Verizon 1Q Net Rises 17% On Subscriber Additions

The real surprise to me looking at Verizon's $VZ earnings release was the increase in margins from 16.5% to 18.4%.  We had noted with all carriers that carry the Apple iPhone that we anticipated further margin erosion.  There has to be some other specific costs benefits that they are picking up in order to offset the higher subsides costs of providing the iPhone.


DOW JONES NEWSWIRES

• Verizon Communications Inc.'s (VZ) first-quarter earnings rose 17% as added contract wireless and FiOS subscribers helped revenue and margins.
• Verizon's revenue growth has improved in recent quarters as the addition of Apple Inc.'s (AAPL) iPhone attracted new subscribers to Verizon Wireless, which it owns jointly with Vodafone Group PLC (VOD, VOD.LN). Yet, the upfront cost to offer smartphones at a discounted price has pressured profit margins. The company is also expanding its networking and cloud-computing services as it moves to replace its shrinking landline business.
• On Wednesday, Verizon Wireless offered to sell some of its 700 megahertz airwaves, or spectrum, should the Federal Communications Commission and Justice Department sign off on its proposed $3.6 billion acquisition of airwaves from a group of cable companies. The deal has met some resistance from rivals, including T-Mobile USA and watchdog groups who say the carrier would amass too much market power amid a surge in data traffic demand.
• Verizon reported a profit of $1.69 billion, or 59 cents a share, up from $1.44 billion, or 51 cents, a year earlier. Revenue jumped 4.6% to $28.2 billion.
• Analysts polled by Thomson Reuters had most recently forecast earnings of 58 cents on revenue of $28.17 billion.
• Operating margin rose to 18.4% from 16.5%.
• Verizon Wireless added 501,000 of the most profitable postpaid subscribers, down from 906,000 a year earlier and 1.2 million in the prior quarter. It added 734,000 total subscribers during the quarter, pushing its base to 93 million connections, up 5.2% from a year ago.
• Wireless revenue rose 8.2% to $18.27 billion. Total churn, or customers who cancel services, was 1.24%, down from 1.33% a year ago.
• The company also added 193,000 FiOS Internet and 180,000 FiOS Video subscribers during the quarter. Average revenue per user at the wireline business jumped 8.1%.

From Morninstar


Verizon VZ posted very strong wireless results during the first quarter, offset in part by relatively weak growth and margins in the fixed-line business. We don't anticipate changing our fair value estimate, and we believe the shares are fairly valued at present. 


After the beating that profitability took following the latest iPhone launch last October, margin performance at Verizon Wireless was the major focus this quarter. The unit scored extremely well on this front, increasing its operating margin, excluding depreciation and amortization, to 46% of services revenue, up more than 2 percentage points from a year ago and a record first-quarter result. Unit sales of Apple's AAPL iPhone were actually up nearly 50% year over year during the quarter. Outside of handset subsidies, Verizon Wireless has done a good job of containing costs. 


Beyond cost containment, though, strong growth in revenue per customer provided the biggest boost to margins. Average revenue per postpaid subscriber increased 3.6% versus a year ago, far outpacing growth seen over the past couple of years. The big jump in smartphone penetration over the past year, moderating pressure on voice revenue, and stabilization in Internet device pricing each contributed to the gain. 


With Verizon Wireless taking market share over the past year, in part thanks to its launch of the iPhone, revenue growth has accelerated nicely. Services revenue was up 8% year over year, the fastest pace in more than a year. The fixed-line business didn't fare as well during the quarter. Revenue dropped 2% versus a year ago on weakness in the enterprise services and wholesale businesses. 


Despite the addition of a handful of acquisitions, including Terremark, enterprise revenue grew less than 1% during the quarter, the weakest result in over a year. Verizon pointed to a sudden slowdown in Europe as a major contributor to the weak growth, as well as a decision to de-emphasize equipment sales. Wholesale revenue dropped 9% versus a year ago, consistent with the past year. 


We've been expecting some improvement in the wholesale business as the firm laps its decision to pull back on lower-margin services, but this has yet to materialize. Consumer revenue growth accelerated to 1.7% during the quarter on continued improvement in phone customer losses. The fixed-line margin was also disappointing, dropping 1 percentage point versus a year ago. 


Verizon had been showing steady improvement in margins for much of the past year; management still believes margins for the full year will expand. On a consolidated basis, Verizon generated $2.4 billion of free cash flow during the quarter, up sharply from a year ago. Improved wireless profitability and a big step-down in capital spending drove the improvement. A year ago, Verizon Wireless was investing heavily in 3G capacity in anticipation of strong iPhone sales. It is now pushing data traffic to its new LTE network, reducing the need to spend on older technology. 


Consolidated net debt increased $3.8 billion during the first quarter to $45 billion, pushing net leverage back up to 1.3 times EBITDA. Vodafone's VOD share of the Verizon Wireless dividend was the primary cause of the increase in leverage.
Michael Hodel, CFA


Full Disclosure I own shares of VZ in the DWCM Fund and my personal account