Chris Stansbury
Executive Vice President and Chief Financial Officer at Lumen Technologies
Thank you, Jeff, and good afternoon, everyone. I want to start by recognizing Jeff for the significant contributions he has made to Lumen and its predecessor companies. As Jeff mentioned, since the Level three merger in 2017, we have reduced debt by approximately $16 billion, sold our LatAm business for about nine times EBITDA, sold our ILEC business for approximately 5.5 times EBITDA and announced today that we have entered into an exclusive arrangement for the proposed sale of our EMEA business to Colt for $1.8 billion. This represents a very attractive multiple of approximately 11 times EBITDA, and most importantly, Jeff has positioned our company well as we drive to profitable revenue growth. Jeff, I know I speak for the entire Lumen family when I say, thank you. This year marks one of great progress in transforming our business. During 2022, we completed both the LATAM and our much larger ILEC divestitures. As our teams honor the foundation created and experience has learned over the years under Jeff's leadership, we are excited to have Kate join the team in just a few days. She brings tremendous leadership skills and deep technology experiences to help drive Lumen on the next step of our journey. As you think about portfolio optimization, it is an ongoing process that the Board evaluates regularly. Our goal is to maximize shareholder value, highlighted by the EMEA announcement today, and we will continue to evaluate future portfolio-related opportunities.
As you know, Kate joins us on Monday, and she will develop her thoughts related to any needs within our portfolio of products and assets, as well as any products or assets that she may deem nonstrategic. Moving on to reporting, we're sharing a few new items this quarter, including a view of direct margin by our new business product reporting, as well as pro forma historical financials, excluding the impacts from our divested LATAM business and CAF II to help you align your models. The size and scope of the recently closed ILEC divestiture dictates that we will provide a more wholesome view of our pro forma financials when we report our fourth quarter results. Let me move on to discuss some macro thoughts, as well as some 2022 closed deal-related model impacts. We continue to face macro headwinds, and we are actively working to address these challenges through cost reduction and other initiatives. Supply chains are strained with labor is the key headwind, and we are all facing the impacts of inflation. That said, we expect to end the year towards the low end of our adjusted EBITDA guidance range. Recall that we slowed some of our transformation efforts as we stood up Cirion and Brightspeed. But with those transactions now closed, we will reenergize our efforts in digital transformation. We estimate that our full year 2022 EBITDA will be impacted by approximately $100 million related to inflationary pressures.
Before discussing third quarter results, I would like to provide a more calibrated jump-off point as we near the close of 2022. If you combine the divested LATAM business, the ILEC 20-state business and the CAF II benefits we received in 2022, which won't recur in 2023, the total EBITDA impact would be approximately $1.4 billion. We will update you in future quarters if there are any additional CAF II-related reserve releases, and we will provide more detailed 2023 guidance when we report our fourth quarter results. With that, I will move to the financial summary of our third quarter. We are very pleased to have closed both the LATAM divestiture in the third quarter and the ILEC divestiture on October 3. These divestitures improve our revenue mix, our strategic focus, and we received approximately $7 billion of net discretionary cash proceeds. As you know, we've been active in the market tendering for debt and expect a reduction in our overall debt as we close the year. Also recall that we conveyed approximately $1.5 billion of debt to Brightspeed upon closing the ILEC transaction, and that is in addition to the net cash proceeds I just mentioned. Also be aware that these transactions caused a taxable event and we expect to pay approximately $900 million to $1 billion of tax during the first half of 2023 related to these transactions. This tax impact will be included in the overall cash tax guidance for 2023, which we expect to share with you when we report our fourth quarter results.
As we review our third quarter results, I want to highlight that in our trending schedule, as I mentioned, we have provided our pro forma results, excluding the financial impact of the LatAm divestiture, as well as the historic benefits of CAF II support. Using that as a basis and in constant currency and adjusting for the sale of our correctional facilities business in the fourth quarter of 2021, overall business revenue declined approximately 4.3% year-over-year and 2% sequentially. Mass Markets when adjusting for CAF II declined 6.6% year-over-year and 1.9% sequentially. We reported adjusted EBITDA of $1.688 billion in the third quarter and generated a 38.5% margin. Recall that year-over-year comparisons will continue to be impacted through first quarter of 2023 by the CAF II program that ended in 2021 and the subsequent $59 million CAF II reserve release in the first quarter of this year. On a reported basis, revenue was down 10.2% year-over-year. When adjusting for the items I mentioned earlier, revenue declined 5%. Our free cash flow was $620 million for the third quarter. Our dividend paid during the quarter totaled $255 million. As Jeff discussed, our Board has decided to eliminate our dividend, so there will not be a dividend paid during the fourth quarter. Additionally, we have reduced pro forma net debt by approximately $11 billion year-to-date and gross debt by about $16 billion over the past five years, reducing our annual cash interest expense by approximately $1 billion.
