AT&T Inc. (NYSE:T) Q2 2023 Earnings Call Transcript

AT&T Inc. (NYSE:T) Q2 2023 Earnings Call Transcript July 26, 2023

AT&T Inc. beats earnings expectations. Reported EPS is $0.65, expectations were $0.6.

Operator: Thank you for standing by. Welcome to AT&T Second Quarter 2023 Earnings Call. At this time, all participants are in a listen only mode. [Operator Instructions] Following the presentation, the call will be opened for questions. [Operator Instructions] And as a reminder, this conference is being recorded. I would now like to turn the conference call over to our host, Amir Rozwadowski, Senior Vice President, Finance and Investor Relations. Please go ahead.

Amir Rozwadowski: Thank you, and good morning, everyone. Welcome to our second quarter call. I’m Amir Rozwadowski, Head of Investor Relations for AT&T. Joining me on the call today are John Stankey, our CEO; and Pascal Desroches, our CFO. Before we begin, I need to call your attention to our Safe Harbor statement. It says that, some of our comments today may be forward-looking. As such, they’re subject to risks and uncertainties described in AT&T’s SEC filings. Results may differ materially. Additional information including our earnings materials are available on the Investor Relations website. With that, I’ll turn the call over to John Stankey. John?

John Stankey: Thanks, Amir, and good morning, everyone. I appreciate you joining us. I’d like to open our discussion today by sharing that at the half way point of the year our performance and results are tracking entirely consistent with the guidance we provided to you. In fact, Pascal shares the specifics with you, I think you’ll conclude that our performance continues to demonstrate our strategy is on track to achieve the objectives we outlined three years ago: to drive consistent growth; simplify the company; and reduce leverage. To that end, I’d like to spend a few moments today summarizing that progress and how we believe this positions our company for sustainable and profitable growth going forward. Let’s start by looking at our wireless.

For the last three years our teams have executed on a strategy that enabled us to go from annually loosing share to now delivering the right combination of continued postpaid phone adds, low postpaid churn, growing average revenue per user and profitability growth. Specifically over the past three years, we’ve added 8.3 million postpaid phone net adds, that’s up from fewer than 1 million in the three years prior to July 2020. During the past three years, not only do we close the gap to the industry share leader for postpaid phones by about 350 basis points, but we also improved our wireless service revenue share versus the industry leader by roughly 250 basis points. On postpaid phone churn, we drove an improvement of 28 basis points since the beginning of 2020.

We also achieved our record low quarterly postpaid phone churn in two of those three years. In stark contrast, the wireless industry’s leaders postpaid phone churn was relatively flat over the same time. Statistics aside from my seat, our historically low levels of churn along with improved mobility net promoter scores shows me that our customers are very happy with the investments we’ve made in AT&T’s customer experience and network quality and that our teams are delivering great value. Ultimately this means our customers are more likely to stay with AT&T over the long haul. And this is confirmed by external indicators like the American Customer Satisfaction Index, which recently named AT&T as the number one in wireless customer satisfaction.

So, more customers are choosing AT&T and staying with AT&T. They’re also more profitable as evidenced by our increasing postpaid phone ARPU and service revenues. Over the past three years, our postpaid phone ARPU is up more than a dollar. This shows that customers are voting with their wallets. We’ve achieved the right balance between the cost of our services and the value we provide. Lastly, let’s look at wireless revenues and profitability. From 2Q 2018 to 2Q 2020, our wireless service revenues were essentially flat. Our profitability was up modestly over that time period. However, in the past three years, we’ve grown quarterly wireless service revenues by about $2 billion, up roughly 15% and we’ve materially increased profitability on an annual basis.

