EUR 850.00 For Business Accounts Only

Morningstar | AT&T Reports Weak Fourth-Quarter Customer Metrics as Attention Turns to Profitability

AT&T delivered fourth-quarter results broadly consistent with its efforts to improve profitability, with generally soft customer growth metrics set against solid margins. We don’t expect to materially change our $37 fair value estimate, and we maintain our narrow moat rating. We continue to believe AT&T faces a difficult task in the entertainment business as the economics of the television business evolve, and we don’t share management’s view that segment profitability will stabilize in 2019. On the other hand, we believe the wireless business performed well, especially considering the strong customer growth both Verizon and T-Mobile posted during the quarter. WarnerMedia also produced strong top- and bottom-line results, despite HBO’s dispute with Dish, on solid performance at the box office.

Television customer losses have likely attracted the most investor attention. AT&T lost 391,000 traditional (satellite and U-Verse) customers during the quarter, bringing the decline in this customer base to 5% for the year. The firm’s online television offering DirecTV Now also lost 267,000 customers. These results were in keeping with AT&T’s pledge to rationalize television pricing to ensure that all customers deliver reasonable margins. The firm claims the 500,000 Now customers on deep discounts at the start of the quarter have either dropped the service or traded up, lifting average revenue per customer to roughly $46 per month from about $35 in the prior quarter. Segment revenue dropped at the slowest pace in more than a year (3%), though margins continue to contract.

In the wireless business, AT&T added 134,000 net postpaid phone customers, remaining in the black on this measure for the third consecutive quarter despite the decision to not chase year-end promotions. Prepaid customer net additions, a focus for the firm, dropped sharply to 26,000. Still, wireless service revenue growth accelerated to 3% and operating income jumped 19%, adjusted for accounting changes.

While AT&T’s postpaid customer growth metrics weren’t great, we had feared worse. Verizon, T-Mobile, and Comcast reported a combined 1.9 million postpaid phone customer additions during the quarter, nearly equal to the number the industry added a year ago, with Charter ramping up its efforts in the market. Like Verizon, AT&T saw revenue per postpaid customer decline modestly sequentially, but unlike Verizon, AT&T still grew this metric nicely year over year, up nearly 3%. We believe these figures reflect AT&T’s pullback on promotions within what remains a competitive market. Postpaid phone customer churn increased to 1.0% from 0.9% a year ago, which management ascribed to reduced promotional efforts, indicating some higher-spending customers likely migrated to competitors. The sharp slowdown in prepaid growth was disappointing, but the industry has been migrating away from prepaid as more customers opt for higher-end device financing or move older phones to postpaid family plans. AT&T also indicated that competitors’ promotional activity in the prepaid business was particularly aggressive in the quarter.

On a consolidated basis, AT&T generated $7.9 billion of free cash flow during the quarter, taking the total of the year to $22.4 billion. Roughly 60% of free cash flow was used to support the dividend, with most of the remainder used to repay debt. Management claims the firm has repaid $9 billion in debt since the Time Warner acquisition closed. Since the end of the second quarter, when the deal closed, net debt has declined $5.3 billion to $171.3 billion, or about 2.8 times adjusted EBITDA. Management maintained expectations for 2019 free cash flow in the $26 billion range, with around $11 billion of that available after dividend payments. We expect the firm will also need around $6 billion in asset sales to hit its 2.5 times net leverage target by the end of 2019.