Financial Engineering Couldn't Help AT&T During The Second Quarter Earnings

Jul.29.14 | About: AT&T Inc. (T)

Summary

Earnings decreased from the prior year due to increases in operating expenses and taxes.

The company however did report an increase in revenues from the prior year, but the share buybacks didn't help out earnings per share.

The company reiterated the $11 billion in free cash flow for 2014.

I will not be buying the stock anytime soon unless if there is a drop in price or if an ex-dividend date is announced.

The last time I wrote about AT&T Inc. (NYSE:T) I stated:

"With the dividend ex-date looming shortly I'm going to buy a smaller batch than I normally do during the week, but I'm not too enthusiastic about it."

Since that article was published the stock is up 4.69% (but 3.69% of that return came in one day, today, on the back of news that Windstream (NASDAQ:WIN) plans to spin off some assets as a REIT) while the S&P 500 (NYSPY) is up 1.07% in the same time frame. AT&T is a provider of telecommunications services in the U.S. and worldwide.

The company reported earnings after the market closed on July 23, 2014, and on the surface the results were horrible with the company reporting earnings of $0.62 per share (missing estimates by $0.01) on revenue of $32.57 billion (missing estimates by $840 million). The stock dropped 1.06% the day it reported earnings and what I'd like to do at this time is delve into the weeds and pick out some highlights from different portions of the report to see if the stock is worth buying at the present time.

Segment Revenue

Segment Income (millions)

Q/Q

Y/Y

2Q14

1Q14

2Q13

Wireless

0%

4%

$17,930

$17,866

$17,291

Wire-line

0%

-1%

$14,637

$14,601

$14,773

Other

-11%

-27%

$8

$9

$11

Total Income

0%

2%

$32,575

$32,476

$32,075

Click to enlarge

Compared to last year, total revenue has increased by 2% for the second quarter. The only real notable thing about this portion of the earnings report is that Wireless increased revenues by 4% and accounts for roughly 55% of the company's revenues. The 27% decrease in Other revenue is immaterial as it only accounts for 0.02% of revenues.

Income Statement

Income Statement

Q/Q

Y/Y

2Q14

1Q14

2Q13

Operating Revenues

0%

2%

$32,575

$32,476

$32,075

Cost of services and sales (exclusive of depreciation and amortization shown separately below)

7%

7%

$14,212

$13,321

$13,270

Selling, general and administrative

-1%

1%

$8,197

$8,260

$8,121

Depreciation and amortization

-1%

0%

$4,550

$4,617

$4,571

Total Operating Expenses

3%

4%

$26,959

$26,198

$25,962

Operating Income (Loss)

-11%

-8%

$5,616

$6,278

$6,113

Interest Expense

2%

7%

$881

$860

$825

Equity in Net Income of Affiliates

16%

-53%

$102

$88

$218

Other Income (Expense) - Net

775%

341%

$1,269

$145

$288

Income (Loss) Before Income Taxes

8%

5%

$6,106

$5,651

$5,794

Income Tax Expense (Benefit)

30%

30%

$2,485

$1,917

$1,914

Net Income (Loss)

-3%

-7%

$3,621

$3,734

$3,880

Less: Net Income Attributable to Non-controlling Interest

-10%

28%

$(74)

$(82)

$(58)

Net Income (Loss) Attributable to AT&T

-3%

-7%

$3,547

$3,652

$3,822

Diluted Shares Outstanding

0%

-3%

5,220

5,238

5,397

Diluted earnings per share

-3%

-4%

$0.68

$0.70

$0.71

Click to enlarge

With the 2% increase on the top line I'd expect the bottom line to exhibit the same characteristics but it didn't. We immediately see a 4% increase in operating expenses which contributed to operating income decreasing 6%. Equity in net income of affiliates decreased 53% and other income increased 341% helping income before taxes increase 5% from the prior year. Income taxes increased 30% though, which made net income decrease 7% from the prior year. After subtracting the 7% decrease in net income attributable to non-controlling assets we received a 7% reduction in company specific attributable income. Just above the bottom line we see that there was a 3% reduction to the share count from last year but it wasn't enough as earnings per share decreased by 4%.

