Verizon Communications Inc. — Q3 2011 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2011; comparisons are to the same 2010 periods unless noted. Verizon operates Domestic Wireless and Wireline. Verizon owns 55% of Verizon Wireless; Vodafone’s 45% interest is reflected as noncontrolling interest.
Key financial results
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Operating revenue | $27.913B | $26.484B | $82.439B | $80.170B |
| Operating income | $4.647B | $3.383B | $13.992B | $8.234B |
| Net income | $3.542B | $2.698B | $10.410B | $5.569B |
| Net income attributable to Verizon | $1.379B | $0.659B | $4.427B | $(0.090)B |
| Diluted EPS attributable to Verizon | $0.49 | $0.23 | $1.56 | $(0.03) |
| Dividends declared per share | $0.50 | $0.4875 | $1.475 | $1.438 |
Q3 operating margin was approximately 16.6%, versus 12.8% a year earlier; nine-month operating margin was approximately 17.0%, versus 10.3%. The comparisons reflect substantially lower pension, severance and other non-operational charges in 2011, particularly in the nine-month period.
- Segments: Q3 Domestic Wireless revenue rose 9.1% to $17.726B; segment operating income increased 6.1% to $5.149B. Wireless EBITDA service margin was 47.8%, up from 47.2%. Wireline revenue fell 1.3% to $10.149B; operating income fell to $53M from $187M, with a 0.5% operating margin versus 1.8%. For nine months, Wireless revenue increased 9.8% to $51.900B and Wireline revenue declined 1.3% to $30.543B.
- Cash flow: Nine-month operating cash flow was $21.512B, down $3.602B. Capital expenditures were $12.546B, up $0.802B, leaving reported free cash flow of $8.966B, down $4.404B. Cash and cash equivalents ended at $10.324B, up from $6.668B at year-end 2010. Dividends paid were $4.139B.
- Debt and liquidity: Debt maturing within one year was $8.630B and long-term debt was $46.285B, or $54.915B total. Debt-to-capital was 58.4%, versus 57.8% at year-end. The $6.2B credit facility had approximately $6.1B of unused capacity and matures October 2014; Verizon reported compliance with all debt covenants.
- Balance sheet: Current assets were $27.770B and current liabilities $34.636B. Total assets were $228.032B and total equity $87.515B.
Material changes and operating developments
- Wireless growth was driven by customer additions, smartphone and data-device sales, and higher data revenue. Q3 wireless data revenue reached $6.1B, 40.6% of service revenue, versus $5.1B and 35.7% a year earlier. Total connections rose 6.5% to 107.7 million; retail postpaid churn improved to 0.94% from 1.07%.
- Wireline strategic services revenue grew 15.6% in Q3, partly reflecting the Terremark acquisition. FiOS Internet subscribers increased 18.8% to 4.616 million and FiOS TV subscribers increased 20.9% to 3.979 million. Offsetting growth were losses in traditional voice connections and declining wholesale revenue.
- Verizon acquired Terremark, a cloud and IT infrastructure provider, in April for $19 per share in cash. Preliminary purchase accounting recorded $1.404B of goodwill; acquired operations were included from closing. Additional cloud software technology was acquired in Q3 for an amount described as not significant.
- Q3 FiOS subscriber growth was constrained by storm-related installation delays and an August work stoppage by union-represented employees. Employees returned to work under the prior labor contract while negotiations continued; enterprise service provisioning was also delayed in August and September.
- Verizon Wireless declared a $10B distribution payable January 31, 2012. Based on current ownership, Verizon expects $5.5B and Vodafone $4.5B; Verizon’s share was included in other current liabilities at quarter-end.
Outlook, risks and unusual items
- Management expected 2011 consolidated capital expenditures to be similar to 2010 spending of $16.5B. It expected LTE coverage to exceed 175 markets by year-end 2011; as of October 20, coverage was in 165 markets and reached more than 186 million people. No specific earnings or revenue guidance is provided in the filing.
- Management cited continued wireless data, FiOS and strategic-services growth, alongside declining traditional wireline voice and wholesale activity. It warned that renewed economic pressure could affect revenue and profitability, and noted continued pressure on data ARPU from customers optimizing data plans.
- Non-operational pension, severance and benefit charges were $329M in the first nine months of 2011, versus $5.084B in 2010. The 2010 comparison included substantial pension remeasurement and workforce-reduction charges. A one-time, non-cash $1.0B Medicare Part D tax charge was recorded in Q1 2010.
- Operating cash flow fell, primarily reflecting wireless-device inventory purchases, higher pension contributions and the absence of cash flows from operations divested in 2010. Capital spending increased as Verizon expanded wireless capacity and LTE.
- Risks include competition and technology substitution, economic conditions, labor negotiations, benefit-plan costs, storms and other disasters, network or information-security incidents, financing-market conditions, regulation, and execution of broadband investment and acquisition strategies.
- Verizon said pending legal and regulatory matters were not expected to materially affect financial condition, though they could materially affect results in a particular period. The Idearc litigation trust seeks more than $9B related to the 2006 directories-business spin-off; the company disputed the allegations. Separate surveillance-related class actions remained on appeal. The filing states that reasonably possible losses beyond recorded amounts could not be estimated.
Important facts for investors to verify
- Whether wireless customer, data-revenue and margin growth can offset rising device costs and continued voice-ARPU declines.
- Whether Wireline can stabilize revenue and improve profitability as FiOS and strategic services expand while traditional voice and wholesale businesses contract.
- Progress on the labor negotiations, resolution of FiOS installation backlogs, and any continuing effects of storm-related disruption.
- Cash-flow and debt capacity after capital expenditures, dividends, debt maturities and the announced Verizon Wireless distribution.
- Developments in the Idearc and surveillance litigation, tax examinations, and environmental remediation obligations, for which ultimate exposure is uncertain or not clearly estimable.