Level 3 Communications, Inc. 10k Analysis
Level 3 Communications, Inc. (CIK 0000794323) is a global
communications provider of a broad range of integrated systems, technologies,
and processes to deliver data, voice, and video and managed services. They are headquartered in Broomfield,
Colorado with over 10,800 employees and its common stock trades on the New York
Stock Exchange under the LVLT symbol (Level 3, 2014). The current organizational structure of the
Level 3 Communications, Inc., the parent company, is it has one business unit
beneath the parent, as Level 3 Financing, Inc. and it oversees the operations
of three branches, Level 3 Communications, LLC., TW Telecom, LLC., and an array
of other operating and non-operating subsidiaries located in the US, Asia,
Europe, and South America (United States Securities and Exchange Commission,
2014). The company was founded in 1998
as a split segment of the main construction business, Peter Kiewit Son, Inc. with
an initial focus on IP communication services.
Through the years, the company has expanded its operations and its focus
to become the trusted connection to the networked world (Orr, 2013).
The company’s
main business strategy is to maximize the access of its fiber optics network
from local to global access, and improve efficiency and scalability by
developing new technologies, and to generate profitable growth with layering
valued-added services onto existing capabilities (United States Securities and
Exchange Commission, 2014). This
strategy, as applied, is accomplished by utilizing its intellectual properties,
patents, and buying other companies, and expanding its market share. The company
is formed primarily by borrowing additional working capital to improve its own
fiber optics infrastructure and purchase other companies. It markets its products and services to
companies such as Netflix, sports teams, online gaming providers, schools and
universities, software service providers, studio and production companies,
state agencies, governments, broadcast
stations, cable companies, and social networking providers like Facebook. It purchased and integrated Global Crossing, in
2011, and TW Telecom, in 2014 into their organizational framework. With the addition of these companies, Level 3
created new opportunities and offered additional services to customers.
Level 3 Communications, Inc. is not performing well and is
in bad financial condition. The company has some positives, such as its global
fiber network and intellectual properties, but with some heavy underneath
negatives such as, large debt and intense market competition. The balance sheet for Level 3 Communications,
Inc., as of December 31, 2013, shows that total assets were $12,874,000,000 with
total liabilities at $11,463,000,000.
This leaves the stockholders’ equity at $1,411,000,000. The total revenue, during the 2013 fiscal
year was $6,313,000,000 with total expenses listed as $666,000,000. Its net loss was $109,000,000. When compared to previous five years, Level 3
has experienced similar losses in net income and increases in debt. This trend is clearly shown in the leverage
ratios, return on assets (ROA), and return on equity (ROE). Every ratio shows a negative trend in working
capital, revenue and increases in leverage. The managements’ discussion and
analysis offers more insight into the concerns of Level 3’s financial
conditions. “The Company has also been focused on improving its liquidity and
financial condition, and extending the maturity dates of certain debt” (United
States Securities and Exchange Commission, 2014). In 2013, Level 3 refinanced its existing
Tranche B 2016 Term Loan, and issued 6.124% senior notes to raise working
capital to pay debt and complete purchases.
In the following chart, employee numbers along with entries from the
balance sheet, are plotted over time.
The chart shows that total assets, total liabilities, and
employee numbers, share a consistent parallel relationship and stockholders’
equity, current assets, and current liabilities seem to also show an identical
pattern. The value of the company is in
balance with its’ total assets, total liabilities and shareholders’ equity. The equation is:
For the last five
years, Level 3 Communications, Inc.’s stock prices have averaged around a
closing value of $26.11 with a trading volume of 1803042. Based on historical
data, there is no indication of any problems facing Level 3 Communications
based on its stock prices. The maximum
and minimum stock prices during that time was $50.05 and $12.87 with a volume
of 52687930 and 154360, respectively. The
following graph shows a scatter plot with stock prices over time. The second graph shows stock prices as a
normal distribution.
The standard deviation for the stock prices is 9.19 with a
variance of 84.4. The skew is 1.00. One
standard deviation away from the mean of $26.11, is $35.30 and $16.92. Two standard deviations from the mean is
$44.49 and $7.73. Three standard
deviations away from the mean is $53.68 and -$1.46. Based on the empirical rule, nearly all
values lie within three standard deviations of the mean. 68.27% of stock prices lie within one standard
deviation of the mean and 95.45% of the prices lie within two standard
deviations of the mean. The scatter plot
suggests there is a correlation between stock price (y), dependent variable,
and time (x), independent variable. As
time increases, there is an increase in the stock price. The best-fitting line, or regression line is
shown with the equation: 
.