Balance Sheet

Balance Sheet

Q/Q

2Q14

1Q14

Cash and cash equivalents

213%

$11,305

$3,611

Accounts receivable - net of allowances for doubtful accounts of $483 and $547

-1%

$13,001

$13,120

Prepaid expenses

-7%

$928

$1,000

Deferred income taxes

1%

$1,180

$1,171

Other current assets

29%

$6,698

$5,187

Total current assets

37%

$33,112

$24,089

Property, Plant and Equipment - Net

1%

$114,360

$112,809

Goodwill

1%

$70,094

$69,720

Licenses

0%

$59,655

$59,584

Other Intangible Assets - Net

-2%

$6,380

$6,515

Investments in and Advances to Equity Affiliates

-96%

$159

$3,613

Other Assets

8%

$9,706

$9,010

Total Assets

3%

$293,466

$285,340

Debt maturing within one year

26%

$10,482

$8,301

Accounts payable and accrued liabilities

3%

$22,966

$22,234

Advanced billing and customer deposits

-3%

$3,990

$4,121

Accrued taxes

42%

$3,962

$2,784

Dividends payable

0%

$2,388

$2,390

Total current liabilities

10%

$43,788

$39,830

Long term debt

3%

$73,570

$71,575

Deferred income taxes

1%

$36,835

$36,448

Post employment benefit obligation

0%

$30,070

$30,029

Other noncurrent liabilities

3%

$16,578

$16,089

Total deferred credits and other noncurrent liabilities

1%

$83,483

$82,566

Click to enlarge

From a balance sheet perspective, on the short-term asset side of the equation we saw a 213% increase from last quarter in the cash and cash equivalents row thanks in large part to the sum of money gained through the sale of the America Movil (NYSE:AMX) stake. Current assets increased 37% from last quarter thanks for this transaction. However, the proceeds of this transaction will be used to make the DirecTV (DTV) acquisition possible, so we'll see it reduced dramatically in a short period of time. On the longer term side of the asset equation we see a 96% reduction to investments from last quarter in and advances to equity affiliates because of the sale f the America Movil stake, but overall assets increased by 3% from last quarter.

On the liability side of the equation we see a 26% increase in debt maturing within one year. But the 42% increase in accrued taxes is what made total current liabilities increase by 10% from last quarter. Total long-term debt increased 3% from the previous quarter while total deferred credits and other non-current liabilities increased 1%.

Conclusion

The company saw earnings decrease by 4% thanks in part to an increase in total operating expenses and an increase in taxes while the share price was up 2.89% between earnings calls. I definitely hate that earnings were down on a yearly basis. The results were mediocre to me (earning a "C" grade from me), and other investors seem to think they were bad as the stock dropped 1.06% after reporting while the S&P500 increased in value by 0.02%. The financial engineering plan didn't really work this quarter as the company spent $159 million on share repurchases ($1.2 billion was spent last quarter!). In my opinion I don't believe the company should be buying back shares for the rest of this year. On the bright side, the company is reiterating guidance for free cash flow this year of about $11 billion and still plans to spend about $21 billion in capital costs.

The company did report postpaid net adds (1.03 million) in the quarter, which were above the estimates given back in June. The problem with this quarter was that prepaid subscriptions fell by 405,000, which was much worse than the first quarter decline. This issue was due in large part to the loss of Cricket subscriptions. The company also guided for wireless service revenue to stay flat but the segment saw a drop of 1.4% from the prior year; thankfully equipment revenue increased by 44.8% to more than make up for the difference. The increase was in large part to the consumer adopting the Next smartphone upgrade plan. Postpaid churns fell 16 basis points to 0.86% while smartphone postpaid phone subscriptions increased to 80% from a 73% metric last year. Wireline revenue decreased 0.9% thanks to wireline voice dropping by 758,000 customers, and broadband connections dropping by 55,000. However, U-verse subscriptions increased by 190,000 subscriptions, helping revenue increase 24.8% from last year. The residential portion of the U-verse increase was able to cancel out the 2.9% decrease from the business side of revenue. By giving this earnings report a C, I don't believe I will be buying the stock unless it dips dramatically, or if there is another ex-dividend date coming up. I definitely will not be buying the stock after the pop in share price this morning on the back of the Windstream news.

Disclaimer: This article is meant to serve as a journal for myself as to the rationale of why I bought/sold this stock when I look back on it in the future. These are only my personal opinions and you should do your own homework. Only you are responsible for what you trade and happy investing!

Disclosure: The author is long T, SPY. 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.