ILEC 3Q11 Results Summary: Windstream

Windstream’s Search for Growth Continues

In its recent 3Q11 earnings call, Windstream (Nasdaq:WIN) ceo, Jeff Gardner commented that Windstream’s goals over the past few years have been to transform its business to achieve revenue and cash flow growth. Through a heavy dose of M&A and an increase in capital expenditures, Windstream has targeted its expansion efforts in two specific areas: business and broadband. As of 3Q11, Windstream’s efforts to achieve growth have produced mixed results.

In 3Q11, Windstream’s GAAP revenue rose 6% YoY, to $1.02b, but on a pro forma basis, revenues were actually down 1% YoY. Voice and long distance service revenues accounted for a majority of the decline, dropping $27m YoY, or 7%, in 3Q11, while wholesale revenues fell $17m, or 10% YoY. To the upside, revenue from business services rose $79.5m YoY in 3Q11, or 19%, thanks largely in part to Windstream’s 4Q10 purchase of Hosted Solutions, while pro forma growth in business services was just 2% in the quarter. 

The two areas that provided real growth for Windstream in 3Q11 were its special access services and its data/integrated solutions. Special access revenues increased $7m YoY, or 5%, thanks to circuit growth from increased demand for wireless backhaul, while data/integrated solutions increased $21 million or 7% YoY, driven by growth in IP, and data center services.

The company has made what it calls “success-based capital investments” over recent quarters to expand its business services’ top line. Capital expenditures rose 56.7% YoY in 3Q11, as Windstream spent $178m on a variety of growth initiatives: fiber-to-the-tower projects, data center expansions, and broadband enhancements. By the end of 2011, Windstream will have spent $125m on its fiber investments, and is projected to spend an additional $200m-$250m in 2012, completing its fiber rollout to 90% of the wireless towers in its territories.

Set to close in 1Q12, Windstream’s $2.3b acquisition of Paetec will have the most dramatic impact in shifting its revenue mix towards business customers. Following the deal’s close, roughly 70% of Windstream’s top line will come from business and broadband services.

The question remains, will Windstream’s capital investments and deals lead to improved operating income and margin growth?

Following the close of Windstream's acquisition of Hosted Solution’s and Q-Comm in 4Q10, operating income actually declined slightly YoY in 3Q11, to $266.5m. OIBDA margins fell about 1% to 46% during the same period. Looking ahead, any improvements are likely to be derived from cost cutting measures associated with the integration of PAETEC. Windstream projects $110 million in annual operating and capital synergies with the deal, but those savings are three years out. In the meantime, you can expect more merger related costs, like the $20m charge in 3Q11 related to four of its completed deals (NuVox, Iowa Telecom, Q-Comm and Hosted Solutions) and its pending PAETEC buy. 

The market is not yet sold on Windstream’s future growth prospects: as of 3Q11’s close, Windstream’s stock price had lost about 10% on the year, falling to $11.65. This is not to say that the shift towards a business-centric model is the wrong move for Windstream—investors are simply waiting to see the revenue and cash flow growth that Windstream has promised. 


ILEC 3Q11 Results Summary: AT&T

AT&T Riding the Mobile Broadband Wave

AT&T’s third quarter results were impressive. The company led the major wireless carriers in terms of subscriber growth—without a new iPhone launch and with no LTE coverage to speak of in the period. And now that it’s launching LTE and selling the iPhone 4S, management is extremely confident that its fourth quarter results will be even stronger. On the wireline side of the business, U-verse continues to perform well and the company now generates more than half of its revenue from broadband, video and VoIP products; voice and “other” accounted for the remainder of wireline revenue.

In the company’s conference call, Ralph de la Vega, ceo of AT&T Mobility, gushed about the progress and potential of its LTE network: “I am thrilled about what we're seeing with the LTE launch. I have been a part of many network and device transformations. And this technology quite frankly is the best I have ever seen in my career. The network technology is fantastic. The devices are fast. They're thin. They have great battery life. It's the first time that I think a network transition is going to be a home run right off the bat.”

