From RB: Salomon Smith Barney ups NXLK target to $115,
NXLK: CNCX Merger Enhances Data Profile: Raising Target to $115
1/18/0 18:5 (New York)
NXLK CNCX
MER
Jack B. Grubman 212-816-2877 (ID 132)
NXLK: CNCX Merger Enhances Data Profile: Raising Target to $115
Region/Country: CUS
--SUMMARY:--NEXTLINK Communications, Inc.--Telecommunications Services
*We are raising our price target on NXLK to $115 from $70 based on the changes to our model driven by the Concentric merger and an enhanced data profile for NXLK. *Specifically, NXLK with the Concentric merger is expanding its geography and its data services.
*Also included in this note is a summary of our takeaways from our recent Telecom and Media Conference held last week in Palm Springs.
*Reiterate Buy on NXLK.
--EARNINGS PER SHARE--------------------------------------------------------
FYE 1 Qtr 2 Qtr 3 Qtr 4 Qtr Year
Actual 12/98 EPS $(1.19)A $(1.42)A $(1.57)A $(2.07)A $(6.26)A
Previous 12/99 EPS $(1.09)A $(1.12)A $(1.27)A $(1.62)E $(5.12)E
Current 12/99 EPS $(1.09)A $(1.12)A $(1.27)A $(1.62)E $(5.12)E
Previous 12/00 EPS $N/A $N/A $N/A $N/A $(7.30)E
Current 12/00 EPS $N/A $N/A $N/A $N/A $(8.30)E
Previous 12/01 EPS $N/A $N/A $N/A $N/A $N/A
Current 12/01 EPS $N/A $N/A $N/A $N/A $N/A
Footnotes:
--FUNDAMENTALS--------------------------------------------------------------
Current Rank........:1S Prior:No Change Price (1/18/2000)....:$87.88
P/E Ratio 12/99.....:N/Ax Target Price..:$115.00 Prior:70.00
P/E Ratio 12/00.....:N/Ax Proj.5yr EPS Grth...:0.0%
Return on Eqty 99...:N/A% Book Value/Shr(99)..:2.25
LT Debt-to-Capital(a)N/A% Dividend............:$N/A
Revenue (00)........:656mil Yield...............:N/A%
Shares Outstanding..:156.4mil Convertible.........:No
Mkt. Capitalization.:13744.4mil Hedge Clause(s).....:#
Comments............:(a) Data as of the most recently reported quarter.
Comments............:
--OPINION:------------------------------------------------------------------
As investors are aware, we just completed our Telecom, Media & Entertainment conference during the week of January 9 - 13. We think the conference was extremely successful. Hopefully, the 1,600 investors who attended felt that they learned a lot. As a result of our hectic schedule during the conference, we did not have a chance to upgrade our NEXTLINK model for the Concentric acquisition. Since we don't just willy nilly come up with price targets, but do attempt to be rigorous about it, it's not until now that we have the time to drill down on the models.
Hence, we are today publishing our new price targets for NXLK.
CONFERENCE TAKE-AWAYS
We thought the conference was quite informative. Our take-aways are the following:
1. The demand for bandwidth is explosive (a fact which we've been advocating for years). We believe that anyone who attended our conference now realizes that applications ranging from video/audio streaming to managed bandwidth services, to network caching, are going to drive demand for bandwidth to a degree with which supply will not be able to keep up. Thus, any worries about capacity glut should be forever buried.
2. The new companies that have gone public in the last 3 or 4 years, namely the CLEC/network infrastructure players, are clearly becoming increasingly "real" businesses. What struck us is that the discussions were far more about what was going on in their business and operational issues, as opposed to plans to do things. We think this underscores why the performance of the CLECs and the bandwidth players, that were extraordinary in 1999, continue to be extraordinary so far in 2000 and why our price targets on most of our names continue to go up seemingly on a monthly basis. The leverage of these businesses, once they gain traction, is enormous.
