This week, Durig Capital ventures into the telecom space to look at one of the country’s major telecommunications services providers. Frontier Communications (NASDAQ: FTR) has been working hard to transform itself as cable, voice and internet usage continues to change and evolve. The company’s most recent quarter highlights some of its progress as well as actions Frontier is taking to remain competitive.
- For the first quarter, net cash provided from operating activities was $282 million.
- Despite headwinds in some of its legacy revenue producers, Frontier’s revenues for the quarter were essentially flat, a win considering the company’s reduced customer count.
- Frontier has completed / announced a few significant asset sales that will bring in over $1.4 billion in cash when completed to help increase liquidity and decrease debt.
- During the first quarter, the company issued $1.65 billion in senior notes and used the proceeds to effectively clear any debt maturities through 2021.
Frontier also continued to make progress on its $500 million EBITDA transformation, hitting its $35 million annualized goal in the first quarter. The company’s 2022 bonds are currently trading at a deep discount, giving them a monster yield-to-maturity of about 27%, which makes them ideal for additional weighting in Durig Capital’s Fixed Income 2 (FX2) High Yield Managed Income Portfolio, the aggregated performance of which is shown below.
Review of Frontier’s First Quarter 2019 Results
Frontier recently posted its first quarter results. While the company did not realize across the board improvements, there were some bright spots.
- First, even though customer counts are down, Frontier’s first quarter revenues were essentially flat year-over-year, with total revenues of $2.10 billion compared to $2.12 billion in the prior year period.
- Net cash provided from operating activities for the first quarter of 2019 was $282 million.
- First quarter Average Revenue Per Customer (ARPC) of $89.14 represents a sequential increase from fourth quarter.
- Frontier retired the outstanding $348 million principal amount of senior unsecured notes, maturing March 15, 2019, as scheduled.
Dan McCarthy, Frontier’s CEO reiterated the company’s focus during its most recent earnings call. “Our goal is to improve the legacy revenue headwinds and accelerate newer product revenue trends, while remaining focused on our long-term goals of improving unit trends, realizing our transformation program targets, driving free cash flow, and reducing leverage.”
About the Issuer
Frontier Communications Corporation (NASDAQ: FTR) is a leader in providing communications services to urban, suburban, and rural communities in 29 states. Frontier offers a variety of services to residential customers over its fiber-optic and copper networks, including video, high-speed internet, advanced voice, and Frontier Secure® digital protection solutions. Frontier Business offers communications solutions to small, medium, and enterprise businesses.
Recent Asset Sales
Recent asset sales have helped to shore up Frontier’s liquidity as well as address some of its debt. The company has recently closed on one asset sale while also announcing a second, major asset sale. As announced in the last quarter’s conference call, Frontier sold nearly 100 wireless tower assets for $76 million to Everest Infrastructure Partners. This transaction closed in January of this year. The bigger sale was revealed within the last month with Frontier announcing it will sell its assets and operations in the northwest U.S., including Washington, Oregon, Idaho and Montana, to Wave Division Capital and Searchlight Capital for $1.35 billion in cash. The transaction has been touted by Frontier as one that will help reduce the company’s debt and increase its liquidity. Using asset sales has been one way for the company to improve its balance sheet. Frontier also recently restructured some of its debt.
During the first quarter, Frontier made progress on a number of fronts in regards to its balance sheet. In March, the company issued $1.65 billion senior secured notes, maturing 2027. With the proceeds from this transaction, the company retired its primary term loan facility as well as an additional smaller loan facility. Because of this, the company was able to extend out nearly $400 million in amortization payments that would have been due over the next two years, as well as extend the remainder of the maturity from 2021 to 2027. Frontier also expanded its $850 million revolver to 2024 (originally due in 2022). The following graphic shows the company’s progress on its capital structure.
Raising EBITDA –Frontier’s Transformation Initiative
Frontier has been taking steps to drive $500 million in EBITDA by the end of 2020. These improvements are expected to come from revenue enhancements (commercial and consumer) like improving subscriber trends, accelerating growth through new channels and next gen products. Improvements will also come from operational enhancements (reducing network costs, increasing automation) as well as savings from care / technical support. For the first quarter of 2019, Frontier achieved its goal of realizing a cumulative $35 million in annualized benefit achieved as of the end of the quarter. In total, the company’s transformation initiative is targeting $200 million in EBITDA run-rate improvements by the end of this year.
