Note:  See below for comments from noted FBR analyst David Dixon.

AT&T Earnings Report Review & Analysis:

AT&T reported a first-quarter profit of $3.2 billion, which topped analysts’ predictions.  That was compared with a profit of $3.65 billion a year earlier.   Revenue edged up 0.3% to $32.6 billion.

AT&T expanded its U-verse Pay TV base by 50,000 subscribers in the first quarter, while adding 440,000 broadband Internet customers, the company said Wednesday.  U-verse TV penetration at the end of Q1 was 22%, while U-verse broadband Internet penetration was 21%.   AT&T had U-verse residential revenues of $5.7 billion in Q1, noting that U-verse triple play services (high speed Internet, TV and voice over IP) now represents 69% of the company’s wireline consumer revenues, up from 59 percent in the year-ago period.   

The Dallas, TX telecom giant added 441,000 mainstream wireless subscribers in the quarter, down from 625,000 a year earlier. But that total appeared to mask the loss of about 270,000 phone customers. The number was driven by the addition of 711,000 new 3G/4G tablet subscribers (free tablets with a data plan), which are less lucrative than phones.  

AT&T encouraged customer loyalty by offering free tablets and data rollover plans. The moves were in response to T-Mobile US Inc.’s series of promotions as well as Sprint Corp.’s half-price offer. AT&T added a net 441,000 monthly wireless subscribers, compared with its “400,000 range” forecast on March 10.

The user gain “suggests that the company is performing well in a market characterized by low organic growth and promotion pricing,” said John Butler, a senior telecommunications analyst with Bloomberg Intelligence.

[Rival Verizon Communications Inc. reported that in the quarter Tuesday, it added 565,000 mainstream customers while losing 138,000 phone subscribers.]

AT&T Chief Financial Officer John Stephens said the company expects to close its DIRECTV purchase in the current quarter, and California Gov. Jerry Brown endorsed the deal in a letter to the Federal Communications Commission.  

“We expect the DirecTV transaction will close this quarter,” John Stephens, AT&T’s CFO and SVP, said on Wednesday’s earnings call. He expressed confidence that the combo of AT&T and DirecTV will exceed their original $1.6 billion in expected cost synergies, now seeing them exceed a $2.5 billion run rate by year three.  

Stephens appeared unworried about competition posed by Google’s new Project Fi, which will use WiFi and Sprint’s and T-Mobile’s 4G networks to deliver services initially to one device, the Motorola Nexus 6, and start at $20 per month.   “It’s got a very limited number of devices,” Stephens said. “That’s not generally the way we like to present options to customers. We like to provide a lot…My understanding also is that there’s going to be very limited distribution and customer care.” 

References:

http://about.att.com/story/att_first_quarter_earnings_2015.html

 http://www.multichannel.com/news/technology/att-u-verse-adds-50k-tv-440k-internet-sub-q1/390022

http://www.wsj.com/articles/at-t-adds-441-000-core-wireless-subscribers-…

http://www.bloomberg.com/news/articles/2015-04-22/at-t-beats-profit-esti…

http://uk.reuters.com/article/2015/04/22/usa-att-directv-idUKL1N0XJ1FB20…  (CA governor backs AT&T-DirecTV merger to FCC)

Comments from FBR analyst David Dixon:

While the competitive environment is intense, AT&T achieved solid subscriber metrics with wireless postpaid net adds of 441,000 and prepaid net adds of 98,000, modestly outpacing Wall Street estimates of 418,000 and (35,000), respectively. Postpaid churn declined to a record low of 1.02%. Although 1Q’s impressive subscriber and churn results are testaments to AT&T’s improving network, we believe it will take time to fully eliminate consumer perception of an inferior network to Verizon, which is tracking significantly better in terms of consistency of service according to third party results.

With the Iusacell transaction closed and Nextel Mexico closing in 2Q15, we think there now may be greater impetus for AT&T to again attempt to sell consumer wireline assets because the “maintain and harvest for cash” versus “maintain and invest in fiber upgrades” are both negative NPV decisions in our view.

Selling AT&T’s 38 data centers also makes sense but for a different reason, namely that the advent of 25G/100G metro optical gear that enables direct connections to servers (the application layer) in regional datacenters enables more direct non-public Internet connections with reliable classes of service.

DTV transaction update:

 Management anticipates DTV acquisition will receive regulatory approval and should be complete in 2Q15. Cost synergies are expected to reach $2.5 billion (up from $1.6 billion prior) including savings in the supply chain, installation, customer care, and combined billing. We believe this was well received by investors as there could be additional revenue opportunities from a combined entity (i.e. bundling). It appears a CMCSA/TWC merger would likely be struck by regulatory authorities, but we do not believe an AT&T/DTV merger will face the same challenge due to the lack of coverage overlap and monopolistic fears.

Wireline Access Line Sales back on the table?

We believe management is exploring consumer access line sales given the decision to maintain and upgrade copper plant to fiber is significantly NPV negative in our view. We continue to watch these developments closely.

Can AT&T drive earnings growth?

Smartphone activations remain significant. Strategic initiatives with Samsung and Google, coupled with support of the Windows Phone ecosystem by MSFT, NOK, and other OEMs, are key to lower wireless subsidy pressure, but it is in the early days. We think AT&T will continue to consider pricing action to augment growth once the LTE network build is complete, but competitive intensity is likely to increase in FY15, so this will prove difficult absent consolidation or until T Mobile US becomes spectrum challenged, which we think is still years away (following vendor checks at MWC 2015).

How will AT&T fare in the changing wireless landscape in 2015 and beyond?

Our strategic concerns for AT&T include (1) the Apple eSIM impact, should Apple be successful in striking wholesale agreements; (2) the Google MVNO impact, which could strip the company of additional connectivity revenue; and (3) a Wi-Fi first network from Comcast, coupled with a wholesale agreement with a carrier, which would enable a competitor and increase pricing pressure.

How do we assess AT&T s spectrum position, compared with other carriers?

AT&T made a decisive move to regain sweet spot spectrum in the AWS3 auction. AT&T is behind Verizon in spectrum and out of spectrum in numerous major markets, according to our vendor checks. However, with additional density investment, it is reasonably well positioned to benefit from the combination of coverage layer (700 MHz and 850 MHz) and capacity layer (1,700 MHz and 1,900 MHz and soon to be confirmed 2300 MHz) spectrum and will focus on LTE and LTE Advanced, as well as refarming 850 MHz/1,900 MHz spectrum for additional coverage and capacity. Yet, this nonstandard LTE band will cost more capex and take longer to implement. In the short run, aggressive cell splitting is expected, and metro Wi-Fi and small-cell solutions with economic backhaul solutions are becoming available, allowing for greater surgical reuse of existing spectrum assuming AT&T (like Verizon) can make the necessary business model shift to LTE underlay networks using dedicated spectrum (e.g. 3.5GHz). AT&T s 3G small cell tests steered it to instead buy $20B in the AWS3 auction, but the industry has moved through the challenge of outdoor small cells that are co-channeled with macro networks these carried substantial load, but also destroy equivalent capacity on the macro network due to mis-coordination and interference. As a result macro networks carried less traffic, but still looked fully loaded. Putting small cells in other shared or unlicensed spectrum with supervision from and/or carrier aggregation with the macro is the way forward and AT&T needs to regain its early industry leadership in this area.