Verizon Communications - Growth Appeal For Dividend Investors At A Reasonable Price

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 |  About: Verizon Communications (VZ), Includes: TMUS, VOD
by: The Value Investor

Summary

Verizon is posting continued growth, trading at 13-14 times earnings.

Its 4% dividend yield combined with anticipated growth is very appealing in this low interest rate environment.

Be aware of the relatively high leverage following the consolidation of Wireless, as the net debt position exceeds the staggering amount of a $100 billion.

Verizon Communications (NYSE:VZ) announced a solid set of second quarter results which did not trigger a lot of volatility on the markets on Tuesday.

Verizon's important Wireless business continues to add subscribers and post very fat margins. This is as the Wireline business posted its first increase in sales in many years, creating some growth appeal for even dividend-oriented investors.

The high leverage position does however limit strategic options and potential for big share buybacks, unless Verizon will dilute the shareholder base further.

Second Quarter Highlights

Verizon posted second quarter sales of $31.48 billion which is a 5.7% jump compared to the year before. Analysts expected sales to increase to just $31.1 billion.

The company posted a 5.8% jump in operating income which was roughly in line with revenue growth. Reported net earnings to Verizon's investors came in at $4.21 billion, or $1.01 per share.

This compares to net earnings of $2.25 billion last year which had to be shared with much fewer shareholders following the purchase of the remaining 45% stake in its former Wireless joint venture with Vodafone (NASDAQ:VOD).

Adjusted earnings, which excluded gains of Wireless licenses came in at $0.91 per share and beat consensus estimates by a penny.

Looking Into The Business Performance

Wireless remains of course the driver behind growth, posting a 7.5% gain in sales to $21.48 billion. Growth was driven by a 4.5% increase in the number of connections which rose to 104.6 million.

During the quarter, Verizon net added 1.43 million subscriptions versus just 1.04 million net additions in the second quarter of last year. The total quarterly bill for an average account jumped by 4.7% to $159.73 for the quarter.

The unit remains very profitable, as it has posted a 8.1% jump in operating income to $6.99 billion. Reported EBITDA for Wireless improved to 50.3% of total sales, a 50 basis point improvement compared to last year.

Wireline sales held up relatively well, squeezing out modest 0.3% growth towards $9.76 billion. The company did manage to lower the cost base by 1.7% towards $9.50 billion. As such it managed to squeeze out a modest operating income of $259 million, up from merely $74 million last year. Reported EBITDA improved to $2.26 billion with margins improving by a full percent point to 23.2% of sales.

The trends within the Wireline business are as one could have anticipated. FiOS connections rose for video, internet and digital voice but subscriber numbers fell in terms of broadband as well as voice connections.

Valuation

Verizon ended its second quarter with $6.4 billion in cash, equivalents and short term investments. The company's total debt has increased to $110 billion resulting in a net debt position of more than $103 billion following the purchase of the 45% remaining stake in the joint venture.

On a trailing basis, Verizon has now posted revenues of close to $124 billion. Trailing earnings to investors have come in at around $15.5 billion.

Trading around $51 per share, Verizon's equity is valued at around $211 billion. This values equity at 1.7 times annual sales and 13-14 times annual earnings.

A Look At The Past

Verizon has relied on its former Wireless joint venture and now fully-owned business for revenue growth. Over the past decade, revenues have nearly doubled from $66 billion in 2004 to $124 billion on a trailing basis. After a few very difficult years based on GAAP earnings following the recession, earnings have seen a jump to an anticipated $15-$16 billion going forwards, double the amount posted in 2004.

Note that total dilution amounted to nearly 50% following the purchase of the remainder of the 45% stake in Verizon Wireless in an astonishing $130 billion deal. As such, the deal valued the entire Wireless business at $289 billion. Given the current enterprise value of $314 billion, this implies Verizon believes its Wireline business is worth just $25 billion at current prices.

Final Takeaway

Investors are pleased with Verizon which is paying out steep dividends to investors as the company is digesting the purchase of the remainder of the stake in Verizon Wireless.

The unit continues to perform nicely adding 1.4 million customers in the second quarter. This marks a solid improvement compared to last year and a big improvement from the first quarter, alleviating concerns of some investors regarding potential market share gains by T-Mobile USA (TMUS) in particular. It is very nice to see Verizon Wireless being ¨shielded¨ from the increase in competition so far, so shortly after the February purchase of the entire business.

The added benefit was the strong performance of the Wireline business, posting the first gain on an annual basis in its revenues in years. The relative decline now results in Wireline revenues being just a third of total sales, while they are much less profitable compared to the Wireless business.

With capital expenditures seen at $16.5-$17 billion this year, investments approach the annual depreciation charges resulting in Verizon being able to deleverage its balance sheet to some extent. Earnings are seen at $15-$16 billion and annual dividends of about $8 billion leave a similar amount to reduce leverage of the business which still stands at above a $100 billion.

Verizon offers appeal for dividend investors looking for modest growth. Note that the big deal, which has pushed up leverage quite a bit, shares resulted in limited strategic room to maneuver without issuing shares.

In the meantime investors should not expect any or sizable share repurchases, but simply count their dividends coming in.

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