The start of the year has not been kind to the telecom stocks. Almost all of the stocks have lost value since the start of the year. Verizon (NYSE:VZ) is down about 6% year-to-date. Verizon's deal with Vodafone (NASDAQ:VOD) was one of the biggest deals, and it resulted in the company making the record-breaking $49 billion bond sale in order to finance the acquisition. The deal has resulted in a massive increase in the debt load of the company. Verizon has priced another $4.5 billion bond issue, which will be discussed briefly in this article - however, the main focus of the article will be the impending price war in the telecom sector and Verizon's position in this war.
Well-Positioned in the Price War
The price war has become intense in the telecom sector, and each participant is trying to capture a larger market share of the wireless segment. At the moment, Verizon is the market leader in this segment, with 31% market share. The quality of the company's wireless services and its wide reach have been two key factors in making it the market leader in the segment. However, the proposed merger between Sprint (NYSE:S) and T-Mobile (NASDAQ:TMUS) might change the landscape, as the owners of Sprint want to start a price war.
Currently, Verizon is offering two sets of data service. One is the high-end $75 a month package, which offers 2GB data. For every additional GB, there is a charge of $15. The other package offers 1 GB of data, and for every additional $500 MB, there is a charge of $15. All the other specifications of the packages are the same. With these two packages, Verizon has intelligently divided its service into two segments. This way, it can offer the lowest rates to customers with lesser data requirement, while making decent revenues on customers with higher data requirement.
On the other hand, AT&T (NYSE:T) reduced its data service package price to $65, and T-Mobile increased its price by $10 to $80 for the unlimited package. Sprint is coming up with as low as $45, but there are limitations involved in that package. Its unlimited package costs $60, similar to Verizon. At the moment, Verizon is able to hold its ground; as I mentioned above, the reach and the quality of the service are two key factors for the company to have the largest market share. I do not believe that there will be a major shift even after the price war increases, as the superior quality of the services provided by Verizon will allow it to retain its customers. However, if the company engages in the price war, it will certainly drive down its margins.
Spending for Future Growth and the New Bond Issue
It was recently reported that Verizon has made an investment of $711 million in infrastructure improvements for both residential and business segments. In the last three years, the company has spent roughly $3.7 billion in the state of Virginia for the development of infrastructure. This included the addition of 20,000 miles of fiber optic wiring in the area. This expenditure is likely to benefit the company in the coming years.
Besides providing better quality to customers, installing fiber optics in an area which previously had traditional copper cable opens up an opportunity for the company. With fiber optics installed, the customers can opt for Verizon FiOS, which includes more than just simple TV and telephone. It provides the whole communication and entertainment package for the customers. As the fiber optics get installed, the FiOS subscription rate is likely to increase, which will pay off this capital expenditure in the coming years and add profits to the company.
The company is also trying to install fiber optics in East Harlem, where its service has been halted due to some weather-related issues. However, the downtime in services has led the customers to believe that they are being pressured into taking FiOS. Verizon has already faced a fine of $100,000, and the company has still not managed to restore the service.
The company has priced $8.2 billion in debt, which is due in 2016 and 2018 - however, this transaction is mainly being done for the purpose of refinancing the older debt. The company has decided to buy back some of the previously issued bonds and replace these bonds with new issues. As a result, there will not be a change in the total debt load of the company.
Verizon is well-positioned in the price war in the telecom industry. In addition, it has the capability to retain customers with its comparatively better data service. The company currently enjoys the greatest market share in the industry, which may increase further amid the pricing strategy of the company. On the other hand, FiOS has a very slow growth rate and expansion takes a huge amount of time. However, the strategy of installing fiber optics in the areas which had copper cables opens the company up to the opportunity to grow its FiOS market share. Twelve-month trailing P/E ratio of the stock is 11.5, while the industry average stands at 19.5, making the stock undervalued compared to the industry.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. IAEResearch is not a registered investment advisor or broker/dealer. This article was written by an analyst at IAEResearch and represents his/her personal opinion about the companies mentioned in the article. The article is for informational purposes only and it should not be taken as an investment advice. Investors are encouraged to conduct their own due diligence before making an investment decision. I am not receiving any compensation (other than from Seeking Alpha) for this article, and have no relationship with the companies mentioned in the article.