Tuesday, February 8, 2005
Fourth Quarter Financial Highlights
Fourth Quarter Business Highlights
Transport and Infrastructure
Softswitch Services
IP and Data Services
BROOMFIELD, Colo., February 8, 2005 – Level 3 Communications (Nasdaq:LVLT) reported consolidated revenue of $1.05 billion for the fourth quarter compared to $840 million for the third quarter 2004. Communications revenue was $482 million in the fourth quarter versus $423 million for the previous quarter, and information services revenue was $547 million compared to $392 million for the previous quarter.
The net loss for the fourth quarter 2004 was $77 million, or $0.11 per share, compared to a net loss for the previous quarter of $171 million, or $0.25 per share. Included in the net loss for the fourth quarter was a $50 million gain associated with the extinguishment of debt related to the company’s tender offer completed in December 2004, a $14 million lease impairment charge, and a $9 million gain associated with the sale of certain investment securities. Consolidated Adjusted OIBDA(1) was $174 million in the fourth quarter 2004 compared to previously provided projections of $155 million to $170 million and compares to $129 million for the previous quarter.
For the full year 2004, communications revenue was $1.68 billion, which includes $113 million of termination and settlement revenue and compares to $1.95 billion in 2003, which includes $346 million of termination and settlement revenue. Consolidated Adjusted OIBDA for 2004 was $525 million, compared to $757 million in 2003.
“Our communications revenue was higher than projected this quarter, in part due to better than expected growth, particularly in our VoIP services,” said James Q. Crowe, CEO of Level 3. “While still a relatively small percent of communications revenue, our voice revenue increased over 100 percent in the fourth quarter, primarily from our wholesale VoIP services. Additionally, we experienced an acceleration of IP traffic growth on our network during the quarter, and average traffic per day increased over 30 percent sequentially.
“Undeniably, the telecom industry environment remains challenging. In recent years, industry-wide price compression has ranged from 25 percent to 50 percent per annum for transport and IP services, which has basically offset strong unit growth in demand for those services. In addition, ongoing reinvestment in network infrastructure has been required to accommodate increases in traffic volume. At the same time, we believe price compression trends are not sustainable over the longer term.”
Fourth Quarter Financial Results
| Metric ($ in millions) |
Fourth Quarter Actuals | Fourth Quarter Projections (1) |
| Communications Services Revenue (2) (excluding termination and settlement revenue) |
$356 | |
| Reciprocal Compensation | $23 | |
| Termination and Settlement Revenue | $103 | |
| Communications Revenue | $482 | $455-$475 |
| Information Services Revenue | $547 | |
| Other Revenue | $26 | |
| Consolidated Revenue | $1,055 | |
| Consolidated Adjusted OIBDA (3)(4) | $174 | $155-$170 |
| Capital Expenditures (5) | $86 | $90 |
| Unlevered Cash Flow (4) | $20 | |
| Free Cash Flow (4) | ($97) | |
| Communications Gross Margin (4) | 75% |
(1) Projections issued October 27, 2004
(2) Communications Services Revenue is GAAP communications revenue minus reciprocal
compensation revenue
(3) Consolidated Adjusted OIBDA excludes $17 million in stock-based compensation expense and includes
$14 million in lease impairment charges
(4) See schedule of non-GAAP metrics for definition and reconciliation to GAAP measures
Consolidated Cash Flow and Liquidity
During the fourth quarter 2004, unlevered cash flow(1) was positive $20 million, versus negative $15 million during the third quarter. Consolidated free cash flow for the fourth quarter was negative $97 million, versus negative $98 million for the previous quarter. Consolidated free cash flow for the fourth quarter was lower than projected due to an early payment of $16 million in accrued interest expense associated with the company’s tender offer in the fourth quarter and higher than expected working capital needs related to accounts payable and accounts receivable in our communications business.
For the full year 2004, unlevered cash flow decreased to $64 million from $237 million in 2003, and consolidated free cash flow decreased to negative $344 million in 2004 compared to negative $139 million last year.
“The company’s negative consolidated free cash flow increased in 2004 versus 2003, primarily from a reduction in cash from operations due to a reduction in managed modem revenue and an increase of approximately $100 million in our capital expenditures,” said Sunit Patel, CFO of Level 3. “Given high unit growth in 2004, we continue to invest in upgrading our network capacity based on increases in customer traffic as well as to support the launch of high-growth services such as voice and IP VPN.”
As of December 31, 2004, the company had cash and marketable securities of $782 million compared to $856 million at September 30, 2004.
Communications Business
Revenue
Communications revenue for the fourth quarter 2004 was $482 million versus $423 million for the previous quarter. Total communications revenue for the fourth quarter consisted of $459 million of communications services revenue and $23 million of reciprocal compensation revenue, compared to $345 million and $78 million in the third quarter.
Included in communications services revenue was $103 million and $1 million of termination revenue for the fourth and third quarters, respectively. The increase in termination revenue was due to the previously announced dark fiber contract termination with McLeodUSA.
