ADT Inc. — Q2 2019 Form 10-Q
Business and period: ADT provides monitored security and home and business automation services in the U.S. and Canada. This unaudited quarterly report covers the quarter and six months ended June 30, 2019; comparisons are with the same 2018 periods. ADT reported one operating segment and served more than 7 million recurring-revenue customers.
Key financial results
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Revenue | $1,283.7 million | $1,131.5 million | $2,526.8 million | $2,247.9 million |
| Operating income | $93.1 million | $73.9 million | $183.6 million | $145.3 million |
| Operating margin | 7.3% | 6.5% | 7.3% | 6.5% |
| Net loss | $(104.1) million | $(66.7) million | $(170.5) million | $(224.1) million |
| Adjusted EBITDA | $630.2 million | $610.4 million | $1,251.6 million | $1,230.2 million |
Q2 revenue rose 13%, while operating income increased about $19 million. Monitoring and related services revenue grew 6% to $1,085.4 million; installation and other revenue rose to $198.3 million from $108.3 million, largely reflecting equipment sold outright and acquisition-related activity. Q2 net loss widened principally because of a $66.9 million loss on debt extinguishment and lower other income than in 2018. For the first half, net loss narrowed despite higher debt-extinguishment costs and lower other income.
At June 30, recurring monthly revenue (RMR) was $351.4 million, up 4% from $338.1 million a year earlier; management attributed about 2% of the increase to the Red Hawk acquisition. Gross customer revenue attrition was 13.3%, versus 13.5% a year earlier, excluding DIY customers in both figures. These are company-defined operating measures.
Cash flow, debt and liquidity
- First-half operating cash flow was $979.2 million, compared with $962.8 million. Investing cash outflow was $787.6 million, versus $696.1 million.
- Company-defined free cash flow was $266.9 million, down from $289.3 million. It deducts dealer account purchases, subscriber system assets and capital expenditures from operating cash flow; it is a non-GAAP measure.
- Financing cash outflow was $515.4 million, compared with $705.4 million of financing cash inflow in the prior-year period, which included $1.4 billion of IPO proceeds. First-half cash and cash equivalents declined to $43.1 million from $363.2 million at year-end 2018.
- Total debt, including capital lease obligations, had a carrying value of approximately $9.8 billion. ADT reported $301 million of available revolving-credit capacity and said it was in compliance with its debt covenants. Current maturities of long-term debt were $329.9 million.
- ADT issued $750 million of 5.25% first-lien notes due 2024 and $750 million of 5.75% first-lien notes due 2026. Proceeds, cash and revolver borrowings supported redemptions of $1.3 billion of 9.25% Prime Notes and repayment of $500 million of term-loan principal. The refinancing generated $88.5 million of first-half debt-extinguishment losses.
Changes, outlook and risks
- Revenue growth reflected acquisitions, higher average pricing and equipment sales, partially offset by customer attrition and lower volume of additions. ADT acquired Red Hawk in December 2018 and spent $77 million, net of cash acquired, on business acquisitions in the first half of 2019.
- Management said cash, operating cash generation and revolver capacity should meet liquidity needs over the next 12 months and longer term, while emphasizing that ADT is highly leveraged. The filing provides no overall revenue or earnings guidance.
- AT&T plans to retire its 3G network by the first quarter of 2022; CDMA service is also scheduled for retirement in 2022. About 3.6 million customer sites used 3G or CDMA equipment. ADT estimated aggregate net conversion expenditures of $200–$325 million over three years, including $25–$35 million of net costs in 2019. Plans were not finalized; the company cited possible cost sharing and opportunities to sell products and services during conversion.
- Legal matters include shareholder litigation related to the 2018 IPO, consumer and employment cases, and investigations concerning electronic-waste practices. The filing says the accrual for ongoing claims outside insurance programs was not material; the accrual for claims within insurance programs was $76 million. Outcomes for several matters could not be estimated clearly.
- ADT substantially completed its $150 million share-repurchase authorization by June 30, repurchasing about 24 million shares for approximately $150 million. Its quarterly dividend was $0.035 per share; some dividends were settled in shares through a dividend-reinvestment plan.
- After quarter-end, Apollo, ADT’s controlling stockholder, informed the company of its intent to pledge its shares under a proposed non-recourse margin loan. ADT said it would not be a party to or have obligations under the loan; pledged shares could be subject to foreclosure on default. The company did not independently verify the disclosed information.
Important facts for investors to verify
- Review the debt maturity schedule, refinancing terms, interest-rate exposure and available revolver capacity, particularly given low cash balances and substantial leverage.
- Track the cost, timing and customer-retention effects of the 3G/CDMA radio conversion against the estimated $200–$325 million net expenditure range.
- Assess whether recurring-revenue growth, pricing and improved attrition can persist, and separate acquisition and equipment-sale contributions from underlying organic trends.
- Compare GAAP results with Adjusted EBITDA and free cash flow definitions and reconciliations; both non-GAAP measures exclude items affecting reported earnings or cash availability.
- Monitor developments in the disclosed litigation and investigations, and any effect of Apollo’s proposed share-backed margin loan.