Lumen Technologies, Inc. quarterly report, Q1 FY2011

Business context and reporting period

CenturyLink, Inc. (the filing’s registrant; the request metadata identifies Lumen Technologies, Inc.) filed this unaudited Form 10-Q for the quarter ended March 31, 2011. The results cover CenturyLink before its April 1, 2011 acquisition of Qwest; Qwest’s results are not consolidated in the reported quarter.

CenturyLink provided voice, data, network access and other communications services and reported one operating segment. After the Qwest acquisition, management expected to report three segments beginning in the second quarter of 2011.

Key financial metrics

Operating margin was approximately 27.4%, versus 30.3% a year earlier. Net margin attributable to CenturyLink was approximately 12.4%, versus 14.0%. At March 31, cash was $269.7 million; current assets were $1.141 billion and current liabilities $1.073 billion (current ratio approximately 1.06). Long-term debt was $7.168 billion, plus $11.5 million of current maturities. Fair value of long-term debt was estimated at $8.0 billion.

Changes versus prior period

• Revenue declined 5.8%; operating income fell 14.8%, and attributable net income declined 16.4%.
• Voice revenue fell $67.7 million, and network access revenue fell $52.7 million, reflecting access-line losses, lower rates and usage, and reduced Universal Service Fund revenue.
• Data revenue rose $30.6 million, mainly from special access and DSL growth.
• Operating expenses decreased $23.8 million overall, but depreciation and amortization increased $15.4 million. Interest expense decreased $10.7 million, mainly due to lower average debt and borrowing rates.
• Operating cash flow increased to $669.8 million, including favorable working-capital movements; the company also contributed $100 million to pension plans in the quarter.

Outlook, risks and unusual items

• Management estimated 2011 access-line losses of 7.0%–7.5% in legacy incumbent markets and expected continued declines in access rates and usage.
• 2011 capital expenditures were budgeted at approximately $2.2 billion, including Qwest-related requirements. Management expected to reduce debt by $1.5–$2.0 billion in 2011 and 2012 relative to year-end 2010 pro forma combined debt, excluding debt for the pending Savvis acquisition.
• Management expected to maintain the annual dividend of $2.90 per share, subject to board discretion.
• Qwest merger consideration was estimated at $12.282 billion. The preliminary purchase-price allocation included $12.637 billion of goodwill and was subject to change. CenturyLink estimated $800 million–$1.0 billion of operating transaction and integration costs, including $55 million of expected second-quarter transaction costs, plus approximately $200 million of nonrecurring integration capital costs.
• On April 26, CenturyLink agreed to acquire Savvis for approximately $2.5 billion in cash and stock and assume or refinance approximately $0.7 billion of net debt. Closing was anticipated in the second half of 2011, subject to approvals. Up to $2 billion of bridge financing was committed.
• Following Qwest’s acquisition, S&P downgraded CenturyLink’s long-term debt to BB; Moody’s affirmed Baa3 and Fitch affirmed BBB-. After the Savvis announcement, Moody’s retained Baa3 but revised its outlook to negative.
• Material risks include difficult and costly Qwest/Embarq integration, failure to achieve expected synergies, customer or employee losses, urban-market access-line declines, possible contract terminations, use limitations on Qwest’s $5.5 billion of net operating losses, and litigation. Plaintiffs in KPNQwest-related matters sought billions of dollars; the ultimate outcomes are uncertain.

Important facts for investors to verify

• Confirm the issuer identity: this filing is for CenturyLink, Inc., not a filing under the Lumen Technologies name.
• Track post-acquisition Qwest results, purchase-price allocation, integration costs, realized savings and debt reduction against management’s estimates.
• Monitor access-line and network-access revenue trends, capital spending, cash generation, pension funding and dividend capacity.
• Verify Savvis closing status, financing, ratings impacts and integration costs, as well as developments in significant litigation and contractual termination rights.
• The filing’s combined-company pro forma Q1 2011 results were revenue of $4.474 billion and net income of $391 million; these unaudited figures are illustrative, include adjustments, and do not reflect potential synergies.