REG - AT & T Inc. - 3Q14 10-Q <Origin Href="QuoteRef">T.N</Origin> - Part 3

AT&TAnnouncement

18/11/2014 18:00

- Part 3: For the preceding part double click  ID:nRSR3768Xb 

approximately 4.5 million at closing), an increase of 8.4% from the prior year. Our
subscriber base consists primarily of postpaid accounts. Our prepaid services, which include results from services sold
under the Cricket brand, are monthly pay-as-you-go services. 
 
ARPU 
 
Total ARPU (average service revenue per average wireless subscribers) was down 8.0% in the third quarter and 6.4% for the
first nine months of 2014. Postpaid ARPU was down 9.2% and 6.8% when compared to the third quarter and first nine months of
2013, primarily due to our transition to plans that result in lower service revenues in lieu of subsidized devices, which
began in the first quarter of 2014. As we adjust our service offerings and pricing structures, management believes that
postpaid phone-only ARPU plus Next subscriber installment billings (postpaid phone-only ARPU plus AT&T Next) is a better
representation of the monthly economic value per postpaid subscriber. For the quarter and nine months, postpaid phone-only
ARPU decreased 8.0% and 5.2% versus the year-ago periods and postpaid phone-only ARPU plus AT&T Next decreased 3.4% and
2.1% compared to the same periods last year. Compared to the second quarter of 2014, postpaid ARPU increased 0.6%, postpaid
phone-only ARPU increased 0.3%, and postpaid phone-only ARPU plus AT&T Next increased 2.0%. 
 
Churn 
 
The effective management of subscriber churn is critical to our ability to maximize revenue growth and to maintain and
improve margins. Total churn was higher in the third quarter and for the first nine months of 2014 due to the expected
pressure in prepaid with the acquisition of Leap. Postpaid churn was lower for both the third quarter and the first nine
months. 
 
Postpaid 
 
Postpaid subscribers increased 1.0% during the third quarter and 4.3% when compared to September 30, 2013. At September 30,
2014, 81% of our postpaid phone subscriber base used smartphones, compared to 75% at September 30, 2013. About 96% of our
postpaid smartphone subscribers are on plans that provide for service on multiple devices at reduced rates, and such
subscribers tend to have higher retention and lower churn rates. A growing percentage of our postpaid smartphone
subscribers are on usage-based data plans, with approximately 82% on these plans as compared to 72% in the prior year, and
about 51% of our Mobile Share accounts have chosen the 10 gigabyte or higher plans. Device connections on our Mobile Share
plans now represent about 62% of our postpaid customer base. Such offerings are intended to encourage existing subscribers
to upgrade their current services and/or add connected devices, attract subscribers from other providers and minimize
subscriber churn. 
 
As of September 30, 2014, approximately 86% of our postpaid smartphone subscribers use a 4G-capable device (i.e., a device
that would operate on our HSPA+ or LTE network), and about 67% of our postpaid smartphone subscribers use an LTE device. 
 
Historically, our postpaid customers have signed two-year service contracts for subsidized handsets. However, through our
Mobile Share plans, we have recently begun offering postpaid services at lower prices for those customers who either bring
their own devices (BYOD) or participate in our AT&T Next program. Approximately 50% of all postpaid smartphone gross adds
and upgrades during the quarter chose AT&T Next. We also experienced a sharp rise in the number of BYOD gross adds to
462,000, compared to 109,000 at September 30, 2013. While BYOD customers do not generate equipment revenue, the lack of a
device cost and subsidy helps improve our margins. We expect continued increases in our AT&T Next take rate as we have
expanded offering to additional distributors. 
 
Our AT&T Next program allows for postpaid subscribers to purchase certain devices in installments over a period of up to 24
months. Additionally, after a specified period of time they also have the right to trade in the original device for a new
device and have the remaining unpaid balance satisfied. For customers that elect these trade-in programs, at the time of
the sale, we recognize equipment revenue for the amount of the customer receivable, net of the fair value of the trade-in
right guarantee and imputed interest. A significant percentage of our customers on the AT&T Next program pay a lower
monthly service charge, which results in lower service revenue recorded for these subscribers. In the second quarter of
2014, we began offering the AT&T Next program through other distributors and we expanded the offering to almost all of our
remaining distributors during the third quarter, which is expected to further accelerate the impacts on service revenues. 
 
