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Edited by Adam Isaac

Frontier Communications (NASDAQ:FTR) is one of the largest communication services providers in the U.S. The company has seen a steady rise in the stock price recently, and management has been successful in gaining investor confidence. In my previous articles about FTR, I have discussed the dividend stability, current level of cash flows and debt. In this article, I will delve a little deeper in the financial position of the company over the past three years as well as its expected financial prospects. Furthermore, the analysis includes profitability measures, leverage measures and cash flow measures.

In the last three years, the firm has almost tripled its size by acquiring 4.8 million rural landlines from Verizon Communications Inc. (NYSE:VZ). As a result, the company was able to post exceptional revenue growth for four six quarters. However, as the consolidation is finally complete, the revenue growth has come down close to industry growth. I expect Frontier to post revenue growth of about 5% per year in intermediate future. Here, my ratio analysis assumptions for the year 2012 include a year over year revenue growth of 5%, a tax rate of 40% and operating expenses growth of 4%. My expense growth projections are lower than revenue growth projections as Frontier expects to reap further operational synergies and cost savings in near future.

Profitability Measures:

 

 

 

2012

2011

2010

2009

Operating Profit Margin

20.70%

17.16%

20.33%

28.62%

Pre-Tax Profit Margin

7.53%

4.69%

7.13%

9.12%

Net Profit Margin

4.35%

2.85%

4.02%

5.70%

ROA

1.40%

0.86%

0.85%

1.76%

ROE

5.55%

3.36%

2.94%

36.87%

Source: SEC filings

Frontier's operating margin shows a fluctuating trend. It is especially difficult for a company operating in a mature industry to triple the size and avoid fluctuations in these metrics. However, FTR revenues will stabilize and follow a normal growth pattern in the coming years. Meanwhile, the pre-tax profit margin will have a significant increase from the end of year figures of 2011. At the moment, net profit margin for Frontier is 2.85%, but I expect the company to post a significantly improved figure of 4.35% at the end of the year. I also expect the firm to post healthy ROA and ROE figures at the end of the year. It is evident from the profitability measures that the firm is improving its profitability gradually. Frontier Communications has a strong business model, and with further cost savings, these healthy profitability trends are likely to continue.

Leverage Measures:

 

 

 

2012

2011

2010

2009

Debt Ratio

44.74%

47.00%

44.63%

69.70%

Debt to Equity

1.78

1.84

1.54

14.63

Capitalization

64.00%

64.81%

60.57%

93.60%

Interest Coverage

1.69

1.35

1.48

1.60

Cash Flow to Debt

0.22

0.19

0.15

0.15

Source: SEC Filings

Frontier debt levels increased massively due to the acquisition of Verizon assets. As a result, the debt metrics for the company were affected over the last three years. However, the current metrics are improving, and the end of year figures should be encouraging. According to my analysis, Frontier debt ratio, debt to equity ratio and capitalization ratio should come down to 44.74%, 1.78 and 64% respectively. On the other hand, Frontier should not have any trouble in paying its interest obligations with the interest coverage ratio of 1.69. Furthermore, cash flows for Frontier are improving, and the cash flow to debt ratio has been showing a steady rise. Almost all of the debt measures show that the firm is gradually moving towards a strong financial position, and it should not face any trouble in dealing with its debt.

Cash Flow Measures:

 

 

 

2012

2011

2010

2009

Operating Cash Flow to Sales

30.21%

30.00%

32.18%

35.07%

Free Cash Flow to Operating Cash Flow

68.27%

47.55%

52.72%

65.54%

Capital Expenditure Coverage

3.15

1.91

2.11

2.90

Dividend Coverage

4.16

2.11

2.31

2.38

CAPEX + Dividends Coverage

1.79

1.00

1.10

1.31

Source: SEC filings

Frontier cash flows have improved significantly over the last three years. However, operating cash flows to sales ratio does not clearly show improvement in the operating cash flows. As I mentioned above, Frontier revenues have been growing exponentially during the past four quarters. As a result, a higher growth rate in revenues slightly overshadows the growth in operating cash flows. Nonetheless, it has healthy operating cash flows to sales ratio. A look at the free cash flows to operating cash flows clearly indicates an improvement in the cash flows of the company, and I expect the company to post healthy free cash flows by the end of 2012. Capital Expenditures coverage ratio will show an improved figure due to the decreased capital expenditures. In the meantime, I also expect dividend coverage ratio and (Capital expenditure) CAPEX+ dividends coverage ratio to improve. Overall, cash flow analysis gives an indication that the firm is improving its cash flow position.

Comparison with Peers:

Although Frontier is one of the most broadly followed telecommunication stocks, it is hard to compare with telecom giants. I think it would be fair to state Windstream Corporation (NASDAQ:WIN), Alaska Communications (NASDAQ:ALSK), and Consolidated Communications Holdings (NASDAQ:CNSL) as related companies. There are also some regional competitors for Frontier, which are limited to smaller regions.

 

 

 

Frontier

Windstream

Alaska communications

Consolidated Communications

P/E

42

34

55.3

27.3

P/B

1.1

4.5

N/A

24.9

P/S

0.9

1.1

0.3

1.3

Operating Margin

17.40%

16.40%

14.60%

15.00%

Net Margin

2.10%

3.10%

.50%

4.90%

ROE TTM

2.30%

15.40%

N/A

41.40%

Debt to Equity

1.8

6.6

23.2

43.4

Source: Morningstar.com

In comparison to its competitors; Frontier is cheaper based on P/B and P/S ratios, while it is a little expensive on the basis of P/E ratio. However, Frontier has stronger margins as compared to its competitors. On the other hand, some of its competitors offer attractive ROE at the cost of elevated debt and risk levels.

Summary:

Frontier Communications has been through the transition period, and I believe the firm is now well placed to achieve steady growth. I expect Frontier to post steady revenue figures and a stable growth. As it is evident from my analysis that the firm is getting in a stronger financial position, I remain confident that Frontier will be able to grow at a steady rate. Management of the company has taken some prudent steps in order to ensure the long term survival and the growth of the firm; early retirement of debt and a dividend cut are two of the examples of the long term mindset of the management. It is my belief, that the recent steps taken by management will have a long lasting effect and the firm will progress handsomely.

Source: Frontier: Ready To Move Higher