John Hodulik / Soo Kim,
<<3Q99preview_CLEC2.doc>>
CLEC: Third Quarter Review
October 18, 1999
KEY POINTS
* We believe there are few surprises in store for CLEC investors as we
head into third quarter reporting season. While GST supplied much of the
excitement of the past three weeks, WinStar and ICG made notable
contributions to the upheaval recently seen in the sector.
* After fully digesting the effects of the change in reciprocal
compensation regulation, we are trimming our estimates for ICG's third and
fourth quarter revenues bringing the year in at $483 million, slightly lower
than our original revised estimate of $496 million. Year 2000 revenue
estimates remain the same at $788 million.
* Missing from the fun was Intermedia. After a number of quarterly
adjustments to our expectations in previous periods we have not changed our
estimates for the company since prior to the end of the second quarter and
believe it to be on course to hit our numbers.
* We continue to rate NEXTLINK, WinStar, GST and ICG Buy, Intermedia
and Teligent Attractive and Electric Lightwave and e.spire Neutral.
NEXTLINK (NXLK-$56.88)[2] recently appointed Dan Akerson as the new CEO. Mr.
Akerson is widely recognized as having executed the turnaround at Nextel,
growing that business into one of the leading mobile wireless companies in
the country. Indicative of Akerson's style, he is relocating headquarters
from Bellevue, Washington, to Northern Virginia. This may lead to
additional changes in personnel, following on the resignation of George
Tronsrue, the President and COO, who stepped down just following Akerson's
appointment.
We do not anticipate that these changes have any meaningful effect on the
near-term results of the company. We estimate that NEXTLINK will provision
approximately 65,000 lines in the third quarter, up from 59,308 in the
second. Revenues should come in at $70.1 million in the third quarter, an
increase of 15.4% over second quarter revenues of $60.7 million. EBITDA
losses should continue to increase as the company expands its network
infrastructure. For the third quarter, we expect EBITDA losses to grow to
$59.1 million from $51.8 million in the previous quarter. These losses
should continue to grow as the company rolls out its "best of breed" access
platform using fixed wireless, fiber and DSL.
NXLK 3Q99E 2Q99A %chg. 3Q98A
Lines added 65,000 59,308 9.6% 31,220
Revenues (mm) $70.1 $60.7 15.5% $37.8
EBITDA (mm) (59.1) (51.8) nmf (36.6)
EPS (1.28) (1.12) nmf (0.79)
Source: PaineWebber and company published data.
We continue to believe NEXTLINK is the best-positioned CLEC in the group.
McCaw backing and a strong management team should allow it to maintain
liquidity during its aggressive roll out. We maintain a Buy rating and
12-month price target of $68 per share based on our discounted cash flow
analysis.
Conference call: TBA
WinStar (WCII-$38.94)[2] Recent weakness in WinStar shares is largely due to
lowered guidance for 2000 revenues as the company puts the last of its
"resold" past behind it and repositions the company to focus more on data
service sales. Despite the slower than expected growth, the improved
profitability of WinStar's core business will benefit the company in the
long run and enable it to better address the growing need for broadband
services.
We expect the company to provision approximately 74,000 net access lines in
the third quarter, compared to the 69,000 net additions reported in the
previous quarter. More importantly, on-net adds should grow from 33,120
posted in the second quarter to approximately 36,000 net adds in the third.
As a result, we estimate WinStar will report $112 million in revenues for
the third quarter as compared to the $96.5 million in the previous quarter,
equating to a 16% sequential growth rate.
We expect gross margins to expand from 24% in the second quarter to 30% in
the third quarter, largely due to the company's focus on improving its line
mix. EBITDA losses should come in at $73.7 million compared to $83.1
million in the previous quarter. WinStar should continue to incur losses
until the second half of 2001 as it aggressively rolls out infrastructure
and expands into additional cities. We continue to expect 2000 revenues to
be $645 million with EBITDA losses of $158 million.
