Before the opening bell today, the largest U.S. mobile service provider Verizon Communications Inc. (VZ) reported second quarter 2012 adjusted earnings of 64 cents per share. The quarter’s earnings were at par with the Zacks Consensus Estimate and 7 cents above the year-ago earnings.
The company again generated double-digit earnings growth and significant cash flow growth.
Total revenue increased 3.7% year over year to $28.55 billion and barely beat the Zacks Consensus Estimate of $28.53 billion. Improved revenue performance was mainly driven by continued strong wireless services, FiOS fiber-optic services and strategic services.
EBITDA (earnings before interest, taxes, depreciation and amortization) rose 8.9% year over year to $9.8 billion while operating income increased 16.3% to $5.7 billion in the reported quarter.
Segment Results
Wireless revenue increased 7.4% year over year to $18.58 billion on the back of increased smartphone penetration and high retail post-paid average revenue per user (ARPU). Service, Equipment and Other revenues grew 7.3%, 0.9% and 24.0%, respectively.
Data revenue spiked 18.5% from the year-ago quarter and represented 43.6% of service revenue.
Verizon added 1.2 million retail subscribers, including 888,000 post-paid and 290,000 prepaid customers. At the end of the second quarter, the company had 94.2 million retail subscribers (including 88.8 million post-paid and 5.3 million prepaid customers), reflecting a 4.9% year-over-year increase.
Despite sluggish growth in the U.S. mobile market, rapid expansion of 4G Long-Term Evolution (LTE) services, strong sales of Apple Inc.’s (AAPL) iPhone and increased adoption of Google Inc.’s (GOOG) Android smartphones led to the strong growth in retail wireless subscribers. At the end of the reported quarter, smartphones accounted for 50% of retail post-paid wireless, up from 47% in the prior quarter.
Further, the company is way ahead of its major rivals AT&T Inc. (T) and Sprint Nextel Corp. (S) in deploying LTE services. As of July 19, the Verizon LTE deployment covered 337 markets with more than 200 million people.
Retail post-paid churn (customer switch) was lowest in the four years at 0.84% in the reported quarter compared with 0.89% in the year-ago quarter. Total retail churn also declined to 1.11% from 1.22% in the year-ago quarter. Retail post-paid ARPU increased 3.7% year over year, the highest growth in three years and retail service revenue increased 3.4% from the year-ago quarter.
Wireline revenue dipped 3.1% year over year to $9.9 billion due to continued decline in global business. Momentum for the FiOS fiber-optic network and sale of strategic service in the U.S. however remained strong.
During the reported quarter, Verizon added 120,000 and 134,000 new customers to its FiOS Video and FiOS Internet services, respectively. The company exited the second quarter with 4.5 million (up 16.2% year over year) FiOS Video customers and 5.1 million (up 14.9%) FiOS Internet customers.
The penetration rate (subscribers as a percentage of potential subscribers) of both FiOS Internet and FiOS Video increased to approximately 36.6% and 32.6%, respectively, across all markets from the year-ago respective levels of 33.9% and 29.9%.
Strategic services revenue increased 4.4% from the year-ago quarter, representing 52% of global enterprise revenue in the second quarter.
Total Broadband connection at the end of the second quarter was 8.8 million, up 2.6% year over year. The DSL-based HSI connections fell 10.8% year over year to 3.6 million.
Liquidity
The company exited second quarter with cash and cash equivalents of $10 billion, which is less than $13.4 billion at year-end 2011. Net debt inched up to $42.4 billion from $41.8 billion at the end of fiscal 2011. Net debt-to-adjusted EBITDA remained stable at 1.2 times compared with year-end 2011.
Verizon generated $15.3 billion of cash from operations in the reported quarter compared with $12.8 billion in the year-ago quarter. Capital expenditure increased to $7.8 billion from $3.9 billion in the year-ago quarter.
Outlook
For fiscal 2012, the company expects to generate double-digit earnings growth of 10% on continued healthy wireless margins and improving wireline margins. Capital expenditures are expected to be flat or down from $16.2 billion reported last year.
Our Take
We believe Verizon is poised to generate strong revenue and earnings this year based on the introduction of smartphones, tablets and data devices in the Wireless segment as well as continued strong FiOS fiber-optic network and strategic services, including cloud-computing business, in the Wireline business.
However, persistent erosion in access lines, uncertain returns from the 4G wireless and wireline FiOS networks, iPhone subsidies, hindrances in spectrum deals and intense competition from cable companies and other alternative service providers are threats to the stock.
We are currently maintaining our long-term Neutral rating on Verizon. For the short term, (1-3 months), the stock retains a Zacks #3 (Hold) Rank.
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