3) Finally, there is an emerging group of companies that are clearly expanding their capabilities by both geographic footprint and more services to become true integrated communications providers (ICPs). Notably, companies ranging from NXLK, MCLD, and ALGX with their recent mergers (or joint venture in the case of ALGX) with data-centric assets, to companies like Metromedia Fiber (MFNX), with their acquisition of Abovenet, to companies such as RCN (which is expanding geographically) as well as companies such as Broadwing (which puts together Cincinnati Bell's management capabilities with the IXC Network) are emerging as a class of companies with market caps ranging from $5-$15 billion. We believe the geographic and services expansion of these companies is such that with management teams that are all proven can become companies that have $40-50 billion market caps in the not-too-distant future.
From an investor's perspective, clearly the growth overall for the industry is expanding. However, having said that, the companies that will be most leveraged to that growth remain either the share-takers in traditional services or those companies that are most leveraged to the explosion of bandwidth. The bandwidth companies and CLEC/ICPs represent a combination of both.
Clearly, the most challenging companies from an investor perspective will be the larger, older companies. In particular, those who are defending high market shares in legacy services. The key to success among a mega-carrier that's a vertically integrated company is to have a low-cost position, as well as having a set of assets that allow that carrier to be less victimized from the price compression in services, such as voice, and become more of a participant in data/IP services. We clearly believe WCOM, among the major carriers, meets that bill the most with AT&T having also tremendously diversified its asset base away from long distance. We assume that they actually can execute on the cable strategy and in fact, build and leverage the new optical backbone they are building.
As far as the Bells are concerned, the stocks are very inexpensive. However, the Bells face the biggest transition from being voice-centric regional companies to participating in the growth of data/IP services.
In addition, they are going to be entering the long-distance business over the course of the next couple of years at a time when the long distance business is dramatically being devalued. Thus, the key will be which of these RBOCs can really leverage a set of assets that break them out of their regional construct. Clearly, BEL, with the BBN and GTE Internetworking assets, and the nationwide footprint with the VOD deal has the best opportunity to break from the pack first. Yet, BEL is still trading as the cheapest RBOC.
Thus, in summary, we thought that the conference clearly underscored the fact that as soon as bandwidth is deployed, it will get used. There is a set of new companies that are evolving from business plans to real operating businesses and furthermore, these new companies continue to add to their geographic footprint and service capabilities which allow their valuations to continue to go higher.
With that, we will turn to the discussion of NXLK (see our separate note on ICIX for a detailed discussion of the ICIX transaction and impact to our models).
Specifically, NXLK with the Concentric merger is expanding its geography and its data services. We believe this acquisition solidifies our data revenue projections as the CNCX backbone will enable the NXLK data initiatives. Based on the changes in our models we are raising our price target to $115 up from our previous target of $70.
SPECIFICS ON NXLK/CONCENTRIC MERGER
NEXTLINK announced a smart, strategic merger with Concentric on 1/10/00 for roughly $2.9 billion which will jump-start NXLK's data initiatives.
We expect the tax-free transaction to close during the second quarter of 2000 and use purchase accounting. Specifically, NXLK will pay $45 per share for CNCX as long as NXLK remains within a collar of $69.23 and $90.91. Below $69.23, the exchange ratio is fixed at 0.65 and above $90.91 the exchange ratio is fixed at 0.495. As, CNCX has 54.7 fully-diluted shares outstanding on a proforma basis, CNCX will own 16%-20% of the combined company on a fully-diluted basis.
The combined company will have a unique collection of assets with NXLK's local fiber and fixed wireless assets, CNCX's data/internet assets and NXLK's long-haul fiber via INTERNEXT's investment in the Level 3 network. NXLK will combine its local fiber network which currently serves 49 markets in 19 states growing to the top 30 markets in the U.S., its fixed wireless assets which cover 95% of the top 30 U.S. markets with an average spectrum per market of roughly 1,000 MHz and its intercity fiber assets which include 24 strands of fibers on Level 3's 16,000 route mile domestic build plus one empty conduit and 25% of conduits over 5 utilizing IP technology with CNCX's vast data assets. Specifically, CNCX is a national web hosting company which is the second largest in the U.S. CNCX brings 5 large data centers, 19 super POPs, 460 access points, and over 200 private and 35 major peering arrangements. In addition, CNCX has 19 cities served with DSL. CNCX is very close to close an acquisition of ITG in the U.K. which has an extensive European reach. CNCX is paying $250 million in a 50/50 stock/cash deal. ITG is currently the #2 ISP in the U.K. with extension peering arrangements. We believe this powerful set of assets will drive revenues and shareholder value in the voice, data, internet, hosting and e-commerce markets.