He noted that smartphones make up 52% of the base now and opined that virtually all subscribers will be using smartphones within two or three years. He continued, “And then you add on top of that these new devices like tablets and MiFis and e-Readers and telematics. And the growth opportunity is off the charts on this. And then you add to that the cloud, the fact that all of these devices in the future are going to want connectivity to the cloud, which means they need to have great bandwidth, great data capability…And the great thing about doing all of that is that we're doing it with a technology, LTE, that provides a reduced cost per megabyte, that is we can produce the megabyte a lot cheaper on LTE, and it's also more spectrally efficient. So lower cost, lower spectrum requirements and great revenue potential. I'm very bullish on what we're seeing in data, and I think we've only seen the tip of the iceberg because customers love the devices that are coming out and they love using high-speed data.”

When one analyst questioned de la Vega on the possibility that smartphone ARPU may begin eroding as lower end customers migrate over, he disagreed, and added that the company expects to add higher tier plans down the road: “In terms of the capability to grow ARPU, I think that we're going to see customers use more data, not less. I don't see an environment going into the future where customers are going to use less data. These products are too good. There's an incredible amount of streaming content that's available. So we're going to continue to see customer data usage increase. We have not seen a decline, and I don't see it any way to decline. That's why I feel so bullish about our position of having 50% of our base already on tiered plans, and we plan to make available more tiered options for customers in the future so they can enjoy the data services that they want. So what I see is exactly the opposite of the scenario you suggested, where everybody is actually using more data. I see it across every product category we sell and that more handsets that we get into a customer's hands that are smartphones, the more data that they use, not the less.”

He added that they are seeing overage from both tiered plans, but that the overage is small today: “I can't give you an exact number, but we do have overage from both I said before, we plan to make available more options to customers that may need higher usage categories in the future, so they can feel comfortable in stepping up but not feeling that they're having to pay an exorbitant amount. We want to encourage customers to use more and incur a little more cost if that's what they want to do…The other thing that I feel so bullish about is what is happening in the tablet arena. I mean, it's very obvious to me that this tablet revolution is going to continue. I don't see anything in the horizon that stops it, and I think customers are going to want both, some smartphones and a tablet. And they're going to see their content on the tablet in ways that's going to make them use more and more data. So I think the future of tablet computing is going to be very good for our industry.”  De la Vega also said that the free iPhone 3GS, which AT&T is offering with a 2-year contract, has sold out, “We've seen a tremendous, tremendous demand for that device even though it's a generation old. And actually, we're getting more new subscribers coming on the 3GS on the average than other devices.”

AT&T also did well in the prepaid segment in the quarter, adding more than 100k net new prepaid subscribers. De la Vega noted that the new $50 GoPhone plan has been very well received and “we’re just getting started…We put in that plan some handsets that are very attractive. They're low cost, but they've been a huge hit in the marketplace, so we're seeing that business resurge for us...We have a very strong fourth quarter lineup, so I think we're going to continue to do well with GoPhone sales in the fourth quarter.”

On the wireline side of the business, cfo John Stephens was asked about margin trends given that the U-verse margins are generally lower than in the legacy business. The company has been cutting costs in an effort to strengthen wireline margins, but management said that the numerous storms as well as a technology upgrade affected the results in the quarter—adjusted for those factors the EBITDA margin for the wireline business was 32%.

AT&T has been aggressively working to move its legacy DSL customers onto U-verse. Stephens noted, “The most encouraging piece of the DSL story [is that] while our net adds for the quarter were about in the 5,000 range, we had 500,000 high-speed U-verse/IP DSLAM net adds. So we were able to convert a huge piece of our legacy DSL base into U-verse/IP DSLAM, and we saw gains in small business with that IP DSLAM product for the first time. We'll continue to focus on transforming those DSL lines into high speed. We get great speeds, great service to our customers, good ARPUs.” Stephens also noted that the company will promote its wireless broadband service, which it will deploy to 97% of the country, in those areas where it doesn’t have U-verse. “We believe that's going to be able to provide a wireless solution at a high speed, good quality, good cost, on a profitable basis for us. That's the long-term solution to the non-U-verse areas.”


ILEC 3Q11 Results Summary: Verizon

iPhones and FiOS Continue to Fuel Verizon

The major trends in Verizon’s (NYSE:VZ) growth, financial and stock price performance over the past year can be summed up in two words: “FiOS” and “iPhones.”

Overall, wireless revenues rose 6.1% YoY in 3Q11, to $15b, at Verizon. Fueling the growth, data revenues shot up 20.5% YoY in the quarter to $6.1b. Verizon’s retail postpaid ARPU ticked up 2.4% YoY, but more significantly its postpaid data ARPU jumped 15.7% in 3Q11 to $22.22, moving in lockstep with the overall demand for mobile data.

