**New SSB Report released at 9:15PM EST**
Salomon Smith Barney ~ February 15, 2001
Global Crossing Ltd. (GX)
GX: Strong Q4; Mix Skewed Towards Capacity
(Note: all tables deleted because I couldn't format them correctly)
Global Crossing reported fourth quarter results which were very strong in
aggregate and it also reiterated guidance for 2001 as well as providing
guidance for first quarter of 2001. Specifically, Global Crossing reported
$1.54 billion of cash revenues, up 15% sequentially and slightly ahead of our
number. In addition, adjusted EBITDA was $418 million, about 10% better than
the third quarter's adjusted EBITDA and, again, above our estimate. We
provide several tables in the text with detailed segmentation of revenue.
We continue to view GX as a core holding since it has built and funded a
high-end global IP-based network that enables GX to exploit its headstart on
taking advantage of the global demand for global bandwidth services of a
unified global network platform. Furthermore, GX is clearly entering the
next phase of its development, evolving from selling capacity to selling
services.
The composition of the results at first blush, we think, might raise some
eyebrows given how strong capacity sales were in the quarter. Of course,
capacity sales are recurring revenue, unlike dark fiber, so we are not sure
why anyone would care, especially given the margins and returns. Capacity
sales accounted for 38% of total revenues in the quarter, up from 31% in the
third quarter. This led to carrier revenues accounting for 62% of total
revenues, up from 57% in the third quarter. However, it is natural that the
fourth quarter would have been heavily skewed towards capacity sales for two
reasons. First, as we've heard across the board in telecom, and as has been
true for decades, the fourth quarter is a seasonally weak quarter in the
commercial business. In the fourth quarter, there are 8% fewer business days
and in general, commercial buyers of telecom are not procuring new services
at year end.
In addition, Global Crossing now has the totality of its network up and
running, with 85% of its network complete in terms of route miles (vs. 60% at
the end of Q3), with all systems operational. In fact, the span of Global
Crossing's network, with North America and Pan European networks as well as
Asian terrestrial networks (particularly in Japan and Hong Kong), includes
over 200 major cities on five continents. The span also includes its global
subsea facilities. In addition, Global Crossing has a metropolitan fiber
buildout underway, completing 10 metro rings in 10 cities in the United
States, four cities in Europe and three cities in Asia. By the end of 2001,
GX will have 25-30 US metro markets, 10-12 European metro markets, and six
Asian metro markets. Those metro markets will have two points of presence
per city, will connect to all points of traffic aggregation, and will have
roughly 10 lit buildings per market where large corporate enterprises reside.
This local connectivity obviously reduces provisioning time, transmission
costs and provides far better control over quality of service and the
enablement and delivery of new products. The point is that, with all systems
up and running for Global Crossing, capacity sales exploded, as customers
took advantage of the availability of global bandwidth on a unified network.
Capacity sales in the quarter were $585 million, up 44% sequentially and
roughly doubled from a year ago. The important thing about capacity sales is
that they are far more geographically diverse than ever before. In the
fourth quarter, we estimate that the capacity sales spread over every system
in service. One third of capacity sales came from Latin America and Asia,
15% from the Atlantic, 30% in North America and roughly 10% in Europe. In
addition, we suspect that 15-20% of capacity sales were flexible global
network purchases that allowed buyers of capacity to purchase services on a
flexible basis anywhere on Global Crossing's network. Moreover, nearly 75%
of new orders for capacity have an element of a flexible global network
offer. This allows GX to be far less susceptible to point-to-point capacity
pricing pressure. In contrast, a year ago, close to 70% of capacity sales
were in the transatlantic system with the remaining capacity sales coming
from PC-1, which had just been put into service. Hence, Global Crossing's
depth and breadth of network have clearly led to an explosion in capacity
sales with a higher quality mix of routes and services.