Prepaid 
 
In March 2014, we completed our acquisition of Leap, which included approximately 4.5 million prepaid subscribers at
closing. Prepaid subscribers decreased 1.4% during the third quarter due in part to expected transition of Cricket
subscribers. As of October 31, 2014 we have over 2 million Leap and former Aio subscribers on our GSM network. 
 
Operating Results 
 
Our Wireless segment operating income margin in the third quarter decreased from 26.4% in 2013 to 24.6% in 2014 and for the
first nine months decreased from 27.2% in 2013 to 25.7% in 2014. Our Wireless segment operating income decreased $106, or
2.3%, in the third quarter and decreased $80, or 0.6%, for the first nine months of 2014. The decreases in operating margin
and income in the third quarter and for the first nine months reflected the increasing popularity of Mobile Share plans,
promotional activities and our continued investment in new services. 
 
Service revenues decreased $37, or 0.2%, in the third quarter and increased $66, or 0.1%, for the first nine months of
2014. The decrease in the third quarter is due to customers shifting to no-device-subsidy plans, which allow for discounted
monthly service charges under our Mobile Share plans. This decrease was largely offset by revenues from Cricket subscribers
that were not included in our 2013 results. The increase in the first nine months was primarily due to the increased number
of subscribers using smartphones with larger data plans and revenues from Cricket subscribers, which were partially offset
by the growing adoption of Mobile Share plans. While we expect monthly service revenues to continue to be pressured as
customers move to Mobile Share plans, we expect equipment revenues to increase for those subscribers who elect the AT&T
Next program. 
 
Equipmentrevenues increased $894, or 44.3%, in the third quarter and $2,605, or 46.8%, for the first nine months of 2014.
The increases were primarily related to devices sold under our AT&T Next program. During the second quarter of 2014, with
the launch of the AT&T Next program through other distributors we began deferring the recognition of equipment revenue and
costs until the device is sold to the end subscriber and the trade-in right is conveyed. This lag in timing of the
recognition of the sale resulted in lower revenue through these distributors beginning in the second quarter of 2014. 
 
Operations and support expenses increased $873, or 7.9%, in the third quarter and $2,373, or 7.4%, in the first nine months
of 2014. The increases in the third quarter and for the first nine months were primarily due to the following: 
 
·      Equipment costs increased $406 and $950, respectively, reflecting the sales of more expensive smartphones. Equipment
costs also include Cricket and Alltel subscriber integration charges, which we expect will continue into 2015 as we
complete the transition of those subscribers to our network. 
 
·      Selling (other than commissions) and administrative expenses increased $267 and $966 due primarily to increases of:
$125 and $290, which include increased legal costs and new product development expenses; $50 and $106 in bad debt expense;
$29 and $125 in customer service expense; and $7 and $117 in sales expense. Also contributing to the increase in the first
nine months were higher marketing and advertising expenses of $119. Each of these increases included additional costs
related to acquisitions. 
 
·      Network system costs increased $185 and $538 due to higher network traffic and personnel-related network support
costs and cell site related costs in conjunction with our network enhancement efforts and increased costs related to the
Cricket acquisition. 
 
·      Handset insurance cost increased $122 and $285 due to an increase in the cost of replacement phones. 
 
Partially offsetting these increases were lower commission expenses of $182 and $522. Commission expense was lower in both
the third quarter and first nine months of 2014 primarily due to lower average commission rates and increased national
equipment activation credits. A decrease in upgrade transactions contributed to the lower commission expense for the nine
month period. 
 
Depreciation and amortization expenses increased $90, or 4.8%, in the third quarter and $378, or 6.8%, for the first nine
months of 2014. Depreciation expense increased $80, or 4.4%, in the third quarter and $419, or 7.8%, for the first nine
months primarily due to ongoing capital spending for network upgrades and expansion and acquisition of Leap partially
offset by extending the estimated useful life of software. 
 
Amortization expense increased $10, or 21.3%, in the third quarter and decreased $41, or 21.9%, for the first nine months.
The increase in the third quarter is primarily due to higher amortization of intangibles for customer lists related to our
acquisition of Leap, mostly offset by the completion of amortization of customer lists from our December 2006 acquisition
of BellSouth Corporation (BellSouth). The decrease for the first nine months reflects the fully amortized customer lists
from our acquisition of BellSouth, slightly offset by amortization of customer lists from our March 2014 acquisition of
Leap. 
 