WCII 3Q99E 2Q99A %chg. 3Q98A
Lines added 74,000 69,000 7.2% 60,000
Revenues (mm) $112.2 $96.5 16.3% $61.1
EBITDA (mm) (73.7) (83.1) nmf (48.3)
EPS (3.58) (3.53) nmf (2.83)
Source: PaineWebber and company published data.
WinStar trades at a large discount to both NEXTLINK and Teligent, two other
company's that will both be using fixed wireless technology to provide
connectivity customers. Its contract with Lucent Technologies reduces the
risk to the story while helping to ensure that the network will be rolled
out on time. We maintain our Buy rating on the shares with 12-month price
target of $62 per share based on our discounted cash flow analysis.
Conference call: November 2, 4:30 PM EST
ICG Communications (ICGX-$15.88)[2] stock pulled back roughly 26% from its
June 30th price of $21 per share based in part to a negative California PUC
ruling on reciprocal compensation. As a result of the ruling, ICG will take
a one-time charge of $50 million to account for revenues booked in the past
from transport and tandem switching functions in all the states in which it
operates. At the time, we also lowered our estimates for third and fourth
quarter revenues by $15 million per quarter to incorporate this change in
our estimates. We believe this change to be a "worst case" approach to the
California PUC ruling which may prove to be over conservative in the future.
The ICG story in the near term will focus on its ISP services initiative.
In the past 100 days the company has signed deals for over 300,000 RAS and
IRAS ports with large customers including Qwest, UUNet and NetZero. These
services are easier to sell and provision than commercial dial-tone,
generally come in 3-5 year contracts and produce returns on invested capital
in excess of 40%. We believe the company has a 25% market share of
wholesale ISP services in markets in which it operates and that further
expansion into 21 major cities over the next 15 months will improve its
competitive positioning in this area.
ICG should provision close to 90,000 net access lines for the third quarter
compared to the better than expected 75,795 net adds in the previous
quarter. We now expect revenues for the third quarter to come in at $123
million, up only about 5% from the $117.7 million posted in the second
quarter due to the elimination of $15 million in expected revenues to
compensate for lower reciprocal compensation receipts. We are also trimming
our fourth quarter revenue estimates to $138 million, bringing the year in
at $483 million in total.
We expect ICG to post an EBITDA loss of $45 million in the third quarter
which includes the effects of the $50 million charge. EBITDA should rise to
positive $15 million in the fourth quarter leaving the company with a $7
million deficit for the year.
ICGX 3Q99E 2Q99A %chg. 3Q98A
Lines added 90,000 75,795 5.5 53,525
Revenues (mm) $128.4 $117.7 9.1 $82.6
EBITDA (mm) (42.3) 15.2 nmf ($5.1)
EPS ($3.20) ($2.63) nmf ($2.12)
Source: PaineWebber and company published data.
Based on its efforts to accelerate its wholesale ISP business, ICG will
spend $600 million in capital expenditures in 2000 and 2001. Based on the
company's current cash balance, its recent $200 million credit facility and
our current model, we expect the company to require additional capital in
the second half of 2000. We maintain a Buy rating and 12-month price target
of $30 on ICG based on our discounted cash flow analysis.
Conference call: October 28, 11:00 AM EST
GST (GSTX-$7.94)[2] shares have pulled back roughly 47% since the July 30th
close due largely to the company's pre-announced third quarter results which
detailed the company's revenue shortfall. Recent divestitures, private line
discounting, long distance pricing pressures and other one-time adjustments
were the culprits.
GST revenues Q2A Q3E %chg. Q4E
Data $7.5 $8.0 6.7% $9.0
LD 18.5 14.5 -7.0 15.3
Local 10.8 17.2 0.0 17.0
Private line 14.4 11.0 2.8 13.6
Total service $51.2 $50.7 -1.0% 54.9
Facility sales 19.6 40.0 104.1 25.0
Product 1.2 1.2 0.0 1.2
Total $71.9 $91.9 27.8% $81.1
Source: PaineWebber and company data.
