Verizon Communications (VZ), the second largest U.S. phone company, declared its third quarter earnings result before the opening bell. The company reported adjusted earnings of 56 cents per share beating the Zacks Consensus Estimate by 2 cents and was well above the year-ago earnings of 41 cents. Stronger-than-expected earnings were led by continued strength in Wireless, FiOs and strategic business services.
Adjusted earnings excludes approximately total non-cash charge of 25 cents per share, which includes 19 cents associated with the voluntary incentive program for union-represented employees, 2 cents related to Alltel merger, and 4 cents resulting from Frontier spin-off charges.
Total revenue inched up 2.1% to $26.5 billion from the year-ago quarter and was above the Zacks Consensus Estimate of $26.3 billion.
Segment Results
Wireless: Total wireless revenues climbed 6% year over year to $16.2 billion (61.4% of total revenues), with service revenues reaching $14.2 billion, up 7.7%. Data revenues grew 22.8% year over year, driven by the healthy adoption of integrated devices.
Retail churn and total churn declined year over year to 1.43% and 1.36%, respectively. Verizon continues to generate low retail post-paid churn at 1.07% during the third quarter. Service ARPU (average revenue per user) inched up 1.8% year over year to $51.99. Data ARPU climbed 19% to $18.61.
Verizon exited the quarter with 101.1 million wireless customers. Net customer additions for the quarter were 0.9 million compared with 1.2 million in the year-ago quarter. Verizon’s subscriber growth plunged as the company struggles to compete with its major rival AT&T Inc. (T) in the smart phone market.
Total retail customer base spiked 7.1% to 93.2 million from the year-ago quarter. Net retail post-paid subscriber additions for the quarter were 584,000.
Wireline: Revenue from wireline dipped 3.6% year over year to $10.3 billion due to continued declines across global wholesale and enterprise businesses. Total Broadband connection at the end of the third quarter was 8.3 million, up 2.7% year over year.
Momentum for the fiber-to-the-premises network (delivering FiOS services) remains strong, having already covered 15.4 million premises. During the quarter, Verizon added 204,000 and 226,000 new customers for its respective FiOS TV and FiOS Internet services, both representing a sequential increase. The company exited the quarter with 3.3 million (up 26.5%) FiOS TV customers and 3.9 million (up 23.9%) FiOS Internet customers.
The penetration rate of both FiOS Internet and FiOS TV surged to approximately 31% and 27.2%, respectively across all markets from the year-ago level of 28.7% and 25.1%. Total broadband and video revenue, including FiOS Internet, FiOS TV and HSI (DSL-based high-speed Internet) increased 20.8% year over year to $1.8 billion.
Cash Flow and Dividend
Verizon generated $25.2 billion cash from operations in the first nine months of 2010 compared with $23.1 billion in the year-ago period. Capital expenditure was $11.8 billion, down 4.9% from the first nine months of 2009. Free cash flow shot up 25.3% year over year to $13.4 billion in the first nine months of 2010.
Verizon’s net debt (total debt less cash and cash equivalents) at the end of the third quarter 2010 was $47.8 billion. Net debt to adjusted EBITDA was 1.4 times at the end of the same quarter.
During the reported quarter, the company raised its quarterly dividend by 2.6% to 48.75 cents per share. The dividend equates to $1.95 per share on an annualized basis, up from the $1.90 per share paid in August.
Outlook
Verizon has not released any financial forecast for the third quarter. For 2010, the company targets capital expenditure in the range of $16.8 billion to $17.2 billion.
Our Analysis
We believe persistent erosion in access lines continues to hurt wireline revenues and margins as Verizon faces intense competition from cable companies and other alternative services providers. Further, high promotional and restructuring expenses may drag earnings and margins going forward.
Although Verizon continues to expand its 3G wireless and wireline FiOS network footprints, returns from investments in these businesses are highly uncertain. The fourth generation (4G) infrastructure may be an obstacle if other service providers shift to different generation technologies. Thus, we are maintaining our long-term Underperform recommendation on the stock.
For the short term (1-3 months), we are recommending a Hold rating with the Zacks #3 Rank. We believe the continuous investment in its broadband network, strong wireless and FiOS services, gaining share in the retail post-paid market and increasing penetration of smartphones and other data devices will provide positive cushion to the stock.
Further, Verizon is expected to launch 4G LTE (fourth-generation Long-Term Evolution) network in 38 markets by the end of 2010 and may start selling Apple Inc‘s (AAPL) iPhone in January 2011.
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