Windstream to Underperform - Analyst Blog

We are downgrading our long-term recommendation on Windstream Communication (WIN), the fifth largest local telephone carrier in the U.S, to Underperform from Neutral on account of highly leverage balance sheet. Currently, the stock has a Zacks Rank # 3 (Hold), which signifies that for the short term (1-3 months), we are currently maintaining our Hold rating.

Windstream's ongoing acquisitions to expand its coverage markets and subscriber count are vital for its survival in an industry that is consolidating. These acquisitions have strained the balance sheet as the company is predominantly funding most of them with debt. Windstream had roughly $6.6 billion in total debt at the end of the third quarter (up from $6.3 billion at the end of 2009).

In the third quarter of 2010, Windstream reported adjusted earnings per share of 20 cents, which were in line with the Zacks Consensus Estimate. However, adjusted earnings rose 11% from 18 cents in the year-ago quarter on improving revenue trends in both business and consumer channels. Total access lines continue to decline by roughly 30,700, reaching 3.3 million at the end of the third quarter.

The company remains challenged by sustained erosion in voice access lines due to stiff competition from cable and wireless operators. However, this has been partly offset by encouraging growth in high-speed Internet and digital TV businesses, boosted by aggressive bundled service offerings and promotional initiatives.

Windstream's significant debt exposure, which is further intensified by its acquisition-realted activities, is a cause for concern. In addition, continued erosion in access lines, competitive threats and unfavorable reguation may provide downside risks to the stock.

Moreover, wireless services from Tier-1 carriers such as AT&T Inc. (T) and Verizon Communication (VZ) and broadband services by leading cable operators such as Comcast Corporation (CMCSA) and Time Warner Cable Inc. (TWC) are impeding Windstream's addressable market.

On the flip side, Windstream's focuses on bundled services that combine voice (local/long-distance), video and broadband Internet services to fend off competition. We believe acquisitions will spur the company's growth going forward as Windstream focuses on growth opportunities within broadband and business services. Windstream is streamlining its organizational structure (automation, workforce optimization and improving network efficiency) for improving its operational efficiency. The company is also investing for the expansion of its fiber-optic network in order to support its wholesale business to wireless carriers and expand its opportunities in wireless backhaul.

Further, Windstream's healthy free cash flow, mostly generated through the ongoing cost-cutting initiatives, will support the high dividend payout at least over the near term. The company is currently paying an annual dividend of $1.00 per share. This represents a high dividend yield of approximately 7.67% compared with its peers AT&T and Verizon. Both the companies have dividend yields of approximately 6%.

Consequently, we are cautious on the long-term growth prospects of the company and have maintained a more or less positive stance in the near term due to high dividend yield and also expanding the company's broadband opportunities.

 
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