Frontier Dividend At Risk

Frontier Communications (FTR) remains committed to an annual dividend yield of 10 percent, despite a 12-month trailing payout ratio that has exceeded earnings by almost 340 percent. Notwithstanding continued management optimism, funding the rural carrier’s aggressive infrastructure expansion plans going forward will likely lead to a material cut in these quarterly cash payments to shareholders.

In July 2010, Frontier became the largest provider of communications services to rural America after acquiring assets from Verizon Communications (VZ) – including long-distance voice, broadband and video accounts, and fiber-to-premise assets (home and business) – in a deal valued at approximately $8.6 billion. Although the transformational transaction has nearly tripled the company in size, adding more than 3.6 million local access lines in 14 states, it also increased average debt outstanding by some $3.5 billion to $8.3 billion (as of March 31).

Most of the acquired properties from Verizon were legacy assets (think less-profitable, slower copper-based technologies like DSL) in underserved rural areas. Critics have contended that servicing this debt load will slow necessary infrastructure upgrades, constrain high-speed internet build-out, and worsen service quality.

Revenue successes with rural-driven business model

To the contrary, Frontier’s management team opines the company can leverage experience in running rural networks to successfully execute on increasing market penetration and growing revenue per subscriber – aided by product deployment of upgraded, high-speed Internet (and bundled service offerings, like broadband, television and telephone) and reduced churn.

On the quarterly earnings call in May, Chairman Maggie Wilderotter pointed out that Frontier’s marketing sales and retention efforts yielded 15,000 high-speed DSL net additions in first-quarter 2011, compared to a net loss of 17,000 in the second-quarter 2010 under previous ownership. Furthermore, broadband growth faced a low hurdle rate, with “household penetration in the acquired properties, at purchase, of 20 percent, compared to 37 percent in the Frontier legacy markets,” said Wilderotter.