Level 3 is a severely mispriced company that offers an extremely compelling risk/reward over the next 2-3 years with upside of approximately 300%. Most investors are hard wired into believing that the fiber optic industry will continue to suffer form declining prices which offsets any volume growth and results in poor industry economics. Our work indicates that recent industry consolidation over the past 12-18 months has resulted in significantly better competitive dynamics as the industry has consolidated from over 20 networks to a handful of major players which has caused pricing declines to slow just as volume growth has continued to grow at over 60% per annum due to increasing video over IP penetration, online gaming, etc. and increasing bandwidth used by enterprises for various new applications. After 7 acquisitions over the past 12 months, LVLT is best positioned to monetize the improving industry fundamentals since it now has an end to end network that is only rivaled by T/VZ as well as having the newest/most technologically advanced network which allows it to provide the highest quality service for the lowest price. This is not well recognized by most investors and we believe that as LVLT works through its integration issues, the company will look significantly different several years out.

LVLT will generate approximately $0.30/share in after tax fcf in 2011 which implies it is trading at 7x 2011 fcf (after netting out the $.90/share of NPVed NOLs) and will be growing fcf at over 40% per year moving forward from 2011 due to the operating and financial leverage in the business (we look out to 2011 since margins will be more normalized by that point). As a result, we believe the stock could be worth $9/share a few years out (3x current price) and continue compounding value for several years past that. If LVLT is able to execute on the integration in the next 6-9 months, it is very hard to see much downside here, but there is a low probability that they can’t execute on the integration and they are thus unable to refinance or pay their 2010 debt that will be due of approximately $1b which could wipe out the equity value. We believe that the probability of this downside scenario is under 10%. You also get a free option here on the potential for continued consolidation by LVLT which would allow for increasing scale and expanding margins beyond what we have modeled in.

LVLT has an extremely complex business that is very hard for investors to understand and it took us many months of industry/company due diligence to get comfortable with this opportunity. From a high level, LVLT is a fiber optic network business that owns an end to end fiber network that has a national, regional and local presence. We have had numerous conversations with industry contacts that indicate that this network is very unique and allows LVLT to be both low cost and provide end to end solutions that can only be rivaled by two players - AT&T and Verizon. We value this business in 3 ways: 1) multiple off of 2011 after tax fcf, 2) sum of the parts and 3) reproduction value which we have outlined below:

We believe that core revenues will grow in the mid teens for several years after 2008 and non-core revenues will continue to run-off at their current pace of 25-30% per year. The main assumptions behind core revenue growth are price declines of negative 10% to positive 10% depending on the product, connecting to 700-1k additional enterprise buildings per year and internet traffic growth of over 80% per year (supported by video over IP penetration increasing from 3.5% to 10% over the next 3-5 years and a bandwidth multiplier of 5x as more people watch higher quality videos over IP vs the standard quality used today). Incremental gross margins for the business will be 70-75% and incremental SG&A as % of revenues will be 10-15% which will lead to incremental ebitda margins of 60-65%. Capex as % of revenues will be 12-14%. Another way to look at it is that each incremental dollar of revenue requires 80 cents of capex and generates ebitda of 60 cents which is a pre-tax return on capital of 80% and maintenance capex is minimal (approximately 3% of revenues). On average across their customer base, churn is approximately 12% annually which leads to an average customer life of 8 years, although churn is much higher for the smaller customers vs the bigger customers who tend to get a full solution set of business and be relatively sticky so revenue churn is much lower. Just using this math, you are paying 80 cents today for an 8 year stream of approximately 60 cents since maintenance capex is very minimal which leads to a 74% pre-tax irr per customer and LVLT has a massive opportunity to add customers once it works through its integration. As I indicated above, the economics are actually better than this since the bigger customers are actually pretty sticky and have a longer average life, but that math gives a sense of the economics of the business. If you look out to 2011, the company will be generating $2.2b of ebitda and 30 cents a share in after-tax fcf and currently has 90 cents a share in present value of NOLs. We don’t give it credit for the current cash on its balance sheet since the company will need most of that until it becomes fcf positive at the end of 2008. Based on our numbers, the company is currently trading at 7x 2011 after tax fcf and that fcf will continue to grow at 40%+ for several years and is trading at an EV/ 2011 EBITDA of 4.5x and the company should grow ebitda at 20%+ for several years moving forward. Street numbers are significantly below ours since sell side is slow to come around to the changing industry economics and has not done the work to understand the business opportunities that will be presented to LVLT once it has completed the integration of its acquired networks.