While the increasing popularity of all smartphones has driven Verizon’s wireless gains, the iPhone is really what has pushed the needle for the company over the past few quarters.  Since unveiling the Verizon iPhone in February, the company has activated 6.5m of the smartphones in fewer than nine months, as it has grown its industry-leading wireless connections to near 108m.

In Verizon’s wireline segment, 3Q11 revenue was down 1.3% YoY to $10.1b, mainly due to a loss of 2m voice connections over the past year. On a positive note, FiOS’ contribution to wireline consumer revenues continues to grow, as it now accounts for 60% of wireline revenue. Verizon’s average take from FiOS customers was $146 for the quarter, 55% greater than the overall wireline ARPU of $94.20. It added 689k FiOS television and 731k FiOS Internet subs in the past year, driving wireline ARPU up 8.8% YoY in 3Q11.

With higher-margin FiOS offerings making up a larger percent of its wireline revenues, and consumers spending more on wireless data, Verizon grew its OIBDA margins 8% YoY in 3Q11, up to 31.6%. It appears poised to finish out 2011 with its second straight year of margin growth, although its OIBDA margins did stumble 3% QoQ in 3Q11 thanks to a $250m impact due to storms and the workers strike over the summer.   

The market has rewarded Verizon’s performance over the past eighteen months, as its stock price has increased 18% over its 1Q10 close. During the same time frame, the S&P 500 has given back 3.4%. Verizon experienced its most significant stock price appreciation in the quarters before and after its iPhone release, jumping 18% from its 3Q10 close to $38.54 a share at the close of 1Q11. It has lost about 5% since, ending 3Q11 at $36.80.

While Verizon remains the top wireless provider in the U.S., some threats to its wireless market share do exist. AT&T posted better gross (5.9m to 5.4m) and net (2.1m to 1.4m) customer adds than Verizon in 3Q11, appearing to have weathered the storm after the Verizon iPhone frenzy in 1Q11 and 2Q11. And armed with the iPhone 4S and unlimited data packages, Sprint also could steal some market share from Verizon.

Preliminary numbers on iPhone 4S users bear out these concerns. According to a Localytics study, Verizon maintains 40% of the iPhone 4 market, but its share of the iPhone 4S has dropped to 32%. Meanwhile Sprint has taken 12% of the 4S market, a majority of which it took at Verizon’s expense.


Wireless Subscriber Trends in 3Q11: Big 3 Still Rule the Roost

And the Winner is…..AT&T Mobility

I have to hand it to AT&T…though Verizon Wireless is generally considered the “quality network” leader and was expected to start handing AT&T its hat once it obtained the iPhone last February, AT&T has fought back admirably and was in fact the top-growth company in the third quarter in terms of both gross and net subscriber additions. AT&T added 2.1m net new customers in the quarter, bringing its total to 100.7m. Churn was a respectable 1.28% and gross additions approached 6m.

Verizon Wireless, already the nation’s largest wireless service provider, added 1.4m net new customers; based on churn of 1.26% monthly, Verizon added almost 5.5m gross new customers. And Sprint Nextel, which continued to rail against AT&T’s planned acquisition of T-Mobile USA in the quarter, added just under 1.3m net new customers. T-Mobile USA hasn’t released its third quarter results yet, but based on comments in parent Deutsche Telekom’s third quarter report we know that T-Mo lost subs in the quarter. T-Mo’s revenue fell by 3.3% in the quarter YoY; since it also reported that growing data revenue led to an increase in average monthly ARPU, we can assume that subscribers fell by more than the 3.3% revenue decline.

And then there’s everyone else. The subscriber numbers are an order of magnitude smaller when we look at MetroPCS, Leap Wireless, U.S. Cellular…MetroPCS grew its base by a paltry 69k, blaming the slower growth on “seasonal factors” and the “weak economy.” Leap Wireless managed to add 10k net new customers which actually gave the stock a boost considering the big sub losses Leap had been reporting. And U.S. Cellular lost another 145k in the quarter, its biggest quarterly loss this year.

