Is Frontier A Buy After The Earnings Report?

Aug.13.13 | About: Frontier Communications (FTR)

With about three million residential customers, Frontier (NASDAQ:FTR) is one of the largest American telecommunications companies. From internet data access to data security solutions, Frontier has its fingers in numerous pies. It has however faced recent disappointments in terms of shrinking revenues and earnings. Just a few days ago, the company reported a revenue decline of 2% from the same period a year prior. Despite the gain from lower amortization and operating expenses, it suffered a 1% decline year-on-year on its operating income. Additionally, it suffered a net loss of $38.5 million, compared with a net income of $18 million in the second quarter of the year prior.

Our contention is that the company is still solid. Its operating income margin was 22.4%, compared with 21.3% a year ago. Frontier improved the rate of decline in residential and business customers by 41% and 42% respectively. The company also reduced its operating expenses by 1% year-on-year. Despite the negative sentiment surrounding the recent reports of the company, Deutsche Bank initiated a hold rating on the stock with a price target of $4 per share. Zacks had its "neutral" rating reiterated on a $4.25 price target on the stock.

Hedge Fund

One of the most obvious ways to determine the health of a company is by looking at the buying and selling decisions of insiders on the company. In Frontier's case, there has been a lot of the former. In fact, while there has been no insider sale of the stock within the last one year, 47 insider purchases have been made. Directors of the company such as Edward Fraioili, Jeri Finard, James Kahan, and others have made substantial insider purchases.

However, it must be admitted that hedge fund managers are a bit reluctant to make purchases. Only 17 managers have bought the stock. The list contains names like Chase Coleman, Richard Hayden, Bernard Horn, and others.

Valuation

With the share price rising around 21% in the last five months, Frontier has returned a dividend yield of 8.80%. The company's yield is higher than the industry average of 4.80% and the sector average of 2.60%. It has also been more impressive than 6.00% for CenturyLink (NYSE:CTL), 5.00% for AT&T (NYSE:T), and 0% for FairPoint Communications (NASDAQ:FRP).

With increases in data center revenues, Frontier has reported 79.80% in quarterly earnings growth on a year-on-year basis. This trumps 49.0% for CenturyLink and -2.10 for AT&T. Operating margins are high at 22.31%. None of its competitors mentioned here has a higher operating margin. AT&T (9.52%), CenturyLink (16.00%), and FairPoint (-19.20%) are far behind Frontier. At 4.39%, Frontier's return on asset outpaces CenturyLink at 2.82%.

Additionally, shares of Frontier appear cheap at the moment. They sport a price to earnings ratio of 30.33, below the industry average of 33.1. Looking forward, Frontier's EPS estimate for next year is 0.22, which is attractive compared to -4.85 to the likes of FairPoint. Now, AT&T at forward P/E of 13.12 and CenturyLink at 12.46 are cheaper, but it is important to note that Frontier dominates the duo in terms of dividends.

Still on the sell-side, analysts forecast Frontier to grow its EPS by 21.80% per year in the next half decade. This is above 0.23% for CenturyLink , -151.80% for FairPoint, and -3.25% for AT&T. In fact, when using the PEG ratio, we see that investors may not be giving Frontier the earnings premiums it deserves. Its PEG ratio of 0.95 is comparatively cheap. CenturyLink at 54.39 and AT&T at 2.19 are far more expensive.

Macroeconomic environment

It is also worth considering the state of Frontier's surrounding macroeconomic environment. The future of the telecommunications industry is bright. Innovative products such as smartphones and tablets remain popular. Investment firm Veronis Suhler Stevenson expects the U.S. communications industry to see a compound annual growth rate of 5.2 percent over the next few years.

Conclusion

It is true that Frontier suffers from shrinking revenues, but it does not mean the company cannot bounce back. Ultimately, it is up to investors to trust the fundamental analysis, which does reveal that the stock is very competitive.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.