In addition, a much greater percentage of capacity sales have upfront
deposits, versus service activation. This implies that large buyers of
capacity are willing to pay now for future capacity because, unlike consensus
wisdom on Wall Street (an oxymoron), large buyers of capacity are not
counting on plummeting pricing in the future, and more importantly, they are
quite worried about having access to large swaths of capacity over the next
several years. This is particularly in true subsea, where supply seems to
be shrinking. Witness TAT-14 and Japan-US consortium being woefully late for
service. Even on a terrestrial basis, the reality is that there is a lot
less capacity that is lit and operational versus what is built into business
plans. Thus, Global Crossing, by virtue of having an entire worldwide
network up and running, is seeing a tremendous amount of interest even with
buyers willing to pay now for future delivery and willing to sit out any
downward revision in pricing over time in order to have guaranteed access to
capacity.
In addition, Global Crossing's average capacity sales continue to be
increasing with the average sale likely to be STM-16's to STM-64's, and in
many cases, with multiple wavelengths. This is a far cry from a couple of
years ago, when the average capacity sale was probably an STM-1 to an STM-4.
Obviously, if a customer is buying hundreds of STM's in the form of multiple
wavelengths, they are not paying $1 million per STM-1. It is absolutely a
truism that if someone came to Global Crossing to buy a single STM-1, they
would pay at least $1 million, for across the Atlantic, and double that for
across the Pacific, just as they would have one year ago. Thus, pricing has
basically been stable unless you want to come in and commit to massive buying
of capacity.
So, on the capacity sale front, we think that while capacity sales coming in
at 38% of total revenues was higher than we thought, nonetheless, it is more
of a testimony to the fact that Global Crossing has its entire worldwide
network up and running, with every segment operational, than it is a
damnation of the rest of Global Crossing's business. Going forward, we
believe capacity sales will hover around 30-35% of cash revenue in 2001,
perhaps exiting the year below the low end of that range on a run-rate basis.
Because of the strength in capacity sales that led to the overall carrier
business (as we allude to in the table below) representing 62% of cash
revenue in the quarter, up from 57% in the third quarter. If one looks at
carrier products excluding capacity sales, carrier data products declined
about 22% sequentially as Global Crossing purporsely turned down many private
line circuits to mainly small wholesale customers. Carrier voice grew about
11% sequentially, with 75% of Global Crossing's carrier voice business being
North American wholesale traffic. While wholesale voice is not a good
business for most in the industry, the reality is that Global Crossing has
new network; it is gaining share, and wholesale voice is a nice contributor
to growth and margin.
.......
Turning to the commercial business, Global Crossing's overall commercial
business declined, we estimate, about 3% sequentially, with voice declining
at about 4% and with commercial data being essentially flat. On the voice
side, again, Global Crossing's commercial voice business, aside from
seasonality, is also being de-emphasized. We would continue to expect to see
sequential declines there. As far as data is concerned, there are many puts
and takes within the commercial data line. Specifically, if one looks at
IPC, the parent of IXNet, that business is within commercial data, and we
estimate it declined by over 30% in the quarter. In addition, we estimate
that SME type of private line revenues also declined at a double-digit rate,
as, again, Global Crossing is de-emphasizing the SME business, given that its
assets are much more optimized for large accounts. On the other hand, IX Net
grew at over 30% sequentially, and data products such as ATM frame and IP
transit also grew about 30% on a sequential basis. We estimate that of the
commercial data line, IX Net and higher protocol data services comprise
roughly half of the revenue stream, with IPC and private line being roughly
the other half. Obviously, trends are moving in different directions for the
different piece parts.
By cutting the revenues in different ways, one can see that overall, voice is
about one third of Global Crossing's revenue. Data is over 55% and
installation & maintenance is about 10%. Looking at it another way, carrier
is about 62% of revenue, commercial is about a quarter of the revenues and
consumer is less than 3%, and again installation and maintenance to the
global marine business is about 10%. If one cuts the numbers another way,
capacity sales were about 38% of revenue. Commercial voice is about 14%;
carrier voice is about 18%, and consumer voice--again--less than 3%.
Commercial data is about 12% and carrier data, excluding capacity sales, is
about 6%. Within overall data, capacity sales accounted for about 67% of
that number, up from 57% in the third quarter.
........
