Verizon Communications Inc. (VZ), the second-largest U.S. phone company, fell as the surge in demand for high-speed wireless Internet cut into profit margins and boosted the need for network investments.
Verizon dropped 1.5 percent to $49.97 at the close in New York. The company increased its forecast for capital spending today to as much as $16.6 billion this year from $16.2 billion. Its wireless business had a profit margin of 49.8 percent in the second quarter, compared with the average estimate of 50.8 percent, according to a Bloomberg survey of 11 analysts.
Verizon Wireless, the biggest U.S. mobile-phone company, has become a victim of its own success as increasing smartphone use strains its network, accelerating the need for more spending. The company also introduced a plan to provide users more frequent smartphone upgrades as rivals such as T-Mobile US Inc. (TMUS) and AT&T Inc. (T) lure customers with competing offers.
“The biggest concern I have about the sector now is all these upgrade programs recently announced,” said Todd Rethemeier, an analyst with Hudson Square Research Inc. “I wonder what that will do to margins.”
Verizon Wireless, co-owned with Vodafone Group Plc (VOD), is planning to move to the next phase of long-term evolution, or LTE, technology this year after watching AT&T Inc. close the gap on service quality.
The higher spending marred a Verizon Communications quarterly report that topped analyst expectations for earnings and subscriber gains. Profit was 73 cents a share in the three months that ended in June, leaving out a one-time gain related to pensions. Analysts had estimated about 72 cents on average, according to data compiled by Bloomberg.
Verizon Wireless added 941,000 monthly contract users, compared with the average estimate of 836,000, according to the Bloomberg survey.
About 64 percent of Verizon’s wireless subscribers use smartphones such as Apple Inc. (AAPL)’s iPhone, paying higher bills to supply Internet access to the devices. Even with companies like T-Mobile US seeking to lure those customers away with lower-priced plans, Verizon kept its monthly churn, or customer turnover, stable at 0.93 percent.
On the flip side, retaining and attracting those customers often means giving them discounts on smartphones, which cuts into margins. Verizon said it expects its subscriber additions to expand in each of the next two quarters.
“The margin speaks for itself,” said Verizon Chief Financial Officer Fran Shammo in an interview after the earnings call. “It’s the best in the industry.”
Sales rose 4.3 percent to $29.8 billion in the quarter, in line with analysts’ estimates. Net income jumped to $2.25 billion, or 78 cents a share, from $1.83 billion, or 64 cents, a year earlier.
Verizon is facing more formidable competitors after smaller rivals joined forces this year. Tokyo-based SoftBank Corp. (9984) bought control of Sprint Corp. (S), which in turn acquired Clearwire Corp. T-Mobile US, meanwhile, merged with MetroPCS.
After building a stronger stockpile of airwaves through the Clearwire deal to ensure it could handle greater demand for Internet access, Sprint increased its commitment to unlimited-use plans last week, guaranteeing them to any new customer for life.
T-Mobile added a wrinkle to its defining sales strategy, which lets customers pay for phones in installments. The new plan, called Jump, gives customers the option to upgrade phones twice a year for a $10 monthly fee. Dallas-based AT&T, the second-largest wireless carrier, followed with its own frequent upgrade plan, called Next, earlier this week.
The shifting price trends are an attempt to unseat Verizon Wireless’s No. 1 position in the market by appealing to the most lucrative customers locked into two-year contracts.
In a sign that Verizon may be feeling the impact of those alternative service plans, the company unveiled an installment pay plan called Edge, to try its hand at selling phones by spreading payments over time.
Under the plan, the cost of a new phone is divided into 24 monthly payments. By the sixth payment, the customer has the option to pay off 50 percent of the cost of the phone and upgrade to a new one. The offer begins Aug. 25.
After studying the market for 15 months, the company has a good understanding of what customers want, Verizon Chief Financial Officer Fran Shammo said in an interview.
“We’ve taken our time. We’ve always had a strategy for an installment sale and we will launch something that we think is different, and that will entice people to come to Verizon Wireless,” said Shammo.
For now, Verizon is relying on a surge in smartphone users to generate more data revenue. Verizon’s average monthly bill for contract users was $152.50 last quarter, compared with the $152.97 analysts had predicted on average.
AT&T is also aiming at the market for heavy Internet users, and recently exceeded Verizon in speed tests. Both AT&T and Verizon have targeted heavy wireless-Internet customers with new data-share plans, introduced last year. Verizon Wireless lets customers share a data plan between as many as 10 devices.
A 7.5 percent increase in wireless revenue, to $20 billion, helped Verizon make up for a 2 percent decline in sales to landline customers, to $9.73 billion. One of the relative bright spots of that business is Verizon’s FiOS fiber-optic service, which added 161,000 Internet customers and 140,000 TV customers.
(Verizon held a conference call today to discuss the results. For details, click here.)
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