Verizon’s Lackluster Earnings May Strengthen The Case For A Big-Ticket Acquisition

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Verizon (NYSE:VZ), the largest U.S. wireless carrier, published its Q1 2017 earnings on Thursday, missing market expectations on both earnings and revenues, as its revenue base continued to shrink (down 4.5% adjusted for acquisitions and divestitures) amid the loss of lucrative postpaid phone subscribers, weaker equipment revenues and flattish wireline sales. Below, we provide some of the key takeaways from the carriers earnings, and take a look at its options for driving growth.

We have a price estimate of $52 for Verizon’s stock, which is slightly ahead of the current market price. We will be updating our price estimate for the company shortly.

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Verizon’s Wireless Business Shrinks, Amid Competition And Promotions

Verizon’s wireless operating revenue declined by 5.1% in the first quarter, driven primarily by postpaid subscriber losses, as well as declining equipment revenues amid significant promotional activity. The carrier lost a net of 307k retail postpaid connections during the quarter, including 289k phone losses, amid mounting competition from smaller rivals such as T-Mobile and a continued loss of legacy feature phone customers. However, Verizon’s introduction of unlimited data plans in mid-February helped it to stem the overall quarterly losses, as it added a net of 109k retail postpaid phone connections after the plans were launched.

Verizon’s average revenue per postpaid account (ARPA) also declined by about 5% to $137,  amid continued migration of the subscriber base to un-subsidized pricing and reduced overage revenues, as customers moved to plans that featured safety mode and roll-over data over the last year. That said, things could improve over the second half of the year, as a large portion of the subscriber base has already migrated to these plans. Verizon’s retail postpaid churn stood at 1.15% for Q1’17, marking a year-over-year increase of 19 basis points, primarily due to increased churn in tablets. However, postpaid phone churn remained low, at under 0.90% for the eighth consecutive quarter, despite increased competition. Verizon’s wireline business saw revenues remain almost flat on a year-over-year basis, as the loss in fixed line voice customers was partially offset by growth in FiOS broadband services.

Why Inorganic Growth May Be A Solution 

With the U.S. wireless market saturating and competition from smaller carriers mounting, inorganic growth seems like an increasingly likely option for Verizon to drive growth. While key rival AT&T has been aggressively making big-ticket deals (it has agreed to buy Time Warner for about $85 billion, while buying DirecTV in 2015 for about $48 billion), Verizon has been more circumspect, sticking to smaller strategic bets in areas such as digital advertising. However, there is an increasing possibility that the carrier will do a deal in the cable or media arena for multiple reasons. Firstly, the regulatory environment appears to be more conducive to consolidation, with the new administration and the new Chairman of the FCC Ajit Pai believed to be more open to mega-mergers. Regulations surrounding net neutrality are also likely to be reduced, potentially giving carriers more leverage with strategies such as zero-rating to push their own content. Moreover, the gradual introduction of high-speed 5G networks over the next few years also makes a media-focused merger more valuable to carriers, as video is likely to be the primary application for 5G. Verizon’s CEO Lowell McAdam has indicated that the company would be open to having merger discussions with conglomerates including Comcast, Disney or CBS.  For instance, Comcast’s extensive fiber assets could help Verizon handle the back haul required to service its high speed 5G cells, while its subsidiary NBC Universal would provide a lucrative media business.

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