Charter Communications, Inc. — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015; comparisons are with the corresponding 2014 periods. Amounts are in U.S. dollars unless noted. Charter is a U.S. cable operator providing video, Internet, voice, commercial services and advertising, with approximately 6.4 million residential and commercial customer relationships.
Financial performance and key metrics
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Revenue | $2.430 billion | $2.259 billion | $4.792 billion | $4.461 billion |
| Income from operations | $269 million | $236 million | $518 million | $476 million |
| Operating margin | 11.1% | 10.4% | 10.8% | 10.7% |
| Net loss | $122 million | $45 million | $203 million | $82 million |
| Loss per share, diluted | $1.09 | $0.42 | $1.82 | $0.77 |
| Adjusted EBITDA (non-GAAP) | $848 million | $795 million | $1.648 billion | $1.562 billion |
| Operating cash flow | $531 million | $632 million | $1.059 billion | $1.209 billion |
| Free cash flow (non-GAAP) | $158 million | $70 million | $259 million | $144 million |
| Capital expenditures | $432 million | $570 million | $783 million | $1.109 billion |
- Q2 revenue increased 8%; first-half revenue increased 7%. Internet revenue rose 17% in Q2 and 16% year to date, while commercial revenue rose 14% in both periods. Video revenue rose 3% in Q2 and 4% year to date despite a decline in residential video customers. Voice revenue declined 7% in Q2 and 9% year to date.
- Adjusted EBITDA increased 7% in Q2 and 6% year to date. Management attributed growth to higher residential and commercial revenue, partly offset by programming, transition and other operating cost increases.
- Net loss widened, principally reflecting higher interest expense and a $128 million loss on debt extinguishment in 2015. Interest expense was $229 million in Q2 and $518 million for the first half, versus $210 million and $421 million, respectively.
- Operating cash flow fell $101 million in Q2 and $150 million year to date. Free cash flow improved, helped by lower capital spending; the first-half comparison also reflects working-capital movements and higher cash interest.
Balance sheet, debt and liquidity
- At June 30, 2015, cash and cash equivalents were $30 million, long-term debt was $13.896 billion, total assets were $17.319 billion and shareholders’ equity was a deficit of $31 million. Cash availability under credit facilities was approximately $1.1 billion.
- Debt declined from $21.023 billion at December 31, 2014, largely reflecting repayment of debt associated with the terminated Comcast transactions. The prior-year-end balance included about $7.0 billion of that debt, repaid in April 2015. The filing reports $13.9 billion of debt at June 30, including $3.4 billion of credit-facility debt and $10.5 billion of notes.
- First-half cash paid for interest was $545 million, up from $401 million. Management said it believed cash, free cash flow, revolving-credit availability and capital-market access would be sufficient for projected operating needs, while noting refinancing depends on market conditions.
- Free cash flow is a company-defined non-GAAP measure: operating cash flow less capital expenditures and changes in accrued capital-expenditure liabilities. Adjusted EBITDA is also non-GAAP and should not be treated as a substitute for GAAP results or cash flow.
Material changes and transactions
- On May 23, 2015, Charter agreed to the TWC transaction, with estimated enterprise value of approximately $79 billion, including cash, equity and TWC debt to be assumed. The agreement provides for a cash-and-stock consideration structure, with an alternative higher-cash election for TWC shareholders.
- Under the Bright House agreement, Charter would pay approximately $2 billion cash and issue preferred units with a $2.5 billion face amount and a 6% coupon, plus approximately 34.3 million exchangeable common units valued at about $6 billion.
- Liberty agreed to invest $4.3 billion in New Charter toward the TWC transaction and to purchase $700 million of common stock in connection with Bright House. Charter expected to fund remaining cash consideration with debt. These transactions remained subject to conditions and approvals.
- In July 2015, after quarter-end, subsidiaries issued $15.5 billion of senior notes and entered into $3.8 billion of term loans to partially finance the TWC transaction. Proceeds were placed in escrow, subject to closing conditions. Charter also disclosed remaining financing commitments, including approximately $5.2 billion of additional facilities/notes and a $1.7 billion revolving facility; a $4.3 billion bridge facility could apply under the higher-cash election scenario.
- The proposed Comcast transactions were terminated in April 2015 after Comcast and TWC ended their merger agreement. Charter used escrowed proceeds to settle related debt obligations, contributing to the debt repayments and extinguishment loss.
Outlook, management commentary and risks
- Charter expected 2015 capital expenditures of approximately $1.7 billion, excluding acquisition-related transition costs. Actual spending would depend in part on transaction planning and business growth.
- Management cited customer growth, bundled services, product upgrades, improved customer service and commercial sales as growth priorities. It cautioned that it could not assure revenue growth or maintenance of historical margins.
- Programming costs increased 11% in Q2 and 10% year to date. Management expected continued increases, including from contractual rate adjustments, retransmission-consent charges, sports programming and media consolidation, and said it might not be able to pass costs on fully without risking customer losses.
- Key risks include competition from satellite, telephone, wireless and internet-based providers; video customer losses and cord-cutting; customer-service execution; programming-cost pressures; transaction approvals, financing, integration and synergy realization; and substantial leverage, interest costs and covenant/distribution restrictions.
- Patent infringement suits and other ordinary-course litigation remain outstanding. Charter said it could not predict outcomes or reasonably estimate a possible loss range for the patent matters. A shareholder complaint relating to the TWC transaction sought injunctive and other relief; Charter and the other defendants stated they would defend vigorously.
- In July 2015, Charter elected a federal tax classification change expected to create a tax-basis step-up; the amount and allocation were not yet determined, and the effect was expected to be recorded as a discrete tax event in Q3 2015.
Important facts for investors to verify
- Whether the TWC and Bright House transactions received required approvals, closed on the disclosed terms, and achieved expected financing, integration and synergy outcomes.
- The final post-transaction debt burden, interest expense, leverage and liquidity, including how escrowed financing and remaining commitments were used.
- Whether subscriber trends—especially video losses and Internet/commercial growth—continued, and whether pricing and bundling offset programming-cost inflation without worsening churn.
- Actual 2015 capital expenditures versus the approximately $1.7 billion outlook, excluding acquisition-related transition costs.
- The subsequent tax impact of the July 2015 entity-classification election and the status and potential exposure of pending litigation.
- Reconciliation and assumptions behind the company’s non-GAAP Adjusted EBITDA and free cash flow measures against GAAP results and cash flows.