ATUS

Publicly traded companies mentioned herein: Altice Europe NV (ATC NA), Altice USA Inc (ATUS), Cable One Inc (CABO), Charter Communications Inc (CHTR), Comcast Corporation (CMCSA), Sprint Corp (S), T-Mobile US Inc (TMUS), Verizon Communications Inc (VZ)

Highlights

The presenter is long shares of Altice USA (ATUS), which recently completed the separation from its European parent company, Patrick Drahi’s Altice Europe NV. ATUS, which owns Optimum and Suddenlink, raised $1.9B in a June 2017 IPO, and the stock has performed poorly since then, declining to the high teens on a variety of concerns, including rising programming costs, capex, and management’s ability to execute in the US market. However, the risk/reward setup looks favorable now at $16 - $17. Based on a combination of relative valuation, a unique asset base, Drahi’s track record, and optionality around share repurchase activity, the presenter sees meaningful upside potential over 2 - 3 years as the EV/EBITDA multiple improves. Additionally, the risk that 5G poses to ATUS appears to be meaningfully lower when compared to the exposure peers such as Cable One and Charter may have.

• ATUS is in the process of expanding access to Altice One across the Optimum and Suddenlink footprints. The new service eliminates the need for a separate cable box, modem, router, and streaming device by providing customers with one connection for TV, Internet, Wi-Fi, streaming apps, and phone.

• On an EV/EBITDA basis, ATUS is undervalued relative to other cable operators such as Charter and Cable One:

Data from recent filed statements, estimates from S&P CapitalIQ

• The presenter noted that ATUS’s EBITDA to unlevered FCF conversion is higher than the comps, and when accounting for capex the discount is even greater. Additionally, ATUS is less levered (Debt/EBITDA) than Charter when taking capex into consideration.

• More interesting than valuation, in the presenter’s opinion, are the arguments in favor of a long position in ATUS based on its footprint and the efficiency of management.

  • Putting together Optimum (old Cablevision) and Suddenlink is like a barbell strategy, said the presenter. While it may not have been intentional, they have it.

  • The penetration of broadband is very high in the Greater New York City area, so the growth opportunity is not as good; however, it is a competitive market and Optimum has ~65% overlap with Verizon. Now that Verizon has millimeter wave figured out, he reasons, “There is no longer an incremental threat; [I] would pay a little more (i.e., a higher multiple on earnings) for a more competitive footprint.”

  • Suddenlink is rural, and Verizon is not likely to make an aggressive move into its markets near term.

  • Given the setup, Altice USA could be the safest cable asset when 5G rolls out.

• Looking at ATUS’s bundle accounting and ARPU, the presenter said the phone ARPU is $21 right now. But, if a consumer calls Optimum, he/she can’t subscribe to just phone service (i.e., it’s VoIP, so internet is needed). A customer can either get voice on a double- or triple-play with internet, or internet and video, respectively. The phone is free with triple-play, and on the upgrade from internet to internet plus phone the charge is anywhere from $0 - $10. Thus, he questions how the ARPU could be $21. ATUS uses old copper phone line pricing to estimate their own voice pricing in revenue allocations for customers who purchase bundled products. This is just one example of how the reported revenue allocations simply do not reflect the true economics of the business. This bundled discount accounting also results in significant understatement of broadband ARPU. Based on his assumptions, broadband ARPU would be $10 - $15 higher today without these bundle accounting distortions. Hypothetically, if every video subscriber cut the cord, then ARPU would rise by that amount.  

  • In theory, if ATUS shut down video in early 2019, and the presenter’s assumptions proved to be accurate, applying a Cable One multiple to pro forma EBITDA would imply a fair value “close to $30/share.” The presenter noted that Cable One has the least video exposure (thus its premium multiple).

    • SG&A and capex associated with video are relatively high.

  • Investors generally seem to be concerned about video subs for ATUS, but when adjusting for the bundle, the presenter concludes that investors and the Street are overestimating how much ATUS makes in video.