I should also call out the success we’re seeing in our prepaid business, where Cricket has sustained growth by continuing to add prepaid voice customers to one of the highest value subscriber bases in the sector. Now let’s turn to our fiber business. Our investment theses for building more fibers started with our understanding that people needed better and faster broadband connectivity than what was available, that those needs would only grow exponentially. We believe that by providing the best access technology on the planet we can transform our consumer wireline business in a fiber fueled sustainable growth franchise. Our results have only strengthened that confidence as returns continue to exceed our initial expectations. Over the past three years, we’ve had more than $3.4 million AT&T fiber net adds, boosting our subscriber base by roughly 80%.

Everywhere we put fiber in the ground we feel good about our ability to win with consumers. In fact, our average penetration rate is about 38%. Over the past three years, our fiber net additions outpaced the leading cable providers broadband net additions. This is an impressive accomplishment given the size of their footprint. Since the second quarter of 2020, we doubled our quarterly fiber broadband revenues reaching more than $1.5 Billion this quarter. And over the past three years, the accretive mix shift to fiber is driven our broadband ARPU up more than $10, an increase of 20%. This again shows that customers are voting with their dollars. We also have plenty of room to run as we’re still less expensive than competitive offerings in the market.

So let me summarize. Our wireless business is growing share in ARPU with low churn and improving margins. And our fiber business is accelerating new build penetration, growing share in ARPU, while lowering churn and improving margins. This is the formula for sustainable top and bottom line results and we’re confident this success will be sustainable over the next three years. As industry convergence accelerates our owners’ economics in both fiber and wireless provide AT&T with a strategic advantage that will be hard to match. The lifetime value of our mobile customer is significantly higher than that of a cable MVNO customer. Cable is busy adding wireless customers at very low life time values just to protect customers they already have. We’re not only keeping our current high value customers happy, but also adding more of them.

Moving to our next priority. I’m pleased with how we continue to simplify our business and improve our efficiency. Our cost savings initiative has achieved our $6 billion run rate savings target and we believe there is significant opportunity to build on this momentum with another $2 billion plus over the next three years. After a period of reinvestment, this work has been the foundation for our recent margin improvements. As shown in our adjusted EBITDA margin improvement this quarter of 210 basis points compared to the same quarter last year. These additional cost savings will be largely driven by the sun setting of our legacy product portfolio as supporting infrastructure. As we ramp our execution on this work, we’ll begin to enjoy the benefits of our simplified focus on wireless and fiber.

Turning to our final priority. We continue to allocate capital in a deliberate manner to create best-in-class experiences for customers, drive sustainable profitable growth and deliver long term value for shareholders. Over the past three years, we’ve reduced our net debt by about $20 billion. We also recently transferred $8 billion of pension liabilities through the purchase of insurance annuities. As Pascal will discuss, we’ve addressed a number of one time and discrete items and now expect to use an increasing amount of our free cash flows after dividends to accelerate our debt reduction efforts. We remain committed to achieving the 2.5 times range for net debt to adjusted EBITDA in the first half of 2025. We feel good about our ability to accomplish this goal, while providing an attractive dividend with improving credit quality as we expect to increase cash generation over time.

At the same time, we’re investing in the future of our company and the future of our country’s connectivity. Since July 2020, our capital investment has totaled about $65 billion. As one of the largest investors in America’s broadband infrastructure we’re enhancing our 5G and fiber network at a historic pace. We’re focused on connecting the most people and the most places and with the best experience. Over the past three years, we’ve passed about 7 million new fiber locations, increasing our locations passed by about 40%. Over the same time, we’ve expanded our nationwide 5G network to cover approximately 290 million people and we now reach more than 175 million with mid band 5G spectrum. While some of our peers spend time trying to convince you why their services are good enough for now, we’re investing billions to provide Americans access to the best Internet offering for decades to come.

I’ll end my remarks by reiterating that the repositioning of our business can be credited to our team’s belief in our strategy and ongoing commitment to delivering real value for our customers. We are focused on ensuring AT&T is the clear choice to serve our country’s connectivity needs, not only today, but well into the future. With that, I’ll turn it over to Pascal. Pascal?

