Spanish telecom giant Telefonica (TEF) reported disappointing results for the first nine months, with earnings per share of EUR1.20 ($1.68 per ADS) declining 10.4% year over year.
Net income dropped 10.6% year over year to EUR5.4 billion ($7.6 billion) due to lingering economic concerns, intense competition and higher operating costs. The customers are switching to cheaper offers from smaller rivals, resulting in lower revenues and earnings for the company.
Consolidated revenue rose 5.4% year over year to EUR46.67 billion ($65.67 billion) in the reported period. Despite weaker operations in Spain, Latin America and Europe drove the double-digit revenue growth.
Consolidated operating expenses rose 16.9% year over year to EUR33.5 billion ($47.1 billion). Operating income before depreciation and amortization (OIBDA) slipped 0.9% to EUR7.8 billion ($10.9 billion) resulting in OIBDA margin of 36.1%, up from 34.8% in the year-ago quarter.
Segment Results
Telefonica Espana: The operator’s Spanish revenues fell 7.0% year over year to EUR13.1 billion ($18.4 billion), hurt by declines in both wireline and wireless businesses. Wireline revenues dropped 6.9% year over year to EUR8.0 billion ($11.2 billion) due to lower access, voice and Internet broadband revenues partially offset by higher data and IT revenues.
Revenues from wireless operations fell 7.8% to EUR5.9 billion ($5.68 billion) resulting from a reduction in mobile termination rates (MTRs). This was partially offset by strong mobile data revenues and improved handset sales.
Telefonica Europe: Revenues from Europe slid 0.4% year over year to EUR11.5 billion ($16.1 billion) given the impacts of lower MTRs. Excluding this, revenues increased 2.5% benefiting from the successful mobile data pricing strategy.
Revenues from UK inched up 1.5% year over year to EUR5.2 billion ($25.8 billion) in the reported quarter. Revenues from Germany showed a substantial 5.5% growth to EUR3.7 billion ($5.2 billion), while Ireland and Czech Republic declined 14.0% and 6.0% to EUR551 million ($775 million) and EUR1.6 billion ($2.25 million), respectively.
Telefonica Latin America: Latin Americasustained its growth momentum in the first nine months and remained one of the best performing regions. Revenues climbed 18.1% year over year to EUR21.5 billion ($20.31 billion), driven largely by Brazil (accounting for 50% of the revenues in Latin America and representing a growth of 5.4%), followed by Argentina (11%), Chile and Venezuela (8%), Peru (7%). However, revenue from the key market Mexico registered a considerable decline of 12.6% due to reduced MTRs.
Revenues in Brazil (the largest market) increased 5.4% year over year to EUR10.7 billion ($15.06 billion) backed by strong economic growth. Telefonica’s Brazilian wireless business showed a 16.7% increase in revenue to EUR6.7 billion ($8.7 billion) from the year-ago period. Wireline revenues upped 5% year over year to EUR5.4 billion ($7.6 billion).
Subscriber Statistics
In the first half, total customer access reached approximately 300 million, up 6.0% year over year, with 9% and 5% year-over-year growth in Latin America and Europe, respectively.
On an annualized basis, mobile access rose 8% to 231.9 million customers and mobile broadband access jumped 76% year over year to 34 million. Total retail fixed broadband access grew 7% to 17.8 million, driven by the rapid adoption of bundled services (voice, broadband, and television).
Pay TV access reached 3.2 million, up 18% year over year. Fixed telephony access dropped 3% to 40.4 million subscribers in the first nine months.
Liquidity and Capital Expenditure (CapEx)
Telefonica exited the first nine months with net debt of EUR55.4 billion ($77.96 billion), down from EUR55.6 billion at the end of fiscal 2010.
CapEx fell 8.5% year over year to EUR6.6 billion ($9.28 billion) in the first nine months. Free cash flow improved 11.6% to EUR5.7 billion ($8.02 billion) from EUR5.1 billion in the year-ago period.
Our Analysis
We believe investor sentiment will improve going forward as Telefonica offers full competitive bundled services while boosting its competitive position. Telefonica’s dominant position in the Spanish telecom market and strengthening position in the Brazilian market make it attractive for investment. Further, the company’s continued focus on growth markets would lead to profitability. However, we are concerned about the company’s highly leveraged balance sheet, weak domestic operations, intense competition from market leaders like America Movil (AMX) and regulatory involvement, all of which may limit the upside potential of the stock.
Consequently, we recommend our long-term Neutral rating on Telefonica supported by a Zacks #3 (Hold) Rank.
