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Summary

  • With shares rising about 39% in the last six months, Frontier has been one of the best performers in the sector.
  • The completion of AT&T's Connecticut assets will result in a considerable increase in the customer base of the company and help it tackle rising churn rate.
  • Frontier's strategy to focus on high-growth high-margin areas will result in sustainable long-term growth for the company.

Frontier Communications (NASDAQ:FTR) has been doing extremely well over the last six months and the stock is up 39%. The stock has crossed the $6 mark and as we expected; it is proving to be one of the best investments in the sector.

Focus on the high-growth high-margin areas such as broadband internet has been integral in the growth recorded by the company. Moreover, Frontier announced plans to acquire the Connecticut wireline business of AT&T (NYSE:T) last year for about $2 billion - the transaction recently received approval from the Federal Communications Commission. The acquisition will result in rapid increase in the customer base of Frontier as the deal will bring in 1.5 million AT&T wireline customers - the acquisition is scheduled to close in the fourth quarter of this year.

Frontier Communications is Well-Positioned for Long-Term Growth

The telecom industry is now focusing on long-term growth by retaining their customers through competitive pricing and latest technological advancements in their offerings. However, these continuously changing industry dynamics have also increased the churn rate in the telecom industry. Frontier Communications performed well during the first half of the year, and managed to report strong gains in terms of net additions to the broadband segment. We reaffirm that broadband services segment remains the main growth driver for the company in the long-run.

However, the company failed to retain its customers and reported loss of around 31,800 residential customers as compared to 9,600 customers in the last quarter and 16,300 customers in the same period last year. The revenues went up by 4% year-over-year to $1.15 billion despite increased churn rate of 1.8% in the second quarter, compared to 1.63% in the same period last year.

Source: Investor Presentation, Second Quarter Earnings, August 2014.

Despite the decreasing customer base in the second quarter, the company managed to increase its residential average revenues per consumer to $59.64, which is up almost 1% compared to the same period last year. This increase in average revenues per customer also enabled the company to improve its revenue trajectory with sequential growth in residential customer revenue and revenue stability in the Small, Medium and Enterprise business segment. Further, the broadband segment reported impressive performance and increased its market share up to 82% of all markets during the first half the year.

Source: Investor Presentation, Second Quarter Earnings, August 2014.

Benefits of AT&T's Wireline Business

The continuously increasing customer churn rate in the telecom industry has prompted the telecom players to find ways to secure their losing customers. Similarly, telecom companies are purchasing their competitors' business operations for a particular territory to increase their declining customer base. Frontier is also in the process of purchasing the wireline segment of AT&T in Connecticut, which will enhance the customer base of the company. The move was appreciated by Frontier investors and the stock went up almost 9% after the announcement.

Further, Frontier has reached a settlement agreement with the state over its proposed acquisition of AT&T's phone, broadband internet and U-verse television services in Connecticut. This settlement agreement will provide tangible benefits for Connecticut customers and communities and enable the company to reduce the continuously increasing churn rate. Moreover, the company also announced to commit to incremental capital investments of around $63 million over the next three years, which will be used to expand and improve broadband in Connecticut.

However, this agreement has restricted Frontier in increasing the basic primary residential rate for U-verse video and satellite TV operations - the company will not be able to increase the basic residential rate in effect for transferred local exchanges for a period of 3 years. Furthermore, under the terms of the agreement, the company has committed to offer the basic and separate broadband services at or below the current prices. This will limit the company's ability to maximize its profits from the AT&T deal in the short-term; however, the increased customer base resulting from the AT&T deal will allow the company to benefit in the long-term.

Conclusion

The basic factor behind our recommendation of Frontier as a good investment was the direction of the company and the strategy. We believe the strategy to focus on the high-growth high-margin areas will allow the company to continue its growth in the medium-long term. Furthermore, we believe the increased cash flows will allow the company to maintain/grow its dividends in the future. As a result of the capital gains recorded in the last twelve months, the total return on Frontier Communications has become extremely attractive. Deals like AT&T Connecticut business will provide Frontier a good platform and support the long-term growth of the company.

Additional Disclosure: This article is for educational purposes only and it should not be taken as an investment recommendation. Investing in stock markets involves a number of risks and readers/investors are encouraged to do their own due diligence and familiarize themselves with the risks involved.

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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.

Source: Frontier Communications Is Well-Positioned To Grow