Frontier enhances wireline footprint with $10.5B Verizon purchase, but integration concerns remain

Sean Buckley, FierceTelecom

Frontier Communications officially emerged as the suitor for the $10.5 billion in wireline assets that Verizon (NYSE: VZ) wants to offload, signifying its ongoing effort to scale its reach in new markets and deepen its presence in others it already serves.

For Verizon's part, it has been increasingly focusing more of its attention on shoring up its wireless capabilities, and the proceeds of this sale would be used to reduce the debt it incurred with the spectrum it purchased in the FCC's AWS-3 auction. Verizon said it would set its focus on the Northeast wireline market.

According to S&P Capital IQ, this will be the biggest deal Frontier has ever made. Under the terms of the agreement, Frontier is acquiring properties in three former GTE markets: California, Texas and Florida.

The assets include 3.7 million voice connections, 2.2 million broadband subscribers and 1.2 million video subscribers. 

By purchasing these assets, Frontier scales its fiber-to-the-home (FTTH) FiOS footprint from four to seven states. Out of the 2.2 million broadband subscribers it gains, 1.6 million are FiOS broadband customers. In particular, Frontier will be able to gain the Texas market, which has been one of Verizon's fast growing markets for FiOS.

Financial analysts said that while Frontier gains some immediate momentum with FiOS, the penetration levels of the market signal that growth is beginning to level off. 

"These were some of the first states to benefit from the FiOS build, and thus uptake is very high, including 58% FiOS data penetration in Dallas," wrote Scott Goldman, Equity Analyst for Jefferies, in a report. "However, the high penetration suggests growth is likely slowing, and we believe low single digits may be a stretch in future years."

Buying up assets to bolster its service and network presence has been an ongoing theme for Frontier for a number of years. In 2010, the telco purchased Verizon's rural wireline assets in 14 states for $6.8 billion. Later, Frontier purchased AT&T's Connecticut wireline operations for $2 billion last October.

An immediate concern for some investors is Frontier's ability to integrate and the cost to upgrade the properties to bring them into its own system. Concerns about integration and the sale are well founded. Verizon's track record in selling off assets has been less than stellar. FairPoint, which purchased Verizon's northern New England assets in 2007, struggled to integrate the operations and eventually was forced to file Chapter 11 bankruptcy protection.

While Frontier did not fall to the same fate as FairPoint, the service provider did have to spend a few years and its own capital to upgrade copper plant that was largely abandoned by Verizon in order to get it to support basic phone services and broadband.

"When Frontier announced in 2009 that it planned to acquire Verizon's wireline operations, it targeted $500M in cost reductions," wrote John Zhang, an investor in a Seeking Alpha article. "Unfortunately for Frontier, it ended up spending money to rehabilitate rural wirelines that Verizon had underinvested in before selling off to Verizon."

While acknowledging that it had issues with integrating the Verizon properties, Maggie Wilderotter, CEO of Frontier, allayed concerns about integration of these new assets.

"I will say we made sure this was a flash cut transaction," Wilderotter said during a conference call announcing the acquisition. "One of the challenges we had with the Verizon acquisition last time we wound up in two years of integration and conversion so we weren't able to implement the Frontier go-to-market immediately."

Wilderotter added that unlike the rural assets it bought from Verizon in 2010, "these are well maintained and upgraded networks and 54 percent of these networks are the best networks in the country so these are not fixer uppers."

While it's going to take time to see just how successful Frontier will be with this pending deal, it is clear that it is driving a new wave of consolidation in a telecom service provider market that's in the midst of an ongoing transition. Verizon is gaining capital to fund more of its wireless ventures, while Frontier is looking to grow its presence in more markets as a wireline service specialist.--Sean