Level 3: Enterprise Strong, Wholesale Not So Much

July 31st, 2013 by · 6 Comments

If investors were looking for a big revenue rebound at Level 3 Communications with today's earnings report, they'll have to wait another quarter.  CNS revenues were up sequentially but further wholesale weakness and more UK government leakage continued to offset much of the solid enterprise revenue growth they've been finding.  Here's a table of Level 3's Q2/2013 results in some context:

$ in millions
Q3/12
Q4/12
Q1/13 Q2/13 Comments
 - North America – Wholesale 386 392 372 367 Wholesale still weak
 - North America - Enterprise 577 587 595 603
 - EMEA – Wholesale 87 87 89  88 About as expected
 - EMEA – Enterprise 94 99 97  99
 - EMEA – UK Government 42 42 37 33
 - Latin America – Wholesale 40 41 40 40 Strong Enterprise #
 - Latin America – Enterprise 139 143 142 149
Total Core Network Services 1,365  1,391 1,372 1,379 Up sequentially, but not strongly
 - Wholesale Voice & Other 225 223 205 186 More declines expected in this low margin segment
Total Comm. Services 1,590 1,614 1,577  1,565 Below my guesses
Comm. COGS 642 655 629 616 SG&A includes $13M severance, else it would have dropped to 549.
Comm. Cash SG&A 576 599 562 562
Other Costs  - -47
Comm. Adjusted EBITDA 372 407 386  387 Excluding severance, EBITDA was $400M - right on my guess.
Adjusted earnings per share (0.26) (0.16) (0.36)   (0.11) Includes $0.03 of severance/restructuring
 
Adj. Gross margin % 59.6% 59.4% 60.1%  60.6%
Adj. EBITDA margin % 23.4% 25.2% 24.5%  24.7% Without severance/restructuring, this rose to 25.6%
 
Capital Expenditures 227  198 169  208
Free Cash Flow (157) 202 (162)   8 Right on breakeven, as I expected.

Revenues: The top line took a hit from further declines in the low margin wholesale voice business, of which there are apparently more yet to come.  Wholesale CNS revenues in the US continued to slide.  But enterprise revenues were up in all three regions, with Latin America shining the brightest as usual.

Costs: There was a big $13M severance/restructuring charge, much of which was for Crowe's departure.  Once you get past that, however, cost savings were quite good.  Gross margins rose to 60.6% while SG&A savings brought this quarter's numbers down 5.5% from last year not including the severance item.

EBITDA and Earnings: The good cost savings offset lower-than-hoped-for revenue growth to bring EBITDA back to the $400M mark not including severance/restructuring.  That in turn kept the loss per share about where analysts had pegged it at, though not quite as improved as I had guessed.  According to my models, the transition above 0.00 probably comes next quarter.  EBITDA guidance for the full year was clarified to not include the $10M in severance from Crowe's depature, which happened later.

Conclusions:  Still no resolution for those long-suffering LVLT shareholders, maybe next quarter.  The good news is that at current EV/EBITDA valuations there isn't much room to fall if the market doesn't like it.

Categories: Fiber Networks · Financials · Internet Backbones

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6 Comments So Far


  • Anonymous says:

    Rob, they incurred the severance expense because of failure — i.e., Crowe — so I don’t really understand why that expense should be discounted.

    It’s like a company that makes an acquisition and then two years later takes an impairment charge because, as it turns out, the company overpaid for the asset. That writedown is a failure of management’s ability to assess value. Simply put, company funds were misallocated to overpay for an asset.

    In this higher severance cost case, company funds were required to pay severance to a CEO who repeatedly failed to deliver on promises. Are we supposed to cheer for that?

    It really gets old when analysts and executives tell investors to discount one-time events as if they were exogenous to company management and company control. Their one-time higher-than-expected costs are absolutely endogenous and directly reflect management’s ability to execute.

    This quarter was a failure. The reversal in the early morning sell-off seems more closely associated with the conveniently timed Starbucks announcement than anything Storey or Sunit said on the earnings call.

    Storey’s great managerial highlight (from this morning’s analyst call) seems to be that he did away with the COO position which he held prior to his appointment to CEO.

    Level 3 was, is and, for all intents and purposes, will remain a train wreck.

    • Anonymous says:

      @anonymous,

      negative much?

      • Anonymous says:

        uh, yes and with good reason:

        LVLT’s 10yr return -70% (S&P +80%)
        LVLT’s 5yr return -50% (S&P +38%)
        LVLT’s 2yr return -30% (S&P +30%)

        Now either Level 3 has lousy assets or lousy management. I don’t think it’s the assets.

        If Storey just arrived from the outside, a pass might be in order, but he’s been President and Chief Operating Office at Level 3 since 2008.

  • Anonymous says:

    In other words, Jim snarfed all the “dry powder” on his way out!!

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