 Wireline                                                                                                                                                  
 Segment Results                                                                                                                                           
                                     Third Quarter                Nine-Month Period          
                                     2014                   2013  Percent Change                     2014    2013  Percent Change    
                                                                                             
 Segment operating revenues                                                                                                                                
 Service                             $              14,368        $                  14,403  (0.2)   %       $     43,165            $  43,266  (0.2)   %  
 Equipment                                          247                              267     (7.5)                 688                  832     (17.3)     
 Total Segment Operating Revenues                   14,615                           14,670  (0.4)                 43,853               44,098  (0.6)      
 Segment operating expenses                                                                                                                                
 Operations and support                             10,761                           10,385  3.6                   31,918               31,137  2.5        
 Depreciation and amortization                      2,571                            2,736   (6.0)                 7,769                8,146   (4.6)      
 Total Segment Operating Expenses                   13,332                           13,121  1.6                   39,687               39,283  1.0        
 Segment Operating Income                           1,283                            1,549   (17.2)                4,166                4,815   (13.5)     
 Equity in Net Income of Affiliates                 1                                -       -                     2                    1       -          
 Segment Income                      $              1,284         $                  1,549   (17.1)  %       $     4,168             $  4,816   (13.5)  %  
 
 
Supplemental Information 
 
Wireline Broadband, Telephone and Video Connections Summary 
 
Our broadband, switched access lines and other services provided at September 30, 2014 and 2013 are shown below and trends
are addressed throughout this segment discussion. 
 
                                          September 30,     September 30,     Percent  
 (in 000s)                                2014              2013              Change   
 U-verse high speed Internet              12,098            9,745             24.1     %  
 DSL and Other Broadband Connections      4,388             6,682             (34.3)      
 Total Wireline Broadband Connections1    16,486            16,427            0.4         
                                                                                          
 Total U-verse Video Connections          6,067             5,266             15.2        
                                                                                          
 Retail Consumer Switched Access Lines    10,182            13,133            (22.5)      
 U-verse Consumer VoIP Connections        4,698             3,616             29.9        
 Total Retail Consumer Voice Connections  14,880            16,749            (11.2)      
                                                                                          
 Switched Access Lines                                                                    
 Retail Consumer                          10,182            13,133            (22.5)      
 Retail Business                          9,509             10,632            (10.6)      
 Retail Subtotal                          19,691            23,765            (17.1)      
                                                                                          
 Wholesale Subtotal                       1,562             1,655             (5.6)       
                                                                                          
 Total Switched Access Lines2             21,464            25,680            (16.4)   %  
 
 
1 Total wireline broadband connections include DSL, U-verse high speed Internet and satellite broadband. 
 
2 Total switched access lines includes access lines provided to national mass markets and private payphone service
providers of 211 at September 30, 2014 and 260 at September 30, 2013. 
 
Operating Results 
 
Our Wireline segment operating income margin in the third quarter decreased from 10.6% in 2013 to 8.8% in 2014, and for the
first nine months decreased from 10.9% in 2013 to 9.5% in 2014. Our Wireline segment operating income decreased $266, or
17.2%, in the third quarter and $649, or 13.5%, for the first nine months of 2014. The decrease in operating margins and
income was driven primarily by continued revenue decreases from our legacy voice and data products and increased U-verse
content costs, partially offset by increased revenues from our U-verse and IP-based strategic business services. 
 
Service revenues decreased $35, or 0.2%, in the third quarter and $101, or 0.2%, for the first nine months of 2014. Lower
service revenues from business customers (which include integration, government-related and outsourcing services) and the
continued decline in revenues from legacy services that we no longer actively market were largely offset by higher service
revenues from our residential customers. 
 
Business 
 
Service revenues from business customers decreased $168, or 2.0%, in the third quarter and $547, or 2.1%, for the first
nine months of 2014. The revenue decreases were due to a $176 and $440 decrease, respectively, in long-distance and local
voice revenues and a $284 and $928 decrease in traditional data revenues, which include circuit-based and packet-switched
data services. The decreases were primarily due to lower demand as customers continue to shift to our most advanced
IP-based offerings, such as Ethernet, VPN, U-verse high speed Internet access and managed Internet services, or to other
service providers. The lower traditional service revenues were largely offset by higher demand for our next generation
services. Strategic business service revenues, which include VPNs, Ethernet, hosting, IP conferencing, VoIP,
Ethernet-access to Managed Internet Service (EaMIS), security services, and U-verse services provided to business customers
increased $308, or 14.3%, in the third quarter and $909, or 14.6%, for the first nine months of 2014. In the third quarter
and for the first nine months, revenue from VPN increased $82 and $270, Ethernet increased $87 and $252, U-verse services
increased $48 and $126 and EaMIS increased $50 and $123. 
 
