The spin off by IDT Corp (NYSE:IDT) of Straight Path has now been set for July 31st. Holders of IDT who take a "do nothing" approach (and continue to hold) are likely to lose 10-20% immediately upon the spin off. That loss could be as large as 40-60% within several weeks due to selling by index funds. These losses will be the predictable result of the combined drops in both stocks following the spin off.
IDT Corp. has recently filed several public documents which contain the latest information on its spin off of its Spectrum holdings. The first document was a presentation contained within an 8K filing. The next was a press release noting that the SEC had declared effective the Form 10 registration statement.
During this time, the share price has remained basically flat at around $20-21 as investors wait to see what will happen once the spin off actually takes place. The real problem here is that investors have not bothered to analyze the details. IDT has very limited institutional holdings among mutual funds. The holdings they do have are concentrated among index funds who do not perform stock specific analysis when attempting to track indices. The stock also has virtually no research coverage. Only Chardan Capital Markets covers the stock and they downgraded the stock to a polite "hold" when it was at $17 following earnings.
The real remaining bulls are retail investors who are hoping to get a "free prize" upon the release of the spin off.
The reality is that the new filings now demonstrate that there will be very little (if any) value to the spin off company. Once the spin off is complete, index investors will be forced to sell it because it is not consistent with their investment mandate as a telecom pure play.
As a result, both Straight Path and IDT Corp are likely to begin a significant descent as soon as the spin off happen on July 31st. I continue to expect the total decline to shareholders to amount to around 50% within a few weeks of July 31.
Point #1: There is almost no value in the spin off
IDT acquired the spectrum licenses from bankrupt Winstar Communications 12 years ago (2001). The recent Form 10 notes that
Historically, despite several alternate attempts, IDT was not successful in developing a business to fully realize the value of the nationwide portfolio of spectrum licenses it acquired in 2001.
After about 10 years (2010-2011), IDT began trying to sell or otherwise dispose of the assets, but could not manage to do so. IDT first proposed the spin off in 2011, but then cancelled it as it sought better alternatives. It was unable to find any so it decided to just give it to shareholders via this spin off in 2013.
IDT has issued several positive statements regarding the attractive potential these assets have. Although IDT has never been able to make use of them in the past 12 years, they do represent nationwide coverage across many metropolitan areas.
The spectrum business is actually fairly complicated. IDT has stated that the spin off will allow the assets to be managed full time without the distractions of running IDT.
Despite this, the venture has only 3 employees. The CEO of the spin off is the 26 year old son of IDT's Chairman, Howard Jonas. The son, Davidi Jonas, has no experience in these areas. He was formerly a rabbi and a high school teacher of Judaic studies. With that type of staffing, it is hard to imagine that these assets will suddenly be actively deployed after remaining dormant for 12 years.
The spin off is only being funded with $15 million in cash which is supposed to support it as a free standing entity. Over a two year time frame, this only amounts to $625,000 per month. That will need to pay for all expenses including salaries, rents and deal and litigation costs associated with the assets. There simply isn't enough money being provided to develop this business.
As a reference point, IDT had previously spent over $300 million in trying to develop these assets with a back haul network. This was in addition to the $50 million cash cost of the assets when purchased from Winstar.
The point is that with almost no cash and virtually no staffing, IDT is already conveying what its expectations are for the ability to finally draw value from these 12 year old defunct assets. It is expected that they will produce essentially nothing.
During the first 9 months of FY2013, Straight Path Communications (as a sub of IDT) only generated $982,000 in revenues, but there were $3.9 million in direct costs associated with these revenues, resulting in a loss of roughly $3 million on almost no revenues.
IDT did manage to sell off some of the best assets in 2012 to report a one time gain of $5 million in that year. But now that those assets are gone, the gains are non-recurring. As a result, IDT kept the benefit of these assets sales, rather than holders of the SpinCo.
As of 2013, the total value of the assets within spectrum were just $3.6 million vs. liabilities of just $1.8 million, for net equity of only around $1.8 million.
The value of Straight Path IP is clearly negligible. Straight Path IP holds patent rights and hopes to pursue litigation to enforce them. It is part of the Straight Path spin off. Total IP assets amounted to just $241,000 as of July 2012.
The point from this is that the total value of this SpinCo is unlikely to amount to much more than the cash that it will be supplied with. And as the 3 employee company goes forward, this cash will be consumed by admin and attempted deal costs. The existing assets have already proven that they yield ongoing losses rather than income.
Point #2: Index investors will be forced to sell the SpinCo quickly at any price
IDT is mostly held in small (less than 5%) positions by mutual funds, including index funds such as Vanguard. IDT makes sense as a telecom index holding because it derives 99% of its revenues from the single business of providing discounted international long distance services. It is basically a telecom pure play.
But the spinoff is focused on two divergent business of monetizing wireless spectrum assets and IP patent litigation.
Some current holders of IDT simply could not even hold the shares of the spin off even if they wanted to because it runs contrary to the index holding. As a result, they will sell at any price, very shortly after July 31, when the spin off materializes.
