Business context and reporting period
The filing is CenturyLink, Inc.’s unaudited Form 10-Q for the quarter and six months ended June 30, 2012; the filing names CenturyLink, not Lumen Technologies, as the registrant. The company provided wireline, broadband, wholesale, enterprise-network, and data-hosting services. Results include Qwest from April 1, 2011 and Savvis from July 15, 2011, so comparisons—particularly for the six-month period—are affected by acquisition timing.
Key financial metrics
Amounts are in millions of dollars, except per-share data and percentages.
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Revenue | 4,612 | 4,406 | 9,222 | 6,102 |
| Operating income | 657 | 480 | 1,311 | 944 |
| Net income | 74 | 115 | 274 | 326 |
| Diluted EPS | $0.12 | $0.19 | $0.44 | $0.72 |
| Operating margin | 14.2% | 10.9% | 14.2% | 15.5% |
- Q2 revenue rose 4.7%, while net income fell 35.7%. Management attributed the revenue comparison in part to Savvis; legacy CenturyLink revenue declined $72 million for the quarter. Legacy-service declines, including access-line losses, weighed on revenue.
- Q2 interest expense was $335 million versus $280 million. A $202 million Q2 loss on early debt retirement substantially increased other expense; the six-month debt-retirement loss was $194 million, reflecting a first-quarter gain that partly offset second-quarter losses.
- Six-month operating cash flow was $2.799 billion, compared with $2.018 billion. Capital spending on property, plant, equipment, and capitalized software was $1.305 billion versus $790 million. Cash dividends paid were $905 million; the declared dividend was $0.725 per share per quarter.
- At June 30, cash was $281 million. Total debt was $21.585 billion, including $1.903 billion of current maturities; long-term debt excluding current maturities was $19.682 billion. The company reported $1.8 billion of unused revolving-credit capacity and a $1.4 billion working-capital deficit. It said it expected cash and operating cash flow to cover obligations, capital expenditures, and dividends, with the revolver available as needed.
- Property, plant and equipment and capitalized software spending totaled $1.305 billion for the first half. Management estimated full-year 2012 capital expenditures of $2.8–$2.9 billion.
Material changes versus the prior comparable period
- Q2 operating income increased $177 million, but higher interest expense and debt-retirement losses drove net income down $41 million. The six-month net-income decline was $52 million despite substantially higher reported revenue, which reflects the acquisition-driven change in the comparison base.
- Strategic-services revenue increased to $2.076 billion from $1.726 billion in Q2; legacy-services revenue declined to $2.100 billion from $2.280 billion. For the six months, total segment margin was 54%, down from 58%; Q2 segment margin was 53%, down from 56%.
- Access lines declined 6% year over year to 14.145 million, while broadband subscribers increased 4% to 5.763 million. Management forecast 2012 access-line losses of 5.7%–6.3%. It noted that it revised its broadband-subscriber counting methodology in Q2 to include business and wholesale subscribers.
- Operating cash flow increased, while investing outflows rose with higher capital expenditures. Financing activities used $1.473 billion, compared with providing $717 million in the prior-year period, mainly due to debt repayments, tender premiums, and higher dividends.
Outlook, commentary, risks, and unusual items
- Management expected to maintain the $2.90 annual dividend per share, subject to board discretion and cash needs. It cautioned that dividends are not guaranteed and could change.
- Qwest integration expenses were expected to total less than $800 million, including approximately $440 million incurred through June 30, 2012; related integration capital expenditures were expected to approximate $200 million, with approximately $50 million incurred. Management warned that future quarterly integration costs could vary substantially.
- A change in capitalized-labor rates was estimated to reduce first-half operating expenses by $20–$30 million and increase net income by approximately $12–$18 million, or $0.02–$0.03 per share. The company expected a full-year operating-expense reduction of $30–$50 million from this change. Revised equipment-life and salvage-value estimates added $13 million of first-half depreciation expense.
- The company planned to sell certain wireless spectrum, classified as held for sale at quarter-end; sales were subject to regulatory approval and might not close within the year. A building sale generated $133 million of proceeds, but the $16 million gain was deferred and is to reduce rent expense over the 10-year lease.
- Major risks include persistent competition and legacy-service/access-line declines; regulatory changes to intercarrier compensation and universal-service funding; acquisition integration and valuation uncertainty; refinancing and leverage; pension funding; and litigation. KPNQwest trustees sought approximately €4.2 billion (about $5.3 billion); the company had not accrued a liability and said the outcome could not be estimated. A separate Cargill/Citibank claim of approximately €219 million (about $275 million) was denied by a court, with an appeal pending.
- Approximately 13,000 employees, or 28% of the workforce, were covered by collective bargaining agreements expiring October 6, 2012. The company reported compliance with its debt covenants at June 30 and effective disclosure controls.
Important facts for investors to verify
- Reconcile reported growth with the acquisition timing and assess underlying trends in legacy services, access lines, and strategic products.
- Track debt maturities, refinancing costs, covenant headroom, and the ability to sustain the dividend alongside planned capital spending.
- Assess integration spending and expected benefits, including the effects of the capitalized-labor accounting change and remaining Savvis purchase-price valuation work.
- Monitor 2012 capital expenditures, access-line losses, spectrum-sale approvals and proceeds, and regulatory developments affecting wholesale access revenue.
- Follow the status and potential financial exposure of KPNQwest and other litigation, pension contributions, and the October 2012 labor-contract negotiations.