For the last three months, the value of Uniti Group Inc. (Nasdaq: UNIT) has been a real turkey for high yield stock investors. Since late July share owners have experienced a decline of the UNIT share price from the mid $20’s to a recent low under $14. With the recent earnings report out of Uniti, the stock now looks like a Thanksgiving dinner, offer a great yield and significant share price upside.
The suspension of dividend payments by Windstream Holdings, Inc. (Nasdaq: WIN) was the trigger event for the decline of the UNIT share price.
Uniti was spun-off by Windstream with an April 2015 IPO. Uniti is structure as a real estate investment trust (REIT), and in the spin-off received most of Windstream’s fiber and copper wirelines network. Windstream signed a 15-year (with options for extension out to 35 years) master lease with Uniti.
When Windstream announced that it would no longer pay common stock dividends, the immediate fear was that Windstream was in immediate danger of bankruptcy and that Uniti would stop receiving lease payments from its largest by far customer. The fate of Windstream and dangers to Uniti have both been overblown by online financial pundits and fear driven investors. Here are the pertinent fundamentals for each company.
Windstream made the decision to stop paying dividends for a couple of reasons. First, the market kept the stock’s yield in the high teens, not putting much value on the dividend amount. More importantly, the Windstream board decided that the cash being used to pay dividends would be better utilized to pay down the company’s debt load. Soon after the announcement of the dividend suspension, Windstream was sued by a vulture fund, claiming the company had broken its debt covenants with the Uniti spin-off. This claim was two years late and widely analyzed as blackmail to get a payoff out of Windstream. The company has fought back hard and has made strategic moves that will significantly improve the overall debt situation. Here is the financial situation for Windstream.
The company will generate $2.0 to $2.2 billion per year of operational income before depreciation, amortization and rent (OIBDAR). The rent is the $653.6 million annual lease payment to Uniti. The company spends about $800 million per year on capital expenditures. A little math shows the company has a $650 million cash cushion above the Uniti lease payments and capital spending required to keep the business functioning. While Windstream is a company that faces the financial challenge of developing new revenue to replace the declines in its traditional landline service, it is not a company on the brink of financial disaster. The company has put in place growth initiatives that will result in a reversal of recent revenue declines. The lease payments to Uniti can be viewed as a contract that must be paid if Windstream is to stay in business. The master lease cannot be changed in bankruptcy, should that highly unlikely event occur.
At the IPO, the Windstream lease accounted for 100% of Uniti’s revenue and earnings. Over the last 2 ½ years, the company has been making acquisitions that have driven the Windstream lease share of revenues down to 65%. The acquisitions have been fiber and small cell service providers. The number of Uniti customers has increased from one to over 16,000. Of greater importance, the purchased companies are growth businesses. During the third quarter, Uniti closed on the two acquisitions of Southern Light and Hunt Telecom. The company now has one of the largest pure-play fiber operating platforms in the country with the ability to deploy small cells, fiber-to-the-macro tower, dark fiber, enterprise services and E-Rate services. These lines of business are growing and will lead to growing free cash flow per share to protect the current dividend and provide for possible future dividend increases.
The current UNIT dividend is $0.60 per quarter, or $2.40 annually. The company will generate AFFO per share of $2.51 in 2017 and is forecast to produce AFFO of $2.67 per share in 2018. With the stability of its revenues, this is strong dividend coverage for Uniti. The company has already declared another $0.60 dividend to be paid in January.
At $16 per share, UNIT yields a very high 15%. As the market sees continued stability of the cash to pay the dividend, the stock will climb to at least $24, which would give a 10% yield. If there is cash flow growth, the stock will again approach $30 in 2018.
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