AT&T Inc. (T) Management Discusses Q2 2013 Results - Earnings Call Transcript

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AT&T Inc. (T) Q2 2013 Earnings Call July 23, 2013 4:30 PM ET

Executives

Susan Johnson - Senior Vice President of Investor Relations

John Stephens - Chief Financial Officer, Senior Executive Vice President

Ralph de La Vega - President and Chief Executive Officer - AT&T Mobility

Analysts

Phil Cusick - JPMorgan

Mike McCormack - Nomura Securities

John Hodulik - UBS

Simon Flannery - Morgan Stanley

David Barden - Bank of America

Jason Armstrong - Goldman Sachs

Amir Rozwadowski - Barclays

Timothy Horan - Oppenheimer

Michael Rollins - Citi Investment Research

Jonathan Chaplin - New Street Research

Operator

Ladies and gentlemen, thank you for standing by and welcome to AT&T second quarter earnings release 2013 conference call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions). Also as a reminder, today's teleconference is being recorded.

At this time, we will turn the conference call over to your host, Senior Vice President of Investor Relations for AT&T, Ms. Susan Johnson. Please go ahead.

Susan Johnson

Thank you, Tony. Good afternoon, everyone, and welcome to our second quarter conference call. It's great to have you with us today. I am Susan Johnson, Head of Investor Relations for AT&T. Joining me on the call today is John Stephens, AT&T's Chief Financial Officer and Ralph de La Vega, AT&T's President and CEO for Mobility. John will cover our consolidated wireline results and Ralph will give us an update on our wireless business and then we will follow-up with questions-and-answers.

Let me remind you, our earnings material is available on the Investor Relations page of AT&T website. That's www.att.com/investor.relations. I also need to cover our Safe Harbor statement, which is on Slide three of the presentation. This presentation and comments may contain forward-looking statements. They are subject to risks. Results may differ materially. Details are on our SEC filings and on AT&T's website.

With that, I will now turn the call over to AT&T's Chief Financial Officer, John Stephens. John?

John Stephens

Thank you, Susan, and good afternoon, everyone. Thank you for being with us today. And thank you for your interest in AT&T. Let me start with our consolidated financial summary, which is on slide four.

Consolidated revenue was a solid $32.1 billion, up $500 million or 1.6% on a reported basis and is up an impressive $800 million or 2.6% when you exclude the divested advertising solutions business. We were able to do this with no lift from the economy. These gains were due to solid revenue growth in wireless, strong gains in U-verse services and with improving revenue from our wireline business.

Reported EPS for the quarter was $0.71. That's up almost 8% over last year's second quarter. OUR results this quarter include about $0.04 lift from the sale of some of our América Móvil shares. You may recall that América Móvil shares. You may recall that América Móvil has a share buyback program underway and we were selling shares to maintain our ownership closer to our historic level of about 9%. When you exclude this help earnings per share were $0.67, our adjusted EPS is up about 5% for the year and up nearly 2% in the second quarter.

Consolidated margins were down year-over-year, primarily due to success based initiatives in both, wireless and wireline. Cash flow continues to be strong. Cash from operating activities for the quarter totaled $9.5 billion, which allowed us to have strong capital investment in Project VIP and still have free cash flow of $4 billion. And in the second quarter, we bought back about 90 million shares or $3.3 billion. And with our strong dividend, we returned more than $5.7 billion to shareholders.

Now let me give you the highlights for the quarter on slide 5. As you can see, we continue to execute at a high level. Our network performance is nothing short of terrific. We have posted impressive metrics across our key growth drivers. And as a result, we have improved momentum heading into the second half of the year. And as I said, we see this across our most important growth areas. That includes about 20% growth in mobile data, strong postpaid net adds and record-setting smartphone sales.

Total U-verse subs reached 9.4 million, while video subs topped 5 million customers for the first time. Total U-verse revenues grew better than 30%, and U-verse now represents more than 50% of consumer revenues. And even with little help from the economy, business wireline showed sequential revenue improvement and strategic business services grew by more than 15%. All this resulted in improved revenue growth, continued EPS gains and strong free cash flow even while investing more in our customers and in our Project VIP.

I now would like to turn the call over to Ralph de la Vega, who is going to update us on all the work going on in wireless. Ralph?

Ralph de la Vega

Thank you, John, and hello everyone. It's great to be with you today. Before we get to the wireless highlights for the quarter, I would like to take a moment to give you a quick update on our 4G LTE wireless network, which is now the nation's fastest and most reliable 4G LTE network. Details are on slide 6.

