Shares of telecom giant AT&T (NYSE: T) did not fare well after the company reported its second-quarter results last month. AT&T’s results were just fine — both revenue and adjusted earnings came in ahead of expectations. The company added postpaid phone subscribers at a healthy pace, and the fiber business continued to steadily grow.
It was AT&T’s guidance that put investors in a sour mood.
Cash flow pressure
AT&T has been growing its customer base quicker than expected. The company added 813,000 postpaid phone subscribers in the second quarter, which helped push up revenue in the mobility segment 5.2%. AT&T also benefited from a 1.1% increase in average revenue per user as customers embraced unlimited plans.
The fiber business is also doing well, with broadband revenue up 5.6% in the second quarter. AT&T added 316,000 fiber customers in the quarter, bringing the total to 6.6 million. The company’s fiber network reaches 18 million potential customer locations, leaving plenty of room for growth.
AT&T kept its full-year revenue guidance unchanged, with low-single-digit growth still the goal. Broadband revenue is still expected to grow by 6%, but the company boosted its outlook for the wireless service revenue. AT&T now expects 4.5% to 5% growth from its wireless plans, up from a previous target of 3% growth.
This seems like reasonably good news, especially given the backdrop of elevated inflation and consumers pulling back on spending in certain areas. But the other change that AT&T made to its guidance is what got investors’ attention. AT&T now expects to produce free cash flow of $14 billion for the year, down from a previous outlook of $16 billion.
While AT&T isn’t having any trouble winning new customers, its customer base is reacting to the state of the economy by slightly delaying payments. Given the size of AT&T’s customer base, a bunch of slightly later payments adds up. Longer collection cycles coupled with some higher costs driven by inflation and expectations of more sluggish economic activity in the second half adds up to the $2 billion reduction.
While this could be a sign of trouble, it’s not unusual for AT&T to see this during periods of economic weakness. “…this typically is not an issue of people not paying, it’s an issue of when they pay,” said CEO John Stankey during the earnings call. “And I don’t believe there’s anything in our credit scoring and how we’ve looked at our customer base coming in that would cause those trends to be dramatically different than a previous period.”
Selling a necessity
Wireless service has become just as essential as home internet access, so it’s unlikely that very many customers will simply drop service entirely in tough times. Still, customers making late payments or switching to cheaper plans can certainly put some pressure on AT&T’s results.
The good news is that AT&T is better able to handle periods of turbulence now that it’s greatly reduced its debt following the Time Warner spinoff. The company also expects to deliver around $4 billion of cost savings by the end of the year, and a dividend cut frees up cash for further debt reduction or investments.
While AT&T’s business isn’t immune to an economic slowdown, the company has been through these types of cycles before. Lower free cash flow this year is disappointing, but it doesn’t change the long-term story.