High Dividend Yield To Take Toll On Windstream

Dec. 4.13 | About: Windstream Holdings, (WIN)

Windstream Holdings, Inc. (NASDAQ:WIN) provides local communication and entertainment services primarily to rural areas across 16 states in the U.S. The company is trying hard to diversify its services to offset the decline in traditional voice services. I retain my bearish stance on the company as it is highly leveraged with limited growth opportunities. Although the company continues to offer a healthy dividend yield, I believe it will soon be challenged by a high payout ratio.

In the recent third quarter, business service revenues (contribute around 61% to total revenues) experienced a slowdown, as they only manage to grow by 1% YoY as compared to 2.3% YoY in the second quarter. Similarly, another growing segment, consumer broadband service (contributes around 8% to total revenues) managed a growth rate of 4.2% in 3Q'13 as opposed to 5.3% in 2Q'13. WIN managed to improve its high-speed internet ARPU, but it was offset by the loss of over 11,000 subscribers. Also, the loss in traditional voice lines accelerated to 6% YoY as compared to 5.5% YoY in 2Q'13.

In the second quarter of the year, cable operators carried down several promotional activities, and the results were evident in the company's third quarter earnings release. WIN experienced a -9.1% YoY change in small business customers due to aggressive competition from cable operators. This loss was partially offset by a 6.3% YoY increase in the enterprise customer base.

Leverage

The company is highly leveraged with total debt of $8.9 billion. Recently, the company has refinanced $800 million of 8.125% with its revolver at libor+2%, which will result in significant savings in interest expense - the company still nearly spends 68% of its total operating income in the form of interest expense, which is a worrying sign for investors. The table below shows how the company is placed in terms of its competitors and how they lag behind in debt management, which will raise some serious concerns for the company's future.

Companies

Total debt/ Equity

Interest coverage ratio

CenturyLink (NYSE:CTL)

123.14x

2.0x

Frontier Communications (NYSE:FTR)

208.53x

1.67x

WIN

1034.96x

1.53x

Click to enlarge

source: reuters.com

I don't believe that the company's financial position will improve because it is distributing a majority of its earnings to shareholders in the form of dividends, and management has no intentions of cutting down its dividends, which means no planning to de-leverage in the near future. I think the situation will get even worse in the rising interest rate scenario.

Dividends

The Company has been extremely popular among income-seeking investors with its attractive dividend yield of 11.60%. Both its competitors, FTR and CTL, have cut down their dividends to focus on future growth prospects, but WIN's management has maintained its dividend at the cost of high leverage. The company's poor financial performance in the recent quarter, along with a high payout ratio of 526.00%, means that the company will face problems in maintaining its dividend yield.

Acquisitions

WIN was looking to acquire DukeNet assets, which would not only help increase its scale but also de-leverage to some extent, but one of the largest cable companies, Time Warner Cable (TWC), managed to beat WIN and acquired DukeNet assets with $600 million in cash. This acquisition will help TWC compete more aggressively with WIN, especially in Carolina. The company should focus on small private data centers like Telx and ViaWest to further enhance its data hosting and cloud services. The company has undertaken six acquisitions in 2010-2011 and it is still accounting for integration and merger costs, which means that investors will remain skeptical of future acquisitions.

Conclusion

Companies

Dividend Yield

PEG

Next 5yr growth rate

CTL

7.00%

8.70

1.30%

FTR

8.50%

0.92

21.80%

WIN

12.30%

-1.12

-20.50%

Click to enlarge

Source: Yahoo Finance

I believe the company's huge debt and high payout ratio will continue to weigh down on future growth prospects. WIN offers a high dividend yield, which I believe cannot be sustained for very long, as it has a negative next five years growth rate per annum. So I think the company needs to cut down on its dividends and save some cash to bring down the leverage and enhance future growth opportunities.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.