The Connect America Fund
According to the Federal Communications Commission (FCC), broadband access is now not just a luxury, but is a necessity for citizens and consumers living in the U.S. in order to participate fully in the economy and society. In light of this belief, the FCC has adopted changes to its Universal Service Fund (USF) to accelerate the build-out of broadband service to the millions of Americans who are primarily located in rural, remote areas. These areas are typically too expensive for private capital build-outs to bring the necessary infrastructure needed to deliver broadband service. With the CAF program, local carriers bid on the telecom subsidies provided by the FCC, then are tasked with rolling out the service with FCC requirements regarding speed and timing.
Frontier Communications is one of the telecom providers participating in this program. In the first quarter of this year, the company added approximately 10,000 locations for a total of 496,000 locations. Although winter weather slowed some of the progress in CAF build-outs, the company expects things to pick up now that spring has arrived. The Connect America Fund is now in phase II, with $1.5 billion in funding, and Frontier receiving $283.4 million. Here are how the funds have been divided thus far for phase two.
Interest Coverage and Liquidity
If a company / issuer has adequate interest coverage, it simply means that an issuer’s operating income is sufficient to cover its interest costs for its outstanding debt. For its most recent quarter, Frontier had operating income (without the effects of non-cash depreciation and amortization) of $823 million and interest expense of $379 million, for an interest coverage 2.2x. In terms of liquidity, as of March 31, 2019, Frontier had cash on hand of $119 million and $475 million available on its revolver, for total liquidity of $594 million.
The risk for bondholders is tied to Frontier’s ability to stabilize and then drive revenue growth along with reducing its debt. The company appears to have stabilized revenues for now and is continuing to look for next gen product offerings as well as make progress on its $500 million transformation plan. The sale of its Northwest assets and operations recently announced will generate much needed cash to beef up liquidity and provide some options for addressing outstanding debt. So the company has cleared the slate until 2021, buying time until it needs to access credit markets again. In light of these developments, it appears the outstanding yield-to-maturity of about 27% on these 2022 bonds outweighs the risks identified.
In general, bond prices rise when interest rates fall and vice versa. This effect tends to be more pronounced for lower couponed, longer-term debt instruments. Any fixed income security sold or redeemed prior to maturity may be subject to a gain or loss. Higher yielding bonds typically have lower credit ratings, if any, and therefore involve higher degrees of risk and may not be suitable for all investors.
Summary and Conclusion
Frontier Communications is working diligently to continue to evolve in the telecommunications space. It has stabilized revenues, made a few smart acquisition sales to increase liquidity and decrease debt and is successfully hitting targets on its $500 million transformation program. The company’s participation in the CAF program will help add additional revenues in the form of federal monies to help provide broadband to nearly all consumers in the U.S. The company’s 2022 bonds are trading at a significant discount at the moment, which means a hefty yield-to-maturity of about 27%. Given Frontier’s diligence and persistence in its progress towards its goals, these excellent yielding 2022 bonds are ideal for additional weighting in Durig Capital’s Fixed Income 2 (FX2) High Yield Managed Income Portfolio, shown above.
Issuer: Frontier Communications Corp.
Ticker: (NASDAQ: FTR)
Ratings: Caa1 / CCC+
Yield to Maturity: ~ 27.14.%
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About Durig Capital
Durig Capital provides investors with a specialized, transparent fiduciary service at a very low cost. Our FX2 (Discretionary Management) Portfolio over time has greatly outperformed our FX1 (Non-discretionary) Portfolio, giving significantly higher (at times double) the returns of FX1. Our professional service enables access to a broad spectrum of bond, high yields, and lower price points that are often found in less efficient markets, but not evidenced in many bond services. Most of our client accounts are custodied in their own name at TD Ameritrade Institutional, a large discount service provider that is SPIC insured, or at Interactive Brokers. We have now started offering our highly successful FX2 service to clients of other Registered Investment Advisors through segregated accounts at TD Ameritrade. Please ask us to learn how this might work for you and your current advisor.
Disclosure: Durig Capital and certain clients may hold positions in Frontier’s April 2022 bonds.
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