We expect service revenues to come in at $50.7 million for the third
quarter, slightly lower than second quarter results. Additional revenues
recognized from facility sales and product revenues should bring total
revenues to approximately $91.9 million. Total EBITDA is expected to come
in at $11.5 million including roughly $20 million contributed from the
Williams contract. Looking ahead, we continue to expect GST to post 1999
recurring revenues of $205 million. Adding roughly $95 million in facility
and product sales brings the total to just over $300 million. The company
should break even on an EBITDA basis for the year when including facility
sales. Based on our current model, GST should require additional funding in
mid-2000.
GSTX 3Q99E 2Q99A %chg. 3Q98A
Lines added 30,000 30,696 -2.3% 30,439
Revenues (mm) $91.9 $71.9 27.8 $43.8
EBITDA (mm) $11.5 -1.5 nmf (13.9)
EPS ($1.01) (1.41) nmf (1.30)
Source: PaineWebber and company published data.
We maintain a Buy rating and 12-month price target of $16 on GST based on
our discounted cash flow analysis. The stock now trades at 3.9x our
estimate for 2000 recurring revenues and 1.6x PP&E while the company's local
and long haul networks remain an attractive asset to carriers looking to
compete in the western United States.
Conference call: October 28, 5:00PM EST
Intermedia Communications (ICIX-$21.25)[2] shares have recently traded up on
acquisition speculation due to recent consolidation in the industry. The
company has completed its carve-out IPO of Digex, its web hosting
subsidiary, allowing it to better focus on its telecom strategy.
We expect the company to add roughly 40,000 net access lines in the third
quarter as compared to the 30,933 net adds in the second quarter. Revenues
should come in at $216.4 million for the third quarter excluding
contributions from Digex compared to $205.3 million in the second quarter.
This equates to 5.4% sequential growth rate and represents a slight
acceleration over the 5.1% growth experienced in the second quarter.
Third quarter EBITDA should come in at $25.8 million ex-Digex as compared to
the $22.3 million recorded in the second quarter. This improvement can
largely be attributed to the company's improving line mix and greater
network efficiency as the company works to better leverage existing
infrastructure. On a consolidated basis, we expect revenues of $192.4
million and EBITDA of $15.1 million.
ICIX (telecom) 3Q99E 2Q99A %chg. 3Q98A
Lines added 40,000 30,933 29.3% 31,754
Revenues (mm) $216.4 $205.3 5.4% 186.1
EBITDA (mm) 25.8 22.3 15.7% 16.7
EPS ($2.91) ($2.74) nmf ($2.42)
Source: PaineWebber and company published data.
We maintain an Attractive rating and 12-month price target of $46 on
Intermedia shares based on our discounted cash flow analysis.
Conference call: November 4, 9:00 AM EST
Teligent (TGNT-$50.00)[2] continues to roll-out facilities-based service in
new markets having added three new cities in the past week bringing its
total to number of markets to 34 and putting the company within striking
distance of having 40 cities in service by year-end. The company has also
focused on internally developing its Internet capabilities to control
product development and lower costs down the road. This initiative should
complement the company's broad band strategy while creating a unified
platform for bundled services.
The company secured roughly 1,100 building leases during the second quarter
and should post similar results in the third quarter elevating it closer to
the 6,000 building rights mark by the end of the year. "On-net" customer
buildings should grow to approximately 2,400, up from 1,520 in the second
quarter. Management expects roughly two-thirds of its on-net buildings to
be connected through wireless infrastructure by year-end. We expect
Teligent to have roughly 24,000 net line additions for the third quarter,
approximately 20% better than the 20,000 net adds it reported in the second
quarter.
Third quarter revenues are expected to come in at approximately $10.4
million compared to the $4.0 million in the second quarter. EBITDA for the
third quarter is expected to come in at $102 million slightly higher than
our earlier estimate of $91 million due to the company's ISP initiatives.
The costs related to this initiative should be out-weighed by the long-term
improvement in gross margins. Teligent will continue to incur EBITDA losses
as it rolls out its fixed wireless and IP platform into new cities but is
expected to hit an inflection point in mid-2000.