Notably, Clearwire added nearly 1.9m net new customers in the quarter. The vast majority of Clearwire’s customers are of course wholesale customers actually added by its estranged step-parent Sprint Nextel. In fact, it looks to me that without the Clearwire 4G sales, Sprint wouldn’t have grown its base at all in the quarter, though the details get murky. Sprint reported a modest decline in postpaid retail subscriber and boasted strong prepaid net adds, but ongoing losses from its Nextel/iDEN side of the business offset much of those gains. Sprint also said that results at its prepaid subsidiaries Virgin Mobile and Boost improved in the quarter.

So, AT&T and Verizon are (not surprisingly) dominant again, particularly in the postpaid segment. Sprint appears to be winning prepaid share, perhaps from T-Mo, but also from Leap and MetroPCS. Sprint’s release of the new iPhone 4s in mid-October, combined with its unlimited data plans, could help it fight back in terms of market share for post-paid customers in the fourth quarter. Remember that neither AT&T nor Verizon offer unlimited data plans any longer.

If we include Clearwire in the mix, AT&T, Clearwire, Verizon and Sprint accounted for 32%, 28.5%, 21.2% and 19.3% of the total net additions in our sample for the quarter—leaving the “also-rans” with negative market share. But considering that Clearwire’s subscribers are also Sprint subscribers, I took a look at market shares excluding Clearwire. In this scenario, AT&T grabbed nearly 45% of net adds; Verizon got just under 30% and Sprint garnered about 27%. Once again, the other public companies lost share to the big three.

I think the biggest takeaway from this exercise is the fact that AT&T continues to be VERY dominant in terms of wireless market share—which could make it tough to get court approval for the pending T-Mo buy. But with T-Mo losing subs, it’s still a mystery to me why AT&T even wants it. Of course, the substantial breakup fee that it will owe to DT is no doubt a factor, but, as I’ve written before, there are better ways for AT&T so spend $39b!


GCI Wireless Growth Disappoints in 3Q11

Consumer Wireless Growth Slows to 1%

Following a lackluster 2Q11 in which General Communications (Nasdaq:GNCMA) reported a net quarterly loss for the first time in two years, GCI management offered a rosier outlook for 3Q11, projecting wireless growth and citing the completion of its $88m fiber build. While the cableco did report improved top and bottom lines in 3Q11, GCI’s wireless segment failed to produce significant growth.

Quarterly revenue rose moderately for GCI, up 3.5% YoY from $171.5m to $177.7m in 3Q11, and its earnings showed similar improvement, up from $0.14 per share to $0.15 per share. High speed Internet services continue to generate growth for GCI, as its data revenue increased 15% YoY to $18.1m in 3Q11. The data gains offset a 10% YoY decline in quarterly voice revenue from $14.6m to $13.2m. GCI lost approximately 5.6k, or 7%, of its consumer access lines during the past twelve months.

The largest disappointment for GCI management in 3Q11 was the performance of its wireless segment, which GCI relies on for about 30% of its revenues. Its take from consumer wireless services in 3Q11 was up just 1% YoY, a period in which it invested in expanding and upgrading its networks. Meanwhile, wireless costs for the quarter were up 17% YoY, eating into its margins. In terms of subs, GCI added 2.9k consumer wireless connections over the past twelve months--a growth rate of 2%.

Ron Duncan, ceo of GCI, admitted that the underwhelming performance of its wireless segment in 3Q11 was disappointing. “Year over year (our overall) results are relatively flat and our overall performance is not as strong as we had expected. We are experiencing continued decreases in our wireline customer base, as consumers cut the cord and move to wireless, and growth in our wireless segment has been slower than anticipated.”

In other words, access line losses were expected, but so to was a subsequent jump in wireless subs and revenues as consumers replace their home phones with cell phones. It seems GCI customers are getting rid of their landlines, but they are not necessarily utilizing GCI as their wireless provider. Its main competitor, Alaska Communications (Nasdaq:ALSK), has launched its own 4G network, looking to secure its position as the top wireless provider in Alaska.

Duncan commented that there have been delays in the turn up of its new high speed wireless networks, which contributed to the lack of wireless growth. In September, the cableco launched 4G service in Anchorage, but it has planned 4G service launches in other Alaska communities that have yet to take place.

In addition to future 4G expansion, broadband growth provides GCI with expectations of improved performance in the near future. Construction of its $88 million TERRA microwave project, which will provide high speed broadband services to 10k residents in southwest Alaska, is “basically” complete according to the company. It expects to start generating revenues from this project by the end of the year.  

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