Before the opening bell today, the largest U.S. mobile service provider Verizon Communications Inc. (VZ) reported third quarter 2012 adjusted earnings of 64 cents per share, excluding charges of 8 cents related to patent litigation settlements. The quarter’s earnings missed the Zacks Consensus Estimate by a penny but was 8 cents above the year-ago earnings.
The company generated double-digit earnings growth for third time in a row and continued reporting significant cash flow growth. Verizon’s new shared wireless data plan – Share Everything –made a significant contribution to the quarterly earnings.
Total revenue increased 3.9% year over year to $29.01 billion, but slightly lagged the Zacks Consensus Estimate of $29.02 billion. The year-over-year revenue growth was driven by continued strong wireless services, FiOS fiber-optic services and strategic services.
EBITDA (earnings before interest, taxes, depreciation and amortization) rose 9.6% year over year to $9.65 billion, while operating income increased 19.6% to $5.5 billion in the reported quarter.
Segment Results
Wireless revenue increased 7.3% year over year to $19.02 billion on the back of increased smartphone penetration and high retail post-paid subscriber growth. Service, Equipment and Other revenues grew 7.5%, 3.2% and 13.3%, respectively.
Verizon added 1.8 million retail subscribers, including 1.5 million post-paid and 228,000 prepaid customers. The company’s post-paid subscriber additions represent the highest in four years. At the end of the third quarter, the company had 95.9 million retail subscribers (including 90.4 million post-paid and 5.5 million prepaid customers), reflecting a 5.7% year-over-year increase.
Despite the 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 including the new iPhone 5, 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 53% of retail post-paid wireless, up from 50% 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 October 18, the Verizon LTE deployment covered 419 markets with more than 250 million people.
Retail post-paid churn (customer switch) improved 3 bps year over year to 0.91% in the reported quarter. Total retail churn also improved to 1.18% from 1.26% in the year-ago quarter. Retail post-paid ARPA (average revenue per account) grew 6.5% year over year. Verizon will now report ARPA instead of ARPU (average revenue per user) as it introduced shared data plan, where customers can share data among multiple devices.
Wireline revenue dipped 2.3% 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.
FiOS revenue increased 18% year over year to $2.5 billion. During the reported quarter, Verizon added 119,000 and 136,000 new customers to its FiOS Video and FiOS Internet services, respectively. The company exited the third quarter with 4.6 million (up 15.4% year over year) FiOS Video customers and 5.3 million (up 14.4%) FiOS Internet customers. The penetration rate (subscribers as a percentage of potential subscribers) of both FiOS Internet and FiOS Video increased to approximately 37% and 32.9%, respectively, across all markets from the year-ago respective levels of 34.6% and 30.6%.
Strategic services revenue, including Verizon Terremark cloud and data center services, security and IT solutions, advanced communications, and strategic networking, increased 4.4% from the year-ago quarter, representing 53% of global enterprise revenue in the third quarter.
Total Broadband connection at the end of the third quarter was 8.8 million, up 2.3% year over year. The DSL-based HSI connections fell 11.8% year over year to 3.5 million.
Liquidity
The company exited third quarter with cash and cash equivalents of $9.7 billion, which is less than $10.3 billion at the end of the third quarter last year. Net debt increased to $43.1 billion from $41.8 billion at the end of fiscal 2011. Net debt-to-adjusted EBITDA improved to 1.1 times from 1.2 times at the end of 2011.
Verizon generated $24.8 billion of cash from operations in first nine months of 2012 compared with $21.5 billion in the year-ago period. Capital expenditure reduced to $11.3 billion from $12.5 billion in the year-ago period.
Outlook
For fiscal 2012, the company continues to expect to generate double-digit earnings growth of 10% on continued healthy wireless margins and improving wireline margins. The Zacks Consensus Estimate for the year is $2.47 and represents 15% year-over-year growth.
Capital expenditures are expected to be lower than the $16.2 billion reported last year.
Our Take
We believe Verizon is poised to grow its revenue and earnings this year based on the introduction of new smartphones, tablets and data devices in the wireless segment, and continued expansion of robust FiOS fiber-optic network and strategic services, including cloud-computing business, in the wireline business. These will continue to drive the company’s growth prospects going forward.
Nevertheless, we remain skeptical about returns from the 4G wireless and wireline FiOS networks, persistent access line losses, heavy iPhone subsidies and intense competition from cable companies and other alternative services providers.
We are currently maintaining our long-term Neutral recommendation on Verizon. For the short term (1-3 months), the stock retains a Zacks #3 (Hold) Rank.
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