Communications services revenue excluding termination revenue increased by $12 million quarter over quarter primarily due to an increase in voice and transport and infrastructure revenue, partially offset by a decline in managed modem revenue.
| Communications Revenue ($ in millions) |
Quarter Ended December 31, 2004 |
Quarter Ended September 30, 2004 |
Percent Change |
| Transport and Infrastructure | $122 | $114 | 7% |
| Voice | $24 | $12 | 100% |
| Managed Modem | $106 | $112 | (5%) |
| IP & Data Services (excluding DSL) | $68 | $69 | (1%) |
| DSL | $36 | $37 | (3%) |
| Communications Services Revenue | $356 | $344 | 3% |
| Reciprocal Compensation | $23 | $78 | (71%) |
| Termination Revenue | $103 | $1 | -- |
| Communications Revenue | $482 | $423 | 14% |
Communications revenue for the full year was $1.68 billion versus $1.95 billion in 2003. Excluding termination revenue, which is non-recurring, and revenue from our mature, declining managed modem and DSL aggregation business, communications revenue increased by approximately 7 percent during 2004. This increase is from growth in transport and infrastructure services, voice and IP VPN services. Managed modem revenue was $485 million, and DSL aggregation revenue was $137 million in 2004.
The communications deferred revenue balance decreased by $82 million during the quarter primarily as a result of the recognition of $98 million of non-cash termination revenue from deferred revenue associated with the previously announced termination of a customer dark fiber lease agreement.
Cost of Revenue
Communications cost of revenue for the fourth quarter was $120 million versus $116 million for the previous quarter. Communications gross margin(1) was 75 percent for the fourth quarter compared to 72 percent in the third quarter. The improvement in communications gross margin is attributable to the increase in termination revenue.
Selling, General and Administrative Expenses (SG&A)
Communications SG&A expenses were $208 million for the fourth quarter, versus $204 million for the previous quarter. SG&A expenses in the fourth quarter include a $2 million reduction associated with property taxes in the fourth quarter and $15 million of non-cash stock compensation expense. Third quarter SG&A expenses include a $4 million reduction associated with property taxes and $10 million of non-cash stock compensation expense.
Adjusted Operating Income Before Depreciation and Amortization (OIBDA)
Adjusted OIBDA(1) for the communications business increased to $155 million for the fourth quarter from $113 million for the previous quarter as a result of an increase in termination revenue partially offset by a higher cost of revenue and $14 million in lease impairment charges.
Communications Adjusted OIBDA margin(1) was 32 percent for the fourth quarter versus 27 percent in the previous quarter. Communications Adjusted OIBDA excludes non-cash stock compensation expense of $15 million in the fourth quarter and $10 million in the third quarter.
Information Services Business
Results for the information services business include the Software Spectrum and (i)Structure subsidiaries.
Revenue and Adjusted Operating Income before Depreciation and Amortization (OIBDA)
Information services revenue was $547 million for the fourth quarter. This compares to revenue of $392 million for the previous quarter and $565 million for the same period last year.
Adjusted OIBDA(1) for the information services business was $14 million for the fourth quarter, which excludes $2 million in non-cash stock compensation expense, compared to $9 million for the previous quarter. For the same period last year, Adjusted OIBDA was $15 million, which included $4 million in restructuring charges and excluded $4 million in non-cash stock compensation expense.
“The sequential increase in revenue for our information services business is a result of normal seasonality,” said Charles C. Miller, vice chairman of Level 3. “The value of software volume in the fourth quarter was above the volume in the same period last year, but in accordance with GAAP treatment of agency sales agreements, which continue to increase as a percent of total sales each quarter, the company recognizes the service fee as revenue rather than the full value of the software sold.”
Other Businesses
The company’s other businesses consist primarily of coal mining operations.
Revenue and Adjusted OIBDA
Revenue and Adjusted OIBDA(1) from other businesses were $26 million and $5 million in the fourth quarter, compared to $25 million and $7 million for the previous quarter. Adjusted OIBDA for the third quarter included approximately $5 million in insurance proceeds from environmental claim payments.
New Customers and Service Offering Update
Level 3 continues to see new contract activity across all its top customer segments including PTTs, local carriers, long distance companies, cable companies, systems integrators, content providers and ISPs. Specifically, cable companies continue to turn to Level 3 as an underlying provider of a broad portfolio of services that help enable them to deliver local and long distance phone services to their subscribers.
As previously announced, Comcast purchased long-haul and metropolitan dark fiber and related services to support its nationwide broadband network. Additionally, Comcast has selected Level 3 to provide wholesale transport services in support of its deployment of consumer voice services. Charter and other cable operators have also signed agreements to use the company’s fully featured consumer and wholesale VoIP services.
Level 3 was selected in 8 of 10 large-scale residential VoIP contracts awarded during 2004.
“Given the success we have seen with our consumer-oriented and wholesale voice services, we have made some modifications to our service offerings and channel partner program that will help us better focus our organizational and financial resources in areas that have received the most significant customer demand and acceptance,” said Kevin O’Hara, president and COO of Level 3.