Pascal Desroches: Thank you, John, and good morning, everyone. Let’s move to our second quarter financial summary on the next slide. Consolidated revenues were up nearly 1% in the second quarter, largely driven by wireless service revenue and fiber revenues. Additionally, revenues in our Mexico operation were also higher due to increases in wholesale and equipment revenues, as well as favorable FX. These increases were partially offset by an expected decrease in low margin mobility equipment revenues and a decline in business wireline. Adjusted EBITDA was up 7% for the quarter with growth in Mobility, Consumer Wireline in Mexico, this was partially offset by an expected decline in Business Wireline. We are on track to deliver our full year adjusted EBITDA guidance.

Given our momentum to date, we are confident in delivering adjusted EBITDA growth of better than 3%. Adjusted EPS was $0.63 compared to $0.65 in the year ago quarter. This includes about $0.07 of non-cash aggregated EPS headwinds from lower pension credits, lower capitalized interest, lower DIRECTV equity income, all of which we expected. Cash from operating activities was $9.9 billion versus $7.7 billion last year and was up $3.2 billion sequentially. The main factors driving this year-over-year increase were: higher receipts driven by earnings growth; higher securitizations; and lower device and interest payments. Capital investment was $5.9 billion in the quarter and $12.4 billion year to date. This reflects continued historically high levels of investment in 5G and fiber.

We expect to move past peak capital investment levels as we exit the year. We feel really good about free cash flow of $4.2 billion in the quarter. For the first half of 2023 compared to the first half of 2022, free cash flow was up about $1 billion and we expect our cash generation to accelerate from here. We delivered this year-over-year growth in the first half despite about $8 billion lower DIRECTV cash distributions and roughly $7 billion in lower net impact of sales of receivables. We expect free cash flow of about $11 billion for the remainder of 2023 weighted towards the fourth quarter. Here are the factors driving this acceleration of free cash flow relative to the first half performance. One, we expect capital investments to be about $1 billion lower in the second half of the year after peaking in the first half.

Two, we anticipate device payments to be about $4.5 billion lower than the first half of the year. Three, the first half of the year included more than $1 billion of annual incentive compensation payments that won’t repeat in the second half. Four, and as I mentioned earlier, we expect full year adjusted EBITDA growth of more than 3%. And lastly, we expect other working capital improvement of roughly $1 billion in the second half of the year relative to the first half of the year, including higher non cash amortization of deferred acquisition costs. These improvements are expected to be partially offset by lower cash distributions from DIRECTV of about $500 million in the second half of the year relative to the first half. And cash tax is about $1 billion higher in the second half of the year versus the first half of the year.

As a result, we are on track to achieve full year free cash flow of $16 billion or better. Now let’s turn to our mobility results on the next slide. Looking at our mobility results, postpaid phone net adds were 326,000. Total revenues and profits of our largest business unit are at an all-time second quarter highs. Revenues were up 2% and service revenues were up 4.9%. These gains were driven by subscriber growth and higher ARPU. Mobility EBITDA was up 8.3% in the quarter. Mobility postpaid phone ARPU was $55.63, up 1.5% year-over-year. The primary drivers of ARPU growth are: higher ARPU on legacy plans from last year’s pricing actions; a continued mix shift to higher value rate plans with higher margins; and continued improvement in consumer international roaming trends.

Postpaid phone churn remains low at 0.79% for the quarter. In prepaid, we had 123,000 phone net additions with total churn up 2.5%, primarily driven by Cricket. Let’s move to the next slide in our wireline results. Our fiber investment is driving Consumer Wireline growth and strong returns. We added 251,000 fiber customers. This is strong growth against an industry that slowed in recent quarters due to significantly lower move activity. Strong fiber revenue growth of 28% drove broadband revenues up by 7% year-over-year. Our fiber revenues are outpacing our legacy revenues and this separation will continue to grow over time. Fiber ARPU was $66.70, up 8%. Customers are increasingly choosing faster speed tiers, which is also supporting ARPU growth.

