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Brazilian telecom carrier Telefonica Brasil SA (VIV - Analyst Report) reported third-quarter 2012 net income of R$935.8 million ($456.6 million), down 29.8% year over year. Earnings per ADS came in at 41 cents, considerably lagging the Zacks Consensus Estimate of 53 cents.

Revenue rose 2.1% year over year to R$8.46 billion ($4.13 billion), and was inline with the Zacks Consensus Estimate. Consolidated EBITDA rose 3.1% year over year to R$2.9 billion ($1.4 billion), with EBITDA margin increasing 30 basis points (bps) to 34.4%. Operating expenses dropped 0.9% year over year to R$5.56 billion ($2.71 billion).

Revenue Segments

Mobile revenue climbed 8.5% year over year to R$5.34 billion ($2.61 billion), driven primarily by data and VAS, and access and usage revenues. Telefonica Brasil added 0.93 million customers in the quarter, thus taking its total subscriber base to 76.81 million (up 14.6% year over year). Post-paid and prepaid subscribers grew 16.9% and 13.9% year over year to 17.95 million and 58.85 million, respectively.

Average revenue per user (ARPU) fell 7.1% to R$22.2 ($10.8) as lower voice ARPU fully mitigated the growth in data ARPU. As a result of higher termination of 1.6 million inactive prepaid subscribers, customer churn upped 0.6% year over year to 3.5%.

Fixed revenue fell 7.3% year over year to R$3.12 billion ($1.52 billion). Pay TV performed the worst with revenue decline of 18.6% followed by a 13.4% decline of fixed voice and access. However, other services, interconnection and data transmission revenue increased 17.2%, 4.7% and 1.2% respectively.

Total fixed access lines reached 15.08 million at the end of the reported quarter, reflecting a 1.6% year-over-year decrease. Telefonica Brasil added 37,000 fixed broadband service customers, bringing the total subscriber base to roughly 3.75 million (up 5.7% year over year) during the quarter. The Pay TV subscriber base dropped 10.6% year over year to 619,000 customers. Fixed voice lost 57,000 customers and the subscriber base stood at 10.71 million at the end of the third quarter.

Liquidity

Telefonica Brasil – a subsidiary of Telefonica SA (TEF - Analyst Report), exited the third quarter with cash and cash equivalents of R$6.74 billion compared with R$3.13 billion in the year-ago quarter. Net debt decreased to R$1.08 billion from R$1.92 billion in the year-ago quarter. Net debt-to-EBITDA ratio improved to 0.09 times from 0.16 times in the year-ago quarter.

Capital expenditure decreased 21.4% year over year to R$963.6 million ($470.1 million) in the reported quarter.

Our Take

Despite the expansion of video, broadband Internet and Pay TV services, we remain skeptical about the company’s ability to regain lost profitability in the fixed-line segment. Tariff cuts, intense inflationary pressure, stiff competition from rivals like America Movil S.A.B. de C.V. (AMX - Analyst Report) and Telecom Italia S.P.A. (TI - Snapshot Report), and excessive government intervention would put added pressure on the company. All these factors might restrict the potential synergies derived from the mobile business apart from restraining the top and bottom-line growth.

We are currently maintaining our long-term Underperform recommendation on the stock. For the short term (1-3 months), Telefonica Brasil holds a Zacks # 3 (Hold) Rank.

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