Consumer 
 
Service revenues from residential customers increased $175, or 3.2%, in the third quarter and $590, or 3.6%, for the first
nine months of 2014. The increases were driven by higher IP data revenue reflecting increased U-verse penetration, customer
additions, and migration from our legacy voice and DSL services. In the third quarter and for the first nine months,
U-verse revenue from consumers increased $327 and $1,029 for high-speed Internet access, $265 and $806 for video and $101
and $306 for voice. These increases were partially offset by a decrease of $184 and $536 in DSL revenue as customers
continue to shift to our strategic high-speed Internet access offerings, and a $348 and $1,048 decrease in traditional
voice revenues. 
 
Equipment revenues decreased $20, or 7.5%, in the third quarter of 2014, and $144, or 17.3%, for the first nine months of
2014. Our equipment revenues are mainly attributable to our business customers. 
 
Operations and support expenses increased $376, or 3.6%, in the third quarter and $781, or 2.5%, for the first nine months
of 2014. Operations and support expenses consist of costs incurred to provide our products and services, including costs of
operating and maintaining our networks and personnel costs, such as compensation and benefits. 
 
The increases in expenses were primarily due to increased cost of sales of $197 and $450, related to U-verse content fees;
higher nonemployee expenses of $108 and $350 in conjunction with Project Velocity IP (VIP) deployment, information
technology enhancements and overall growth of our U-verse services; higher Universal Service Fund (USF) fees of $39 and
$142, which are offset by higher USF revenues; higher materials and energy costs of $46 and $120; and higher traffic
compensation costs of $67 for the year-to-date period. These increases were partially offset by lower employee related
expense of $23 and $301, reflecting ongoing workforce reduction initiatives. 
 
Depreciation and amortization expenses decreased $165, or 6.0%, in the thirdquarter and $377, or 4.6%, for the first nine
months of 2014. Depreciation expense decreased $130, or 4.9%, in the thirdquarter and $270, or 3.5%, for the first nine
months of 2014 primarily due to extending the estimated useful life of software, partially offset by ongoing capital
spending for network upgrades and expansion. Amortization expense decreased $35, or 34.0%, and $107, or 31.8%, for the
first nine months of 2014 primarily due to fully amortized customer lists associated with acquisitions. 
 
OTHER BUSINESS MATTERS 
 
U-verse Services  As part of Project VIP, we announced a goal to expand our IP-broadband service to approximately 57
million customer locations and we achieved that goal during the third quarter. As of September 30, 2014, we had 12.4
million total U-verse subscribers (high-speed Internet and video), including 12.1 million Internet and 6.1 million video
subscribers (subscribers to both services are only counted once in the total). 
 
We believe that our U-verse TV service is a "video service" under the Federal Communications Act. However, some cable
providers and municipalities have claimed that certain IP services should be treated as a traditional cable service and
therefore subject to the applicable state and local cable regulation. Petitions have been filed at the Federal
Communications Commission (FCC) alleging that the manner in which we provision "public, educational and governmental" (PEG)
programming over our U-verse TV service conflicts with federal law. If courts having jurisdiction where we have significant
deployments of our U-verse services were to decide that federal, state and/or local cable regulation were applicable to our
U-verse services, or if the FCC, state agencies or the courts were to rule that we must deliver PEG programming in a manner
substantially different from the way we do today or in ways that are inconsistent with our current network architecture, it
could have a material adverse effect on the cost and extent of our U-verse offerings. 
 
