ARRAY DIGITAL INFRASTRUCTURE, INC. quarterly report, Q2 FY2016

Full document

Filing and business context

Entity discrepancy: The request identifies ARRAY DIGITAL INFRASTRUCTURE, INC., but the supplied Form 10-Q is for United States Cellular Corporation (U.S. Cellular), an 83%-owned subsidiary of Telephone and Data Systems, Inc. This summary reflects the filing provided.

The unaudited report covers the quarter and six months ended June 30, 2016, compared with the corresponding 2015 periods. U.S. Cellular operates wireless markets in 23 states and reported approximately 5.0 million connections.

Financial and operating results

  • Second-quarter revenue: $980 million, essentially unchanged year over year. Service revenue fell 8% to $762 million, while equipment sales rose 44% to $218 million.
  • Second-quarter earnings: Operating income was $18 million versus $8 million; net income was $27 million versus $20 million. Net income attributable to U.S. Cellular shareholders was $27 million, or $0.32 per diluted share, versus $19 million, or $0.23 per share.
  • First-half results: Revenue was $1.938 billion versus $1.941 billion. Operating income was $17 million versus $259 million; net income was $37 million versus $185 million. The prior-year comparison benefited substantially from gains on tower/business and license transactions.
  • Operating measures (first half): Postpaid net additions increased to 81,000 from 26,000; postpaid churn improved to 1.24% from 1.41%. Postpaid connections ended the period at 4.49 million. Smartphone penetration reached 77%, up from 69% a year earlier.
  • Customer revenue trends: Second-quarter postpaid ARPU was $47.37 versus $53.62; postpaid ABPU, a non-GAAP measure that includes equipment installment plan billings, was $56.09 versus $58.06. Management attributed lower service revenue per customer to price competition, plan discounts, and growth in lower-revenue connected devices.
  • Cash flow and investment: First-half operating cash flow was $261 million versus $423 million. Cash capital expenditures were $177 million, resulting in reported free cash flow of $84 million versus $164 million. Equipment installment plan receivables used $94 million of cash in the period.
  • Liquidity and debt: Cash and equivalents were $621 million at June 30, down from $715 million at year-end 2015. Long-term debt was $1.623 billion, with an $11 million current portion. A new $300 million revolving facility matures in June 2021; $283 million was available after letters of credit, with no borrowings outstanding. The company reported covenant compliance.

Material changes and notable items

  • Equipment installment plan sales rose to $162 million in the quarter from $69 million; these plans raise equipment sales but can reduce service revenue and increase receivables.
  • First-half 2015 results included a $108 million gain from a tower sale and $123 million of net gains on license sales and exchanges. In first-half 2016, license gains were $9 million.
  • Interest expense increased to $56 million for the first half from $40 million, primarily reflecting $300 million of senior notes issued in November 2015 and a $225 million term-loan draw in July 2015.
  • U.S. Cellular paid the FCC a $143 million deposit in June to establish bidding eligibility in the 600 MHz spectrum auction. Additional payments could be substantial if it wins licenses.

Outlook, risks, and contingencies

  • Management expected 2016 capital expenditures of approximately $500 million for network coverage and capacity, VoLTE deployment, stores, and business systems. It expected negative free cash flow in 2016, citing equipment installment plan receivables and significant capital spending.
  • Management planned to continue growing revenues through customer additions, smartphone adoption, and data monetization. VoLTE rollout was planned to begin in one market in 2017. No specific revenue or earnings guidance was provided.
  • Key risks cited include intense competition, pricing pressure, access to spectrum and capital, debt and covenant obligations, roaming trends, regulatory uncertainty, technology execution, and cyber and information-security threats.
  • FCC auction anti-collusion restrictions could limit certain communications and business activity. The FCC’s net-neutrality rules were upheld by an appeals court in June 2016, but further proceedings were expected.
  • The company said existing cash, available credit, and expected operating and investing cash flows should cover normal needs and debt service for the coming year, while warning that future financing availability and terms were not assured. Federal USF support remained at 60% of baseline pending further FCC action.

Important facts for investors to verify

  1. Confirm the intended issuer: the supplied filing is U.S. Cellular’s, not ARRAY DIGITAL INFRASTRUCTURE, INC.’s.
  2. Review the scale and sustainability of service-revenue declines and the effects of pricing, device financing, and lower-revenue device additions.
  3. Assess working-capital demands from equipment installment receivables and the company’s expectation of negative 2016 free cash flow.
  4. Track spectrum auction outcomes, potential payment obligations, and the timing and gains from pending license transactions.
  5. Compare reported earnings with prior-year results after considering the substantial 2015 asset-sale and license-exchange gains.