Tough to fault the analysis, but it doesn't take into account
that the CLEC's have done well in spite of the odds against them.
----------------------------------------------------------------
July 14, 1998
Once-Hot Intermedia May Face More Problems
By Vito J. Racanelli
Investors have been agog as Internet stocks like Yahoo! and Amazon.com --
companies with little or no earnings -- seem to go higher and higher every day.
Some of these stocks have doubled in the past few weeks.
But few noticed another group that until recently posted similar intergalactic
returns. Shares of competitive local exchange carriers (CLECs) tripled or
quadrupled in 1997 as investors expected these niche competitors of the Baby
Bells to rack up huge growth over the next few years. (CLECs build or lease
access lines in bulk from the regional operating Bell companies, or RBOCs, and
then resell voice and data transmission services at discounts, primarily to
business customers.)
For example, Winstar Communications gained as much as 400%, while ICG
Communications did even better -- racking up nearly a 500% gain by May. But the
group has taken a breather of late, as the stocks have slipped by 10% or more
since the first quarter.
Why? Well, profit-taking aside, the CLECs' stocks reacted to the surprise
announcement that group bellwether Intermedia Communications -- whose shares had
risen over 450% from late April 1997 to late March 1998 -- would report
bigger-than-expected first-quarter losses. The company lost $192 million during
that time, or $10.87 a share, including a one-time charge of $4.82, and its
first-quarter cash flow -- or earnings before interest, taxes, depreciation and
amortization (EBITDA) -- was a negative $9.8 million. (The capital-intensive
CLECs aren't expected to report actual earnings for at least five years.) Since
then, Intermedia's stock slipped about 13% from its 52-week high of 45 5/8.
Now, though Intermedia remains very popular with both sell-side analysts and
institutional investors, some dissenting voices are being heard. The long-term
problem: disappointing cash-flow growth and slower revenue growth. The
short-term catalyst: Intermedia's difficulties over the last year or so in
knitting together several recent acquisitions. And that, of course, could
prevent its once-skyrocketing stock price from resuming its upward arc, they
say. Intermedia closed Tuesday at $40 5/16.
William Garrahan, an analyst at Lehman Brothers, says that the downside of
acquisitions like the $640-million purchase of Shared Technologies Fairchild
could be a big slowdown in future growth. He figures Intermedia will grow its
revenues now at about 35% annually. That sounds pretty darn good, but without
these acquisitions, he estimates, Intermedia would have racked up sales growth
of 60% a year. Garrahan slashed his rating on Intermedia to Neutral from
Outperform on March 31, when the company missed its first-quarter estimates.
And that turned out to be just the first sign of bad news. On June 30,
Intermedia said it would take an unspecified second-quarter restructuring charge
to eliminate about 7% of its workforce as a result of the various mergers -- a
highly unusual step for a so-called "growth" company.
That prompted Deutsche Bank analyst Stuart Conrad to lower his rating on
Intermedia to Hold from Buy. He says another shoe may drop later in the year.
"The risk potential for the latter part of the year that an additional reduction
in estimates rises," he contends. "They've got a tough task in front of them,"
Conrad says of the integration.
Conrad, who already has cut his estimates on the company twice this year, now
warns that "one more reduction or miss [by Intermedia] and Wall Street could
turn sour on the company." In a report accompanying his downgrade of the stock,
Conrad said the restructuring charges may be "excessive given where this company
is on its growth curve."
Indeed, even some Intermedia bulls are starting to sweat. Utendahl Capital
Partners analyst Cynthia Houlton has a Buy rating on the stock, but she worries
that negative fallout from the acquisitions isn't over. She says flatly, "I
think we are going to see more guidance on the downside" later in the year.
In fact, D-Day for Intermedia could come as early as July 29, when it reports
second-quarter results. Wall Street is expecting Intermedia to report positive
cash flow of anywhere from $3 million to $7 million. Deutsche Bank's Conrad,
who's looking for $4 million to $5 million, says that a reported number of
around $3 million would be "discouraging."
In an interview with Barron's Online, Intermedia chief financial officer Robert
Manning confirms that the company will report positive cash flow in the second
quarter. He says he is comfortable with Street cash flow estimates of $3
million to $7 million, though he declines to be more specific, adding that the
figures haven't been finalized.
Manning also defended Intermedia's strategy of growth by acquisition. Full
integration should occur by mid-1998, he predicted, declaring that "the big
issues associated with acquisitions are behind us."
On the positive side, Intermedia trades at about four times expected annualized
sales. That's a low price-to-sales multiple compared with the rest of the group
(though Intermedia is one of the bigger CLECs, and its projected revenue growth
is much slower than that of many of its peers.)
And Intermedia's stock price may reflect a considerable takeover premium. With
all the buyouts in the telecommunications industry in the last year, Intermedia
has been rumored as a target for the likes of Bell Atlantic, SBC
Telecommunications and British Telecommunications. That may keep the stock from
going into a free fall should there be more earnings disappointments or
restructuring charges announced.
Nevertheless, Intermedia's honeymoon on Wall Street appears to be over for now
-- and it would take quite a change in fortune for the stock to soar like Yahoo!
again. |