(the below analysis assumes normalized margins in the year we apply the appropriate multiple)

LVLT is currently connected to approximately 7k buildings. After the recent acquisitions, they are within 500 ft of over 100k buildings and under 10% of buildings in the US are served by fiber (the other 90% are served by copper which doesn’t offer as robust service). LVLT largely competes with 2-3 competitors when building out to a new building and pre-tax -returns on incremental capital are over 50% to build to a new building and incremental customers provide even high returns since you have already connected the building onto the network. We believe that this business will grow top line in the mid teens for many years by connecting to 700-1k+ additional buildings per year and value it at 13x 08 ebitda or $6.7b.

LVLTs legacy business was offering long haul transport to wireless customers, cable customers, internet companies and other traditional carriers. They are now able to offer these same customers both long haul and metro connectivity which gives LVLT a huge cost advantage over its closes competitors in this business (Q, GLBC and XO) which have to buy metro connectivity in many cases. We believe this business can also grow in the mid teens and value it at $2.7b or 12x 08 ebitda.

The high speed internet business provides a fat "pipeline" for companies such as large content businesses (e.g. GOOG) to move their volume to/from the internet. LVLT has one of the most broad and dense networks which gives them a quality and cost advantage in this business. We believe this business will grow revenues at 20% per year (traffic growth of 70% and pricing declines of 30%) and value it at $1.8b which is 12x 2010 ebitda-capex discounted back to today.

Customers place their equipment in the facility and connect their systems with LVLT so that they can access LVLTs network. It is costly to move and causes business interruption to have your network down so this is a sticky business. In addition, there is little additional real estate available today near major on/off ramps and it is difficult to expand existing facilities. This business should grow top line at 10% per year and we value it at roughly $2.5b which is13x 08 ebitda.

The voice business provides voice over the internet (VOIP) services to companies like SKYPE and Comcast, as well as transports traditional voice minutes over their pipeline. They have the largest nationwide local interconnection network and are the fourth largest local phone company in the US. They and Sprint dominate the VOIP origination market and many competitors use LVLT for their out-of-region needs. We expect the VOIP business to grow revenue at 35%/yr and we value the entire voice business at $3b.

Here is a summary of the pockets of value:

Enterprise - $6.7b (13x 08 ebitda)

Wholesale Transport – $2.7b (12x 08 ebitda)

Wholesale IP and Data - $1.8b (12x 2010 ebitda-capex and discount that back to beginning of 08)

Collocation - $2.5b (13x 08 ebitda)

Wholesale Voip – $2.2b (11x 2010 ebitda –capex discounted back to beginning of 08)

Wholesale Voice - $800m (8x 08 ebitda – capex)

Other - $1.7b (includes value of Vyvx, NPV of runoff businesses and NPV of dark fiber sales)

Total EV - $18.4b

Net Debt (Debt – NPV of NOL) - $5.4b

Equity Value - $13b or $8.50/share and this doesn’t include the value of their cdn business which could create significant value

Reproduction value – it would cost someone $20-$25b to reproduce this network which implies a range of equity values of $9-13/share if LVLT were to trade at reproduction value. Given LVLTs competitive position, we believe that they will be able to continue to earn the very high incremental returns we laid out above which implies that they should be able to earn a decent return on the original capital employed over time which supports this valuation over the next 3-5 years.

Management is key to this story as we believe they are very strong and are the right group of people to effectuate this integration. Recent evidence does make us question this assertion and presents a key risk, but our initial and ongoing diligence makes us continue to believe that LVLT has a unique team/culture that should allow them to perform/execute better than competitors. We have met with numerous members of senior and mid level management of Level 3 and many of their competitors and have been uniformly impressed with the quality of people within the LVLT organization. In addition, Chairman Walter Scott and CEO Jim Crowe have strong operation backgrounds and are close associates of Warren Buffet and Mason Hawkins which continues to have an influence on their capital allocation abilities.

Having said all that, recent red flags.worth mentioning include both the impending departure of their CFO and the serious mistakes they have made in integrating recent acquisitions. This management team has been together for a long time and so it is clearly a red flag when you see management looking to demote the CFO (essentially forcing his resignation). We believe the driving force for that decision is the fact that the CFO pushed for headcount reductions to make synergy numbers and thus management started cutting headcount and in the process cut into the muscle. They fired key people who understood how to operate the legacy networks before they brought those networks onto a single platform and so they are now having trouble serving those legacy customers. This is a serious problem and could cause customer defections and hurt the franchise value if not dealt with expediently. This is clearly not only the CFOs fault as other members of management approved these decisions so we view the CFO departure and the issues with integration as red flags (especially since we thought the CFO was very good and did an amazing job restructuring the balance sheet) that make us question whether our views on management are still in tact. We continue to follow this very closely.

• We are wrong about LVLT’s cost advantage and/or 4^th competitor is able to create an end-to-end network.

• Slower than expected demand due to an economic slowdown, a reduced rate of broadband adoption, etc

• Technology substitutes

• Irrational competitors in different links of the pipeline business

• Integration/Roll-up Risk which can lead to a liquidity issue if pushed off too far