Company Overview
Frontier Communications Corporation (NASDAQ: FTR) is a provider of communications services in the United States. The company has approximately 5.2 million customers across 29 states. Frontier offers a variety of services to residential and business customers, including data, internet, video, and voice. These services are delivered over a combination of fiber and copper-based networks. Frontier also provides network access services to other carriers such as AT&T and Verizon for local and long distance voice traffic.
Frontier was originally incorporated in 1935 under the name Citizens Utilities Company and is headquartered in Norwalk, Connecticut.
Products and Services
As noted above, Frontier’s customers qualify as either residential or business. The business category is further divided between small business/medium business/large enterprise (SME) and third-party carriers. The company’s product offerings consist of the following:
Data and Internet Services consists primarily of broadband internet service for residential customers. Commercial services include ethernet, dedicated internet, multiprotocol label switching, time division multiplexing, data transport services, and optical transport services. The company also offers a variety of security and cloud-storage products.
Video Services are offered under the Vantage brand in Connecticut, South Carolina, Minnesota, and Illinois, and under the FiOS brand in California, Texas, Florida, Indiana, Oregon, and Washington. Frontier offers satellite video service to its customers in all markets through Dish Network.
Voice Services include data-based VoIP, long distance, and voice messaging services, and are provided to both residential and business customers.
Access Services provided to other carriers are generally offered on a month-to-month basis and are billed primarily by minute-of-use. Access charges are based on rates filed with the Federal Communications Commission for interstate services, and with the respective state regulatory agency for intrastate services.
Customer Premise Equipment (CPE) consists of third-party communications equipment sold to SME clients to meet their specific needs. CPE is typically marketed in conjunction with voice, data, and internet services, but is also offered on a standalone basis.
The company’s areas of operation are detailed in the map below:
Source: Company Reports
The two distinct territories consist of Frontier’s Legacy business and wireline operations acquired from Verizon Communications Inc. (NYSE: VZ) in April 2016. The Verizon assets are primarily located in California, Texas, and Florida (CTF). The company’s subscriber base as of March 31, 2017, was as follows:
Source: Company Reports
The total customer base of 5.2 million is comprised of 4.7 million residential accounts and 0.5 million business accounts. Frontier has indicated that recent subscriber declines were driven by the elimination of non-paying CTF accounts discovered after the Verizon transaction was completed.
Recent Developments
- On May 2, 2017, Frontier declared a cash dividend of $0.04 per share of common stock, payable on June 30, 2017. This represents a 62 percent reduction from the previous quarterly payout of $0.105 per common share in effect since the first quarter of 2015. The board of directors indicated that this new capital allocation strategy is intended to enhance the company’s capital flexibility and reduce Frontier’s leverage ratio from 4.4x to 3.5x by the end of 2021. The move will reduce the company’s annual dividend payments by $300 million, increasing to $400 million in savings by the second half of 2018 after a mandatory conversion of Series A preferred stock to common stock.
- The same day, Frontier also announced that its board of directors had approved a 1-for-15 reverse stock split. The move is intended to improve the marketability of the shares.
- In its first quarter earnings release, the company reported that the cleanup and collection process connected to the delinquent CTF accounts acquired from Verizon was complete. Going forward, the company expects to reduce customer churn and improve net additions.
First Quarter Earnings Review
Revenues for the first quarter of 2017 decreased approximately two percent from the fourth quarter of 2016 and totaled $2.4 billion. The decline was partly attributable to the elimination of non-paying accounts in the CTF region. The company also noted that the automation of collection processes for Legacy accounts resulted in a one-time reduction of 18,000 customers.
With respect to its subscriber base, the company has reported three consecutive quarters of negative net additions in both the Legacy and CTF segments, driven primarily by deactivations of non-paying customers. Overall residential customer churn increased 29 basis points to 2.37 percent.
Operating expenses decreased three percent from the prior quarter to $2.1 billion. The company cited declines in content costs, outside services, regulatory fees, and fleet expenses. Adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA), which excludes restructuring and other costs, decreased four percent from the prior quarter to $923 million. The adjusted EBITDA margin decreased 80 basis points to 39.2 percent.
Free cash flow for the first quarter of 2017 was $175 million, down from $316 million in the fourth quarter of 2016. This was primarily attributable to a $400 million decline in cash from operations. Accordingly, Frontier’s dividend payout ratio spiked to 71 percent, as compared to 39 percent in the prior quarter.
At March 31, 2017, Frontier listed approximately $18.1 billion in long-term debt yielding a leverage ratio of 4.39x. The cash balance was $341 million, and the company had a net working capital deficit of $696 million.
Full-Year Earnings Guidance
Frontier provided the following full-year guidance which was reiterated in the first quarter earnings release:
- Adjusted free cash flow between $800 million and $1.0 billion;
- Capital expenditures between $1.0 billion and $1.25 billion;
- Integration expenses and capital expenditures less than $100 million; and
- Cash taxes between $0 and $50 million.
Despite the slow start, these figures appear to be realistic. If management can reduce customer churn and deliver on customer additions, EBITDA and free cash flow should grow in the coming quarters. Ongoing capital expenditures could help improve retention rates.
Outlook
Since the closing of the Verizon transaction last year, Frontier’s bottom-line has been impacted by non-paying accounts in the CTF territory. Management has indicated that this cleanup process is now complete, and that it has taken steps to improve customer acquisition and retention to stabilize revenue. Despite these issues, the company is generating positive cash flow, and the recent dividend cut should provide the company greater flexibility to address its significant long-term debt.
Stock Influences
- Net customer additions and churn rates;
- Changes in the company’s balance sheet and leverage ratio; and
- M&A activity; and
- Changes in dividend policy.
Risk Factors
- The company faces substantial competition in the communications space;
- The company may not be able to attract customers and grow revenue as anticipated;
- The company has a significant amount of long-term debt; and
- The company and the communications industry remains highly regulated.
Stock Performance
As of May 5, 2017, the closing price of Frontier shares was $1.46. In the past year, the stock has traded as high as $5.53, but is down 74 percent since. So far, this year, the shares have declined 57 percent and briefly traded as low as $1.40. After the company released first quarter earnings and announced the dividend cut, Frontier shares retreated 17 percent. At $1.46, the stock yields 11 percent.
Following are selected analyst ratings and price targets:
| Analyst | Firm | Rating | Price Target | Date |
| Scott Goldman | Jeffries | Buy | $3.50 | 4/28/2017 |
Summary
The past few quarters have been disappointing for Frontier’s shareholders. However, management has indicated that many of the negative subscriber and revenue trends should improve throughout the year. Management has also demonstrated discipline on the expense side, and many synergies from the Verizon transaction have already been realized. The dividend cut is a positive step to preserve cash and reduce long-term debt.
The price target set by Jeffries analyst Scott Goldman was issued prior to the dividend cut and appears aggressive considering the current stock price. A price target of $3.00 is more attainable.
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