Frontier Beats, Cuts Dividend

The rural telecommunications service provider Frontier Communications ( FTR - Analyst Report ) reported fourth quarter adjusted earnings of 7 cents per share. The quarter’s results were above both the Zacks Consensus Estimate and the year-ago earning by 2 cents.

Adjusted earnings exclude acquisition and integration costs of $42.2 million related to the integration of the operations acquired from Verizon Communications’ ( VZ - Analyst Report ) fixed-line business and $1.1 million in severance and early retirement costs (a total of $26.8 million after tax or 3 cents per share). On a GAAP basis, earnings slipped to 4 cents from 5 cents in the year-ago quarter.

Fiscal 2011 earnings per share declined 35.1% year over year to 24 cents.

Revenue

Revenue fell 5.6% year over year to $1,283.1 million in the reported quarter but edged past the Zacks Consensus Estimate of $1,266 million. The downfall was due to the loss of residential and business customers as well as lower switched access, video and directory revenue. Quarterly revenue, nevertheless, represents the highest revenue since the Verizon acquisition.

On a year-over-year basis, Local and Long-distance services, Other, and Switched Access revenues dropped 10%, 6%, and 8.3%, respectively, while Data and Internet services grew 2.7% year over year.

Fiscal 2011 revenue climbed 38.1% year over year to $5,243 million. The company successfully completed the conversion of Verzion operations in four states, achieving total synergies of $552 million in the full year. It expects the conversion in the remaining nine states to commence in March 2012.

Customer Trends

Frontier exited fiscal 2011 with 5.27 million total access lines, down 8.3% year over year from 5.75 million lines in the year-ago quarter.

Both residential and business customers showed substantial declines of 9.9% each to 3.1 million and 0.31 million, respectively. Frontier added approximately 9,318 high-speed Internet customers in the fourth quarter to reach 1.76 million (up 2.6% year over year). The company added 1,000 video customers during the fourth quarter, bringing the total number of users to 0.56 million (up 4.9% year over year).

Liquidity

Frontier ended 2011 with $326.1 million in cash and cash equivalents compared with $251.3 million in the prior year. Long-term debt increased to $8.21 billion from $7.98 billion at the end of 2010.

Capital expenditure declined 51.1% to $111.8 million in the fourth quarter but rose 55.6% to $748.4 million in 2011 on an annualized basis. Free cash flow surged 68% and 31.9% year over year to $357.7 million and $1,105.7 million in the fourth quarter and fiscal 2011, respectively.

Dividend

The company paid a total of $746.4 million in dividend in the full year that equates to a payout of 68% of free cash flow. In the fourth quarter, the dividend represented a payout of 52% of free cash flow.

Looking Ahead

Frontier raised the synergies target for the acquired Verizon fixed line business to $650 million for fiscal 2012.

For 2012, Frontier projects capital expenditures and free cash flow, excluding integration expenses and integration capital expenditures, in the bands of $725-$775 million and $0.9–$1 billion, respectively. The company expects integration expenses and integration capital expenditures of approximately $80 million and $40 million, respectively.

Frontier will distribute lower quarterly dividends of 10 cents per share to its shareholders in 2012 compared to 18 cents and three-fourths in 2011. The reduction would enable Frontier to lessen its debt and focus on improving leverage (net debt to adjusted operating cash flow).

Our Take

Frontier focuses on generating new revenues through customer retention, customer wins, new product deployments, broadband expansion, and profitability and cash flow management through reductions in operating expenses and capital expenditures. In addition, the reduction of access line losses would boost Frontier’s profitability and provide cost synergies going forward.

However, intense competition, a highly leveraged balance sheet, regulatory pressure as well as integration risks in converting the acquired Verizon properties to its own system might limit the earnings potential in the upcoming quarters.

We are currently maintaining our long-term Neutral recommendation supported by a Zacks #3 (Hold) Rank.