This means that regardless of the initial trading price post spin off, we know that this price of SpinCo will fall. Because of this, no one will have an incentive to buy SpinCo for at least a few weeks while the funds exit their non-indexed holding. This is the same thing that happened with IDT's previous spin off, Genie Energy.
Point #3: Past spin offs show how much value investors will lose
In its recent presentation, IDT showed that the value of Genie Energy (NYSE:GNE) was over $200 million. Genie was something that IDT gave to shareholders, and therefore it demonstrates value creation.
Genie Energy has recovered over the years along with the fortunes of the oil shale industry. But investors who were stuck with this holding had to go substantially underwater in order to wait for this eventual outcome.
Genie began trading after the spin off at $8-9. But within days of the spin off it was already down to $6-7, a loss of 25-30%.
At the same time, shares of IDT fell much further during the spin off.
The shares had been trading at over $20 before the spin off, but within weeks fell to below $10, a loss of more than 50%.
That was in 2011. Now it is 2013 and we are likely to see the same exact phenomenon.
Investors who have a burning desire to own either Straight Path or IDT Corp will no doubt have the opportunity to buy them much more cheaply in coming weeks. But all holders who simply sit on their shares during this time will be forced into near term losses simply due to holding the stock.
Investors who take a "do nothing" approach will lose likely 40-60% in the next few weeks.
The valuation of IDT after the spin off
IDT has acquired and disposed of many divergent businesses in the past 13 years. Most of these have incurred substantial losses. In its recent presentation, IDT highlights its track record of monetizing a few of these. However it ignores this long list of deals which cost IDT over $1 billion since 2000.
I previously included a list from Crain's New York Business which highlights the $1 billion in value destroyed by IDT's non-stop deal doing.
The brightest news for IDT is in its Boss Revolution ("BR") product. The BR allows IDT to make the claim that it is "no longer just a calling card company". This is true as the BR is actually a discount long distance solution which is vended via the internet instead of through using plastic cards. But it is basically the same product just being sold via a different channel.
The problem is that the actual business of providing discounted international phone calls is clearly going away. Services like Skype and Vonage allow users to make unlimited calls, often for free.
In the past, the traditional plastic cards were often used by lower income and immigrant customers who were less likely to have the computer savvy and equipment necessary to make free international calls. But now the BR service requires these users to use the internet, placing them much closer to making unlimited free calls without buying anything from IDT.
BR has resulted in growing revenues for IDT for now. What has happened is that IDT is stealing revenues from its traditional card competitors while cannibalizing its own traditional card revenues.
But we can already see that this market is shrinking, such that IDT is only buying itself some time by expanding market share within a permanently shrinking market.
The net results of this phenomenon can be easily seen. IDT's revenues continue to grow slowly, even as its profit margin is now approaching zero.
Over coming quarters, it is inevitable that these revenues will peak out once the competitors have been fully cannibalized. After that, the entire industry will show decline. This is simply a product that has been out-innovated due to new VOIP technology and under pricing.
Waiting for the next spin offs
There is virtually no institutional commitment to IDT among institutional shareholders or among institutional research providers. There is simply no interest in a static long distance business model which is set for terminal decline. The telecom revenues comprise 99% of IDT's total revenues, with the disparate operations from spectrum assets and other subs being lumped together as "other".
But surprisingly there are still a few loyal followers among retail investors who feel that IDT's tiny subsidiaries could be worth billions. This is extremely wishful thinking which is unlikely to ever materialize.
IDT still has other disparate assets which are likely to be spun off to shareholders in the future. But again, these are tiny assets which lack any meaningful revenues or profitability. What they really are is a drain on managements time and cash resources.
In the recent update presentation, IDT dedicated one page to each of the Fabrix and Zedge subsidiaries. Revenues are so minimal that they are not broken out and there is of course no mention of the ability to generate a profit in coming years.
As with the spectrum assets, these two subs required millions in upfront investment. But also like the spectrum assets, there are simply no meaningful revenues to be had from them. For example, Zedge is nothing more than a free destination to provide ringtones and wallpaper for cell phone users. That is all. Once a site like that attempts to charge users for its services, it typically finds that the vast majority of users simply move on to the next free site. There are numerous competitors for providing cell phone wallpaper. Any attempt to value this sub into the hundreds of millions is just downright silly.
IDT is well aware that the assets in the SpinCo have very little value. This is why IDT is providing almost no funding or staffing. It is also why IDT is simply spinning them off to shareholders after trying (but failing) to otherwise monetize them repeatedly for 12 whole years.
With only 3 employees, no profits and virtually no revenues, this company would not even be able to be listed on the major exchanges were it not for its origin as a spin off. The total value of it is likely to be not much more than the $15 million in cash which it is being provided with.
As with previous spin offs, shares of IDT are expected to drop substantially on the trade date (July 31st). But the shares of the SpinCo will likely drop as well due to index selling.
The result of this will be a near term loss of 10-20% for those who hold IDT. Over the longer term (and as selling accelerates), this loss could be as high as 40-60%. Investors must take into consideration that some of the buying support for IDT is currently coming from those who for some reason think that they wish to play the spin off. One the spin off is gone and the share price is falling, there will not be any near term incentive for additional buyers to support IDT stock at the current levels.