Moving on to a more detailed look at revenue, I will discuss our results on a pro forma basis. Our third quarter total reported revenue declined 5.5% on a year-over-year basis to $4.328 billion. As I mentioned earlier, in constant currency and adjusting for the sale of our correctional facilities business, year-over-year revenue declined 5%. Within our two key segments, business revenue declined 5.1% year-over-year to $3.155 billion. On an adjusted basis, business revenue declined 4.3% year-over-year. Mass Markets revenue declined 6.6% year-over-year to $1.173 billion. Wholesale revenue grew 1% year-over-year. This is a channel that will likely decline over time and when we manage for cash. Within our enterprise channels, which is our business segment excluding wholesale, revenue declined 7.4% year-over-year. On an adjusted basis, enterprise channels revenue declined 6.3% year-over-year. Our exposure to legacy voice and other revenue continues to improve, and we expect the closing of the 20 state ILEC divestiture last month to further improve our enterprise revenue mix going forward. iGAM revenue declined 6.2% year-over-year. FX was a $17 million headwind year-over-year. In constant currency, revenue was down 4.2%. iGAM revenue was negatively impacted year-over-year by onetime revenue in the prior year related to a major broadcast event. Large enterprise revenue declined 10.4% year-over-year. On an adjusted basis, large enterprise declined 9.4%.
Remember that large enterprise includes our public sector business, and results in this channel were impacted by a contract ending at the beginning of the third quarter. Excluding Public sector, Large Enterprise revenue trends improved both year-over-year and sequentially, and was the strongest performer within our enterprise channels, with the year-over-year rate of decline improving 100 basis points since first quarter of 2022. Within Public sector, we've had significant wins over the last few quarters, including yesterday's announced contract with the US Department of Defense. As a reminder, once these contracts are won, the revenue is long-lasting, but ramp slowly as we convert existing services to the Lumen network. As you model our fourth quarter for Large Enterprise, be aware that it will be the final quarter impacted by year-over-year comparability related to our divested correctional facilities business. And for reference, the revenue benefit we received in the fourth quarter of 2021 was $3 million. Mid-market Enterprise declined 4.6% year-over-year, a significant 360 basis points improvement since first quarter of 2022. As we discussed, we believe our product set serves this segment well and we expect growth over the long-term. We are seeing benefits in this channel, especially on customer retention, and our recently launched Lumen Marketplace provides an opportunity for further improvement.
As I move to our new business product life cycle reporting, I will reference percentage changes on a pro forma adjusted basis to normalize for the impacts of LATAM, foreign exchange and the sale of our correctional facilities business to provide a better view of our underlying performance. Grow products revenue grew 1.6% year-over-year in the third quarter. We saw strength in IP and cloud services. Grow now represents approximately 34% of our business segment, and we carried an approximately 84% direct margin this quarter. Nurture products revenue declined 8.4% year-over-year in the third quarter. The decline was driven by VPN and Ethernet. Nurture now represents about 31% of our business segment and carry an approximate 70% direct margin this quarter. Harvest products revenue declined 6.4% year-over-year in the third quarter. Price increases had a positive impact on our decline rate. Our recently formed Harvest team been working hard to manage to a lower rate of decline within this product set, which is helping to not only extend the life of these products, but also to manage customers back to Grow and Nurture products. Recall that Harvest is an important part of our business and generates cash to fuel our growth initiatives. Harvest now represents approximately 29% of our business segment and carried an approximate 81% direct margin this quarter. Other products revenue declined 4.7% year-over-year in the third quarter.