Our network team has done an incredible job with our LTE deployment. All LTE networks are not built the same. They all don't use the same network architecture, not all have the same network reliability and density and they all don't have the fastest speeds. Our goal was to build the best LTE experience from the very first market we deployed.

You can see by the high praise and recognition our network received that the results speak for themselves. PC Magazine called our 4G LTE network, the nation's fastest. PCWorld say we have the fastest average download and upload speeds of any competitor in its test for the second year in a row. And according to independent third-party data, we now have the most reliable 4G LTE network as well.

We already cover more than 225 million people with our 4G LTE network today and we are on track to reach nearly 270 million pops by year end covering 400 markets, and we continue to move fast with our 4G LTE deployment. We now expect to substantially complete our 4G LTE network by the next summer.

Customers love our LTE experience. We already have more than 35% of our smartphone subscribers on LTE, and that number is accelerating quickly. Thanks to our impressive line of LTE devices. The recognition is great to see, but this network also provides a solid foundation for wireless growth platforms and those details are on slide seven.

Having the nation's fastest, the most reliable network gives us an advantage when it comes to growth and the growth story is very powerful. Smartphone data usage is up 50% year-over-year and more than 70% of those devices are on usage-based plans with most taking larger data plans. This growth plus an increasing number of smartphone subscribers and new data devices being added to the network drives a strong 20% mobile data growth that we are seeing.

We also rolled out our first Digital Life market in the second quarter. We are now up and running in 33 markets and expect to be in 50 by year-end. I already have Digital Life in my home and let me tell you, it's really amazing what it can do. We believe, home security and automation is a large untapped opportunity for us.

An other opportunity is the Connected Car You already know our GM agreement to begin wireless connectivity for all GM vehicles in the U.S. market beginning in 2014. We have also announced an agreement with Sirius/XM satellite radio to provide mobile connectivity supporting a suite of security and services for Nissan Automobiles in North America and yesterday we announced an agreement with Audiovox to provide network connectivity to Audiovox's telematics and location-based service systems.

You also know of our recent moves in the prepaid space. We recently introduced a new prepaid service and the proposed Leap Wireless deal will accelerate our expansion in this segment. We believe we have the right strategies in place to make a stronger impact in the prepaid segment and think there is a strong growth opportunity there as well.

Finally, last week we announced AT&T Next, a program where customers can get a new smartphone or tablet every year with no down payment, no activation fee, no upgrade fee and no financing fees. This is a great program that provides great value and more choice for our customers. Many customers don't want to wait for the latest and greatest device and with AT&T Next, they don't have to.

Now, let's move on to our second quarter results starting with a look at postpaid net adds on slide eight. Led by solid gains in tablets, we added more than 550,000 postpaid subscribers in the quarter and that's a 72% increase from the year ago quarter and our best second-quarter postpaid net add quarter in four years. We added about 400,000 postpaid tablets, which we expect to be the largest gain of any carrier in the second quarter.

In addition, prepaid net add increase as a result of solid GoPhone sales. Total prepaid sales continued to be impacted by the migration of session-based tablets to postpaid plans which is a transition that we are happy to see. Gains in connected devices more than offset losses in the reseller segment where we saw subscriber losses primarily in low revenue accounts. However, reseller revenue increased by almost 30% year-over-year. Postpaid churn was up slightly year-over-year, but down from the first quarter and smartphone churn was even better, less than 1%.

Strong postpaid net adds helped drive solid revenue growth and those details are on slide nine. Revenues continue to be led by data growth. We saw nearly 20% growth in data revenues in the quarter and that helped to drive a 4.1% service revenue growth. Total wireless revenues were up nearly 6%. The growth of smartphones, tablets and other data devices is fueling this data growth. Mobile data is down nearly $22 billion annualized revenue stream for us.

This growth can also be seen in our expanding postpaid ARPUs. Total postpaid ARPU which includes tablets was up nearly 2% in the quarter but phone only ARPPU was up 3%. Our phone only ARPU includes smartphones but also includes our lower ARPU feature phones and wireless home phones as well which makes this growth even more impressive. Postpaid data ARPU grew at nearly 18%.

Smartphone sales were also strong this quarter and those details are on slide 10. A second quarter record 88% of our postpaid phone sales were smartphones. Smartphone subscribers now make up 73% of our postpaid phone base and that's an increase of more than 1.2 million new smartphone subscribers in the quarter. These are the premium subscribers in our business.