“We saw an increase in contract activity in the latter part of 2004, particularly for our wholesale and consumer-oriented voice services. Based on customer commitments to date and our belief that the acceptance of VoIP is happening more rapidly at the consumer level, we believe Level 3 is better served by focusing our development efforts on a single service delivery platform, rather than the two we have been operating. We believe our open and flexible platform used for consumer and wholesale voice services is a better solution for our enterprise-focused customers versus our hosted IP-Centrex platform. As a result, we have discontinued sales of our
(3)ToneSM Business voice service.
“While we are changing the platform over which we indirectly serve the enterprise market, we will continue our focus on enterprise-related opportunities by leveraging our existing VoIP platform as based on market demand.
“Additionally, the company is discontinuing new sales of certain legacy IP-related services acquired as part of the Genuity acquisition in 2002.”
Competitive Environment
“Aggressive competition, ongoing price compression, and technological innovation provide the backdrop for continued uncertainty in the communications market in 2005,” said Crowe. “Over the past three years, the industry has experienced significant and continued price compression. While some of this has been a positive and natural result of price improvements in technology and economies of scale, we believe that price reductions have in many cases, outpaced underlying improvements in costs. The result has been industry-wide lack of revenue growth coupled with substantial reinvestment necessary to keep up with increases in traffic.
“Level 3 does not intend to pursue volume at the expense of profitability, and we believe that moderation of price compression is a key to our financial performance. Our pricing strategy in 2005 will reflect this belief.”
2005 Business Outlook
“Over the course of this year, we expect continued uncertainty in our communications business,” said Crowe. “We are now seeing early growth from new services, but it is difficult to predict the precise timing and trend of growth, as it is largely dependant upon market acceptance of VoIP, the success of our customers in gaining market share and our ability to scale our network and systems as this demand unfolds.
“Given these conditions, as well as ongoing declines in our managed modem and DSL aggregation business, we will likely see a continued period of instability as our revenue mix changes and is weighted more toward our core transport and IP services and voice and IP VPN growth services. However, we believe the investments we are making today position the company for longer-term growth and will allow us to maintain our lead in the market with respect to network efficiency, service quality and innovation.”
2005 Communications Revenue
2005 Communications Adjusted OIBDA
2005 Free Cash Flow
First Quarter 2005
Fourth Quarter 2004
| Metric ($ in millions) |
First Quarter Projections | Full Year 2005 Projections |
| Communications Revenue | $400 to $420 | Low to high single digit percent decline |
| Consolidated Adjusted OIBDA | $90 to $110 | NA |
| Communications Adjusted OIBDA Margin | NA | Mid-20 percent range |
| Negative Consolidated Free Cash Flow | NA | $260 to $320 |
Summary
“Continued uncertainty in our market coupled with accelerating industry consolidation have created unprecedented challenges and opportunities for Level 3,” Crowe said. “We are focused on assuring that our company emerges as one of the winners in the communications business.”
Conference Call Information
Level 3 will hold a conference call to discuss the company’s fourth quarter results at 10:00 a.m. Eastern Time today. To join the call, please dial 651-291-0900. A live broadcast of the call can also be heard on Level 3’s Web site at http://www.level3.com/. An audio replay of the call will be accessible on the company’s Web site or by dialing 320-365-3844; access code 765003.
View Q4-04 Financial Statements
View Schedule to Reconcile to non-GAAP Financial Metrics
About Level 3 Communications
Level 3 Communications, Inc. (NASDAQ: LVLT), an international communications company, operates one of the largest Internet backbones in the world, connecting 180 markets in 18 countries. The company serves a broad range of wholesale, enterprise and content customers with a comprehensive suite of services including: Internet Protocol (IP) services, broadband transport and infrastructure services, colocation services, voice and voice over IP services, content delivery and media distribution services. These services provide the building blocks to enable Level 3’s customers to meet their growing demands for advanced communications solutions. The company’s Web address is www.Level3.com.
"Level 3 Communications,” "Level 3," the red 3D brackets and the Level 3 Communications logo are registered service marks of Level 3 Communications, LLC in the United States and/or other countries. Level 3 services are provided by wholly owned subsidiaries of Level 3 Communications, Inc. Any other service, product or company names recited herein may be trademarks or service marks of their respective owners.
Forward-Looking Statement
Some of the statements that we make in this press release are forward looking in nature. These statements are based on management’s current expectations or beliefs. These forward looking statements are not a guarantee of performance and are subject to a number of uncertainties and other factors, many of which are outside our control, which could cause actual events to differ materially from those expressed or implied by the statements. The most important factors that could prevent us from achieving our stated goals include, but are not limited to our ability to: successfully integrate acquisitions; increase the volume of traffic on our network; defend our intellectual property and proprietary rights; develop new products and services that meet customer demands and generate acceptable margins; successfully complete commercial testing of new technology and information systems to support new products and services; attract and retain qualified management and other personnel; and meet all of the terms and conditions of our debt obligations. Additional information concerning these and other important factors can be found within Level 3’s filings with the Securities and Exchange Commission. Statements in this press release should be evaluated in light of these important factors. Level 3 is under no obligation to, and expressly disclaims any such obligation to, update or alter its forward-looking statements, whether as a result of new information, future events, or otherwise.