DIRECTV Acquisition  In May 2014, we announced a merger agreement to acquire DIRECTV in a stock-and-cash transaction for
ninety-five dollars per share of DIRECTV's common stock, or approximately $48,500 at the date of announcement. As of
September 30, 2014, DIRECTV had approximately $16,852 in net debt based on DIRECTV's financial statements included in its
Form 10-Q for the third quarter of 2014. Each DIRECTV shareholder will receive cash of $28.50 per share and $66.50 per
share in our stock. The stock portion will be subject to a collar such that DIRECTV shareholders will receive 1.905 AT&T
shares if our stock price is below $34.90 per share at closing and 1.724 AT&T shares if our stock price is above $38.58 at
closing. If our average stock price (calculated in accordance with the merger agreement with DIRECTV) is between $34.90 and
$38.58 at closing, then DIRECTV shareholders will receive a number of shares between 1.724 and 1.905, equal to $66.50 in
value. DIRECTV is a premier pay TV provider in the United States and Latin America, with a high-quality customer base, the
best selection of programming, the best technology for delivering and viewing high-quality video on any device and the best
customer satisfaction among major U.S. cable and satellite TV providers. 
 
The merger agreement was adopted by DIRECTV's stockholders on September 25, 2014 and remains subject to review by the FCC
and the Department of Justice and to other closing conditions. It is also a condition that all necessary consents by
certain foreign governmental entities have been obtained and are in full force and effect. The transaction is expected to
close in the first half of 2015. The merger agreement provides certain mutual termination rights for us and DIRECTV,
including the right of either party to terminate the agreement if the merger is not consummated by May 18, 2015, subject to
extension in certain cases to a date no later than November 13, 2015. Either party may also terminate the agreement if an
order permanently restraining, enjoining, or otherwise prohibiting consummation of the merger becomes final and
nonappealable. In September 2014, DIRECTV and the National Football League renewed their agreement for the "NFL Sunday
Ticket" service substantially on the terms discussed between AT&T and DIRECTV, satisfying one of the conditions to closing
the merger. Under certain circumstances relating to a competing transaction, DIRECTV may be required to pay a termination
fee to us in connection with or following a termination of the agreement. 
 
Based on synergies we expect to realize with the acquisition, we have also committed to the following upon closing of the
transaction: (1) expanding and enhancing our deployment of both wireline and fixed wireless broadband to at least 15
million customer locations across 48 states, with most of the locations in underserved rural areas, (2) adhering to the
FCC's Open Internet protections established in 2010 for three years after closing, regardless of whether the FCC
re-establishes such protections for other industry participants following the D.C. Circuit's vacating of those rules, (3)
for three years after closing, offering standalone retail broadband Internet access service at reasonable market-based
prices, including a service of at least 6 Mbps down (where feasible) at guaranteed prices, in areas where we offer wireline
broadband service today, and (4) offering, for three years after closing, standalone DIRECTV satellite video service at
nationwide package prices that do not differ between customers in AT&T's wireline footprint and customers outside our
current 22-state wireline footprint. 
 
GSF Telecom Acquisition  On November 7, 2014, we entered into an agreement to acquire 100 percent of the stock of Mexican
wireless company GSF Telecom Holdings, S.A.P.I. de C.V. (GSF Telecom) for $2,500, less net debt at closing, which was
approximately $700 at announcement. GSF Telecom offers service under both the Iusacell and Unefon brand names in Mexico
with a network that covers about 70 percent of Mexico's population of approximately 120 million. Under the terms of the
purchase agreement, we will acquire all of GSF Telecom's wireless properties, including licenses, network assets, retail
stores and about 8.6 million subscribers. The acquisition will occur after Grupo Salinas, the current owner of 50 percent
of GSF Telecom, closes its announced purchase of the other 50 percent of GSF Telecom it does not own today. The purchase is
subject to review by the Mexican Federal Telecommunications Institute and the Mexican National Foreign Investment
Commission. We expect to close the purchase during the first quarter of 2015, subject to customary closing conditions. 
 
Spectrum Acquisitions  On September 3, 2014, we completed our acquisition of 49 Advanced Wireless Services (AWS) spectrum
licenses, covering nearly 50 million people in 14 states, from Aloha Partners II, L.P., for approximately $804 in cash. 
 
Connecticut Wireline Disposition  In December 2013, we agreed to sell our incumbent local exchange operations in
Connecticut to Frontier Communications Corporation for $2,000 in cash. The transaction was approved by the FCC in July 2014
and was approved by the Connecticut Public Utilities Regulatory Authority on October 15, 2014. The transaction closed on
October 24, 2014. We anticipate the cash tax impact of the transaction will be partially offset by the availability of
capital losses. 
 
