Windstream (WIN) may be the ultimate blend of modern technology and the simplicity of the heartland of America. The company is a provider of consumer and business telecommunications services that has a heavy concentration in various rural areas of the United States, including penetration into forty-six states.
Relative to some of the company's peers, as discussed below, this gives the company a very different client base profile, as compared to some of the largest players in the industry. This rural facet recently led one analyst to express concerns that the company is susceptible to a significant fall in cash flows. Among other concerns, the analyst points out that where rural areas accounted for 21% of the population in 2000, by 2010 that level had fallen to 16%, the lowest level ever recorded. While there are some legitimate cash flow concerns discussed, there are two major points that are missed when attacking the rural customer base as a source of concern.
First, consider a brief crash course in statistics for anyone playing along at home. Is it possible for the statistic cited above can be accurate, and yet for the number of homes considered rural to have increased anyway? The answer is, of course, yes. If the overall population increased between the two measurements, but the urban population increased at a faster pace, which is not beyond the realm of the obvious, then the percent of the total population that is rural would decrease despite the fact that the total number of rural households increased.
The other major factor that is not considered in this statistic is the expansion of urban areas and the natural destruction of rural areas. Over time, as urban centers expand, rural areas are reclassified. The impact that this has on Windstream is that the classification of its client-base may change. They do not forfeit a customer just because he or she now lives in an "urban" area instead of "rural." All in all, the simplest way to distort a situation, even unintentionally, is to use percentages rather than absolute numbers.
The second, and perhaps more important, factor that is overlooked when the rural nature of Windstream's client base is cited as a potential cause of weakness is the dramatic change going on in the heartland. Contrary to the understanding of most of us city folk, running a farm has become a technologically advanced endeavor. A modern combine can cost upwards of $500,000, can practically pilot itself, and it uses GPS mapping to customize the seed density based on a per square meter analysis of soil and moisture conditions.
Additionally, as the next generation of farmers slowly takes over, the average age of a farmer is dropping in favor of younger and more technology savvy practitioners. This younger generation is making a significant push to upgrade their service from landlines and dial-up internet to wireless high-speed internet options. As this shift continues to accelerate, rural customers may represent the single largest growth area in the telecom arena. This fact is easily overlooked unless one actually puts boots on the ground and considers the change by visiting.
Another analyst, giving consideration to the shift Windstream has made to fiber optic cable, further supplemented by its acquisition of PAETEC, actually argues that the enhanced potential of the company supports the long-term stability of the company's very attractive dividend yield. Additionally, as one of the first major players to invest heavily in cloud computing, the company has positioned itself to speak specifically to the needs of its rural customer base. The move should help the company to compete against CenturyLink (CTL), whose acquisition of Savvis is specifically targeted at cloud computing. Each of these companies has identified cloud computing as a major frontier that can help these organizations to do battle against the likes of AT&T (T), Verizon (VZ) and Sprint-Nextel (S).
This is not to suggest that the company is not also investing in its urban business. The company's cloud push is expected to make an important impact with both urban and business customers as well. Additionally, the company recently rolled out its Merge service that gives subscribers access to both gaming and social networking on their television screens. Without the entertainment component, no telecommunications company can excel; Windstream has not lost sight of this.
Income Generation and Valuation
Relative to its peers, the company is attractive for its high level of income potential without sacrificing on valuation. Windstream has a dividend yield of 8.9% relative to 5.7% for AT&T, 0% for Sprint-Nextel, 5.2% for Verizon and 7.6% for CenturyLink. While the cash flow issues mentioned above are a source of some concern, all players in the industry are subject to the same pressures, so the distance between Windstream and its peers is notable. On a valuation basis, Windstream currently trades near a price-to-earnings ratio of 34.3 relative to 46.4 for AT&T, negative earnings for Sprint-Nextel, 41.6 for Verizon and 35.6 for CenturyLink. While each of these valuations is on the high side relative to the market, with an industry average price-to-earnings ratio of 34.3, Windstream is on target.
Pushing Windstream ahead of its peers, in addition to the income, is the efficiency with which the company is run as measured by the operating margin. The company has an operating margin of 24.3% relative to 12.9% for AT&T, 0.6% for Sprint-Nextel, 17.5% for Verizon and 16.2% for CenturyLink. Given the strong metrics and a deeper look at the customer base of Windstream, the company appears to be well-positioned.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