CNCX's deep technical team specializes in web hosting/e-commerce, high speed access/DSL, and virtual private networks. In addition, CNCX brings strategic partnerships at three different levels: 1) companies CNCX has investments in such as Covad, etc., 2) companies with equity stakes in CNCX such as SBC, Telecom Italia, Williams, and Microsoft, and 3) companies with strategic alliances such as Staples.
There is potential cross selling opportunities from selling voice services to CNCX's customers and selling hosting, e-commerce, data services to NXLK's customers. The two different salesforces are complimentary as NXLK is a direct sales force while Concentric has an indirect sales force with agents, VARs, etc.
In addition to the cross selling opportunity, synergies will come from putting CNCX's traffic over NXLK's local and long-haul network as well as SG&A synergies. The company estimates that synergies will be very small in 2000 in the $10 million range (as the merger will close in 2Q00), growing to $40+ in 2001 and will total on a cumulative basis $400-$450 million over the 2000 through 2004 timeframe.
Proforma revenues will approach the $1 billion run rate in 4Q00 with 38% of revenues coming from voice, 38% coming from internet access/web hosting, 15% coming from data transport and 9% from other. Proforma cash balance will be $3.3 billion providing funding for the next 20-24 months.
CHANGES TO NXLK MODEL
We have a new model available today which includes Concentric (but excludes ITG which we will include after the merger is complete which should be shortly.) Specifically, we accounted for CNCX under purchase accounting assuming a 6/30/00 closing date. We assume $3 billion in goodwill amortized over 20 years. CNCX has 46.5 million primary shares outstanding and 65.7 million fully-diluted shares outstanding. Proforma for the Concentric merger (assuming a 0.495 exchange ratio), the 50% InterNEXT purchase from Eagle River, and the Forstmann Little convertible preferred deal, NXLK will have roughly 210 million fully-diluted shares outstanding.
On the revenue side, we are looking for roughly $70 million in revenues from CNCX in 3Q00 growing to $80 million in 4Q00. For the full year 2001 (the first full year after the merger), we are looking for CNCX revenues of $433 million and NXLK standalone revenues of $996.5 million for a total revenue estimate of $1.4 billion for 2001. For EBITDA, in 2000 we are lowering our 3Q00 EBITDA estimate to a loss of $86 million from a loss of $78 million and for 4Q00 we are keeping our EBITDA loss estimate flat at roughly a loss of $79 million, due to CNCX. For 2001, our NXLK standalone EBITDA loss of just over $200 million will be reduced to a loss of close to $145 million from the positive effect of CNCX positive EBITDA (in the $10-$20 million range) plus the positive effect of synergies, which we estimate at $40 million.
In terms of the discounted cash flow model, the key drivers are, of course, 2009 revenues, EBITDA, the discount rate and the terminal multiple. We are raising our 2009 revenue estimate to $17.7 billion to include CNCX up from our standalone NXLK revenue estimate of $13.9 billion. We are keeping our 2009 EBITDA margin of 45% and therefore are raising our 2009 EBITDA estimate to $8.0 billion up from $6.1 billion.
We are keeping our discount rate at 14.8% and pur terminal multiple of 13x (up from 11x which we previously used) implies a free cash flow growth in perpetuity of just over 10%.
NET/NET: We are once again raising our price target on NXLK. Specifically, NXLK with the Concentric merger is expanding its geography and its data services. We believe this acquisition solidifies our data revenue projections as the CNCX backbone will enable the NXLK data initiatives. Based on the changes in our models we are raising our price target to $115 up from our previous target of $70." |