They have twice the ARPU of non-smartphone subscribers and much lower churn. We also set another second quarter smartphone sales record of 6.8 million, an excellent performance in a very competitive environment. This helped drive record Android smart smartphone sales, both in total number of phones sold and in the highest percentage of total sales.

Now we did this while also selling more iPhones than we did a year ago. Several promotions and our new low cost trading program helped to fuel these strong sales brining in new customers while also keeping existing ones on two-year contracts and it also increased the number of LTE devices on the network. More than 35% of smartphones now our LTE, the moved to usage-based data plans also continued in the second quarter.

Overall more than 70% of our smartphone base has moved to usage-based plans and data use on the smartphones is growing by about 50% year-over-year, so we have more smartphones on usage-based plans, data growth is strong and growing number of subscribers are taking bigger buckets of data from us. About 80% already take the larger data plans and we are seeing more than a quarter of mobile share accounts on data plans of 10 gigabytes or higher.

And speaking of mobile share, we now about 4.3 million mobile share accounts and those accounts include more than 13 million subscribers on devices such as smartphones and tablets and we continue to see a steady movement of subscribers on limited plans to mobile share. More than 15% of subscribers to-date moved over from unlimited plans, and remember that our customers have a choice. They can keep the plan they have or move to mobile share whatever plan that works best for them.

Strong postpaid net adds, smartphone sales and upgrades impacted margins and those details are on slide 11. Our wireless EBITDA service margin was slightly below our first quarter levels at 42.4%, but we sold 800,000 more smartphones in the second quarter than we did in the first. We made a strong effort to get people into our stores or on our website through promotions that allowed customers to trade in their phones and sign new contracts with us and that strategy worked extremely well.

Upgrades were much stronger than a year ago and the first quarter, and we had a higher percentage of customers on contract at the end of the second quarter than we did at the end of the first quarter. The long-term value they bring is impressive, higher ARPU, lower churn, strong data growth and greater network efficiencies from our new LTE devices.

The trade-in program also gave customers a chance to upgrade their phones before upgrade period moved to 24 months. At the same time, our new AT&T Next program gives customers the best choice if they want a new device every year. So, as you can tell, we were very busy this quarter introducing new programs and delivering a strong second quarter performance and you will continue to see us drive strategies to grow our business as we move throughout the year,

John, those were the highlights in wireless. And with that, I will turn it back to you to discuss wireline results.

John Stephens

Thanks, Ralph. I appreciate it. Now, let's look at our wireline operations starting with consumer, which you can see on slide 12. As I mentioned at the outset, we passed a crucial threshold with U-verse. It now accounts for more than half of all consumer revenues. Two years ago, U-verse was less than a third of consumer. Now it's more than half and growing very fast. That's a remarkable benchmark as we transform our business. We now have 9.4 million total U-verse subscribers. That's more than double the number we had just two years ago. We added more than 640,000 U-verse high-speed broadband subs in the quarter and 233,000 new U-verse T.V. subscribers, topping 5 million video subscribers for the very first time.

U-verse broadband now makes up more than 50% of our total broadband base with total broadband ARPU growing at more than 9% year-over-year. These gains helped drive overall consumer revenue growth of 2.4%, with total U-verse revenues up nearly 30% in the quarter. U-verse is now a nearly $12 billion annualized revenue stream. Not bad for a business that was just started seven years ago and it also shows clearly that we know how to build and scale new businesses as we move forward with Project VIP.

Now let's move to wireline business, which you can see on slide 13. The economy continues to be challenging, and it's not providing any assistance to our efforts here. But on the bright side, we do see some signs of improvement from the first quarter. Business revenue was down 2.2% year-over-year, but increased sequentially with both enterprise and small business showing sequential revenue growth.

Small business also showed growing customer momentum with U-verse broadband net adds. Part of the business continue to do very well. Growth continued to be strong in strategic business services. That's products such as VPN, Ethernet, hosting and other advanced IP services which were up more than 15% in the quarter. These services represent more than $8 billion annualized revenue stream and are approaching 25% of total business wireline revenues.

We continue to do well with wireless in the business space. We had our best ever wireless business adds in the quarter. More and more businesses want solutions that include wireless. For example, earlier today we announced an agreement with Disney Parks that makes AT&T, the official wireless provider for Walt Disney World Resort and Disneyland Resort.