Consumer Wireline EBITDA grew 10.2%. This reflects fiber revenue growth and about $35 million of discrete comparison items that helped EBITDA growth rates. Turning to Business Wireline. EBITDA was down about $75 million year-over-year. This quarter included about $75 million in discrete comparison item, including a one-time access cost benefit. Ultimately, we still see the same underlying trend that went into our guidance and our full year expectations are unchanged. Our business solutions wireless service revenues grew 9.1%. FirstNet continues to be a driver of this growth. Connections grew by about 350,000 sequentially, with a little more than one-third of this growth from postpaid phones. What we’ve accomplished with FirstNet is truly remarkable.

Not long ago, this was an underpenetrated segment of our customer base, but by committing to delivering a best-in-class network and tailored solutions for first responders, we’ve become the unquestioned industry leader by exclusively serving the public safety community with 5 million FirstNet connections in just five years. We believe there is runway to continue this growth. Now I’d like to close by taking a moment to provide an update on our capital allocation on the next slide. We wanted to provide some added information around our expectations for reducing net debt. Our plan to reduce net debt and reach the 2.5 times range in the first half of 2025 remains on track. Over the course of the past 12 months, we generated $15.2 billion of free cash flow and paid out total dividends and other distribution of $9.3 billion.

This left us with $5.9 billion of remaining cash. So why didn’t net debt decline by a proportion amount? The short answer is that, we had approximately $4 billion of onetime items and discrete obligations to payoff. These included our WarnerMedia post-closing adjustment payment, our final NFL Sunday Ticket payment and redeeming in full the $8 billion preferred interest in our Mobility to subsidiary. We partly funded this with $7 billion of issuances for other preferred subsidiary shares. Additionally, net debt reflects about $1.5 billion of mark to market impacts from foreign exchange. Keep in mind that our foreign denominated debt is fully hedged, so economically we have an offsetting foreign currency gain in derivatives. Looking forward, in the fourth quarter we expect to make final clearing payment of about $2 billion tied to our 2021 spectrum acquisitions.

After this payment, we will be in a position in which, we’ve satisfied all non-recurring near term financial obligations. The majority of our debt is fixed at very low rates and we have refinanced or refunded some of our near term debt maturities at really attractive rates. At the same time, capital investment will be coming down from all-time peak levels. This will increase cash and give us more cash to reduce net debt/ So going forward, from now until the first half of 2025, we expect to increasingly use our free cash flows after dividend to reduce debt and at a faster pace. By the end of this year, we expect to reduce net debt by around $4 billion, excluding any potential FX impacts which will put us at about the three times range for net debt to adjusted EBITDA.

This puts us on our trajectory to achieve the targeted 2.5 times range in the first half of 2025. In summary, we feel good about our plans to delever and about our Q2 results which demonstrates our ability to sustainably grow subscribers, service revenues and profits. Let me turn it back to John to close out our remarks.

John Stankey: Before we open it up for Q&A I’d like to briefly comment on the telecommunication industries handling of lead-clad cables in our networks. As background, it’s well understood that lead-clad cables are used broadly in our nation’s infrastructure today. From power cables to telecommunication cables lead has used to protect interior wires from exposure to the elements, because lead is very stable and it doesn’t rust. The practice is long been known and its risks of exposure to those in close contact to it has been regulated by Federal and State authorities for decades. Generally the telecommunications industry began to phase out placement of new lead-clad telecom cables in the 1950s. However, lead-clad cables are so durable that they continue to be used in our power grid, in our railway systems and in our industry and some of these cables still provide important customer voice and data services, including connecting 911 service, fire alarms, and other central monitoring stations.

We take the concerns raised very seriously as there is no higher priority than the health and safety of our employees and the communities where we live and work period. We believe that a deliberate review in collaboration with the EPA and our industry partners with reliable science at the forefront is the responsible way to evaluate this issue. Independent experts, longstanding science have given us no reason to believe these cables pose a public health risk. In our own prior testing which we shared publicly confirms the established science. Still, to be responsive to any concerns raised by recent reporting, we’re doing additional testing at selected sites and we’re working cooperatively with the Environmental Protection Agency to provide them the information needed to conduct a thorough assessment of the issue using the most up to date reliable science.

