ILEC 3Q11 Results Summary: Telephone & Data Systems

Despite Sub Losses U.S. Cellular Turns Down iPhone  

After a less than stellar 2010 for TDS Telecom (NYSE:TDS) during which operating income and cash flow fell and its top line dipped, the company has shown some resilience in the first nine months of the year, thanks in part to a string of acquisitions. 

In 2010 and during the first half of 2011, TDS sought out acquisitions that would expand its business-centric services. Most recently, it closed on its $95m purchase of OneNeck IT Services on July 1, 2011, which followed its acquisitions of data center operators VISI for $18m in March 2010, and TEAM Technologies for $47m in December 2010.

These acquisitions drove TDS Telecom’s growth in 3Q11, as its data revenue, which includes its take from data center and managed service operations, was up 48%, or $15.43m YoY. During the quarter TDS continued to deploy its hosting and managed service capabilities to new markets. Specifically, it expanded its managedIp branded product, a hosted IP-based communications solution, in Oklahoma and Kentucky. The service is delivered to businesses over a private, secure, and dedicated network “hosted” at a TDS data centers. 

On the wireless side, TDS Telecom’s majority owned U.S. Cellular (NYSE:USM) made news during the TDS conference call for something that it’s not doing. While the iPhone has sparked wireless growth at Verizon since its 1Q11 release, U.S. Cellular recently chose not to bring the iPhone into its smartphone stable. 

Mary N. Dillon, president and ceo of U.S. Cellular commented on this decision during TDS’ earnings call. “While we have the opportunity to add the iPhone to our device line-up, the terms were unacceptable from a risk and profitability standpoint and would have forced us to compromise on our commitment to offering and unparalleled customer experience.” Dillon later added that they “decided that it (iPhone) didn't make sense for our business economically, and so we're focused on really playing to our strength and feel that we're in a competitive position.”

While Dillon did not provide details on the costs associated with bringing the iPhone to U.S. Cellular, it surely would have been an expensive proposition. Sprint, after adding the iPhone to its roster last month, stated that it will take two years for the iPhone to pay off. U.S. Cellular has tried to distinguish itself from the big players like AT&T and Verizon with outstanding customer service, and Dillon’s comment suggest that the company felt paying for the iPhone would have forced it to sacrifice in that area. 

With or without the iPhone, U.S. Cellular needs to find a way to stabilize its subscriber losses. It lost 23k retail customers in the third quarter and its retail service revenues were relatively flat at $871m. On the upside, inbound roaming revenues increased $35m or 48% YoY to $108m.

Dillon remains upbeat that its roster of smartphones, sans iPhone, will generate more customers and higher ARPU. When asked to predict when net subscriber gains would be delivered, Dillon was not making any promises. “Well, I can't. I don't have a crystal ball. I mean we're focused on it. We believe it will happen over the next several quarters. Stay positive.”


ILEC 3Q11 Quarterly Results: NTELOS

Waiting for Growth Initiatives to Kick In

In its final quarter as a combined wireless/wireline company, NTELOS Holdings Corp. reported mixed results, despite management’s stated belief that both new companies—Lumos Networks and NTELOS (now wireless only)—are well positioned for future growth. NTELOS completed the spinoff of Lumos Networks on October 31, and ceo James Hyde said, “This event is clearly the most significant in the company’s 114 year history and reflects our commitment to best positioning both companies for the future. It is truly an exciting time as both companies now move forward with highly-focused strategies to capitalize on the growth opportunities unique to each.”

But when it comes to growth, the two new companies aren’t quite there yet. 3Q11 declines in wireless subscribers were characterized as “seasonal,” and solid growth in wireless wholesale revenue from Sprint did help offset the losses, allowing for a 7% YoY increase in wireless revenue. But wireless subscriber revenue fell on both YoY and sequential bases, to $62.5m down from $66.1m in Q310. Retail subscribers fell to just under 415k, down about 9,800 in the quarter, and subscriber churn was a relatively high 3.7% in the period. Prepaid results were more encouraging as the company’s new $45 per month, all-inclusive rate plan led to a 14% increase in gross adds.  NTELOS introduced the FRAWG Unlimited Everything plan in June and believes that the plan “eliminated a competitive pricing disadvantage and, through anticipated churn reductions, potentially enhances lifetime revenues.” NTELOS is also expecting stronger smartphone sales to enhance revenue in coming quarters. Smartphones accounted for two-thirds of postpaid gross adds in the period, up from just 17% a year earlier. Management noted that, “These related costs are fully reflected in the quarter, while revenues are expected to continue to benefit future periods.” At the end of the quarter, NTELOS’ smartphone/data card penetration of the postpaid sub base was 34%, up from 18% a year ago.

