Verizon Communications Inc. — Q1 2011 Form 10-Q
Reporting period: Three months ended March 31, 2011; comparisons are with Q1 2010 unless stated otherwise. Verizon reports Domestic Wireless and Wireline. The statements are unaudited. Verizon owns 55% of Verizon Wireless; Vodafone’s 45% share is reported as noncontrolling interest.
Financial performance
| Metric | Q1 2011 | Q1 2010 | Change |
|---|---|---|---|
| Operating revenue | $26.990 billion | $26.913 billion | +0.3% |
| Operating income | $4.453 billion | $4.441 billion | +0.3% |
| Operating margin | 16.5% | 16.5% | Flat |
| Net income, consolidated | $3.264 billion | $2.318 billion | +40.8% |
| Net income attributable to Verizon | $1.439 billion | $443 million | +$996 million |
| Diluted earnings per share | $0.51 | $0.16 | +$0.35 |
| Operating cash flow | $5.035 billion | $7.084 billion | -$2.049 billion |
| Capital expenditures | $4.363 billion | $3.423 billion | +$940 million |
| Free cash flow | $672 million | $3.661 billion | -$2.989 billion |
Net income attributable to Verizon rose sharply in part because Q1 2010 included a $1.0 billion one-time, non-cash tax charge related to the Health Care Act. The effective tax rate was 15.9% versus 41.2%; the filing attributes the difference primarily to that prior-year charge and Verizon Wireless noncontrolling interest.
Segments and operating trends
- Domestic Wireless: Revenue increased 10.2% to $16.881 billion; operating income was $4.351 billion, up 0.4%. Segment EBITDA rose 1.7% to $6.250 billion, while EBITDA service margin declined to 43.7% from 45.6%. Connections grew 6.1% to 104.0 million. Retail postpaid data ARPU increased 17.3% to $20.51; total data revenue was $5.5 billion, or 38.1% of service revenue. Higher smartphone sales and data growth supported revenue, while device costs, network expenses, and commissions pressured margins.
- Wireline: Revenue declined 2.2% to $10.147 billion, while operating income increased to $288 million from $121 million. Segment EBITDA rose 9.7% to $2.395 billion and EBITDA margin improved to 23.6% from 21.1%. FiOS Internet subscribers reached 4.3 million and FiOS TV subscribers 3.7 million. Strategic services revenue grew 12.8%; declines in voice connections and Global Wholesale revenue offset growth areas.
Consolidated revenue was nearly flat despite wireless growth. Q1 2010 included $1.278 billion of revenue from operations subsequently divested, including the telephone access-line business spun off to Frontier in July 2010. This makes reported year-over-year comparisons less directly comparable.
Cash, debt, and liquidity
- Cash and cash equivalents were $14.007 billion at March 31, 2011, up from $6.668 billion at year-end. Current assets were $29.923 billion and current liabilities $32.747 billion.
- Debt totaled $61.197 billion: $11.823 billion maturing within one year and $49.374 billion long-term, versus $52.794 billion at December 31, 2010. The filing reports a debt-to-debt-plus-equity ratio of 61.1%, up from 57.8%.
- Q1 financing included $6.44 billion in long-term borrowing proceeds and a $2.384 billion increase in short-term obligations. March note issuances totaled $6.25 billion principal, with approximately $6.19 billion net proceeds.
- Verizon had approximately $6.1 billion of unused capacity under its $6.2 billion credit facility at quarter-end; the facility was amended in April to extend maturity to October 2014 and reduce costs. The company reported compliance with debt covenants.
- Operating cash flow declined year over year, primarily reflecting higher wireless customer acquisition and retention payments, pension contributions, and the absence of cash flow from divested operations. Capital expenditures were 16.2% of revenue versus 12.7%.
Outlook, commentary, risks, and unusual items
- Management expected 2011 capital expenditures to be similar to 2010’s $16.5 billion. It expected LTE coverage to reach more than 175 markets and over 185 million people by year-end 2011.
- Verizon said it expected continued wireless service and data revenue growth, supported by customer additions and greater data-device penetration. It also cited competition, technology substitution, and continuing losses in traditional wireline voice as challenges.
- The Terremark acquisition closed in April 2011, after quarter-end, for approximately $1.4 billion in cash; Terremark had approximately $0.6 billion of debt. Purchase-price allocation was not yet available. The filing said the deal was intended to strengthen cloud and managed-hosting offerings.
- Free cash flow fell substantially as operating cash flow decreased and capital spending rose. Verizon stated that internally generated funds were expected to remain the primary source for capital spending, with access to external financing also available.
- Tax authorities had not completed significant examinations; unrecognized tax benefits were $3.1 billion. Verizon said the liability could change significantly over the next 12 months, but it could not estimate a range.
- Legal matters included an Idearc-related lawsuit seeking over $9 billion in damages and an appeal concerning intelligence-gathering litigation. Verizon said it did not expect pending legal and regulatory matters to materially affect financial condition, though they could materially affect results in a particular period.
- Other disclosed exposures include environmental remediation, potential regulatory refunds or penalties, labor matters, supplier disruption, cyber and network security, interest and currency movements, and the effects of competition and economic conditions. The March 2011 Japan earthquake and tsunami had no significant first-quarter adverse impact; future supply effects remained under assessment.
Important facts for investors to verify
- Whether wireless revenue and subscriber growth can translate into improved margins given rising device, network, and acquisition costs.
- Whether cash generation recovers after the decline in operating cash flow and free cash flow, and how planned capital spending affects funding needs.
- The composition, refinancing schedule, and cost of the higher reported debt, including short-term maturities and the impact of future borrowing.
- The comparability of year-over-year results after the Frontier spin-off and other divestitures, and the effect of the prior-year $1.0 billion tax charge.
- The eventual purchase accounting, financing impact, and operating contribution of the Terremark acquisition.
- Developments in the Idearc litigation, tax examinations, environmental remediation, and other contingencies.