Windstream: Do Not Overpay For The Dividend

| About: Windstream Holdings, (WIN)

The share price of Windstream (NASDAQ:WIN) has declined by 24% over the past 12 months and is currently trading near its 52-week low of $7.86. Despite the lofty 11.7% dividend yield, the investment is not worth a spot in your dividend portfolio as the shares are overpriced. There are 5 reasons backing my bearish view:

1. Windstream shares are expensive based on the company's financial performance relative to that of its primary peers, including Frontier Communications (NYSE:FTR) and CenturyLink (NYSE:CTL). According to the chart shown below, although Windstream has higher near-term consensus growth expectations, the company's consensus 5-year EPS growth estimate is considerably below the peer benchmark. On the profit side, Windstream's various margins underperform the peer average, though its ROIC metric is slightly above par. In terms of leverage and liquidity, Windstream carries a higher debt load and has a lower free cash flow margin. Due to the higher leverage, the firm's interest coverage ratio is below par. Both its current and quick ratios are below the peer benchmarks, reflecting a mediocre balance sheet condition.

Given Windstream's relatively weaker financials in many aspects, but higher dividend yield, the stock's fair value should not tradeat a notable premium over the peer-average level. Nevertheless, the current price multiples at 5.9x forward EBITDA and 19.8x forward EPS (next 12 months) are on average 19% above the same peer-average multiples. After accounting for Windstream's lower 5-year EPS growth estimate, the stock's PEG ratio is even 193% above the peer average, suggesting the shares are overvalued on a relative basis, and the market has likely attributed too much value to the stock's lofty dividend yield (see chart above).

2. Over the past 12 months, Windstream's consensus revenue, EBITDA, and EPS estimates for 2013 and 2014 have experienced multiple downward revisions. Analysts' average 5-year earnings growth estimate has also been lowered from 2.5% to 1.5% over the period (see charts below).

However, the stock's forward P/E multiple is still trading near its 52-week high, which is a cautious sign (see chart below).

3. Further, Windstream's forward P/E ratio is currently trading at a 35% premium over the same multiple of S&P 500 Index, which is at 14.6x now. Even with Windstream's significantly above-market dividend yield, this large market premium is exaggerated, provided that 1) Windstream's 5-year earnings growth rate of 1.5% is overwhelmingly below the average estimate of 8.2% for the S&P 500 companies; 2) the company's return on investments has been declining over the past 5 years (see chart below); 3) the firm's profitability and free cash flow margins have also been trending down over the period (see chart below); and 4) Windstream has stopped raising its dividend since 2006.

4. According to the data compiled by Thomson One, Windstream underperformed its EPS consensus expectation in 7 of the past 8 quarters, and the miss exceeded 3% in 6 quarters, implying that analysts are likely being overly optimistic in their estimates most of the time, and the chance for continued underperformance is high (see chart below).

5. From a technical standpoint, there has been a price ceiling at the shares' 200 simple moving average since 2011, which would likely be beneficial to short positions (see chart below).

Bottom line, Windstream shares are expensive, and too much of its value appears to be associated with the dividend, which has experienced no growth for more than 6 years. I would not recommend buying the stock, as the 11.7% dividend yield is not sufficient to bring the margin of safety back to a satisfied level. For speculative purpose, taking a short position is a viable trade, given the stock's notable valuation premium over its peers and the overall market.

All charts are created by the author except for the consensus estimate tables, which are sourced from S&P Capital IQ, and all financial data used in the article and the charts is sourced from S&P Capital IQ unless otherwise specified.

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.

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