Wireline revenue jumped due to the inclusion of the FiberNet acquisition that Lumos Networks completed in December of last year, but on a pro forma basis the top line slid YoY, from $39.1m in 2010 to $38.6m in the competitive wireline segment (which accounts for 75% of wireline revenue). The company said, “Growth from data products was mitigated by revenue decreases in competitive voice, long distance and other legacy products resulting primarily from anticipated off-network, voice customer churn in the acquired markets.”

And in the RLEC, revenue fell 11% YoY to $12.4m “reflecting access revenue losses.” Of a $0.5m decline QoQ, the company noted that $0.6m was due to the biennial regulatory access rate reset that when into effect on July 1. Lumos is looking for growth ahead in its enterprise data products and wireless carrier backhaul. Michael Moneymaker, president of Lumos Networks said, “With market data demand only in early stages, we are well positioned for continued sales successes in these key segments.”

Certainly both NTELOS Wireless and Lumos Networks have divisions poised for growth in future quarters, though based on third quarter results it does remain unclear as to whether or not that growth will be adequate to offset market pressure in legacy businesses.



ILEC 3Q11 Results Summary: Cincinnati Bell

Colocation Revenues Up 18% and Pointed Higher

Cincinnati Bell (Nasdaq:CBB) shrugged off steep declines in access lines and a drop in wireless subs in 3Q11, to turn in a solid quarter overall. Its revenue increased $17m YoY in 3Q11, or 5%, to $369m and its operating income rose 4% YoY and 11% QoQ to $86.3m. Cincinnati Bell’s bottom line also improved 20% YoY to $17.6m in the quarter. The key drivers for its success in 3Q11: data centers and IT services. 

The company increased its stake in the data centers last June when it purchased CyrusOne for $525m, adding 174k square feet of data center capacity. At the time Jack Cassidy, president and ceo of Cincinnati commented that the deal “an important step in our long-term strategy of becoming the preferred global data center colocation provider to Fortune 1000 companies.”  That strategy appears to be paying off, as its data center colocation revenue in 3Q11 was up 18% YoY from its 3Q10 levels to $47m, with a full quarter of CyrusOne operations in both periods.

The trend in Cincinnati Bell’s capex margins over the past five quarters reflects the success of its data center investments. Capital spending rose steadily from $43m in 3Q10 to $74.5 in 3Q11, $41m of which was spent on data centers. Capex margins meanwhile have jumped 75% from 12.2% to 20.2% YoY in 3Q11. As Cincinnati Bell gets more bang for its buck in data colocation, it looks to invest more in the business. It added 67k square feet of storage space in the 3Q11, and plans to add another 30k square feet in 4Q11.

The company also enjoyed growth in its IT services and hardware segment as increased business spending drove hardware revenues up $12.2m in 3Q11, while revenue from managed services such as web hosting and data backup rose $2.4m or 17% YoY.

While business-centric services fueled a majority of Cincinnati Bell’s gains, its fiber-based consumer services—branded “Fioptics”—have shown promise as well. It added 13k television subs and 14k Internet subs in the past year—51% and 58% growth—and increased its Fioptics ARPU from $114 to $122 YoY in 3Q11. Fioptics connections however still represent a small percentage of Cincinnati Bell’s overall connections mix. DSL customers outnumber its 38k fiber Internet customers 6 to 1, and despite beginning its Fioptics rollout in 2008, its expansion efforts have been slow.

This deliberate pace however sped up in 3Q11 as capital expenditures for Fioptics jumped 25% YoY to $12.5m. Cincinnati Bell expanded its fiber footprint to include another 25k houses in the quarter, increasing its homes passed to 115k, after building fiber to only 30k homes in all of 2010. A main reason for speeding up its build: strong demand. Fioptics’ penetration of homes passed is 29% in areas in which service has been offered for at least a year. By contrast, AT&T’s has achieved only 25% penetration of U-verse in the service areas in which it has marketed service for three years.

Despite a solid quarter overall, 3Q11 was not without its disappointments for Cincinnati Bell. Access lines tumbled 7.8% YoY to 635k in 3Q11, and it lost 27k postpaid wireless subs, or 8% of its postpaid customer base, driving wireless revenues down $5m YoY. The telco has cannibalized a portion of its own access lines, offering customers VoIP services as part of its revenue replacement strategy, while management attributed its wireless sub losses to stronger competition from national carriers. 



ILEC 3Q11 Results: CenturyLink

Integration of Acquistions Right on Course

CenturyLink impressed investors on November 2 with its third quarter results and its progress in integrating several major acquisitions over the past few years, including Embarq, Qwest and cloud computing concern Savvis. In the company’s 3Q11 conference call, ceo Glenn Post outlined the company’s progress in four areas that are considered critical to CenturyLink’s future growth: broadband expansion, fiber-to-the-tower (FTTT), managed hosting/cloud services and its residential IPTV offering Prism TV.

