I just did a fresh install on 2 laptops that were working fine with
version 12.04.  Both laptops have this issue with version 12.10.  I've
tried commenting out dns=dnsmasq in
/etc/NetworkManager/NetworkManager.conf and creating a wrapper script
for dnsmasq that removes the --no-hosts option.  Neither of these
suggestions worked and the wrapper script caused the system startup to
hang.

I've read comments that the dnsmasq functionality has been part of
Network Manager since version 12.04; however, I didn't see this problem
on 12.04.  It seems that something changed with 12.10 to manifest it.
I'm surprised that I haven't seen more reports of it.  It also seems odd
that some are reporting that the work arounds worked and others are not
reporting the problem at all.

I agree with another poster that this bug should be marked critical.
It's very annoying that such a basic and critical OS functionality was
broken and the bug is only marked as Opinion and remains unassigned.  I
held off on installing 12.10 to allow time for bug fixes but, sadly, I
didn't wait long enough.

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https://bugs.launchpad.net/bugs/993298

Title:
  Please make NetworkManager-controlled dnsmasq respect /etc/hosts

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