Business Context and Reporting Period
Telephone and Data Systems, Inc. filed an unaudited Form 10-Q for the quarter and six months ended June 30, 2010. TDS is a diversified telecommunications company operating primarily through 82%-owned U.S. Cellular, wholly owned TDS Telecom, and 80%-owned Suttle-Straus. At June 30, 2010, U.S. Cellular served approximately 6.1 million wireless customers and TDS Telecom served approximately 1.1 million equivalent wireline access lines.
Financial Results and Key Metrics
| Metric | Three months ended June 30, 2010 | Three months ended June 30, 2009 | Six months ended June 30, 2010 | Six months ended June 30, 2009 |
|---|---|---|---|---|
| Operating revenues | $1.232 billion | $1.242 billion | $2.455 billion | $2.500 billion |
| Operating income | $86.4 million | $153.4 million | $188.4 million | $293.2 million |
| Net income | $52.4 million | $86.9 million | $114.7 million | $182.3 million |
| Net income attributable to TDS shareholders | $40.3 million | $66.4 million | $88.7 million | $140.5 million |
| Diluted EPS | $0.38 | $0.60 | $0.83 | $1.25 |
| Operating margin | 7.0% | 12.4% | 7.7% | 11.7% |
- Six-month revenue declined 2%, while operating income declined 36% and net income attributable to TDS shareholders declined 37%.
- Six-month adjusted OIBDA was $574.7 million, down from $666.9 million. The filing defines adjusted OIBDA as operating income excluding depreciation, amortization and accretion and asset disposal or impairment effects.
- Six-month cash flow from operating activities was $502.3 million, up from $444.0 million. Capital expenditures were $318.0 million, producing reported free cash flow of $184.4 million versus $153.1 million in 2009.
- Cash and cash equivalents were $378.5 million at June 30, 2010, supplemented by $379.2 million of short-term investments, $107.5 million of long-term investments, and $696.4 million of available revolving credit capacity.
- Total long-term debt, including the current portion, was approximately $1.495 billion. Fair value of long-term debt excluding the current portion and capital leases was $1.445 billion, compared with a $1.488 billion book value.
- Total assets were $7.610 billion and total equity was $4.480 billion at June 30, 2010.
- Dividends were $0.1125 per share for the quarter and $0.2250 per share for the six-month period, compared with $0.1075 and $0.2150, respectively, in 2009.
Material Changes Versus the Prior Comparable Period
- U.S. Cellular revenue decreased 2% for the six-month period to $2.054 billion, while operating income fell 45% to $141.1 million. Higher system operations, selling, general and administrative, and depreciation expenses more than offset revenue declines.
- U.S. Cellular service revenue declined 1% to $1.938 billion. Data revenue increased 31% to $416.6 million and represented 21% of service revenue, but voice, inbound roaming, and equipment revenue declined.
- U.S. Cellular had 6.144 million total customers, including 5.775 million retail customers. Retail net additions increased to 31,000 from 4,000, and postpaid churn improved to 1.4% from 1.6%, although postpaid customers experienced a net loss of 31,000.
- TDS Telecom revenue was essentially flat at $394.7 million, while operating income increased 11% to $50.4 million. Cost reductions, workforce actions, and lower CLEC expenses supported the improvement.
- TDS Telecom equivalent access lines declined 2% to 1.122 million. ILEC data customers grew, but physical access lines and CLEC lines declined.
- Equity in earnings of unconsolidated entities increased 16% to $50.9 million, partly because the prior-year period included a $7.1 million impairment loss on an equity-method investment.
- Interest expense decreased 8% to $58.2 million, primarily following the December 2009 redemption of U.S. Cellular’s 8.75% senior notes.
- Investing cash outflows increased to $714.1 million from $412.9 million, primarily because of $385.0 million invested in U.S. Treasury securities and commercial paper and higher capital expenditures.
- TDS repurchased $31.1 million of Special Common Shares and U.S. Cellular repurchased $21.4 million of Common Shares during the six-month period.
Guidance, Outlook, Risks, and Unusual Items
- U.S. Cellular reduced its 2010 estimates to service revenue of $3.925 billion to $4.000 billion, adjusted OIBDA of $800 million to $850 million, and operating income of $200 million to $250 million. Capital expenditures remained approximately $600 million.
- TDS Telecom maintained its 2010 estimates for ILEC and CLEC operations: revenue of $760 million to $790 million, adjusted OIBDA of $250 million to $275 million, operating income of $80 million to $105 million, and capital expenditures of approximately $155 million.
- Management expects continued pressure from wireless pricing competition, declining voice revenue, lower roaming revenue, higher network and systems costs, and increased prepaid competition. Wireline risks include access-line declines, competition from wireless, cable and VoIP providers, and regulatory changes.
- TDS Telecom was approved for $114.5 million of second-round Broadband Stimulus funding, consisting of $85.9 million of federal grants and $28.6 million of TDS funding, for 39 projects in 18 states.
- TDS disclosed revisions to prior-period amounts after identifying errors involving operating revenues and sales-tax liabilities. The cumulative December 31, 2009 effect reduced retained earnings by $13.0 million; comparative 2009 results were revised in the filing. Management determined the errors were immaterial to each originally reported period but significant to the applicable 2010 interim comparisons.
- Consolidated variable-interest entities held or advanced approximately $562.0 million of TDS capital contributions and advances. TDS may provide additional funding, potentially using cash, revolving facilities, or long-term debt.
- Legal proceedings, FCC and universal-service-fund changes, net-neutrality regulation, spectrum availability, technology obsolescence, impairment of licenses or goodwill, litigation, economic conditions, and access to financing remain material risks. The filing states that no material changes were identified in previously disclosed risk factors.
- Management reported effective disclosure controls as of June 30, 2010 and no material changes in internal control over financial reporting during the quarter.
Important Facts for Investors to Verify
- Reconcile the 2010 earnings decline with U.S. Cellular’s higher network, customer-support, marketing, and systems-related costs.
- Assess whether growth in wireless data revenue can offset continuing voice-pricing pressure, customer mix changes, and lower roaming revenue.
- Review the revised 2009 and first-quarter 2010 financial information and the effect of the revenue and sales-tax accounting errors on comparability.
- Evaluate liquidity after planned 2010 capital expenditures of approximately $755 million across U.S. Cellular and TDS Telecom, including the Broadband Stimulus-related funding commitment.
- Monitor FCC, USF, intercarrier-compensation, net-neutrality, and Broadband Stimulus developments and their effects on revenue and competition.
- Review the funding obligations and performance of consolidated wireless spectrum entities and the potential for additional capital contributions.
- Confirm the status of the $250 million TDS share-repurchase authorization, under which $216.0 million remained available at June 30, 2010.