CenturyLink, Inc. (now Lumen Technologies, Inc.) — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018; filed March 11, 2019. The filing reports full-year results, with quarterly data including the fourth quarter. CenturyLink acquired Level 3 on November 1, 2017, so 2018 includes a full year of Level 3 while 2017 includes only two months; reported year-over-year growth is therefore not directly comparable.
Business context
The company provides communications, network, broadband, voice, IT and managed services to business, government, wholesale and residential customers. It reported approximately 450,000 global fiber route miles, operations in more than 60 countries and 4.8 million consumer broadband subscribers at year-end. Most revenue came from the United States.
Key financial results
| Metric | 2018 | 2017 |
|---|---|---|
| Revenue | $23.443 billion | $17.656 billion |
| Operating income | $570 million | $2.009 billion |
| Operating margin | 2.4% | 11.4% |
| Net income (loss) | $(1.733) billion | $1.389 billion |
| Diluted EPS | $(1.63) | $2.21 |
| Cash from operating activities | $7.032 billion | $3.878 billion |
| Capital expenditures and capitalized software | $3.175 billion | $3.106 billion |
| Operating cash flow less capital expenditures | $3.857 billion | $772 million |
| Long-term debt, including current maturities | $36.061 billion | $37.726 billion |
| Cash and cash equivalents at year-end | $488 million | $551 million |
Operating cash flow less capital expenditures is a simple calculation, not a company-defined free-cash-flow measure. Year-end equity was $19.828 billion, down from $23.491 billion. Interest expense rose 47% to $2.177 billion, primarily reflecting debt issued or assumed for the Level 3 acquisition. The reported 2018 tax expense was $170 million; the 2017 result included an approximately $1.1 billion tax benefit from U.S. tax reform.
Material changes versus the prior comparable period
- Revenue rose 33%, principally because 2018 included $6.7 billion of post-acquisition Level 3 revenue. Legacy CenturyLink revenue declined $935 million.
- Despite higher reported revenue, operating income fell to $570 million. Results included a $2.726 billion non-cash, non-tax-deductible goodwill impairment charge related to the consumer segment and $393 million of Level 3 acquisition-related expenses.
- Business segment revenue was $17.349 billion and adjusted EBITDA was $7.273 billion, with a 42% margin. Consumer revenue declined 6% to $5.371 billion; adjusted EBITDA was $3.178 billion, with a 59% margin.
- Cash from operations increased, including $2.4 billion generated by Level 3. The company used $4.023 billion in financing activities, including $2.312 billion of dividends paid, and reduced reported long-term debt by $1.665 billion.
- Fourth-quarter revenue was $5.778 billion; operating loss was $1.841 billion and net loss was $2.412 billion, reflecting the goodwill impairment.
Outlook, liquidity and principal risks
- 2019 plans: Management estimated capital investment of $3.5–$3.8 billion, excluding integration capital, and approximately $1.1 billion of common dividends assuming the then-current rate continued. It estimated 2019 cash income taxes of approximately $100 million. The filing provides no explicit full-year revenue or earnings guidance.
- Dividend: Following a February 2019 reduction, the quarterly common dividend was $0.25 per share, compared with $0.54 per share during 2018. Future dividends remain discretionary and subject to restrictions and cash needs.
- Liquidity and debt: At year-end, the company reported $488 million of cash and approximately $1.6 billion of available revolving-credit borrowing capacity. It disclosed $35.6 billion of debt principal, with $4.3 billion scheduled to mature before year-end 2021. Management stated it believed it could meet or refinance obligations, while warning that refinancing access and cost depend on market conditions, ratings and covenant compliance. Most unsecured ratings were below investment grade.
- Business and integration: Management cited ongoing competition, pricing pressure, declines in traditional voice and private-line services, customer losses, and the risk that integration, network modernization and customer-support system projects may be delayed or fail to deliver expected savings.
- Accounting controls: Management identified material weaknesses in controls over Level 3 acquisition fair-value measurements and the existence and accuracy of revenue transactions. Management concluded internal control over financial reporting was ineffective at December 31, 2018; KPMG issued an adverse opinion on those controls. The financial-statement audit opinion was unqualified. Management reported acquisition valuation misstatements corrected before issuance and other immaterial misstatements; no prior-period restatement was required.
- Other exposures: Pending matters include consumer billing and sales-practices litigation and government inquiries, switched-access disputes, state and foreign tax matters, and a qui tam action. The filing says outcomes are uncertain. Pension and post-retirement plans were substantially underfunded; post-retirement benefit trusts held only $18 million at year-end.
- Further impairment risk: Following January 2019 organizational changes, the company planned another goodwill impairment analysis in the first quarter of 2019; the filing states that any resulting impairment was not then reasonably estimable.
Important facts for investors to verify
- How much of reported revenue and cash-flow improvement reflects Level 3 inclusion versus underlying performance; assess comparable Legacy CenturyLink trends.
- Whether integration savings, network investments and remediation of the material control weaknesses are achieved and independently evidenced.
- Debt maturities, floating-rate exposure, refinancing terms, credit ratings, covenant headroom and the sustainability of cash available for debt service and dividends.
- Whether consumer-segment performance stabilizes and whether further goodwill impairment or other asset write-downs occur.
- Developments and potential financial impact of billing-practices litigation, switched-access disputes, tax assessments and other contingencies.
- Actual 2019 capital spending, cash taxes and dividend payments compared with management’s stated estimates and assumptions.