.
During this time, Level 3 communications
increased its total assets and total liabilities when buying Global Crossing
and TW Telecom. This seems to be
reflected in the stock prices as a gradual increase, but debt has also
increased which could keep Level 3 from obtaining additional capital to grow,
and pay expenses.
The problems
facing Level 3 Communications, Inc. is not well evidenced in the stock prices
but in the financial ratios. Based on
its current ratio, quick ratio, debt to total assets, trailing price-earnings
ratio, return on sales (ROS), return on assets (ROA), and return on equity
(ROE) values, the company is not performing very well. The current and quick ratio numbers measures
a company’s liquidity. “Liquidity is the ability of a firm to meet its
near-term obligations as they come due” (Walther, 2015). Both values are pointing in the negative
direction. A recent paper by Simona
Aquino which looked at past credit risk analysis by several financial firms,
stated “the best predictors of financial difficulties were net working capital
to total assets, net worth to debt and current ratio (Aquino,2010).” The current ratio is defined as current
assets divided by current liabilities.
The ratio determines if the company’s cash, inventory, and
receivables are available to pay off short term expenses, taxes, and notes
payable. A high ratio number indicates a
greater ability to pay off debt and a lesser chance to become bankrupt
(Investopedia, 2014). The current ratio
for Level 3 Communications, Inc. for the last five years has been a near 1 to 1
ratio, with current liabilities equaling current assets in dollar amounts. This indicates Level 3 has some difficulty
paying off debt and has an increased chance to become bankrupt. The inability can also be inferred from the
low working capital totals. In the last
five years the working capital was, beginning with 2013, $8M, $40M, $49M, $16M,
and -$260M in 2009. With low working capital numbers and with current liabilities
equaling current assets, the company has to borrow to stay operational, and the
borrowing has come from two sources, selling equity and acquiring lines of
credit. Level 3 has issued common
shares, and senior notes to raise equity and it has recently reached terms for
a New Tranche B 2022 Term Loan (Level 3, 2014) to increase the amount of cash
on hand to complete deals.
The next measure of Level 3 difficulties to pay debt is its quick ratio. It is similar to the current ratio but does not included inventories with current assets. The quick ratio gauges a company’s ability to meet its short term expenses, similar to the current ratio, with its liquid assets (Investopedia, 2014). It is defined as cash plus cash equivalents plus marketable securities plus accounts receivable divided by current liabilities.
The next measure of Level 3 difficulties to pay debt is its quick ratio. It is similar to the current ratio but does not included inventories with current assets. The quick ratio gauges a company’s ability to meet its short term expenses, similar to the current ratio, with its liquid assets (Investopedia, 2014). It is defined as cash plus cash equivalents plus marketable securities plus accounts receivable divided by current liabilities.
The quick ratio values for Level 3 for the last five years
are .91, .94, .95, .92, and .76. Again,
like the current ratio, the numbers indicate a lack of liquid cash to cover
expenses. The company has to issue
shares, common stock, and use lines of credit to stay operational and to manage
growth. The next ratio or metric is debt
to total assets, which is total debt divided by total assets.
A low debt to total assets ratio indicates a higher degree
of financial flexibility. The company
will have a better chance to secure a loan with a low debt to total assets
ratio (Investopedia, 2014). The debt to
total assets numbers for Level 3 for the last five years are, beginning with 2013, 89.04%, 91.20%, 90.95%, 101.88%,
and 94.58% in 2009. The numbers indicate
that Level 3 has high percent of debt financed by creditors and investors. It is using high levels of financial leverage
to acquire additional assets that will increase market access and market share.
Level 3 is attempting to control and balance larger amounts of assets with less
cash expenditures.
Another measure of Level 3’s lackluster performance is its
trailing price/earnings ratio (P/E). The
trailing price/earnings ratio (P/E) is the market price per share divided by
the earnings per share.
The trailing price/earnings ratio uses the earnings per
share from the last four quarters of earnings.
The diluted earnings per share for Level 3 for the last five years as
listed in the income statement is $(0.49) for 2013, $(1.96) for 2012, $(5.51) for 2011, $(5.62) for 2010, and $(5.68) for 2009. The negative net loss per share causes the
trailing price/earnings ratio to be negative. The closing stock prices for the
respective years, are $33.17, $23.11, $16.99, $14.69, and $22.95. The resulting trailing price/earnings ratio
is -67.69, -11.79, -3.08, -2.61, and -4.04.
