Carrier Earnings Roundup: Part II
This week saw reports from Broadwing, Level 3 Communications, and Qwest Communications -- a trio of distressed carriers generally seen as less-certain bets to survive than the four that we summed up last week (see Carriers Reap Mixed Harvest).
A review of the results shows why. While several encouraging trends emerged from last week's group -- including positive earnings, moderated one-time charges, and debt reduced across the board -- no such trend was evident this week.
Earnings are in the red and capital spending has come down dramatically. Two of the three carriers that reported have more debt now than they did at the beginning of the year, and cash flow has been erratic. The use of one-time items and clever accounting only adds to the uncertainty.
Let's take a closer look:
Broadwing Inc. (NYSE: BRW): At first glance, third-quarter results looked surprisingly strong (see F&S: Fiber Testers Set to Boom). Revenues increased two percent sequentially and EPS improved to $0.01 from losses of $0.10 in the previous quarter and $0.18 at the same time last year. Total debt has been reduced to $2.56 billion from $2.85 billion since the beginning of the year, and cash flow has been positive for two straight quarters.
A look behind these numbers, though, raises questions. First, the company booked a $41 million non-cash benefit related to the termination of an IRU (Indefeasible Right of Use) contract with Teleglobe (NYSE, Toronto: BCE).
Without this benefit, reported EPS would have been a loss of about $0.18 per share, not a one-cent profit. While overall cash flow was positive, and the carrier's local and wireless units are performing well, its broadband unit consumed $39 million, and declining sales there have been a persistent problem.
What's more, the carrier's guidance indicates that fourth-quarter capex could increase almost 25 percent to $50 million, while fourth-quarter revenues could decline by as much as 12 percent to $497 million.
Level 3 Communications Inc. (Nasdaq: LVLT): If you go by the press release (see Level 3 Reports Q3), third-quarter revenues increased 42.3 percent sequentially to $1.067 billion. One problem -- this number counts acquired revenues. The core communications business did only $274 million in the third quarter. Another $750 million in services revenue is derived from Software Spectrum (a business-to-business software provider that was acquired to keep Level 3 from violating debt covenants).
The carrier's bottom line remains weak, debt is high, and cash flow is negative. Excluding a $5 million ($0.01 per share) gain for early debt retirement, the reported loss came in at $0.74 per share.
Also worth considering are the following factors: While other carriers have reduced debt since the beginning of the year, Level 3’s debt load has increased to $6.4 billion from $6.2 billion. Capital spending declined 65 percent to $31 million in the third quarter and is projected to increase to $45 million in the current quarter. If Level 3 fulfills fourth-quarter guidance, full-year capex will come in at $218 million for full year 2002, a decline of 91 percent from the $2.33 billion spent in 2001. Verdict? Level 3 has bought itself time, but the core communications operations are much weaker than the current valuation suggests.
Qwest Communications International Inc. (NYSE: Q): Tuesday's announcement, in which Qwest admitted it will have to restate revenues and take a huge asset writedown (see Qwest May Take $40B in Charges), validates rumors that the company’s accounting hasn't been up to par.
Qwest announced that it will restate $531 million in revenue and will write down the value of its assets by at least $35 billion. The revenue issue is related to cash sales of fiber optic capacity that were booked up front rather than over the life of the contract. This restatement comes on the heels of last month’s reversal of $950 million in revenue that had been booked as fiber swaps (see Qwest's Amazing Shrinking Revenues).
The asset writedown is related to Qwest's US West operations and exposes the severity of the problems there. The press release was spun in a positive way, with two analysts claiming that this revelation will put any accounting issues to rest. Perhaps, but others might worry that this is just the tip of the iceberg.
Qwest's third-quarter revenues declined 13 percent sequentially, and the reported net loss came in at $0.13 per share. Based on revised guidance of $3.0 billion to $3.1 billion, fourth-quarter capex should come in at around $680 million, as compared to $948 million in the third quarter and $618 million in the second quarter. Total debt has risen to $26.13 billion from $25 billion since the beginning of the year, while cash flow has fallen 40 percent (though still positive).
— Chris Bulkey, Research Analyst, Optical Oracle
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