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Will Telecomm Continue to Outperform the S&P 500?

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October 6, 2016
Telecommunications Earnings Preview
istock/12521104

Investors typically flock to the telecommunications sector when interest rates are low, thanks to its relative stability and high dividend yields—currently averaging 4.5% for the sector. The telecommunications sector has been one of the stronger-performing sectors so far this year, and has outperformed the S&P 500 by several percentage points in 2016.   

Much like the airline industry, companies in the telecommunications sector have benefited from consolidation, but competition and pricing wars have been heating up and could pressure profits in future quarters. Subscriber growth among wireless carriers is projected to grow 2% to 3% through 2018 according to S&P Capital IQ estimates, but value carriers Sprint (S) and T-Mobile (TMUS) have been lowering prices and using other promotional strategies to try to steal market share from Verizon (VZ) and AT&T (T).

Sprint has been struggling for years to turnaround declining revenue and the company continues to report losses quarter after quarter. Its declining revenue appears to be stabilizing and the company has been growing its subscriber base. Analysts estimate an average loss per share of $0.08 on $8.7 billion in revenue when the company reports on October 25. The company’s shares have rebounded sharply this year over renewed optimism for the business.

T-Mobile’s subscriber growth has outpaced its competitors in recent quarters. The company added an impressive 1.88 million new subscribers in Q2, compared to 1.28 million for Verizon and 1.36 million for AT&T. T-Mobile’s second-quarter revenue increased 12.5% over last year, to $9.2 billion, but the company has been less profitable than some of its peers. The company is expected to report on October 24 and analysts estimate an average earnings per share (EPS) of $0.23 on revenue of $9.4 billion.

Despite strong subscriber growth, Verizon’s revenue has started to decline. Second-quarter revenue declined 5.3% over past year, to $30.5 billion, and is expected to decline low single-digits the remainder of the year. Verizon is set to report October 20 and analysts estimate an average EPS of $0.99 on $31.2 billion in revenue. The company continues to acquire business to scale its push into mobile advertising. After acquiring AOL last year for $4.4 billion, the company plans to buy Yahoo’s (YHOO) core content business for $4.8 billion this year.

AT&T has benefited from its acquisition of DIRECTV and its expansion into Latin America. Revenues are projected to increase 12.2% in 2016 thanks to the DIRECTV acquisition, and then taper off to low single-digit growth in 2017. Like Verizon, AT&T has faced growing competitive pressures from low-cost carriers, but should benefit from subscriber growth in the next several years. As the company continues to integrate DIRECTV, it expects to achieve total cost synergies of $2.5 billion. AT&T is set to report on October 25 and analysts estimate an average EPS of $0.74 on $41.1 billion in revenue.

The Power of Labor Unions

Labor unions and strikes have been a growing headache for some companies in the telecommunications industry. Verizon faced significant disruptions to its business when roughly 40,000 union workers went on strike earlier this year over Verizon’s proposed cost savings measures that included cuts to pensions and health plans. AT&T also faced potential strikes this year when negotiating renewed contracts with unions. Union workers could be emboldened by the success of the Verizon strike, which some saw as a big win for the striking employees.   

Industry Consolidation and Mergers and Acquisitions

Mergers and acquisitions in the telecommunications sector have slowed down compared to recent years, but the industry continues to consolidate at a decent pace. Companies continue to look for bolt-on acquisitions and new lines of business that could provide opportunities for profitable growth and cost savings as U.S. and European markets have become almost completely saturated with smart phones. AT&T’s acquisition of DIRECTV allowed the company to become a one-stop-shop for consumers by providing landline phone, broadband, TV, and mobile services. By providing all these services and motivating customers to bundle, companies like AT&T and Verizon are hoping to reduce turnover and, ultimately minimize customer acquisition costs.

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