclosures about Segments of an Enterprise and Related Information” defines operating segments as components of an enterprise for which separate financial information is available and which is evaluated regularly by the Company’s chief operating decision maker, or decision making group, in deciding how to allocate resources and assess performance. Operating segments are managed separately and represent separate business units that offer different products and serve different markets. The Company’s current reportable segments include: communications and coal mining (See Note 1). Other primarily includes corporate assets and overhead not attributable to a specific segment. In the third quarter of 2006, the Company exited the information services business as a result of the sale of Software Spectrum. Segment information has been revised due to reclassification of the information services businesses as discontinued operations in the consolidated financial statements (See Note 3).

Effective January 1, 2007, the Company has reflected cash, cash equivalents and marketable securities in the respective segments which hold the related cash, cash equivalents and marketable securities. Prior year balances have been reclassified to conform to the current period presentation.

Adjusted EBITDA, as defined by the Company, is net income (loss) from the consolidated condensed statements of operations before (1) gain (loss) from discontinued operations, (2) income taxes, (3) total other income (expense), (4) non-cash impairment charges included within restructuring and impairment charges as reported in the consolidated statements of operations, (5) depreciation and amortization and (6) non-cash stock compensation expense included within selling, general and administrative expenses on the consolidated statements of operations.

Adjusted EBITDA is not a measurement under accounting principles generally accepted in the United States and may not be used by other companies. Management believes that Adjusted EBITDA is an important part of the Company’s internal reporting and is a key measure used by Management to evaluate profitability and operating performance of the Company and to make resource allocation decisions. Management believes such measures are especially important in a capital-intensive industry such as telecommunications. Management also uses Adjusted EBITDA to compare the Company’s performance to that of its competitors. Management uses Adjusted EBITDA to eliminate certain non-cash and non-operating items in order to consistently measure from period to period its ability to fund capital expenditures, fund growth, service debt and determine bonuses.

Adjusted EBITDA excludes non-cash impairment charges and non-cash stock compensation expense because of the non-cash nature of these items. Adjusted EBITDA also excludes interest income, interest expense, income taxes and gain (loss) on extinguishment of debt because these items are associated with the Company’s capitalization and tax structures. Adjusted EBITDA also excludes depreciation and amortization expense because these non-cash expenses reflect the impact of capital investments which management believes should be evaluated through cash flow measures. Adjusted EBITDA excludes total other income (expense) because these items are not related to the primary operations of the Company.

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There are limitations to using non-GAAP financial measures, including the difficulty associated with comparing companies that use similar performance measures whose calculations may differ from the Company’s calculations. Additionally, this financial measure does not include certain significant items such as interest income, interest expense, income taxes, depreciation and amortization, non-cash impairment charges, non-cash stock compensation expense, gain (loss) on early extinguishment of debt and net other income (expense). Adjusted EBITDA should not be considered a substitute for other measures of financial performance reported in accordance with GAAP.

The data presented in the following tables includes information for the three and six months ended June 30, 2007 and 2006 for all statement of operations and cash flow information presented, and as of June 30, 2007 and December 31, 2006 for all balance sheet information presented. Information related to the acquired businesses is included from their respective acquisition dates. Revenue and the related expenses are attributed to countries based on where services are provided.

Industry and geographic segment financial information follows. Certain prior year information has been reclassified to conform to the 2007 presentation.

	Communications		Coal Mining		Other			Total
	(dollars in millions)
Three Months Ended June 30, 2007
Revenue:
North America	$	975	$	17	$	—		$	992
Europe	60		—		—			60
	$	1,035	$	17	$	—		$	1,052
Adjusted EBITDA:
North America	$	178	$	—	$	(1	)
Europe	16		—		—
	$	194	$	—	$	(1	)
Capital Expenditures:
North America	$	155	$	—	$	—		$	155
Europe	15		—