Federal Trade Commission Litigation  On October 28, 2014, the Federal Trade Commission (FTC) filed a civil suit against
AT&T Mobility, LLC seeking injunctive relief and unspecified money damages under Section 5 of the Federal Trade Commission
Act. The FTC's allegations concern AT&T's Maximum Bit Rate ("MBR") program, which temporarily reduces the download speeds
of a small portion of our Unlimited Data Plan customers each month. MBR is an industry-standard practice that is authorized
by the FCC and designed to affect only the most data-intensive applications (such as video streaming). Texts, emails,
tweets, social media posts, internet browsing, and many other applications are typically unaffected. Contrary to the FTC's
allegations, which we vigorously dispute, our MBR program is permitted by our customer contracts, was fully disclosed in
advance to our Unlimited Data Plan customers, and was implemented to protect the network for the benefit of all customers. 
 
Environmental  In 2012, AT&T Mobility entered into an administrative settlement with the U.S. Environmental Protection
Agency (EPA) regarding alleged violations of federal environmental statutes in connection with management of back-up power
systems at AT&T Mobility facilities. As part of the settlement, we are required to audit our compliance at over 1,300
facilities and to pay stipulated penalties for any violations discovered by those audits. At this time, it is probable that
as a result of these audits, we will face civil penalties in excess of one hundred thousand dollars but not in an amount
that would be material. 
 
In December 2011, Harris County, Texas brought suit on behalf of itself and the Texas Commission on Environmental Quality
(TCEQ) alleging AT&T to be liable for statutory civil penalties for past leakage at eleven petroleum storage tank
locations. All eleven sites have been remediated (with de minimis actual impact) in accordance with state programs and the
TCEQ has issued No Further Action letters closing the sites. Notwithstanding these facts, Harris County declined to dismiss
its claims. In September 2014, the parties agreed to settle the case for an immaterial amount in civil penalties. 
 
COMPETITIVE AND REGULATORY ENVIRONMENT 
 
Overview  AT&T subsidiaries operating within the United States are subject to federal and state regulatory authorities.
AT&T subsidiaries operating outside the United States are subject to the jurisdiction of national and supranational
regulatory authorities in the markets where service is provided, and regulation is generally limited to operational
licensing authority for the provision of services to enterprise customers. 
 
In the Telecommunications Act of 1996 (Telecom Act), Congress established a national policy framework intended to bring the
benefits of competition and investment in advanced telecommunications facilities and services to all Americans by opening
all telecommunications markets to competition and reducing or eliminating regulatory burdens that harm consumer welfare.
However, since the Telecom Act was passed, the FCC and some state regulatory commissions have maintained or expanded
certain regulatory requirements that were imposed decades ago on our traditional wireline subsidiaries when they operated
as legal monopolies. We are pursuing, at both the state and federal levels, additional legislative and regulatory measures
to reduce regulatory burdens that are no longer appropriate in a competitive telecommunications market and that inhibit our
ability to compete more effectively and offer services wanted and needed by our customers, including initiatives to
transition services from traditional networks to all IP-based networks. At the same time, we also seek to ensure that
legacy regulations are not extended to broadband or wireless services, which are subject to vigorous competition. 
 
In addition, states representing a majority of our local service access lines have adopted legislation that enables new
video entrants to acquire a single statewide or state-approved franchise (as opposed to the need to acquire hundreds or
even thousands of municipal-approved franchises) to offer competitive video services. We also are supporting efforts to
update and improve regulatory treatment for retail services. Regulatory reform and passage of legislation is uncertain and
depends on many factors. 
 
We provide wireless services in robustly competitive markets, but those services are subject to substantial and increasing
governmental regulation. Wireless communications providers must obtain licenses from the FCC to provide communications
services at specified spectrum frequencies within specified geographic areas and must comply with the FCC rules and
policies governing the use of the spectrum. While wireless communications providers' prices and service offerings are
generally not subject to state regulation, states sometimes attempt to regulate or legislate various aspects of wireless
services, such as in the area of consumer protection. 
 
