Fahnestock on NXLK (Jul 9):
Investment Opinion: We are reiterating our Buy rating on NXLK shares. Our year-end price target of $108, reflects a 30% discount to our year-end 1999 net asset value of $155. The 18% upside potential qualifies NEXTLINK as a buy. Key points:
· First there was the web, then E-commerce, now NEXTLINK moves to create a "web lifestyle" Yesterday, NEXTLINK announced it will team with Microsoft and Westbank Projects Corp. (a real estate company) to create a state-of-the art technology environment in the Lincoln Square development in downtown Bellevue. NEXTLINK will carry Microsoft's most advanced commercially available technology throughout the Lincoln Square complex via its wireless (LMDS), and its fiber-optic networks. It will also design the intra-building, broadband infrastructure. The mixed-use complex will include a 27-floor office tower, 192 residential units above a 303-room Westin Hotel, 180,000 square feet of retail space, five restaurants, an athletic club, an 18-screen AMC Megaplex theater and an underground garage for over 2,200 vehicles.
· Lincoln Square will include the most advanced telecommunications and computer technology available to date. According to NEXTLINK's press release, planned features will include "smart" residential units that incorporate personal recognition software. Westin Hotel guests will have access to the same technology that will allow them to experience "the ultimate personalization, integration and recognition services, delivered via the broadband infrastructure." More pedestrian features will include online access to hotel amenities, high speed Internet access and video capability from all hotel rooms and condominium residences. We spoke with an agent for Westbank yesterday to ask just what the ultimate personalizaion/recognition services consisted of. Although specific applications are still being developed, they could include voice activated elevators and smart parking garages (electronic voice prompt will direct you to the best place to park). Office construction is slated to begin this fall with a target completion date of 2001. The Weston and residential apartments will not be completed until the spring of 2002.
· Lincoln Square may offer insights into the demand level for future(istic) broadband services. Due to the relatively small scale of the Lincoln Square development, the impact of this project on NXLK's financials should be minimal. As the project becomes a reality over the next 2 years, we think Lincoln Square may offer insights into the demand for future(istic) broadband technologies. As such it represents a phenomena we intend to track regularly and report periodically.
Valuation
The mathematics behind our net asset value of $155 per share year-end 1999 net asset value estimate for NEXTLINK runs as follows: The net present value of NEXTLINK's free cash flows (EBITDA minus capital spending) discounted at 14% for 10 years approximates $765 million. The net present value of NEXTLINK's liquidation value 10 years hence (based on a multiple of 10x cash flow and discounted at 14%) approximates $13.2 billion. The sum of these two estimates ($14 billion) reflects NEXTLINK's gross asset value. After subtracting roughly $2.1 billion of net debt, the company's net asset value approximates $11.8 billion or $155 per fully diluted share. These figures are detailed in the box in the lower left hand of our 10-year DCF model on page 4. The box in the lower right hand side of our 10-year DCF highlights the sensitivity of our target price to different discount rates and terminal multiples. Although a strong case can be made that our 14% discount rate is too steep and our 10x terminal multiple is too light, these metrics continue to successfully identify undervalued CLEC stocks; therefore we think they represent reasonable (and useful) valuation measurements.
NEXTLINK's public market discount
Charts on page 3 offer a historical perspective of NEXTLINK's public market discount vis-à-vis our published net asset value estimates over the past 18 months:
· Top Chart: This chart highlights NXLK's price action from February 1998 to the present. A line representing our 1998 and 1999 net asset value estimates for the company has been superimposed on this price action. Over this period our net asset value estimates have increased by over 150% reflecting the company's announced expansion into new markets, entry into the wireless arena and establishment of a significant long-haul strategy.
· Bottom Chart: The bottom chart highlights NXLK's public market discount (i.e., the spread between the company's stock price and our net asset value estimate).
· History: In February 1998, we established our year-end 1998 net asset value of $45 per share. At the time NXLK's public market discount approximated 20% (rich by historical standards). Within three months NXLK shares had pulled back 28% and its public market discount returned to a more attractive 40% level. This pullback was followed by a spectacular 53% price run-up, which shrank the company's public market discount to 9%, by July. During the August - October 1998 "financing scare" (which called into question the industry's ability to finance its build-out plans) NXLK shares plunged 73% resulting in a public market discount of nearly 80% when the stock bottomed at $11 per share. On June 11 1999, we raised our 1999 NAV to $155 from $71 to reflect the company's data market potential. Simultaneously, we raised our year-end price target to $108, a 30% public market discount.
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