VERIZON COMMUNICATIONS INC quarterly report, Q2 FY2017

Verizon Communications Inc. — Q2 2017 Form 10-Q

Reporting period: Three and six months ended June 30, 2017; filed August 3, 2017. Amounts are in U.S. dollars. Verizon operates Wireless and Wireline segments, with media and other activities reported in Corporate and other.

Financial performance and position

Metric	Q2 2017	Q2 2016	Six months 2017	Six months 2016
Operating revenue	$30.548B	$30.532B	$60.362B	$62.703B
Operating income	$8.232B	$4.554B	$15.413B	$12.496B
Net income attributable to Verizon	$4.362B	$0.702B	$7.812B	$5.012B
Diluted EPS	$1.07	$0.17	$1.91	$1.23

Q2 revenue was essentially flat year over year; first-half revenue declined 3.7%. Wireless service revenue fell 6.7% in Q2 and 6.4% for the first half, partly offset by equipment revenue growth.
Reported operating income and net income rose substantially, but comparisons reflect significant special items, notably divestiture gains and prior-year pension charges and debt-redemption costs. Reported operating margin was about 27.0% in Q2 versus 14.9% a year earlier; the filing does not present this as an adjusted margin.
Wireless Q2 revenue was down 1.9% and segment operating income down 7.6%; Wireline revenue increased 1.2%, and segment operating income was $68M versus a $524M loss. Fios revenue was $2.9B, up from $2.8B.
For the six months, operating cash flow was $9.918B, down from $12.908B; capital expenditures were $7.011B. Free cash flow, a non-GAAP measure defined as operating cash flow less capital expenditures, was $2.907B versus $5.635B.
Cash and cash equivalents were $4.583B at June 30, 2017. Current assets were $28.823B and current liabilities $27.758B. Total debt was $117.543B, up from $108.078B at year-end 2016; long-term debt was $116.390B. The $9B credit facility had approximately $8.9B of unused capacity.
Six-month dividends paid were $4.710B; dividends declared were $0.578 per share for Q2. Verizon reported a $3.4B discretionary qualified-pension contribution during the first half.

Material changes versus comparable periods

Wireless weakness reflected lower overage and line-access revenue, customer migration to unsubsidized device-payment plans, and the introduction of unlimited plans. Retail postpaid ARPA declined 7.0% in Q2; retail postpaid connections increased 1.2% year over year, while first-half postpaid net additions fell sharply versus 2016.
Wireline growth was supported by Fios and the February 2017 acquisition of XO; traditional voice and some enterprise and carrier services continued to decline. The 2016 union work stoppage also affected year-over-year cost comparisons.
Verizon completed the Yahoo operating-business acquisition on June 13 for approximately $4.8B and combined it with its media business as Oath. It completed the sale of 23 data-center sites on May 1, receiving net cash proceeds of $3.5B and recording a $1.774B gain on divested businesses in Q2.
First-half investing cash flow shifted to a $9.883B use, versus $2.653B provided in 2016, reflecting acquisitions and lower disposition proceeds. Financing cash flow was $1.668B provided, compared with $17.174B used in 2016.

Outlook, commentary, risks and unusual items

Management emphasized network investment, customer retention, media and telematics growth, and monetization of network capabilities. No specific consolidated earnings or revenue guidance is provided in the supplied filing text.
Verizon expected a commercial fixed-wireless 5G service launch in 2018, contingent on the results of ongoing trials. It agreed to acquire Straight Path for an enterprise value of about $3.1B, subject to approvals and expected to close by the end of Q1 2018. The XO spectrum subsidiary purchase was also pending approvals, with closing expected by year-end 2017.
Notable Q2 items included the $1.774B divestiture gain and approximately $492M of Yahoo-related severance, transaction and integration costs. The prior-year comparison included a $1.007B divestiture gain and substantial pension and benefit remeasurement charges. First-half 2017 included $0.8B of early debt-redemption costs.
Yahoo-related security-breach claims and investigations remained a contingency; the filing said a reasonable estimate of any potential liability could not be determined. Yahoo retained 50% of certain post-closing liabilities tied to specified breach-related investigations, litigation or claims, and retained all shareholder-litigation and SEC-investigation liabilities.
Other principal risks identified include intense competition and technology substitution, high indebtedness and financing-market conditions, network or information-security breaches, regulation, labor matters, pension costs, tax changes, litigation, and the ability to realize strategic-transaction benefits. Management reported disclosure controls were effective and no material change in internal control over financial reporting during Q2.
Verizon expected adoption of the new revenue standard in Q1 2018 using the modified retrospective method; it anticipated earlier recognition of more equipment revenue and capitalization and amortization of a substantial portion of sales commissions. The filing also noted that future lease accounting would add right-of-use assets and liabilities for substantially all operating leases.

Important facts for investors to verify

How much of the earnings and margin improvement reflects recurring operations rather than the data-center sale gain and other special items.
Whether wireless service-revenue trends, ARPA and postpaid additions stabilize amid plan migrations, unlimited pricing and competitive pressure.
Debt growth, interest expense, future financing needs, and the cash-flow effects of acquisitions, pension funding, dividends and capital investment.
Final purchase-price accounting and integration performance for Yahoo and XO, and the potential financial exposure from Yahoo breach-related matters.
Regulatory approval and closing status for Straight Path and the XO spectrum subsidiary, and progress toward the conditional 2018 5G launch.