Our other product revenue tends to experience fluctuations due to the nonrecurring nature of these products. As you look at this product life cycle reporting, keep in mind that trends will fluctuate as we continue to manage products through their life cycles and our Harvest team digs in with opportunities to drive strong cash flow invest in our growth products. Moving on to Mass Markets. As I mentioned earlier, total Mass Markets revenue declined 6.6% year-over-year and 1.9% sequentially. Our Mass Markets fiber broadband revenue within our 16-state RemainCo footprint grew by approximately 18% year-over-year, and in the third quarter, represented approximately 18% of Mass Markets revenue. Also note, with the close of our ILEC sale, our exposure to legacy voice and other services revenue has improved by nearly 400 basis points year-over-year. During the quarter, total enablements were approximately 210,000, with approximately 195,000 of those enabled locations in our 16 routine states, bringing the total enabled locations in the retained states to 3 million as of September 30 with approximately 290,000 total locations enabled in the SellCo footprint. Enabling locations is hard work and the permitting process as well as third-party labor supply have been a significant headwind for us this year. While we are not satisfied with our enablement pacing year-to-date, it is important to note that we stood up a new factory internally as we pivoted from micro-targeting to a market-based approach.
This includes an end-to-end process from planning to engineering, to construction and finally enablement. We have learned a lot through this process and those lessons will serve us well as we continue to work on Quantum build. During the quarter, we added 31,000 Quantum Fiber customers on a reported basis, an improvement from last quarter as we continue our pivot to a market-based approach and adjust our go-to-market strategy. This brings our total Quantum Fiber subscribers to 889,000, with 8,13,000 of the subscribers within the 16 retained states. ARPU in retained states was approximately $60, and we see ARPU expansion opportunities with the adoption of in-home WiFi solutions, upspeeding enterprise-grade security solutions and our recently launched Multi-Gig offerings, delivering up to eight gig symmetric services with the plant capable of further cost-effective speed enhancements going forward. As of September 30, our penetration of legacy copper broadband subscribers in our retained 16 states was 12%, highlighting the significant share-taking opportunity as we accelerate the Quantum Fiber build. Within the same footprint, our Quantum Fiber penetration stood at approximately 27%. But as we expand our footprint, we expect penetration to fall as we expand our addressable market at a higher rate than new customers are added.
This is just the math of an expanding business. Our Quantum Fiber 2020 vintage penetration was approximately 27% at the 18-month mark, and we will provide an update next quarter with our 24-month penetration rate. We believe this penetration ramp strongly supports our expectations for longer-term penetration gains. Our Quantum Fiber NPS score within RemainCo was greater than positive 50 again this quarter, an indication of the quality, value and superior service that Quantum Fiber delivers. Quantum Fiber is an all-digital, multi-gig capable, prepaid product that features simple pricing with no contracts. Helping reduce call center volumes and supporting our very strong NPS scores. We continue to monitor how the economic environment is impacting our customers, and we have not observed any discernible changes in customer payment patterns. Turning to adjusted EBITDA. For the third quarter of 2022, pro forma adjusted EBITDA was $1.659 billion compared to $1.872 billion in the year ago quarter. As I mentioned earlier, we are seeing cost pressures from inflation in addition to our opex investments to drive growth. We see more opportunity for transformation cost savings now that we have closed both the LatAm and ILEC divestitures, and we return resources to our transformation initiatives. Special items this quarter totaled a benefit of $527 million and were related primarily to a $593 million gain on the sale of the Latin America business.
On a pro forma basis, our third quarter 2022 margin of 38.3% when compared to 40.9% in the year ago period. Capital expenditures for the third quarter of 2022 were $845 million. In the third quarter of 2022, the company generated free cash flow of $620 million. Moving on to our 2022 financial outlook. We are updating our guidance for several metrics. We now expect capital expenditures in the range of $3 billion to $3.2 billion for the full year 2022. As a result, we are raising our free cash flow outlook to $2.2 billion to $2.4 billion for the full year 2022. We are also adjusting our expectation for stock-based compensation expenses and now expect approximately $100 million for the full year 2022. As mentioned previously, the Board has decided to eliminate our dividend and has simultaneously authorized an up to $1.5 billion, two-year share repurchase plan. In closing, our team is managing through macro headwinds well. We will miss Jeff's leadership, but look forward to Kate joining us on Monday as we continue our transformative journey. Our team remains focused on executing on our growth initiatives to drive long-term profitable revenue growth.
With that, we are ready for your questions.