Verizon's Big Bet Starts to Pay Off

Fourth-quarter results vindicate CEO Seidenberg's efforts to transform the telco into a multichannel delivery service

by Spencer E. Ante

Under Chief Executive Ivan Seidenberg, Verizon Communications (VZ) is trying to reposition itself as a provider of premium communications services—depending less on the meat-and-potatoes phone company fare of decades past. To that end, Seidenberg is pushing ahead with a plan to spend $18 billion to build a network capable of delivering not just telephony but also Internet access and a gamut of TV and video. Bigger rival AT&T (T) is upgrading its network too, but spending far less—$4.6 billion—to get it done.

Comparisons like that have scared some of the sharpest minds on Wall Street, causing many analysts and investors to question whether Verizon's outsize investments will produce an equally outsize payoff.

But on Jan. 29, Verizon's earnings announcement provided some fresh evidence that Seidenberg's bold strategy is beginning to gel. Although the company's fourth-quarter revenue fell due to taxes on the sale of assets and costs related to a spin-off, Verizon's results surpassed Wall Street estimates in several key areas. Its wireless arm continues to propel the company, its enterprise business is showing signs of a turnaround, and new markets in video and broadband are also gaining momentum. "It was a solid quarter," says Todd Rosenbluth, an analyst with Standard & Poor's, which like BusinessWeek.com is owned by the McGraw-Hill Cos. (MHP). Verizon's stock edged higher on the announcement, gaining 20¢, to $38.03, but that may be because some of the improved outlook is already reflected in the stock price, which has risen more than 12% since late November.

Wireless Steals the Show

In the fourth quarter of 2006, Verizon earned $1.03 billion, or 35¢ a share, down from $1.66 billion, or 59¢ per share, a year earlier. Net income was reduced primarily by a $541 million after-tax charge related to the sale of the company's telecom assets in the Dominican Republic and $101 million in costs stemming from the spin-off of Verizon's directory business. On the sales side, fourth-quarter revenue totaled $22.6 billion, a 26.1% increase from a year earlier, though a big chunk of the gain came from the acquisition of the MCI long-distance business in early 2006. Without the benefit of MCI, Verizon grew sales 3.9% over the year-ago quarter.

As it has for years, Verizon Wireless, a joint venture with Vodafone (VOD), stole the spotlight from Verizon's other businesses. It added 2.3 million new customers in the fourth quarter, ending the year with 59.1 million customers. Analysts at Bank of America (BAC) expected just under 2 million subscribers. AT&T's mobile-phone business, formerly known as Cingular Wireless, added 2.4 million customers in the same quarter, ending the year with 61 million customers.

Though Verizon's gain was smaller, analysts believe the company is attracting a higher-quality customer, measured by revenue and loyalty. As proof, they point to the fact that a higher percentage—88%, or 2.1 million—of Verizon Wireless subscribers are "post-paid" customers that sign up in retail stores for two-year contracts. By contrast, only 67%, or 1.6 million of AT&T's 2.4 million customers, came from retail stores. The remaining customers, who typically pay in advance to use a phone for a short amount of time, tend to be either under 18 years old or don't have the wherewithal for a regular calling plan. As a result, Verizon's average revenue per user grew 2.9%, to $50.78, beating analyst estimates of $49.71. "Verizon's customers are going to be more loyal and generate more profitability for the parent company than AT&T's customers," says S&P's Rosenbluth.