CenturyLink Remains A Dividend Story

Jun.18.14 | About: CenturyLink, Inc. (CTL)

Summary

CTL’s dividend yield remains safe and has attractive future growth prospects.

Data centre and hosting provides a significant growth potential.

Rising operating expense and high debt remain concerns.

CenturyLink, Inc (NYSE:CTL) is third largest telecommunication company in the U.S., which primarily operates in rural areas and has annual revenues of $18 billion. I am bullish on the company, as growth in strategic revenues is enough to compensate for declining traditional voice services. Growth in hosting revenues and a large network of data centers builds up a compelling case for the company.

Like other rural local exchange carriers, CTL has been losing its traditional legacy customers, along with its revenues. However, exchange carriers have been trying to offset the declining business by increasing high speed broadband internet and TV customers. CTL's performance has been better than what analysts had expected in the first quarter, whereas its competitors Windstream (NASDAQ:WIN) and Frontier (NYSE:FTR) failed to meet earnings targets. In the recent quarter, CTL added 66,000 broadband customers, along with 24,000 prism TV customers. On the other hand, the loss in access line customers was limited to 5%, which was 5.4% in the last quarter of the previous year and 5.7% in the quarter before that. The company is also trying to expand its services by increasing the number of markets covered and is especially targeting businesses by providing bundled services.

Furthermore, it has also managed to successfully diversify its business by expanding its data centers' footprint. The company announced earlier this year to further develop data centers in eight markets, which includes three new data centers in North America, along with the expansion of five current centers. With the advent of high speed internet, smartphones and other products, every business either needs to have its own data centers or needs access to one. Therefore, demand for data centers will continue to grow and will play an important role in companies' future growth prospects.

One negative takeaway is rising operating expenses, which were up by 4% YoY; this is a serious concern for investors. In the recent first quarter's earnings call, CEO Glen F. Post discussed operating efficiency to reduce expenses. "We are focused on driving improved operating efficiency through network simplification and rationalization, which should improve our end-to-end provisioning time and help drive standardization throughout our company." CTL offers little detail on the matter, but the basic idea is to make its employees more efficient and effective through various programs that mature in a year or two.

The company is also high leveraged and has been downgraded to non-investment grade, which not only limits its borrowing, but it makes the whole thing more expensive as well. Although its solvency ratios are better than its competitors, it still needs to manage its debt well and improve its credit rating.

Dividends

CTL's primary attraction is its attractive dividend yield of 5.8%. The table below highlights that the company has sufficient free cash flows to cover its $0.54 dividend per share and maintain its high yield in the future. I believe that cash flow from operations will remain slightly at the lower end this year, but it will eventually recover as strategic revenues completely overshadow legacy revenues. Lastly, CTL has sufficient cash reserves to increase its scale through mergers and acquisitions.

$ millions

2Q'13

3Q'13

4Q'13

1Q'14

CFO

$1,858

$1,805

$1,836

$1,788

Capex

$739

$786

$820

$670

Free cash flow (CFO-Cap-ex)

$1119

$1019

$1016

$1118

Dividends

$326

$321

$316

$309

Click to enlarge

Source: Company Report

Share Buyback Program

The company is committed to its shares buyback program. The board has approved additional buyback of shares worth $1 billion in the next year and a half, which shows that the management believes that its stock is undervalued, although it is currently trading at the top end of its 52-week range and is up by almost 16.75% YTD. Furthermore, it will also improve CTL's dividend payout ratio and accretion to EPS.

Risks

A primary concern remains the slowdown in growth of strategic revenues as this will hurt the company's top line, along with deteriorating its free cash flows. A greater-than-anticipated loss in legacy revenues could also affect the profitability of the company. Lastly, there is a strong competition from cable companies.

Conclusion

It is important for the company to keep up with the pace of technological innovation and offer new products and services. The company has rightly given up on its dividend-centric strategy and invested in several new projects to compete more aggressively and gain a market share. The company's attractive dividend yield is safe and enjoys bright future growth prospects.

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