Verizon’s Wireless Margins Under Pressure, Still Has Network Advantage

Growing competition and the ongoing price war in the U.S. wireless market will continue to put pressure on Verizon‘s (NYSE:VZ) margins in the fourth quarter, company CFO Fran Shammo stated at the 42nd Annual Global Media and Communications Conference earlier this week. In terms of subscriber additions, he stated that the carrier is doing well, with postpaid gross adds growing both sequentially as well as year-over-year. He also said that customer phone upgrades driven by new product launches were significantly contributing to the strong demand for 4G devices on the carrier’s popular “More Everything” plans. The popularity of “More Everything” plans can be gauged from the fact that 57% of all postpaid accounts on Verizon’s network were using these plans by the end of Q3 2014, up from 42% in Q3 2013 and 55% in the previous quarter. ^[1]

We have a price estimate of $53 for Verizon’s stock, which is about 15% ahead of the current market price.

See our complete analysis for Verizon

Verizon Margins Under Pressure Despite Rising “Edge” Adoption

Verizon’s wireless segment EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) service margins declined by 60 basis points year-over-year to 49.5% in the third quarter this year, on account of rising competition, higher promotional activity and lower adoption of the company’s no-subsidy “Edge” plan. The percentage of subscribers opting for the company’s “Edge” plan likely declined from about 18% in Q2 to about 12-13% in the third quarter. Interestingly, Verizon’s CFO stated this week that adoption rates of the “Edge” plan have been 24% in the fourth quarter so far, or double the third quarter trend. While this will have a positive impact on wireless service margins, higher discounts and promotional activities to counter aggressive marketing by rivals such as Sprint (NYSE:S), T-Mobile (NYSE:TMUS) and AT&T (NYSE:T) will likely offset such gains.

Verizon’s Network Advantage

The current U.S. wireless market and race to the bottom pricing strategy of the smaller carriers has put a lot of focus on carriers’ plan rates. Price is an important factor for customers in choosing their network provider, and all carriers have reduced their prices and introduced new and innovative offerings in order to compete. However, price is only one of the important factors. A customer may choose a particular carrier on the basis of its affordable plan rates, but loyalty will be built based on its network quality and overall customer experience. This is where Verizon has an edge.

According to the latest mobile network performance report by RootMetrics (August 2014), Verizon leads U.S. carriers in four out of five parameters including reliability, data performance and call performance. It scored an impressive 80.5/100 in the overall performance report, leading AT&T by a single point. However, it scored significantly higher than AT&T in the network speed category, likely due in part to its new upgraded LTE service, XLTE. In network speed, Verizon scored close to 76/100 compared to AT&T’s 71/100 and Sprint’s 54/100. ((Midyear Mobile Network Performance Report, RootMetrics, Aug 18 2014))

The latest RootMetrics report also indicated that Verizon and AT&T were far ahead of smaller players T-Mobile and Sprint in overall network performance. Although both T-Mobile and Sprint reported an improvement in absolute performance compared to last year, they were a distant third and fourth in the latest report, with scores of around 70/100 each. It is therefore no surprise that the smaller players are trying to lure customers with highly competitive data plans and pricing, while the market leaders are focusing more on network quality and retaining their high-ARPU (Average Revenue Per User) customers.

Verizon’s focus on constantly improving its network can be gauged from the fact that its capital expenditures in the wireless business are expected to grow in 2015 even though its 4G build out is largely complete. This is important because the only other player likely to significantly increase wireless CapEx next year is T-Mobile, whose 4G network currently covers just 76% of the U.S. population compared to Verizon’s 98%. In contrast, second largest carrier AT&T announced last month that its overall capital expenditures were likely to decline by over 14% year over year to $18 billion in 2015.

View Interactive Institutional Research (Powered by Trefis):

Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap
More Trefis Research

1. Press release, Verizon, Dec 8 2014 [↩]