CenturyTel Raised to Neutral - Analyst Blog

We are upgrading our recommendation for CenturyTel (CTL) to Neutral based on solid first-quarter 2010 results and management’s upbeat guidance. Earnings for the last quarter topped the Zacks Consensus Estimate driven by synergies from Embarq Corp. (acquired in July 2009). Moreover, revenues exceeded expectations boosted by an increased broadband Internet customer base.

CenturyTel has emerged as one of the largest rural telecom carriers in the

following its acquisition of Embarq. The company’s shareholders have reportedly approved the change of the integrated entity’s name to “CenturyLink". CenturyTel expects cost synergies of $375 million from the Embarq acquisition.

However, CenturyTel remains challenged by the hemorrhaging landline voice business as it continues to experience organic decline in access lines due to burgeoning competition from other services (such as VoIP) from cable operators. Moreover, the carrier is experiencing a decline in funds it receives from the federal Universal Service Fund (subsidizes phone services in rural areas), representing an important source of its network access revenue.

CenturyTel continues to consolidate as it has forged a deal worth $22.4 billion in April 2010 to acquire the third-largest

local-phone service operator Qwest Communications (Q). The deal value includes the assumption of $11.8 billion of Qwest’s debt.

This represents one of the biggest mergers in the US telecom industry, which if consummated (likely in the first half of 2011), will create one of the largest landline operators, with nearly $20 billion in annual revenues, 17 million phone lines, 5 million broadband connections and operations across 37 states.

In our opinion, growth momentum for CenturyTel’s broadband business is more than offset by the losses in the wireline voice operation. While the merger with Embarq and the proposed acquisition of Qwest may eventually yield a number of operational benefits and cost synergies, significant integration challenges may impede future operating performances.

Moreover, we remain cautious about CenturyTel’s high debt exposure (roughly $7.7 billion), which adds to its operating risk. The carrier’s debt increased following the assumption of $5.8 billion of Embarq debt. The Qwest acquisition will significantly elevate CenturyTel’s debt, further impairing its balance sheet.

Nevertheless, CenturyTel remains focused on investing in broadband services to expand network capacity and improving returns to its shareholders through healthy dividend payouts. Moreover, management’s revised outlook for 2010 appears encouraging with opportunities for revenues and earnings improvements driven by favorable business trends across fixed voice access and broadband Internet.

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