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Holding the Line for Cincinnati Bell

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October 25, 2013 – Comments (0) | RELATED TICKERS: CBB

Board: Special OpsS: Cincinnati Bell

Author: bkramerfool

[This post is from our premium service Motley Fool Special Ops. Click here to take a no-risk, free thirty-day trial of any of our services.]

There’s been a lot of angst expressed on the boards about CBB. No need to rehash it all here, but it has led me to dig a bit deeper into this one ahead of earnings to see what news, if any, I should expect from the release/call. Here’s my conclusion:

Nothing.*

I expect to see continued mediocre performance of the business; wireless continuing its decline, the other segments about flat; no news on a potential sale of the wireless business; no hint of re-establishing the dividend; no “additional color” on their monetization plan for CONE ownership when their lock-up expires in mid-January.

A beast, truly. Thank goodness for the Special Op. Then there are the cash flows...

Cash Flow: Really that bad?
A few weeks ago, turb0kat posted that cash flows looked to be in rapid decline, with Operating Income less CapEx (as a proxy for FCF) declining from $135.4M in FY12 to 66.9 for the TTM ending June 30. He stated, “In particular the data from the past two quarters shows a business in extremely fast decline, having been in slow decline for a couple years prior.”

Well I finally decided to get off my butt and take a look (and thanks tk for trying to stimulate some discussion on the topic). There are a couple reasons why I’m not as concerned as tk:

Firstly, the TTM numbers are skewed by a one-time charge of $42.6M in “transaction costs” – management’s payday for spinning off CONE (nice work if you can get it). Back out that charge, and the rate of decline is steady and almost entirely attributable to the declining wireless segment. Okay, but non-accelerating decline is still decline, right?

True.

And turb0kat points out that the 20% long-term return targeted by CEO Ted Torbeck for Fioptics is so far not showing up in the business. That brings me to the second reason I’m not concerned.

Wireline Capex is up significantly (Q213 capex was up 50% YoY). This investment in building out the Fioptics network began in Q412 and will continue probably for another 2 years or so. While they build out the network, cash flows from this segment will suffer. The payoff comes later. In the interim, revenue should tick up gradually as the rollout matures and their Fioptics customers roll off of promotional pricing; ARPU for this business has been gradually increasing, bearing this out. When the network is fully built out, Capex drops dramatically and there should be significant cash flow generation.

The third reason is, well, I (we?) don’t plan to be around to see the Fioptics investment pay off. CBB can start monetizing the CONE stake in 2014 which should lead to the virtuous cycle of debt reduction and cash flow increases that Tom describes up-board.

What kind of company is CBB?
The wireless business is clearly in secular decline. Tough to compete against the big carriers who offer LTE networks with national coverage, and CBB doesn’t have the most popular handsets like the Nexus or Galaxy. They’re managing a business in run-off, trying to maximize cash flows as best they can. Traditional wireline phone is also in secular decline of course, as these customers become wireless-only customers (mostly of course, with VZ or ATT and not CBB).

Fioptics is the future of CBB – they remain a telco in name only (the last of the “Regional Bells”, by the way, to still even have Bell in their name). High-speed voice/entertainment/internet data is what their future will look like. Their tagline is “Cincinnati Bell. You. Entertained.” I expect that their metrics on fiber penetration, subscriber growth, ARPU, product uptake, etc. will continue on a positive track. Fioptics-based internet and related IT services for Cincinnati businesses is also strategic. I also expect management to deliver on their objective of net wireline segment revenue growth in 2014, thanks to their investment in Fioptics.

*Well, almost nothing.
In August, CBB finally started carrying the iPhone. We might get some color from management on whether this move could have any effect on stemming the pace of subscriber loss. If the investment in eating the phone subsidy seems to be paying off maybe they’ll follow suit with other “cool” handsets, and this *could* make the business more attractive to a potential suitor.

I’m not getting my hopes up but still this does change the dynamic, if only slightly. CBB also has been running a pilot LTE program, and we could get word as to whether they plan to upgrade their wireless network to compete (if so, be prepared – near-term cash flows would get even uglier).

Whither CONE?
I don’t expect any clarity from management on how they intend to monetize their Cyrus One stake, in terms of timing, aggressiveness, or use of proceeds. If they do offer something, that’ll be a bonus in my book but I’m expecting nothing until next year. CONE reports a week after CBB, but right now is trading at the same price as last quarter.

We know they’ll pay down some debt. How much and when? Anybody’s guess. They don’t have any maturities until 2017 so they’ve got lots of time to decide what to do here. Likely (as Tom suggests) they’ll pay down some, reducing leverage rations and allowing them to refinance their LTD on more favorable terms than 8%+ the currently pay on their notes.

Management also has an $192 million authorization for buy-backs, and I’d be happy if they used some proceeds to buy the common in addition to deleveraging. Either way I trust this management team to make smart capital allocation decisions with their CONE booty.

Anyway, rambling thoughts but the bottom line is I’m very comfortable holding CBB and waiting patiently for the catalysts to materialize. Until then I intend to ignore the daily gyrations of the stock price.

Yours in SPOPtitude,
Bill (long CBB) 

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