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On Friday, March 25, 2011, a trading desk rumor on Level 3 (LVLT) is that JP Morgan (JPM) may soon be upgrading the stock to a buy rating. The rumor could be attributed to what was said by Neel Dev, senior vice president of finance for Level 3. He presented at the 2011 Barclays Capital High Yield and Syndicated Loan Conference on Thursday, March 24 (click here to listen). I especially liked this part of the presentation (from time line 22:54min to 23:25min mark), when Neel Dev said:
We typically see a dip in First Quarter due to Vyvx seasonality,but for First Quarter 2011 we expect underlying growth to overcome seasonality,and we expect to see positive change in Core Network Services revenues. This is the first time in about four years we expect to see that, underlining the positive drivers that we see in the business.
On March 11, 2010, when JPM last upgraded the stock from underweight to neutral, Level 3 was trading in the $1.60 range. I believe an upgrade is very possible indeed from JPM. Level 3 is clearly a turnaround play as the stock price is up almost 45% this year. Funds managers like myself would not to dare sell and new managers will likely be accumalting and holding, showing a decent gain for the first quarter of this year.
On March 23, 2011. Dawson James started Level 3 with a buy rating and placed a $3 price target. Read the full, very impressive 10 page analyst report on Level 3 here. Below is an excerpt:
Investment Highlights
1) Level 3 Communications has reversed the downward trend on revenues and has posted sequential quarter to quarter gains in 3Q/2010 and 4Q/2010. Revenues increased from $908 million in 2Q/2010, to $912 million in 3Q/2010, and to $921 million in 4Q/2010. Fueled by growth in European markets and from mid-sized businesses, we anticipate that the Company will continue to grow revenues on a sequential quarter to quarter basis at a 1-2% rate going forward.
2) Level 3 operates in a favorable growth environment. Industry experts forecast that internet traffic will quadruple over the next 4 years, with mobile data traffic increasing by 39X over the same period1. Driving the exponential growth in bandwidth usage anticipated over the next several years will be the rise of the use of streaming media and cloud computing, which in turn will help to eliminate the current oversupply of fiber which has put downward pressure on bandwidth pricing.
3) The Company has managed their costs well and has maintained stable gross margins of 60% for the past 4 years. With $25 billion already invested in PP&E, based on original cost, the company is able to translate a large portion of every dollar earned directly into EBITDA. We anticipate that going forward the Company will be able to continue to improve their financial metrics by growing revenues and further controlling costs.
4) Level 3 has also done an admirable job in reducing and restructuring its long-term debt, and currently has no significant debt maturities due for more than a year (June 2012) and enough cash on hand (pro forma as of December 2010) to pay off all existing maturities through the end of 2013. Further down the road, the Company’s recent success in refinancing later debt maturities will help them face larger yearly payments due in later years, for example 2014.
Stock Valuation/Comparables
We have compiled a six-stock comparison group for Level 3 Communications, including two companies that primarily provide content delivery networks, Limelight Networks (Nasdaq/LLNW/Not Rated) and Akamai Technologies (Nasdaq/AKAM/Not Rated); two companies that provide enterprise network services, TW Telecom (Nasdaq/TWTC/Not Rated) and Abovenet (Nasdaq/ABVT/Not Rated); a single tier one internet provider, Global Crossing (Nasdaq/GLBC/Not Rated); a single diversified communications company, applicable for 2011E and 2012E for Level 3 Communications and six comparable networking companies.
Based on valuation metrics such as price/revenues and price/EBITDA for 2011 and 2012, Level 3 shares can be considered undervalued by as much as 200-300%, perhaps reflecting investors’ concerns about long-term debt levels at the company. However, to account for Level 3’s debt position relative to its competitors, we are factoring in a risk premium. Thus, we are recommending that investors purchase these shares with a 12-24 month price target of $3.00, or 2X 2011 revenues of $3.8 billion, adjusted for a risk premium.
In my opinion, Level 3 offers much more upside reward than downside risk. The chart technicals are now very bullish on the 1 month daily chart. The moneyflow indicator along with the MACD indicator has now turned positive showing a new uptrend. Level 3 is currently trading in the mid $1.40 range. I believe investors will soon see the stock price test the $1.65 area and break above it.
If this analyst upgrade rumor is factual, the stock price could easily exceed the $2 level. Short sellers would be smart to cover. I would assume several analysts will soon upgrade Level 3 following in the footsteps of Dawson James.
Disclosure: I am long LVLT, JPM. |