We’re very proud of our track record, along with our union partners in addressing employee safety for those who perform maintenance and repair work on these cables. We fully comply with the established regulatory standards and science related to potential lead exposure for workers and meet or exceed state and federal OSHA requirements for our employees who work with lead. In the abundance of caution, one extra measure we’ve taken is to expand our existing practice of providing testing for employees involved in cable removal, and have added a voluntary testing program for any employee who works with or has worked with lead-clad cables. We’re offering the testing on company time and at company expense. Rest assured, that if there’s new and reliable information for us to consider, we will constructively work with others in our industry, scientific experts and government agencies to do what we always endeavor to do, which is act responsibly.

I hope the information that we’ve been providing including that lead-clad cables make up a small part of our network with the majority underground encased and protective conduit serves as helpful background on the topic. We’ve always done the right thing related to lead cables. We’re doing the right thing today based on current science and protocols. And will do the right thing should current scientific techniques develop new and reliable evidence that warrants a change and approach. With that said, we’re now ready for questions. Amir?

Amir Rozwadowski: Thank you, John and Pascal. Operator, we’re ready to take the first question.

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Q&A Session

Operator: [Operator Instructions] Our first question will come from the line of Brett Feldman of Goldman Sachs. Please go ahead.

Brett Feldman: Thanks for taking the question. You had given us some visibility into the net add trends you expected in your wireless business during the quarter, that was very helpful. I was hoping you could share with us what degree of visibility you have into the second half of the year? So for example, are there any unique headwinds that you have to manage through more broadly, what type of market environment are you managing the business around? And are things changing enough at a market level that you’re beginning to tweak how you go to market relative to the simplified approach you’ve been using for a number of years now? Thank you.

John Stankey: Hi, Brett. Good morning. Look, I would tell you, I feel really comfortable with where things are. I like to kind of tick through your questions. Given the second quarter issue we had with one account, I don’t have another one of those sitting in front of us that I wherever concerned about. I would say more broadly, the market demonstrates a bit more resiliency than probably what I would have expected in the fourth quarter of, say, last year. We’re certainly not seeing the kind of frothiness that was around in 2020 and 2021. But volumes and activity in the market is good. We do our own adjustments for some of the reported numbers. I don’t know that every net add in the market is equivalent to the other, so we kind of look at the ones that are economic valuable.

But even when we make those adjustments, I think demand has been pretty solid in the market. To your point, there were a lot of structural changes in people’s offers. In the second quarter they came roughly at about the same time. When new messaging gets put into the market, we saw what we typically saw, which is a little bit of a freezing that occurs as consumers process what new offers are out there. And of course, like you, we sat and watched and wanted to know what the ultimate reaction was going to be. And I would tell you, we’ve kind of moved through that freezing period and I see a situation where we exited the quarter in a very, very good place. A place that’s consistent with what we would have expected given the value propositions and offers we’ve had in the markets over the past of years.

So I feel fine about where things are going. I think that consumer continues to show signs that they’re pretty healthy right now. I don’t see anything that gives me near term concern about demand. I don’t know what happens down the road. It’s anybody’s guess what the economy does. I’ve had a fairly conservative bent on that. I think it served us well. I’ll keep that conservative bent as we manage the business going through the balance of the year, but the market is certainly supporting, I think, healthy growth and the industry is, I think, even better news, responding well to that growth. I see players investing and I see them making moves to make sure that they can recover returns on those investments. And that’s good for all of us. I think it’s good for the industry overall and it’s good for consumers and the services that they’re getting.

Brett Feldman: Thank you.

Operator: Our next question will come from the line of John Hodulik of UBS. Please go ahead.