Business context and reporting period
Shenandoah Telecommunications Company (Shentel) filed this unaudited Form 10-Q for the three months ended March 31, 2018. Its operations are reported in Wireless, Cable, Wireline and Other. Wireless service is primarily provided through its Sprint affiliate relationship.
Financial results and liquidity
| Metric | Q1 2018 | Q1 2017 / comparison |
|---|---|---|
| Operating revenue | $151.7 million | $153.9 million; down 1.4% |
| Operating income | $14.3 million | $10.7 million; up 34.4% |
| Net income | $4.8 million | $2.3 million |
| Diluted EPS | $0.10 | $0.05 |
| Operating margin | 9.5% | 6.9% |
| Net cash from operations | $60.9 million | $24.5 million |
| Capital expenditures | $24.4 million | $38.6 million |
| Cash and cash equivalents, March 31 | $49.4 million | $78.6 million at December 31, 2017 |
| Gross debt, March 31 | $824.4 million | $836.5 million at December 31, 2017 |
Operating expenses fell 4.1% to $137.4 million. The company reported $8.0 million of comprehensive income from a $3.1 million after-tax unrealized gain on its interest-rate hedge in addition to net income. Reported operating and net margins were approximately 9.5% and 3.2%, respectively.
Cash used in investing was $76.1 million, including the $52.0 million Sprint territory expansion payment; cash used in financing was $13.9 million. Net cash declined $29.1 million during the quarter. The company reported covenant liquidity of $122.8 million against a $25 million minimum, a leverage ratio of 2.95 against a 3.75 maximum, and debt-service coverage of 3.58 against a 2.00 minimum. Gross debt carried an annualized weighted average interest rate of approximately 4.02%.
Material changes versus the prior period
- Revenue comparisons are affected by adoption of Topic 606 on January 1, 2018 using the modified retrospective method. As reported, revenue fell 1.4%; management stated revenue would have risen about $2.0 million excluding the standard’s effects. Topic 606 changed the accounting for Sprint reimbursements and handset transactions, including recording certain equipment sales gross and deferring certain costs. Adoption increased opening retained earnings by $50.0 million.
- Operating income improved despite slightly lower reported revenue. Net income more than doubled, while interest expense rose $0.2 million to $9.3 million, reflecting borrowing and higher LIBOR, partly offset by a credit amendment.
- Wireless revenue declined 4.4% as reported, but management attributed much of the difference to Topic 606; excluding its effects, wireless revenue was down $0.9 million. Subscriber growth and lower churn were reported. Cable revenue increased 9.3%, while Wireline revenue increased 2.9% and operating income declined 5.9%.
- Adjusted OIBDA was $68.7 million versus $73.5 million; Continuing OIBDA was $59.6 million versus $64.6 million. These are company-defined non-GAAP measures and include adjustments, including the waived Sprint management-fee benefit.
Outlook, commentary, risks and unusual items
- The company budgeted approximately $163 million of capital expenditures for 2018, including $103 million for Wireless, primarily network upgrades and expansion. Management said cash, operating cash flow and expected credit-facility availability should fund planned spending and obligations for at least the next 12 months, while cautioning that cash generation and borrowing access are not assured.
- Effective February 1, Shentel paid $52.0 million for rights to serve Sprint territory covering approximately 1.1 million additional population points, with network build-out requirements. It also held an option, expiring in two years, to acquire certain site equipment for up to an additional $5.0 million.
- A February credit amendment reduced rates on certain loans by approximately 50 basis points and permitted up to $1.5 million in annual charitable contributions to the Shentel Foundation.
- Approximately 59% of consolidated revenue was associated with wireless service to Sprint. Wireless operations depend on Sprint for functions including billing, customer care and collections. The company also identified competition, demand, regulation, technology, labor and financing conditions as risks.
- Debt is variable-rate; a 1 percentage-point rate increase was estimated to add about $8.0 million in annual interest expense before swaps. Swaps cover about half of variable-rate debt; approximately $412.2 million was unprotected at quarter-end.
- Management said disclosure controls remained ineffective because previously identified material weaknesses in internal control over financial reporting had not been remediated. Management nevertheless concluded the interim financial statements fairly stated the company’s financial position and results in all material respects.
- The filing gives no specific earnings or revenue guidance. It notes that a material lease right-of-use asset and liability are expected upon adoption of the new lease standard in 2019, but the impact assessment was incomplete.
Important facts for investors to verify
- How Topic 606 changes affect period-to-period revenue, expenses and the interpretation of the $50.0 million retained-earnings adjustment.
- Progress, capital needs and subscriber economics in the new Sprint territory, including required network build-out and whether the equipment option is exercised.
- Sprint’s ongoing role in Shentel’s revenue and operations, and the expected duration and economics of waived management fees.
- Debt maturities, covenant headroom and sensitivity to rising rates, including the protection provided by swaps.
- Remediation and testing of the disclosed material weaknesses in internal control.