We have talked often about the transformation of wireline from legacy products to advanced IP services but we are also seeing businesses transform to mobility. AT&T is well positioned to deliver these types of solutions to the business market. Our full ownership of our global IP network and our leading 4G LTE wireless network are a powerful combination when it comes to meeting business customers' needs.

Before we get to cash flow, let me give you a quick update on some of our Project VIP initiatives. Details are on slide 14. Ralph told you about the incredible progress, both quality and coverage that we are making in wireless, but we are also breaking ground on several wireline projects as well. Our network upgrades are on track and we expect to boost top U-verse speeds up to 45 megs per second in the next few months. We are moving towards speeds of 75 megs and 100 megs in the near future.

We have increased our U-verse video consumer locations by about 500,000 year-to-date. Those locations also include U-verse broadband. We have also added 1.3 million U-verse broadband only customer locations so far this year. When you add those together that's nearly 2 million new U-verse broadband locations to serve customers. This gives us more than 50 million U-verse broadband customer locations across our wireline footprint. We are on track to hit our goal of reaching approximately 75% of our customer locations within our wireline footprint with wired high-speed broadband by the end of 2015.

Our fiber builds to multitenant buildings is also underway. We expect to reach approximately 250,000 of our 1 million customer locations targets by the end of 2013, or just six months into our plan. But as you can see, we are making progress and we are very excited about the growth potential of Project VIP brings to AT&T.

Even with our progress on Project VIP plus success based initiatives, margins continue to be solid. Details are on slide 15. For the second quarter our consolidated operating margin was 19.1%, an increase from the first quarter but down year-over-year due largely to stronger actually record smartphone sales and higher costs associated with U-verse adds.

Wireline margins saw pressure from success based initiatives in consumer and Project VIP investment costs. Wireline pressure was partially offset by growth in consumer revenues, operational improvements in the network, sales and support functions and solid execution of cost initiatives. As Project VIP moves ahead, we will continue to look for more opportunity to reduce expenses.

Now, let us move to cash flow which continues to be a solid story for us even as we increase investment in our Project VIP. Our summary is on slide 16. In the first-ever year, cash from operations totaled $17.7 billion, which is up from last year's level. Capital expenditures were $9.8 billion as Project VIP investing starts to ramp and free cash flow before dividends was $7.9 billion.

In terms of uses of cash, net debt was stable in the second quarter with a debt-to-capital ratio of 46.6% and a net debt to EBITDA ratio of 1.6%, well below our guidance of net debt in the 1.8 range and actually slightly lower than our ratio of 1.68 in the first quarter.

We are [a second] 300 million share repurchase authorization and began buying shares back from the third authorization. However, the pace of buybacks slowed when compared to recent quarters. We repurchased about 89 million shares for $3.3 billion. With our dividend, this makes our total return to shareholders in the second quarter almost $6 billion. Even with our progress on Project VIP, plus success based initiatives, margins continue to be solid.

During the quarter, we also took several steps to strengthen our balance sheet. We continue working with the Department of Labor on our plan that would contribute to preferred equity interest in AT&T mobility to fund our pension plan. We are optimistic on the strategy and expect approval of this proposal later this year.

During the quarter, we monetized some of our shares of América Móvil soft while keeping our ownership levels roughly the same, about 9%. We continue to keep our focus on a strong financial foundation, our balance sheet is sound, our debt metrics are solid, our strong cash flow gives us the flexibility to invest in growth initiatives and make strategic investments such as Leap Wireless while returning substantial value to shareholders through our strong dividend.

Before we take questions, let me close with a quick recap of the quarter on slide 17. The second quarter was a story of growing revenues and growing momentum. Our revenue gains were strong, our cash flows were solid and we continue to grow EPS. The mobile internet drove strong wireless results, including strong mobile data revenue growth, growing postpaid ARPUs and our best second quarter postpaid growth in three years, plus our 4G LTE network has been winning praise and recognition for being the nation's fastest and most reliable.

During the quarter, U-verse hit an important milestone when it exceeded more than half of consumer revenues. And with project VIP, we feel the best is yet to come. Our strong execution this quarter puts us on track to meet our full-year guidance, including revenue growth, EPS, free cash flow and margins, so a solid quarter with strong momentum heading into the back half of the year.

With that, Susan, let's go ahead and take some questions.

Susan Johnson

Thank you, John. Tony, we will turn it back over to you to open it up for questions.

Earnings Call Part 2:

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