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3 Reasons Frontier Communications Corporation Stock Could Fall

By Dan Caplinger – Sep 13, 2016 at 10:35AM

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The high-yielding dividend stock appeals to many investors, but Frontier still faces risks.

Investors in Frontier Communications (FTR) have gotten used to seeing the telecom company's stock price move sharply in either direction in recent years. Navigating the ins and outs of an industry in the midst of a transformation can be challenging, and Frontier has encountered its fair share of both success and failure along the way. Frontier's stock has risen since 2012, as the company has bounced back from massive dividend cuts that disappointed many income investors. Yet shares are down from their peak in early 2015, and investors are still uncertain about what the future might bring. Let's look more closely at Frontier to see what risks might lead to share-price weakness in the months to come.

Image source: Frontier Communications.

1. The recently closed Verizon deal could continue to be rocky.

Frontier has often grown through major acquisitions, and its $10.5 billion deal with Verizon Communications (VZ 1.43%) to acquire wireline assets in California, Florida, and Texas stood to make a huge boost to Frontier's size. Yet with 3.7 million voice connections, 2.2 million broadband connections, and 1.2 million FiOS video connections involved in the deal, Frontier faced the logistical challenge of serving millions of new customers and making a smooth transition.

Unfortunately, the move from Verizon to Frontier hasn't worked out the way the telecom company had hoped. Early on, network outages, challenges with new billing systems, and problems in delivering content on demand to video customers plagued Frontier, and in some areas, it took much longer for the company to resolve those problems than many found reasonable. As a result, complaints flooded into regulatory agencies charged with oversight of Frontier.

Frontier isn't the first telecom company to suffer from a poor reputation for customer service, and many of its newest customers will stay the course despite their grumblings. Nevertheless, if more new customers choose to flee Frontier than expected, then the stock could suffer as a result.

2. Disappointment about future Frontier dividend moves could sink the stock.

Frontier has built up a reputation among income investors for its high yield, but those with long-enough memories know that relying on dividends can be a two-edged sword for a stock. Dividend cuts in 2010 and 2012 cost shareholders 60% of their quarterly income, and the lower level of dividends has become the new norm for Frontier.

Frontier was able to reward shareholders with a modest 5% increase in its dividend back in early 2015, and some have hoped that the latest Verizon deal would eventually result in the improvements in cash flow necessary to justify a further increase. With a dividend yield that already exceeds 9%, Frontier investors shouldn't hold their breath waiting for a dividend hike in the near future. Yet if investors get the sense that Frontier won't be able to return more capital as quickly as they want -- or if they sense a potential cut -- then the stock wouldn't respond well.

3. Frontier's service might not keep up with industry improvements.

In large part, Frontier's growth strategy by acquisition assumes that existing service models for broadband, video, and voice service continue unchanged for the foreseeable future. Yet one reason why Verizon and other providers have been willing to sell assets to Frontier is to gain the capital necessary to make transformative moves forward, and the net result could end up being that the services that Frontier offers currently will become obsolete.

Cord-cutting on the cable and landline front is just the first wave of changes that threaten Frontier's business model. An even greater risk is that if broadband coverage becomes more readily available from competitors that offer higher quality at similar or lower prices, then Frontier could see mass defections away from traditional service. Frontier isn't blind to the need to innovate, and it will do its best to keep up with the pace of change in the industry. Yet if it has to divert resources to integrate acquisitions, it might not do so effectively, and the result could be a drop in its core business that sends Frontier stock reeling.

Frontier stock has held its own largely on the hope that the Verizon transaction will work out well in the long run. Until that proves out, though, Frontier could be vulnerable to adverse events that would send its stock downward, at least in the near-term.

Dan Caplinger has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Verizon Communications. 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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