• The presenter thinks that the ATUS management team is “great”. While Drahi and Altice have made mistakes in Europe (i.e., underestimating how competitive the French market was/would become), it does not mean they are bad operators. Drahi started his consulting firm in 1993 and founded two French cable companies. Having sold both before the Internet Bubble popped, he was able to come back in 2002 and start Altice. The timing was perfect, and Drahi was able to provide 3x - 7x [ROE] exits on many of the purchases made, often in under 4 years, said the presenter. At one point, Drahi was worth 16 billion euros (he’s still worth ~6 billion euros).

  • Drahi coming into the US market from Europe, a highly competitive environment, may have an advantage. In the presenter’s opinion, he will be able to “out operate everyone” in the US market.

• ATUS CEO Dexter Goei has been very consistent with his commentary surrounding the $2B buyback authorization, and what kind of capacity the company has to retire stock at current levels given specific leverage targets. For example, in early September (2018), he stated, “...if I allocated all of my excess free cash flow over 5x to buying back shares, I can buy back about 25% plus of my capital [by the end of 2019] at these share prices. We have a $2B authorization program and can go through that very, very quickly and re-up it. And so, the whole question for us is, is there an opportunity for us that's more attractive than buying back our shares today, which are significantly undervalued relative to our peers?”

  • In the presenter’s opinion, management’s and shareholders’ interests are completely aligned.

• ATUS’s capex should decline meaningfully looking out to 2022 - 2023. Within the Optimum footprint, laying fiber to the home in a densely populated area is cheaper and easier when there are existing coax networks. The presenter expects the project to be completed within the expected 5-year target, and in his estimation ~$500MM of the $1.35B capex run rate is related to the fiber to the home build (in 2023, capex could see a “massive” drop).

  • As Street analysts start to look out the early 2020s more closely, the presenter expects models to be updated. Another $500MM could be added to the terminal cash flow. And, the payback period on fiber to the home is just 2 - 2.5 years (on a pre-tax basis), so while Altice USA is spending roughly $2.5B on the build, the investment is worth it.

    • The presenter expects to see $1B in savings from capex and opex combined, and the Street is “nowhere near that with forward numbers”.

    • Cost savings should come from 1) the fact that optical networks are cheaper to operate (less amplifiers and equipment, they use less power, there’s less maintenance, etc.), and 2) going wireless “within the building” (half of service calls relate to a coax issue within the building, and trying to fix a coax along a wall or something, which requires manual labor and time).

• Lastly, unlike Comcast and Charter that are losing out on their MVNO deals with Verizon, ATUS’s MVNO with Sprint is more of a 2-way agreement with favorable rates. ATUS gains low-cost access to Sprint’s capacity, and in exchange Sprint gets low-cost access to the infrastructure (the small cells are put on the Optimum Wi-Fi network). The way the deal is structured, the presenter said it should survive if T-Mobile and Sprint are allowed to combine.

• The presenter’s model forecasts $4.50 of cash flow per share in 2022. He also assumes leverage will be reduced to 4x (from just over 5x today). With the stock trading around $16 - $17, or 8x forward EBITDA, it looks meaningfully mispriced. At 10x his cash flow estimate ($45 on forward multiple as of year’s end 2021), and discounted back at a “reasonable” rate (12% or so), the fair value today is ~$30. Looking out to 2022, the stock could double or triple in value if management executes and the business grows.

  • Over the investment horizon, broadband pricing should go from up mid-singles to low singles. Net adds for broadband should slow, and video subscriber declines should accelerate. Despite all this, the presenter still sees organic EBITDA growth before the cost savings, and then when he layers on the fiber build savings and capex decline, the upside potential looks even better. A participant asked about capex as a percentage of revenue, which the presenter pegs at ~7% (on $10.6B of 2022 revenue). By comparison, Charter spends a high teens percentage of revenue on capex.

• As an aside, in response to comments about the ~10% of T-Mobile customers that rely on mobile phones for data, the presenter noted that he looked at “what if” scenarios around data caps being lifted. For example, if the average home watched 100 hours per month of linear TV, it would equate to ~700 GB of data (UHD). If it were regular HD, it’d be 300 GB. Regardless, losing video subs results in customers potentially needing to consume/use more data, and “there is almost no feasible scenario” for 5G mobile to disrupt ATUS near-term.