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AT&T Q3 Revenue Miss Highlights Urgency Behind Time Warner Deal

Never mind the supposed threat of Apple swooping in to nab Time Warner. AT&T’s third-quarter financial results illustrate the stasis in its wireless, broadband and TV businesses that impelled it toward the $85 billion deal for the media giant.

After AT&T’s Saturday-night surprise announcement of the Time Warner takeover, it also released Q3 earnings. Originally, the telco was scheduled to report earnings on Tuesday, Oct. 25.

AT&T posted consolidated revenue of $40.89 billion — missing analyst consensus estimates of $41.14 billion. While Q3 sales were up 4.6%, the year-over-year increase was primarily due to DirecTV, which AT&T closed in July 2015. Backing out revenue from DirecTV and the impact of foreign exchange rates, AT&T said total revenue was essentially flat. Earnings of 74 cents per share were in line with analyst expectations.

The telco’s Time Warner bid is “another ‘play up the stack’ to augment stagnating traditional wireless growth,” Cowen & Co. analyst Doug Creutz wrote in a research note last week, prior to Saturday’s news. “AT&T has invested heavily in tangential growth initiatives and this would be another (large) step in that regard.”

And AT&T is surely eyeing the vertical-integration play to be better positioned against major rivals — like Comcast, which owns NBCUniversal and has said it plans to launch a wireless service next year. Verizon, AT&T’s biggest wireless competitor, has also been stepping up its content investments (for example, it owns of 24.5% of AwesomenessTV).

For the third quarter, AT&T’s total wireless revenue was $18.2 billion, down 0.7% year over year, with the carrier citing decreases in service and equipment revenues. It added a net 212,000 U.S. postpaid wireless customers in Q3, compared with 289,000 in the year-earlier period. Overall, it had 1.53 million net new wireless subs — down 39% from the 2.5 million it added in Q3 2015.

Revenue for the AT&T Entertainment Group, which comprises U.S. video, broadband, voice and advertising, was $12.7 billion, up 1% year over year on a comparable basis (i.e., including DirecTV pro-forma results).

But the unit’s subscriber numbers have been pointed in the wrong direction. DirecTV packed on 323,000 net satellite TV subs in Q3 — but U-verse TV dropped 326,000, as AT&T continues to focus on migrating video subs over to satellite. The situation may get worse as cord-cutting picks up, although the satcaster’s imminent launch of the DirecTV Now over-the-top subscription services (set for sometime this fall) is designed to mitigate that. And on broadband, AT&T shed 5,000 net subs, as its U-verse fiber-based broadband additions fail to offset the years-long drop in DSL losses.

Meanwhile, business services revenue inched up 0.4%, to $17.8 billion, and AT&T’s international operations pulled in $1.88 billion for Q3, an increase of 23%.

Given the secular growth challenges in AT&T’s core businesses, the telco is eager to add Time Warner’s stable of content assets to provide revenue diversification and enhance its growth profile. Time Warner will represent about 15% of the combined company’s revenue once the deal closes, which is expected to happen by the end of 2017.

But buying Time Warner will saddle AT&T’s balance sheet with even more debt. As of Sept. 30, AT&T’s long-term debt stood at $117.2 billion, while it had $5.9 billion in cash and equivalents.

AT&T is offering half the $107.50-per-share deal for Time Warner in cash, amounting to nearly $43 billion. The telco said it will tap an unsecured bridge-loan facility of $40 billion to swing the TW acquisition. Even with the massive transaction, AT&T said it is “committed to maintaining strong investment-grade credit metrics.”

Will the additional debt burden pay off? Analysts are skeptical there’s much synergy between AT&T and Time Warner. According to AT&T, it expects $1 billion in annual run-rate cost synergies within three years of the TW deal closing, primarily from corporate and procurement expenditures.

As for the potential of the whole of AT&T-Time Warner to be greater than the sum of its parts, according to the company, “over time, AT&T expects to achieve incremental revenue opportunities that neither company could obtain on a standalone basis.”

AT&T alluded to “new forms of original content built for mobile and social” resulting from the merger and that the addition of Time Warner will help it “innovate on new advertising options.” How significant those might prove to be for the bottom line, of course, remains to be seen.

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