Weekday Trader
Once-Hot Intermedia May Face More Problems
By Vito J. Racanelli
Investors have been agog as Internet stocks like Yahoo! (YHOO) and
Amazon.com (AMZN) -- companies with little or no earnings -- seem to go
higher and higher every day. Some of these stocks have doubled in the past
few weeks.
But few noticed another group that until recently posted similar
intergalactic returns. Shares of competitive local exchange carriers
(CLECs) tripled or quadrupled in 1997 as investors expected these niche
competitors of the Baby Bells to rack up huge growth over the next few
years. (CLECs build or lease access lines in bulk from the regional
operating Bell companies, or RBOCs, and then resell voice and data
transmission services at discounts, primarily to business customers.)
For example, Winstar Communications (WCII) gained as much as 400%, while
ICG Communications (ICGX) did even better -- racking up nearly a 500% gain
by May. But the group has taken a breather of late, as the stocks have
slipped by 10% or more since the first quarter.
Why? Well, profit-taking aside, the CLECs' stocks reacted to the surprise
announcement that group bellwether Intermedia Communications (ICIX)-- whose
shares had risen over 450% from late April 1997 to late March 1998 -- would
report bigger-than-expected first-quarter losses. The company lost $192
million during that time, or $10.87 a share, including a one-time charge of
$4.82, and its first-quarter cash flow -- or earnings before interest,
taxes, depreciation and amortization (EBITDA) -- was a negative $9.8
million. (The capital-intensive CLECs aren't expected to report actual
earnings for at least five years.) Since then, Intermedia's stock slipped
about 13% from its 52-week high of 45 5/8.
Now, though Intermedia remains very popular with both sell-side analysts
and institutional investors, some dissenting voices are being heard. The
long-term problem: disappointing cash-flow growth and slower revenue
growth. The short-term catalyst: Intermedia's difficulties over the last
year or so in knitting together several recent acquisitions. And that, of
course, could prevent its once-skyrocketing stock price from resuming its
upward arc, they say. Intermedia closed Tuesday at $40 5/16.
William Garrahan, an analyst at Lehman Brothers, says that the downside of
acquisitions like the $640-million purchase of Shared Technologies
Fairchild could be a big slowdown in future growth. He figures Intermedia
will grow its revenues now at about 35% annually. That sounds pretty darn
good, but without these acquisitions, he estimates, Intermedia would have
racked up sales growth of 60% a year. Garrahan slashed his rating on
Intermedia to Neutral from Outperform on March 31, when the company missed
its first-quarter estimates.
And that turned out to be just the first sign of bad news. On June 30,
Intermedia said it would take an unspecified second-quarter restructuring
charge to eliminate about 7% of its workforce as a result of the various
mergers -- a highly unusual step for a so-called "growth" company.
That prompted Deutsche Bank analyst Stuart Conrad to lower his rating on
Intermedia to Hold from Buy. He says another shoe may drop later in the
year. "The risk potential for the latter part of the year that an
additional reduction in estimates rises," he contends. "They've got a tough
task in front of them," Conrad says of the integration.
Conrad, who already has cut his estimates on the company twice this year,
now warns that "one more reduction or miss [by Intermedia] and Wall Street
could turn sour on the company." In a report accompanying his downgrade of
the stock, Conrad said the restructuring charges may be "excessive given
where this company is on its growth curve."
Indeed, even some Intermedia bulls are starting to sweat. Utendahl Capital
Partners analyst Cynthia Houlton has a Buy rating on the stock, but she
worries that negative fallout from the acquisitions isn't over. She says
flatly, "I think we are going to see more guidance on the downside" later
in the year.
In fact, D-Day for Intermedia could come as early as July 29, when it
reports second-quarter results. Wall Street is expecting Intermedia to
report positive cash flow of anywhere from $3 million to $7 million.
Deutsche Bank's Conrad, who's looking for $4 million to $5 million, says
that a reported number of around $3 million would be "discouraging."
In an interview with Barron's Online, Intermedia chief financial officer
Robert Manning confirms that the company will report positive cash flow in
the second quarter. He says he is comfortable with Street cash flow
estimates of $3 million to $7 million, though he declines to be more
specific, adding that the figures haven't been finalized.
Manning also defended Intermedia's strategy of growth by acquisition. Full
integration should occur by mid-1998, he predicted, declaring that "the big
issues associated with acquisitions are behind us."
On the positive side, Intermedia trades at about four times expected
annualized sales. That's a low price-to-sales multiple compared with the
rest of the group (though Intermedia is one of the bigger CLECs, and its
projected revenue growth is much slower than that of many of its peers.)
And Intermedia's stock price may reflect a considerable takeover premium.
With all the buyouts in the telecommunications industry in the last year,
Intermedia has been rumored as a target for the likes of Bell Atlantic, SBC
Telecommunications and British Telecommunications. That may keep the stock
from going into a free fall should there be more earnings disappointments
or restructuring charges announced.
Nevertheless, Intermedia's honeymoon on Wall Street appears to be over for
now -- and it would take quite a change in fortune for the stock to soar
like Yahoo! again.
BARRON'S Online Weekday Trader is located at
interactive.wsj.com |