The FCC has recognized that the explosive growth of bandwidth-intensive wireless data services requires the U.S. Government
to make more spectrum available. In February 2012, Congress set forth specific spectrum blocks to be auctioned and licensed
by February 2015 (the "AWS-3 Auction"), and also authorized the FCC to conduct an "incentive auction," to make available
for wireless broadband use certain spectrum that is currently used by broadcast television licensees (the "600 MHz
Auction"). On September 12, 2014, AT&T submitted an application to participate in the AWS auction. The FCC has initiated
proceedings to establish rules that would govern these auctions. The AWS-3 Auction is expected to begin in the second half
of 2014. The FCC recently announced that the 600 MHz Auction has been postponed until 2016. Due to the FCC's rules
restricting communications regarding auction strategy, we will not disclose our financial plans for the auctions during the
quiet period for these auctions, unless legally required. 
 
In May 2014, in a separate proceeding, the FCC issued an order revising its policies governing mobile spectrum holdings.
The FCC rejected the imposition of caps on the amount of spectrum any carrier could acquire, retaining its case by case
review policy. Moreover, it increased the amount of spectrum that could be acquired before exceeding an aggregation
"screen" that would automatically trigger closer scrutiny of a proposed transaction. On the other hand, it indicated that
it will separately consider an acquisition of "low band" spectrum that exceeds one third of the available low band spectrum
as presumptively harmful to competition. In addition, the FCC imposed limits on certain bidders in the 600 MHz Auction,
including AT&T, restricting them from bidding on up to 40 percent of the available spectrum in the incentive auction in
markets that cover as much as 70-80 percent of the U.S. population. On balance, the order and the new spectrum screen
should allow AT&T to obtain additional spectrum to meet our customers' needs, but because AT&T uses more "low band"
spectrum in its network than some other national carriers, the separate consideration of low band spectrum acquisitions
might affect AT&T's ability to expand capacity in these bands ("low band" spectrum has better propagation characteristics
than "high band" spectrum). We seek to ensure that we have the opportunity, through the auction process and otherwise, to
obtain the spectrum we need to provide our customers with high-quality service in the future. 
 
Due to substantial increases in the demand for wireless service in the United States, AT&T is facing significant spectrum
and capacity constraints on its wireless network in certain markets. We expect such constraints to increase and expand to
additional markets in the coming years. While we are continuing to invest significant capital in expanding our network
capacity, our capacity constraints could affect the quality of existing data and voice services and our ability to launch
new, advanced wireless broadband services, unless we are able to obtain more spectrum. Any long-term spectrum solution will
require that the FCC make new or existing spectrum available to the wireless industry to meet the expanding needs of our
subscribers. We will continue to attempt to address spectrum and capacity constraints on a market-by-market basis. 
 
Net Neutrality  In January 2014, the D.C. Circuit released its decision on Verizon's appeal of the FCC's Net Neutrality
rules. Those rules prohibited providers of fixed, mass market Internet access service from blocking access to lawful
content, applications, services or non-harmful devices. The rules prohibited providers of mobile broadband Internet access
service from blocking consumers from accessing lawful websites or applications that compete with the provider's own voice
or video telephony services. The rules also imposed transparency requirements on providers of both fixed and mobile
broadband Internet access services, requiring public disclosure of information regarding network management practices,
performance and commercial terms of their service offerings. In addition, the rules prohibited providers of fixed (but not
mobile) broadband Internet access service from unreasonably discriminating in their transmission of lawful network
traffic. 
 
In its decision, the court found the FCC had authority under section 706 of the Act (which directs the FCC and state
commissions to promote broadband deployment) to adopt rules designed to preserve the open Internet, but vacated and
remanded the antidiscrimination and no-blocking rules on the ground that they impermissibly imposed common carrier
regulation on broadband Internet access service. The court held that, having declared broadband Internet access services to
be information services, the FCC could not regulate them as telecommunications services. The court did not vacate the
transparency rules. 
 
The invalidation of the no-blocking and antidiscrimination rules means that broadband Internet access providers have
greater flexibility in their provision of mass market services. However, the court's finding that section 706 provides the
FCC independent authority to adopt rules to promote broadband deployment appears to give the FCC broad authority to
regulate the Internet and, more generally, IP-based services, provided the FCC finds such regulation promotes deployment of
broadband infrastructure. In addition, because section 706(a) grants authority to both the FCC and the states to adopt
rules to promote broadband deployment, states could attempt to rely on that provision to regulate broadband services,
although the states' authority to do so appears to be narrower than the FCC's. In May 2014, the FCC released a notice of
proposed rulemaking in response to