TGNT 3Q99E 2Q99A %chg. 3Q98A
Lines added 24,000 20,000 20.0% nmf
Revenues (mm) $10.4 $4.0 160.0% $0.2
EBITDA (mm) (101.7) (89.7) nmf (58.1)
EPS (2.64) (2.34) nmf (1.49)
Source: PaineWebber and company published data.
Teligent continues to execute its business plan and take on new initiatives
that leverage its core competencies and will make it a stronger competitor
down the road. We continue to have confidence in management's ability to
execute its fixed wireless strategy and maintain an Attractive rating and
12-month price target of $70 based on our discounted cash flow analysis.
Conference call: TBA
Electric Lightwave (ELIX-$13.13)[2] shares remain relatively unchanged since
it reported second quarter results on August 2nd. Since then, management
has undertaken a number of initiatives to refocus the company on existing
opportunities in current markets. First, the company announced it would
exit the pre-paid calling card (PPCC) business. These low margin revenues
contributed $5.6 million to the top line in the second quarter but had a
negative effect on profitability. This move should keep a lid on the
company's growth in the near term but improve the quality of revenues as
PPCC receipts fall out. Management also decided to close six regional
offices where the company was marketing IP and enterprise data services.
These savings, which could amount $5-10 million per quarter, will be plowed
back into expanding the company's data service platform to better serve
customers in existing markets.
The company should provision roughly 25,000 access lines in the third
quarter, up slightly from the 22,510 net access line adds in the previous
quarter. We are looking for third quarter revenues of $49.2 million, up 6.7%
from the $46.1 million in the second quarter. EBITDA estimates of $13.0
million for the third quarter represent an improvement from $15.2 million in
the previous quarter. Based on the above changes to the company's strategy,
we continue to expect ELIX to post revenues of $183.5 million for 1999 with
EBITDA losses of approximately $60.1 million.
ELIX 3Q99E 2Q99A %chg. 3Q98A
Lines added 25,000 22,510 11.1% 8,167
Revenues (mm) $49.2 $46.1 6.7% 25.7
EBITDA (mm) (13.0) (15.2) Nmf (13.5)
EPS (0.56) (0.67) Nmf (0.37)
Source: PaineWebber and company published data.
We believe Electric Lightwave has taken the initial steps in realigning its
business, but have chosen to remain on the sidelines as the top line growth
decelerates. We maintain a Neutral rating and a 12-month price target of
$15 based on our discounted cash flow analysis.
Conference call: TBA
e.spire Communications (ESPI-$7.75)[2] continues to focus on improving its
line mix, moving away from resold lines toward high margin facilities-based
service. In the second quarter, e.spire reported a net decrease of 17,059
lines due to the forced attrition of approximately 36,000 lines. This
dramatic move effectively increased the company's cumulative on-switch ratio
to roughly 83% in the second quarter. We expect the company to add 22,000
gross lines while churning an additional 10,000 resold lines in the third
quarter, netting 12,000 new lines. Continued efforts on the part of
management are expected to increase the company's on-switch component to
roughly 90% by the end of the third quarter.
e.spire should exceed our expectations for $67.2 million in revenue for the
third quarter largely due to increased sales in new markets. This is
roughly a 6.2% sequential growth from the $63.3 million reported in the
second quarter. Gross margins as a percentage of revenue should remain in
the high 30% range as the company continues to improves its line mix and
starts to benefit from increased sales of bundled products.
We are expecting EBITDA losses of approximately $12.1 million compared to
the $13.3 million loss reported in the previous quarter. This improvement
can largely be attributed to the company's positive migration of off-net to
on-net lines. EBITDA should continue to decrease for the next few quarters,
until the company turns EBITDA positive in the second half of 2000.
ESPI 3Q99E 2Q99A %chg. 3Q98A
Lines added 12,000 (17,059) nmf 31,000
Revenues (mm) $67.2 $63.3 6.1% $45.5
EBITDA (mm) (12.1) (13.3) nmf (12.4)
EPS (1.43) (1.40) nmf (1.00)
Source: PaineWebber and company published data.
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