Merrill Investment Highlights [btw, McCourt gives ML telecom conf
luncheon talk on Tues:
Message 8280321 ]
· We have completed a sum of the parts analysis
that indicates that RCN is significantly
undervalued. Based on public value comps we
derived a $41 per share value or 56% above
current prices.
· If RCN were to be split up by division and sold
to strategic buyers, our sum of the parts
analysis indicates a $49 per share value or
87% above current prices.
· We believe RCN's ISP division is worth
$25/share based on comparable per sub.
average value of $2,700/sub. for AOL
($3,500/sub), EarthLink ($1,900/sub) and
MindSpring ($2,700/sub).
· RCN's Cable TV operation would be worth
$12 per share based on comparable per sub.
average value of $3,150 for Cablevision
($3,200/sub), Comcast ($3,100/sub) and Cox
($3,100/sub).
· RCN's telephone (voice) business would be
worth $7 per share based on our 10 year DCF
analysis of voice only.
· Sum of the parts valuation analysis confirms
and raises our confidence level even further in
our $36 per share DCF-based private market
value estimate based on our 10 year forecast
model discounted back to YE '99.
Stock Undervalued With Significant Hidden Value In
ISP Operation; Reiterate Intermediate Term
Accumulate And Long Term Buy Opinions: We have
performed a sum of the parts valuation analysis on RCN's
individual business units. Based on this analysis, we have
derived a $41 per share public market value for RCN. As
shown in Table 1 below, this analysis has highlighted the
significant "hidden value" of RCN's residential ISP
(internet service provider) division. In fact, we estimate
that RCN's ISP operation is worth $25 per RCN share or
95% of the current stock alone based on the current public
trading value of similar companies. We suspect that the
value of RCN's ISP and Cable TV operations has been
"obscured" by the heavy start-up spending associated with
the CLEC (competitive local exchange carrier) operation
in the Northeast and California.
RCN Sum Of The Parts Analysis:
Our sum of the parts analysis, which is detailed below in
Table 1, is comprised of three main sections and employs
public market valuation comparisons:
1) ISP: We valued RCN's estimated YE '99 609,800
proportionate subscribers (comprised of 584,000 dial-up
and 25,800 proportionate broadband on-net subscribers) at
$2,700 per dial-up subscriber with a 50% valuation
premium accorded to on-net broadband subscribers for a
combined total of $25 per RCN share. We valued RCN's
ISP operation using our estimate of the average ratio of
current enterprise value to year-end '98 subscriber levels
for the three leading publicly traded residentially-oriented
ISPs -- American On-Line at $3,500 per subscriber,
EarthLink at $1,900 per subscriber and MindSpring at
$2,700 per subscriber.
2) Cable TV: We valued RCN's Cable TV operation at
approximately $12 per share using a two-part technique.
We valued RCN's estimated YE '99 180,000 incumbent
Cable TV subscribers at $3,150 per subscriber, equivalent
to the current public trading value for comparable
companies as estimated by ML's Cable TV analyst Jessica
Reif Cohen -- $3,200/sub for Cablevision, and $3,100/sub
for both Comcast and Cox. In addition, we valued RCN's
estimated 129,000 YE '99 competitive (i.e., non-incumbent
or competitive) proportionate Cable TV subscribers at a
50% discount to the current public trading value of
incumbent subscribers or $1,575 per subscriber to reflect
the non-monopoly status of those operations.
3) Voice: We valued RCN's voice (both local and long
distance) CLEC operations at approximately $7 per share
using a divisional DCF model. Key assumptions used in
our DCF model include a 15% discount rate, voice-related
related cap exp allocated based on the proportion of voice
revenues to total corporate revenues, a 32% terminal year
EBITDA margin, a 9.5x terminal year EBITDA multiple,
and a 15% public market discount.
Table 1: Sum Of The Parts Analysis 1
Public Market Value Private Market Value
Per Share Per Share
ISP $25.21 $30.88 (2)
Cable TV $11.55 $12.83 (3)
Voice $7.05 $8.11 (2)
Megacable(4) $0.78 $0.86
Enterprise Value $44.59 $52.68
Current Net Debt ($3.81) ($3.81)
Value/Share $40.78 $48.87
1 Analysis assumes 66.7M fully diluted shares
2 Private market value assumed to be a 20-25% premium to current
public market value
3 Based on an est. $3,500/sub private market value for incumbent subs.
and $1,750/sub value for competitive subs.
4 Value based on '99E EBITDA of $13M adjusted for RCN's 40% ownership.
Public market value est. via an 10x multiple and private market value
est. via a 11x mult.
Source: Merrill Lynch estimates
$49 Value Using Private Market Value: As shown in
Table 1 above, we estimate RCN's sum of the parts value
at $49 per share using private market value benchmarks.
In this analysis, RCN's ISP operation is alone worth
$31/share or an 18% premium to the current stock price.
Sum Of The Parts Value -- Public or Private --
Compares Favorably To Our DCF Value: Whether we
use a public or private market based sum of the parts
analysis, both compare favorably to our $36 price
objective which is derived from our 10 year discounted
cash flow (DCF) model discounted back to YE'99. The
key valuation assumptions underlying our DCF model
include a 15% discount rate, a 9.0x terminal EBITDA
multiple, a 14% discount to reflect minority ownership in
RCN's CLEC operation by its utility partners and no public
market discount. In addition, we value RCN's 40% stake
in Megacable, the Mexican CLEC venture, based upon
11.0x '99 EBITDA of $13M.
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