Despite solid results in these key growth areas, however, pro forma revenue continues to slide with access line losses—although the line losses have slowed to a 7.1% pace in the trailing twelve months, compared with a pro forma 7.8% decline the year prior. Another positive note: the company says it is on track to achieve all of the anticipated synergies from its three acquisitions on schedule, and that once all integration is complete, it will save $1b a year in operating and capital expenditures.

The company saw improved broadband connections growth in the quarter, adding 57k new high speed Internet customers in the quarter, compared with just 12k net adds in 2Q11. The company is deploying fiber-to-the-node (FTTN) infrastructure and now passes 5.5m housing units. CenturyLink has also enabled over 330 central offices with Ethernet over copper capabilities, which is targeted toward the small/medium business (SMB) market.

In its FTTT efforts, Post noted that they added nearly 1,000 new sites in the quarter to bring the total to 8,200. He added that another 2,000 sites will be connected in 4Q11.

Post commented that the company is expanding its data center capacity in response to growing demand for Savvis’ managed hosting and cloud services, although he also mentioned that the difficult economy has had an impact on new bookings; 4Q11 bookings for Savvis are expected to improve. Post added, “Managed hosting and cloud services are important for the future of our industry and we are committed to investing in this key growth driver. As part of this commitment, we are expanding our datacenter footprint in five cities to bring our total sellable square footage to approximately 2 million square feet by the end of this year.”

Finally, Post described how its Prism TV service is slowing access line losses and helping increase broadband penetration. “Over the past 12 months, our Prism subscriber base has grown 103% with nearly 25% growth in the third quarter alone. In terms of pull-through of other services, 70% of our Prism customers have a triple play and almost 50% of our Prism adds are new customers with strong attachment rate to high-speed Internet and voice services.” Prism TV is now available to 1m households and CenturyLink intends to deploy to between 4.5m-5m by 2015. Post also noted that by leveraging existing network investments like FTTN, its cost per household to deploy Prism TV is below $200.

Overall it seems CenturyLink is achieving its goals with its recent acquisitions and focus on higher growth areas—though it still has some work to do to make up for access line losses, particularly now that it owns Qwest.


ILEC 3Q11 Results Summary: SureWest

Positive Connections and Revenue Trends; Bottom Line Still Struggling

SureWest Communications was one of the first publicly-traded ILECs (not including the RBOCs) to wholly embrace a fiber strategy and commit large dollars to rolling out FTTH, first in its home market of Sacramento, California and later in Kansas City, Missouri (following the 2008 buy of Everest Broadband). Thanks to the depressed cash flows and high debt ratios that resulted from these aggressive investments, investors stayed away for several years and the stock traded as low as $5.61/share just over a year ago…Fast forward a year and SureWest has since seen its share price double and SURW gained 10% the day after its third quarter earnings announcement October 27.

One factor in the resurgence in investor confidence was the company’s reinstatement of a dividend. Last March SureWest announced it would pay an $0.08/share quarterly cash dividend. High dividend yields had been attracting investors to many ILEC stocks for years, but SureWest's expansion plans prevented it from doing so. At the time, pres/ceo Steve Oldham said, “Our employees have executed extremely well on our strategy, providing significant and sustained growth over the last several years. Our growing Broadband segment now accounts for 72% of total company revenues. In addition, we have added high quality and sustainable commercial services revenues, such as wireless backhaul, and our Broadband commercial services revenues grew 17% year-over-year, with notable growth of 26% in our Kansas City market. A superior offering of predictable commercial services and the successful launch of our enhanced residential video service has convinced the Board that we can begin paying a modest cash dividend to our shareholders while we continue to grow revenues and cash flows. Additionally, the recent refinancing of our balance sheet at favorable rates and conditions has helped us take this significant step to increase shareholder value. We remain confident that we have the right products and services in the market delivered by the most skilled employees in the industry."

SureWest reported another quarter of relatively impressive operating results in 3Q11, and although its free cash flow was negative and earnings fell YoY, my sense is that SureWest’s long-planned strategy is poised to begin paying off.

Overall revenue grew by 3% YoY despite a 21% YoY decline in home voice connections—and the company was quick to point out that despite a loss of 6,500 access lines in the past year, an impressive 40% have migrated to its broadband/VoIP service. Broadband revenue from business customers increased by 13% while residential broadband revenue grew 9%, thanks to both an increase in the number of customers as well as higher ARPUs. SureWest generated 76% of its overall revenue via its broadband product in the quarter and said that monthly ARPU for residential triple-play customers was $145, up from $130 a year ago. Growing wireless backhaul revenue also contributed to the growth in broadband revenue and the company said that it should connect 390 sites and generate $4m in annual revenue with its backhaul service by the end of next year.

Free cash flow and net income were down, however, due both to increased spending on advertising to raise market awareness as well as higher programming costs for its Advanced Digital TV service and higher spending on network expansion. Also affecting the bottom line was the ongoing phase out of California High Cost Support, which will be completely eliminated following 4Q11, down from $6.1m in support in 2010. 


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