Verizon again leans on tablets for postpaid subscriber growth in Q3

Verizon Wireless (NYSE: VZ) added more postpaid subscribers in the third quarter than financial analysts had expected, and the growth was again largely driven by tablet activations, not phones. Just as it did in the second quarter, in the third quarter Verizon relied heavily on tablet activations for the vast majority of its subscriber additions.

In the third quarter Verizon added 1.53 million retail net connections, including 1.52 million retail postpaid connections. Of those though, Verizon added just 457,000 postpaid phones and leaned heavily on 1.1 million postpaid tablet activations in the period. In the year-ago quarter Verizon had 483,000 postpaid phone adds.

Tablets accounted for close to 72 percent of Verizon's retail subscriber additions in the third quarter, down from around 81 percent in the second quarter. In the second quarter, 1.15 million of Verizon's 1.42 million net retail additions came from tablets.

Analysts at Credit Suisse had predicted Verizon would report 1.3 million postpaid net customer additions, and analysts at Jefferies had expected Verizon to have 1.325 million postpaid net adds.

On the company's earnings conference call, Verizon Communications CFO Fran Shammo said that tablet growth is a positive development for the carrier since tablets produce more data consumption (and thus more revenue), lower churn and have lower subsidy costs than smartphones. Shammo noted that LTE tablets produce more data consumption than 3G smartphones. "Tablets clearly represent an incremental growth opportunity for us," he said.

Speaking of tablets, Shammo briefly addressed the fact that Verizon does not support a new SIM card for Apple's (NASDAQ: AAPL) iPad Air 2 and iPad mini 3 that lets customers switch between carriers. AT&T Mobility (NYSE: T), Sprint (NYSE: S), T-Mobile US (NYSE:TMUS) and UK operator EE support the so-called Apple SIM. "We have our SIM card that we're putting into the devices, both in our indirect channels and our [retail] stores channels," he said, declining to comment further.

Here's a breakdown of Verizon's key quarterly metrics:

Subscribers: In the third quarter Verizon added 1.525 million net retail connections, nearly all of which were postpaid (the carrier had 9,000 retail prepaid additions). At the end of the third quarter, the company had 106.2 million retail connections. That includes 100.1 million retail postpaid connections, a 5.2 percent increase year-over-year.

Verizon netted 2.3 million LTE retail postpaid additions in the quarter, including 1.2 million smartphones and 1.1 million tablets.

Shammo said price-sensitive prepaid customers are moving to the carrier's low-end postpaid plans. He said Verizon still has 17 million 3G smartphone customers and 20 million basic feature phone customers, which leaves a great deal of room to move those customers to LTE smartphones over time. Shammo said he expects that a large number of customers who purchased 3G iPhone 4 phones in the fourth quarter of 2012 will upgrade to LTE iPhones in the fourth quarter of this year.

Verizon appeared to weather price cuts and promotions from Sprint and T-Mobile during the quarter. Yet Verizon has responded to its competitors: After the third quarter ended, Verizon said customers on its More Everything shared data plans can get 15 GB of data per month for $110, up from 12 GB before, or 30 GB of data for $130 per month, up from 16 GB before. Meanwhile, customers with monthly data allowances of between 20 GB and 50 GB can get double the data for the same price.

Shammo said Verizon would continue to take a "rational and logical approach" to responding to changes in the market. "We pride ourselves on being an 'and' company, delivering quality growth and profitability," he said, perhaps a shot at T-Mobile and Sprint, which have focused heavily on adding subscribers and gaining market share, partially at the expense of profits.

"Verizon has sustained the positive momentum from the second quarter, showing improving subscriber growth and stable ARPU despite rising competition," New Street Research analyst Jonathan Chaplin wrote in a research note. "Verizon has managed to maintain low churn and grow without sacrificing ARPU; a stark contrast with AT&T. This appears to be the better strategy; however, 4Q14 will be the real test."

Source: Verizon

Financials: Verizon said total wireless revenues were $21.8 billion in the third quarter, up 7 percent year-over-year. Wireless service revenue came in at $18.4 billion, up 4.8 percent from the year-ago period. Retail wireless service revenues grew 4.6 percent from the year-ago quarter to $17.6 billion.

Source: Verizon

ARPA: Verizon no longer reports average revenue per user (ARPU) but instead now reports average revenue per account (ARPA). The company made the change to account for its More Everything shared data plans, which let customers add multiple devices to one account. Retail postpaid ARPA grew 3.5 percent year-over-year to $161.24 per month. The carrier had 35.4 million retail postpaid accounts at the end of the third quarter, up 1.3 percent from the year-ago quarter, and 2.82 connections per account, up 3.7 percent year-over-year.

Verizon said 57 percent of its postpaid accounts were on More Everything plans at the end of the third quarter, up from 55 percent at the end of the second quarter. The company also said that monthly average usage per More Everything account was up by nearly 50 percent year-over-year.

Source: Verizon

Margins: Verizon said its wireless operating income margin was 31.9 percent in the quarter, down from 33.8 percent in the year-ago quarter. The company said its segment EBITDA margin on service revenues was 49.5 percent, down from 51.1 percent in the year-ago period.

"The sequential decline was likely due to promotional activity and success based costs, given higher than expected adds," Credit Suisse analysts Joseph Mastrogiovanni and Michael Baresich wrote in a research note. "We estimate that the company added roughly 275K more gross subs than we expected."

Shammo said wireless margins for the fourth quarter will depend on fourth-quarter sales and the uptake of Verizon's Edge handset program. Notably, in the third quarter Verizon's Edge adoption fell to 12 percent, down from 18 percent in the second quarter. Shammo said that figure could jump to 24 percent in the fourth quarter. He said the company's recently announced tweaks to its Edge program, which give More Everything customers more of a monthly pricing discount if they use Edge, are "designed to drive appeal to More Everything plans," which in turn will get more customers on LTE and drive incremental data usage.

Smartphones: Verizon activated 8.9 million smartphones in the third quarter, up from 8.3 million in the second quarter and 7.6 million in the year-ago period. As a result, Verizon said it now has a smartphone penetration rate of 77 percent, up from 67 percent a year ago. Verizon said 7.2 percent of its retail postpaid subscriber base upgraded their device in the third quarter and that 90 percent of those upgrades were smartphones. That's roughly flat from the second quarter.

Source: Verizon

LTE: Verizon noted that it continued to add capacity to its 700 MHz LTE network in the quarter by deploying its AWS spectrum for additional bandwidth. The combined network, dubbed "XLTE," is now available in more than 400 markets across the country, or four-fifths of Verizon's roughly 500 LTE markets. Verizon said around 79 percent of its total wireless data traffic currently runs on its LTE network, up from 76 percent at the end of the second quarter and 64 percent in the year-ago quarter.

Churn: The carrier's retail postpaid churn was 1 percent in the third quarter, up slightly from 0.94 percent in the second quarter and 0.97 percent in the third quarter of 2013. Total retail churn was 1.29 percent in the third quarter, up from 1.25 percent in the second quarter and 1.28 percent in the year-ago period.

For more:
- see this release

Special Report: Wireless in the third quarter of 2014

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