Forget iPhone Margin Drains -- Verizon Does Just Fine

Domestic carrier Verizon (NYSE: VZ  ) has just posted its third-quarter earnings, and investors are clearly pleased with the overall results, as shares are enjoying gains as high as 3% today. Strength on the wireless side of the business was a major factor to the solid report.

Total revenue was on target with expectations at $29 billion, which turned into non-GAAP earnings per share of $0.64 when everything was said and done. That bottom-line result registered an increase of 14% over a year ago. It was just $0.01 shy of the consensus estimate, but that didn't seem to bother investors much.

Mobile moves
On the wired side of the biz, revenue moved higher by 4.6% and average revenue per user, or ARPU, jumped 10% to $103.86. The company added 136,000 net new FiOS Internet connections and 119,000 net new FiOS Video connections during the quarter as overall FiOS penetration continues to trend higher.

The wireless division was the real belle of the ball though, with revenue rising 7.5%, driven by 1.8 million net retail additions. Most of these were valuable postpaid subscribers, and postpaid subscriber churn improved by 3 basis points to 0.91%. Big Red enjoys an advantage with 4G LTE coverage and now covers 419 markets throughout the U.S.

That postpaid subscriber add is the highest in four years as smartphone penetration rose to 53%. Speaking of smartphones, Verizon said it activated a total of 6.8 million smartphones, of which 3.1 million were Apple (Nasdaq: AAPL  ) iPhones and 3.4 million were Google (Nasdaq: GOOG  ) Android devices. Of the iPhone total, 21% were iPhone 5 models, or about 650,000.

Reading between the lines
There are a handful of important trends at work here driving the results. While growth on the wireless side is fine and dandy, remember that Vodafone (Nasdaq: VOD  ) owns a 45% stake in Verizon Wireless, so not all of that upside is Verizon's to keep.

The carrier recently unveiled its Share Everything data plans, which is translating into meaningful revenue upside since it forces new subscribers to overpay for declining voice and text usage while simultaneously capitalizing on soaring mobile data usage. The CTIA recently announced that mobile data usage was up 104% over the past year, thanks in large part to 4G LTE data speeds that promote increased data consumption.

Non-GAAP wireless margins hit a record high of 50%, particularly significant during an iPhone launch since that device fetches much higher subsidies than other smartphones and is generally a margin-sucking beast for the carriers. Then again, those effects are felt more by AT&T (NYSE: T  ) , which sells a higher proportion of iPhones than its rivals. Of course, the iPhone also drives increasing data usage, so it's not all bad news for carriers.

Verizon has also been good with keeping costs in line to preserve those margins. Full-year capital expenditures should be lower than the $16.2 billion the company spent last year. Cap ex in the quarter was $3.9 billion, up about $260 million from a year ago, but year-to-date spending is down about 10% at $11.3 billion. CFO Fran Shammo said the annual cap-ex-to-revenue ratio should decrease this year thanks to growing revenue and disciplined spending.

For example, the wireless revenue growth of 7.5% far outpaced the 3.2% increase in operating expenses. Meanwhile, year-to-date wireless cap ex was lower by 16%. These savings are being generated by lower spending on Verizon's 3G network as it transitions to its lower-cost 4G LTE network. Verizon recently also said it's tentatively hoping to fully retire its 3G CDMA network by 2021.

Hip, hip, hooray!
Thanks to controlled capital spending, year-to-date free cash flow is up 50% to $13.4 billion, compared to $9 billion in the same period a year ago. That's good news for Verizon's dividend investors (myself included), as its solid of yield of 4.7% is safe and here to stay.

AT&T and Verizon are solid Dow dividend stocks, which is why I own them. However, if you're looking for some more long-term investing ideas, read the Fool's brand-new special report: "The 3 Dow Stocks Dividend Investors Need." It's absolutely free, so just click here and get your copy today.

Evan Niu, CFA, owns shares of Apple, AT&T, and Verizon Communications. The Motley Fool owns shares of Apple and Google. Motley Fool newsletter services recommend Apple, Google, and Vodafone. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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  • Report this Comment On October 19, 2012, at 8:07 AM, jdmeck wrote:

    Only because they didn't have many iPhone 5 to sell. Beware next quarter.

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