What is fully funded anyway?
By Bambi Francisco, CBS.MarketWatch.com
Last Update: 1:23 PM ET Nov. 13, 2001
SAN FRANCISCO (CBS.MW) -- Covad Communications shot up more than 40 percent Tuesday after the high-speed access provider said it secured $150 million to be fully funded.
The cash infusion from SBC Communications (SBC: news, chart, profile) is expected to get Covad to cash-flow positive operations by the second half of 2003. The deal "provides us with the financial freedom and cash cushion that we anticipate will get us to profitability without further dilution," said Charles Hoffman, Covad's CEO.
In recent trading, Covad Communications (COVD: news, chart, profile) rose 23 cents to $1.09.
Helping to reach its goal, Covad is exchanging future revenue streams with money upfront.
The $150 million deal replaces the $600 million in six-year graduated payment for services from the previous resale and marketing agreement that was announced in SBC in September 2000. SBC, which owns 5 percent of Covad, did not increase its stake in the company. But for the loan, SBC has rights to "all" of Covad's assets should Covad fail, said Hoffman.
In order to reach its goal of cash-flow positive by the middle of 2003, Covad's Hoffman said the number of subscribers needs to reach 650,000 by the end of that year, up from 350,000 currently.
"We are doing this by adding both small business and residential subscribers to our network and providing new services such as TeleSoho DSL to complement our basic DSL services," said Charles Hoffman, Covad's CEO.
Funded once, twice ...
The news of Covad's funding helped bring attention to other companies that provide some level of high-speed data access, including XO Communications (XOXO: news, chart, profile). Shares rose 6 percent to $1.07.
Even though the overall market advance was the larger factor helping to drive most tech and telecom stocks higher in Tuesday's trading, some analysts would caution investors to remember not to forget the realities of the environment.
"We have a difficult demand environment and many of these companies are still over-leveraged and this will drive the equity performance," said Daniel Zito, an analyst at Lehman Bros., who follows XO Communications and other telecom companies, such as McLeod. McLeod (MCLD: news, chart, profile) added 1 percent to 73 cents.
The latest Media Metrix statistics that show Internet usage hit a record in October as 102 million unique visitors went online is positive, but the capital-intensive-infrastructure was built to support much more.
"The reality of what's going on is that demand continues to grow robustly, but at rates lower to prior expectations, which makes servicing these aggressive balance sheets difficult."
Fully funded
In Covad's case, it has made progress improving its balance sheet by filing for pre-negotiated bankruptcy protection this summer. The company expects to be free of $1.4 billion in debt by January 2002. But it will be taking on a $50 million loan from SBC Communications. Interest payments will begin on January 2004 at an 11 percent annual rate. The note is due January 2006.
Capital expenditures will still be roughly $25 million per quarter in the following quarters. According to Hoffman, Covad's expected capital expenditures will be between $8 million and $9 million per month in order to reach its subscriber goals by the end of 2003.
So, even in Covad's case, the question isn't when it will become cash-flow positive on an operating basis, but when will it generate free cash flow. Free cash flow includes payments for debt and capital expenditures.
Hoffman said that the current plan in place will allow it to be cash-flow positive on an operating basis by mid-2003 and free cash flow positive by the end of 2003. At the end of the third quarter, Covad had about $460 million in cash. Covad's third-quarter cash usage averages less than $25 million per month, according to a release.
Fully funded primer
"The term 'fully funded' has very often been used loosely over the past few years to describe the liquidity situation of many of these companies," wrote Ravi Suria, a hedge fund manager at Duquesne Capital Management. "Sometimes the phrase has been used to describe the availability of capital for some time depending on the predicted 'burn rate.' However, when the aggregate debt yield levels for the high-yield telecom sector is close to 18 percent, we believe that the term should actually mean 'only funded' unless the liquidity status takes these companies to a point in which they are fully capable of running as operating entities without external capital."
"We consider a company fully funded when it becomes capable of paying at least the interest expense and preferred dividends (fixed charges) from internally generated operating cash flow," wrote Suria. |
