This article covers our analysis of the big news and price moves in the telecom services group last week, evaluating them for buy and sell ideas.
Sprint Nextel Corp. (S): Sprint provides digital wireless voice and data services to 49 million subscribers in the U.S., Puerto Rico and the Virgin Islands. The stock was up 8.6% last week on news that the U.S. Department of Justice has filed to block the previously announced merger of AT&T (T) and T-Mobile (DTEGY.PK), after being up 20% for the week at the highs on Wednesday. The proposed merger would create the nation’s largest wireless services provider, relegating Sprint to a distant third place at less than half the subscribers of second-place Verizon Communications (VZ).
Sprint faces formidable obstacles with or without the merger of AT&T (T) and T-mobile. It lost over $600 million in the latest June quarter, almost $2 billion on a trailing-twelve-month (TTM) basis, on quarterly revenue in the $8.2-$8.3 billion range. Rivals AT&T and Verizon (VZ) generated over $13 billion and $6 billion in profits respectively on a TTM basis and they are much larger and have healthier balance sheets.
Sprint’s competitive position is also weak versus its larger rivals, and it is under threat of being further weakened if the AT&T / T-mobile merger is approved. Hence, the stock reacted appropriately as it surged in the early part of the week following the DOJ announcement.
However, the merger is far from blocked. With a break-up fee of $6 billion due to T-mobile if the deal fails to go through, it seems that AT&T is at least reasonably confident that it will ultimately pass despite initial objections. Furthermore, even if the deal is eventually rejected, it would leave behind a far stronger T-mobile, richer by $6 billion resulting from the break-up fee, and free to under-cut its competition with even more discounted deals and package offerings. This would have a detrimental impact on Sprint’s ability to compete and gain subscribers.
And also, despite beliefs that the break-up of this deal would leave open a possible acquisition of T-mobile by Sprint, it does not appear plausible that Sprint has the financial strength to complete the deal. As a result, we believe that current fundamentals would not support Sprint breaking through its 200-day moving average resistance in the $4.50s, and we would be sellers into any future rallies in the $4-$4.50 range.
Windstream Corp. (WIN), Centurylink Inc. (CTL), and Frontier Communications Corp. (FTR): All three provide comprehensive local, long distance, network access, and broadband services to customers in rural areas; WIN provides services in 29 states, CTL in 33 states, and FTR in 24 states. All three were very actively traded in a slow pre-labor day week, with WIN the strongest and most active, up 3.8%, FTR was up 0.4% and CTL traded down 0.8% for the week.
Besides their focus on rural areas, what ties them together is also that they are among the highest dividend-paying companies in the market, with FTR the highest yielding at 10.3%, CTL yielding 8.5%, and WIN yielding 8.0%. They all generate high-margins from their legacy telephone business, and use that to pay-out their high dividends as well as invest in other telecom areas like broadband to create a more diversified telecom services portfolio offering.
Of the three, WIN is the most attractive trading at a forward 14-15 P/E compared to 19 for CTL and 23 for FTR, while also WIN is projected to have revenue flat from 2011 to 2012 while the other two are projected to show declines of 2%-4%. WIN is also attractive on a free cash flow (FCF) basis, generating over $630 million in FCF on a TTM basis versus its earnings of $393 million during the same period, giving it a current adjusted price-to-free-cash-flow ratio of 10.
Furthermore, WIN has been aggressively diversifying outside its core RLEC business, including the pending acquisition of Paetec Holding Corp. (PAET), a provider of integrated broadband communications services to businesses, universities, financial institutions, hospital, hotels and government agencies. The transaction is expected to be accretive on a FCF basis, excluding merger and integration costs, in the first year following the closing, and should boost its FCF going forward and help support future dividend growth.
With an attractive valuation based on a P/E and P/FCF basis, high 8.0% yield and projected growth and diversification outside of its rural telephony business, WIN should be an attractive buy to both value and income-focused investors. The stock has been up almost 20% recently from the recent lows set in early August; we would wait for it to pull-back below the $12 range and buy in stages and on dips.
Motricity Inc. (MOTR): MOTR is a provider of mobile data solutions enabling wireless carriers to deliver mobile content and applications to their subscribers and consumers. The company provides a suite of hosted and managed service offerings which enable wireless carriers and enterprises to deliver customized, carrier-branded mobile data services. Its mCore platform delivers a complete solution, including portal, marketplace, connect, search, managed web, mobile campaign management, messaging, billing and settlement.
MOTR shares rose 5.5% during a generally down week for the technology sector. Its shares are trading at the lows following a 59.1% plunge on August 10th after the company reported a disastrous June quarter, missing earnings (4c versus 7c) and revenue ($34.6 million versus $36.8 million) estimates, and guiding revenue down for the September quarter ($31.5-$32.5 million versus $44.2 million). The company blamed the underperformance on headwinds in the North American carrier business, increased competition in the international market that affected their ability to close new deals, and a later than expected closing of their Adenyo acquisition.
While the June quarter results were indeed bad, especially the lowering of forward guidance and cautionary comments from management about headwinds and competition, we believe that the reaction has been over-done to the downside and that the stock is a good speculative buy at these levels. The stock is down over 50% since the August 10th earnings report, and it is down almost 95% from the $31.95 high it set in November last year, and is currently trading near all-time lows at its Friday close of $2.10.
Meanwhile, the mobile advertising market is exploding, and according to Gartner it is expected to more than double in 2011 in North America from $300 million to $700 million. The company counts all four major wireless service providers among its customers, namely AT&T (T), Verizon Wireless (VZ), Sprint (S) and T-mobile USA, as well as the major content providers.
Also, with the recent acquisition of Motorola Mobility (MMI) by Google Inc. (GOOG), there is ongoing speculation that MOTR may be an attractive take-over target. The company also recently announced the termination of CEO Ryan Wuerch, with COO Jim Smith stepping up to the role as interim CEO while the firm conducts a search for a permanent CEO. This is in addition to the previously announced plans to replace the CFO and chief marketing officer. There is optimism that the new management team may turn-around the business at MOTR.
Credit: Historical fundamentals including operating metrics and stock ownership information were derived using SEC filings data, I-Metrix® by Edgar Online®, Zacks Investment Research, Thomson Reuters and Briefing.com. The information and data is believed to be accurate, but no guarantees or representations are made.
Disclaimer: Material presented here is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion. Further, these are our ‘opinions’ and we may be wrong. We may have positions in securities mentioned in this article. You should take this into consideration before acting on any advice given in this article. If this makes you uncomfortable, then do not listen to our thoughts and opinions. The contents of this article do not take into consideration your individual investment objectives so consult with your own financial adviser before making an investment decision. Investing includes certain risks including loss of principal.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.