2001 EXPECTATIONS
For 2001, as can be seen in tables 2, 3 and 4, we expect capacity sales to be
31-32% of revenue. Overall voice should decline to 30% of revenue from 39%
in 2000 and data services (excluding capacity sales) should also be about 30%
of revenue up from 20% in 2000 with installation and maintenance about 7.5%
of revenues vs. 8.0% in 2000. This compares to a Q4 2000 composition that
was 38% capacity sales, 34% voice, 18% data services and 10% installation and
maintenance. Looking at it another way, carrier should account for 61% of
2001 revenue, up from 58% for all of 2000, but in line with Q4. However, a
higher percentage of carrier revenues in 2001 will come from services
relative to capacity IRU's versus 2000 (services increase to 50% of carrier
in 2001 up from 40% in 2000). Meanwhile, we estimate commercial will rise to
29% of 2001 revenue from 25% in Q4 (although fall slightly vs. overall 2000
due to decline in commercial voice) with I&M dropping to below 8% from almost
10% in Q4 and with consumer remaining 2-3%.
These changes in revenue composition obviously suggest that relative to Q4
2000 levels, non-capacity data services and non-voice commercial services
will be growth drivers. On an overall year-over-year basis for the drivers
behind our 34.8% revenue growth forecast, we have capacity sales growing 28%
and accounting for 27% of incremental growth, overall voice growing 5% and
accounting for less than 6% of incremental growth, non-capacity data services
more than doubling and accounting for 62% of incremental growth, and I&M
growing 17% and accounting for 4% of incremental growth.
Obviously, we are counting on a big year for GX selling data products off its
global network. In fact, in 2001, we have data services and capacity sales
each accounting for roughly half of overall data revenue as compared to 2001,
where capacity sales were 62% of data revenue. From a customer segment
perspecive, carrier will account for almost 70% of incremental growth driven
by both capacity sales and carrier services, with carrier services
approaching half of carrier sales in 2001, up from 40% in 2000. The bulk
(27%) of the remaining incremental revenues comes from commercial revenue
with all of this driven by commercial data since we have no growth in
commercial voice.
GX HAS GRADUATED TO THE NEXT LEVEL
When one steps back and looks at Global Crossing versus its kin, so to speak
(namely other companies that started out like Global Crossing as a
construction company and thus, a wholesaler), Global Crossing is today
clearly much more commercially skewed than others and has a complete global
network that is up and running, metro connectivity that's ramping up, and has
sales force and products that are in the market. We think Global Crossing
is poised to takes its place among the leading providers of global network
services not only to carrier customers, but increasingly to large commercial
customers.
GX, at current prices, using fully diluted shares of 984 million is trading
at 9x times our $2.1 billion 2001 adjusted EBITDA estimate, excluding ILEC
and Global Center EBITDA. We believe this discount is ludicrous for a
company like Global Crossing with legitimate recurring EBITDA growth in the
30% range from '01-'06 (implying Global Crossing trades at less than one-
third of its expected five year EBITDA CAGR), and which has a global set of
network assets that it is quickly productizing to move up the value-chain.
Furthermore, GX has a fabulous balance sheet with little or no net debt
(proforma for ILEC sale proceeds), and long term debt to total capital of
less than 50%. Its bonds trade at $0.95 on the dollar, and the yield is less
than 9%. Frankly, these levels imply a fair value of the equity that is
probably triple where the stock is currently trading. We continue to view
Global Crossing as one of our absolute favorite names, and would be
aggressive buyers of the stock.
We realize that the entire sector is under pressure, but the reality is that
those companies that are building the right network assets with the right
products to get to the right revenue mix and which happen to have assets that
represent the particular bottleneck assets in the entire value-chain should
drive disproportionate amount of value in this industry. We think Global
Crossing is the epitome of that, and is selling at what we believe is an
incredibly low level of valuation, especially since they continue to
outperform expectations. Now we will turn to details of the quarter.
NET/NET
Global Crossing had a very strong quarter. As will be the case, the
composition of the numbers will bump around quarter to quarter, but the
bottom line is that its network is built, all segments are operational. It
has products, distribution, salesforce in place. We think it will continue
to outperform expectations. We would be agressive buyers of the stock at
current levels. |
