Business context and reporting period
Verizon Communications Inc. filed this unaudited Form 10-Q for the quarter ended June 30, 2015. The company operates Wireless and Wireline segments, focusing investment on wireless, broadband data and strategic services. Comparisons below are against the corresponding 2014 period; dollar amounts are in billions unless noted.
Key financial results
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Operating revenue | $32.224 | $31.483 | $64.208 | $62.301 |
| Operating income | $7.821 | $7.685 | $15.781 | $14.845 |
| Net income | $4.353 | $4.324 | $8.691 | $10.310 |
| Net income attributable to Verizon | $4.231 | $4.214 | $8.450 | $8.161 |
| Diluted EPS attributable to Verizon | $1.04 | $1.01 | $2.06 | $2.15 |
| Dividends declared per share | $0.55 | $0.53 | $1.10 | $1.06 |
- Q2 operating margin was approximately 24.3%, versus 24.4% a year earlier; six-month operating margin was approximately 24.6%, versus 23.8%.
- Q2 revenue rose 2.4%, while operating income increased 1.8%. Wireless revenue grew 5.3% to $22.613 billion; Wireline revenue declined 2.2% to $9.423 billion.
- Wireless operating income increased 10.2% to $7.696 billion in Q2. Wireline operating income was $504 million, compared with $253 million, while Wireline EBITDA declined 2.1% to $2.210 billion.
- Q2 interest expense was $1.208 billion, up from $1.164 billion. The effective tax rate was 34.3%, compared with 33.9%.
- For the first six months, operating cash flow was $18.906 billion, capital expenditures were $8.153 billion and reported free cash flow was $10.753 billion, versus $6.310 billion in 2014. Management’s non-GAAP free cash flow measure subtracts capital expenditures from operating cash flow.
- Cash and cash equivalents were $3.008 billion at June 30, down from $10.598 billion at year-end 2014. Total debt was $113.671 billion, including $4.206 billion due within one year and $109.465 billion long-term. Approximately $7.9 billion remained available under an $8 billion credit facility.
Material changes versus comparable periods
- Wireless equipment revenue increased 61.8% in Q2, largely as customers shifted to Verizon Edge installment plans. Service revenue declined 2.2%; management said Edge changes the timing and mix of revenue recognition. Edge represented approximately 49% of phone activations in Q2, compared with 18% a year earlier.
- Wireless retail postpaid connections increased 5.2% year over year, but Q2 postpaid net additions fell 21.3% to 1.134 million. Postpaid churn improved to 0.90% from 0.94%, while postpaid ARPA declined 3.8% to $153.73.
- Wireline Mass Markets revenue increased 3.2%, supported by FiOS. FiOS Internet subscribers rose 8.1% to 6.821 million and FiOS Video subscribers rose 6.4% to 5.765 million. Traditional voice and enterprise revenues continued to contract; Global Enterprise revenue fell 6.4% in Q2.
- Six-month net income declined from 2014, but the comparison is affected by the prior-year $1.9 billion gain on the sale of the Vodafone Omnitel interest and the change in noncontrolling interests following Verizon’s acquisition of Vodafone’s 45% stake in Verizon Wireless in February 2014. Verizon-attributable net income increased year over year for the six-month period.
- Consolidated revenue and cash-flow comparisons also reflect different transaction timing and accounting. Reported six-month operating cash flow and free cash flow benefited from $2.5 billion of wireless installment-receivable sale proceeds and $2.4 billion of tower-transaction proceeds classified in operating cash flow.
Outlook, transactions, risks and unusual items
- No numerical earnings or revenue guidance was provided in the filing. Management expects the revenue mix shift from service revenue to equipment revenue as Edge adoption grows to continue, and expects reduced depreciation on the California, Florida and Texas wireline assets classified as held for sale to continue until the planned sale closes.
- Verizon completed its $3.8 billion cash acquisition of AOL on June 23, 2015, aiming to expand digital content and advertising capabilities. Preliminary purchase accounting included $2.120 billion of goodwill and $2.285 billion of amortizable intangible assets; valuations were not final. About 6.6 million AOL shares were subject to appraisal rights.
- Verizon paid approximately $10.4 billion for 181 AWS-3 spectrum licenses, granted by the FCC in April. Six-month capital expenditures were $8.153 billion, principally supporting network investment.
- In March, American Tower paid approximately $5.0 billion for exclusive rights to lease and operate about 11,300 Verizon towers, with an average lease term of approximately 28 years. Verizon continues to use tower capacity under subleases. The proceeds were treated partly as deferred rent and partly as a financing obligation.
- Verizon agreed to sell its California, Florida and Texas local exchange and related landline businesses to Frontier for approximately $10.5 billion, subject to adjustments and Frontier’s assumption of $0.6 billion of debt. Regulatory approvals and other closing conditions remained outstanding; closing was expected in the first half of 2016. The business generated approximately $5.4 billion of 2014 revenue.
- The company paid $4.3 billion in cash dividends and completed a $5 billion accelerated share repurchase, receiving 101.6 million shares at an average $49.21 per share. The filing reports total six-month treasury-stock purchases of $5.074 billion in financing cash flows.
- Key risks include high indebtedness, competition and technology substitution, regulatory changes, and the uncertain scope and legal challenges to the FCC’s 2015 reclassification of broadband under Title II. Verizon also cited network/security events, litigation, labor and benefit costs, tax matters, and execution of its strategy.
- Verizon reported approximately 70 pending federal patent-infringement actions. It said no currently pending legal or regulatory matter was expected to materially affect financial condition, though an individual period’s results could be affected. The possible loss range for pending matters could not be estimated; tax audits could also change unrecognized tax benefits significantly within 12 months.
Most important facts for investors to verify
- How much of Wireless growth and cash generation reflects sustainable customer economics versus the timing and mix effects of installment-plan device sales and receivable sales.
- Whether lower postpaid ARPA and net additions, and continued Wireline enterprise and traditional voice declines, are offset by customer growth, FiOS and strategic services.
- The quality and sustainability of reported free cash flow, given tower monetization and installment-receivable sale proceeds, alongside spectrum and network investment needs.
- Debt maturities, interest costs, liquidity and the impact of financing the spectrum purchase, AOL acquisition, dividends and share repurchases.
- Completion timing and final proceeds from the Frontier sale, AOL purchase-accounting adjustments and integration, and the ongoing economics of the long-term tower leases.
- Developments in broadband regulation, pending litigation and tax audits, as well as any changes to pension assumptions or other contingencies.