The negative earnings per share means the company is losing money and
the trailing price/earnings ratio isn’t going to be an accurate measure of the
company’s performance.
The next three metrics, return on sales (ROS), return on
assets (ROA), and return on equity (ROE) will clearly illustrate that Level 3
is not operating effectively. The return
on sales is the net income before taxes divided by net revenue.
The return of sales (ROS) measures how much profit the
company is producing per dollar of sales.
It shows a level insight into how effectively the company brings in
extra cash per dollar of sales. Level
3’s net loss before taxes is from 2013 to 2009, $(71M), $(374M), $(786M), $(712M),
and $(623M) The net revenue for Level 3
for the last five years starting from 2013 and going back to 2009 is $3,842M, $3,774M,
$2,627M, $2,157M, and $2,196M. The
return of sales for the respective years, is -1.85%, -9.91%, -29.92%, -33.01%,
and -28.37%. The negative value appears
to be improving over the years but the company is not bring in extra money per
dollar of sales. Level 3 is losing the
measured percentage on each dollar of sales.
In 2013, Level 3 lost two percent in profits for each dollar of
sales. In 2012, it lost ten percent in
profits for each dollar of sales, and in 2009, it lost twenty-eight percent
profits for each dollar of sales. It
indicates for the last five years the company has not made enough money to
cover expenses, create new technologies and remain competitive. It doesn’t appear in the near future Level 3
will offer dividends for investors.
The return on assets (ROA) is net income divided by its
total assets. It evaluates a company’s
ability to make a profit relative to its assets.
The return on assets (ROA) for Level 3 for the last five
years beginning in 2013 and ending in 2009 is -0.85%, -3.17%, -5.73%, -7.44%,
and -6.82%. This means the company lost
one percent for each dollar of assets, in 2013 and in 2012, it lost three
percent for each dollar of assets. For
the remaining years, the company lost on average, six point seven percent for
each dollar of assets. It indicates the
company is not utilizing assets effectively to generate a profit. If the trend continues, the company could
lose investors and lenders.
The return on equity (ROE) measures how well a company makes
money for investors. It is the net
income divided by the total shareholder’s equity.
The return on equity (ROE) for Level 3, starting in 2013 and
going back to 2009 is, -7.73%, -36.04%,-63.37%, 396.18%(both equity and net
income were negative), and -125.87%, respectively. This indicates, that since 2009, Level 3 has
lost a percentage in profits for every dollar of lender’s and investor’s
money. The company is not effectively
making a profit with the money invested.
If it continues to be negative for 2014 and 2015 and if it cannot secure
additional monies, it will not be able to generate cash flow and could face
bankruptcy.
In conclusion,
Level 3 Communications, Inc. is approaching insolvency. Its low working capital amounts and current
ratio indicate problems generating cash flows.
This forces the company to continually borrow and issue financial instruments
that have “stock options and warrants that entitle their holders to buy
additional shares of common stock” (Walther, 2014). If debt to assets remain above 80% and return
on assets remain low, then the probability for the company to continue is
low. The increased borrowing is measured
by the high debt to assets numbers for Level 3 and along with the net loss
income numbers in the financial statements, the company will fail.
References
Orr, H. (2013).
LVLT - Level 3 Communications Inc. - Company Analysis and
ASR Ranking Report. Alpha Street Research
Reports, 1-9
SWOT Analysis.
(2009). Level 3 Communications, Inc. SWOT Analysis, 1-10.
United States Securities and
Exchange Commission. (2014). Level 3 Communications,
123113_10k.htm
Aquino, S. (2010). Accounting indicators for credit risk
analysis of firms: a historical perspective. Economia
Aziendale Online 2000 Web, (2), 145-154.
Debt/Equity Ratio Definition | Investopedia. (n.d.).
Retrieved November 21, 2014, from http://www.investopedia.com/terms/d/debtequityratio.asp
Walther, L. (n.d.). Analytics for Managerial Decision Making. In Managerial accounting (2015 ed., p. 213). Principlesofaccounting.com.
Level 3 Communications. (n.d.). Retrieved January 5, 2015, from
Lane, D. (2008, January 1). Areas under Normal Distribution. Retrieved January 5, 2015, from http://onlinestatbook.com/2/normal_distribution/areas_normal.html
