Morgan Stanley's 4Q14 Preview - Windstream: 'The REIT Path Forward?'

On February 19, Morgan Stanley published a research note and earnings preview on Windstream Holdings, Inc.

, "4Q14 Preview: The REIT Path Forward?" Morgan Stanley began by noting that "Windstream is down ~34% from its REIT-induced 52-week high ($13.30)."

Industry Snapshot Shareholders have collected some nice dividend checks, notably $0.25 per quarter from Windstream, a current yield of ~11.5 percent, (which will be cut 30 percent).

Two industry peers Frontier Communications

and CenturyLink

both outperformed during the past year. Notably, they are not burdened by debt, with debt-to-equity ratios of 2.43 and 1.38, respectively. Morgan Stanley - Reiterates Underweight Rating

MS bull case - $12.00 "Top Line Growth + REIT:" REIT 6.5% Yield (~$9.25) Telco 5.5x '15 EV/EBITDA (~$3.25).  Windstream returns to top line growth, led by strength in business services, and addresses upcoming maturities.  The national footprint following the PAETEC acquisition helps drive business service revenue, while WIN stabilizes consumer servicer revenues.  REIT structure receives all pending approvals and trades at a 6.5% yield. MS base case - $10.00 "Revenue Sustainability Overhang:" REIT 7.5% Yield (~$8.00) Telco 4.5x '15 EV/EBITDA (~$2.00).  The payout ratio moves to 20% at the new WIN, assuaging fears of more dividend cuts, but topline pressure persists.  Revenue growth remains negative 2014- 2016, but the decline moderates.  Business service revenue stabilizes in 2015 and achieves modest growth in 2016. MS bear case - $6.00 "Integration Challenges:" ~5.8x 2015 EV/EBITDA  Revenue trends continue to weaken, following the PAETEC integration.  Business continues to muddle along, while line-loss surpasses less rural peers.  Cable competition drives broadband losses. Key Value Drivers  Windstream has the highest dividend yield in the S&P500, (plans to cut aggregate dividend 30% following final regulatory approvals to spin off fiber, copper and real estate assets into a REIT).  ~74% of revenues from business and broadband, with national footprint (Rural profile partly insulates it from secular pressures).  Data centers, fiber-to-the-tower, and broadband stimulus.  Disciplined acquisitions and strategic actions via new REIT structure. Potential Risks  Further Dividend cuts.  M&A integration risks.  Declining regulatory revenue.  Wireless substitution.  Macro weakness impact on Enterprise. Past Earning Call Share Performance

Recent history has not been kind to shareholders on the day of WIN's earnings call. Morgan Stanley - REIT Overview  The REIT will initially only serve Windstream, but it plans to grow and diversify its customer base through both small and large deals.  Windstream estimates that the assets going into the REIT will represent less than 1% of US communication infrastructure, implying a long runway for future deals.  Management believes the REIT will do ~$50-$100M in co-investing with Windstream in the first few years. Morgan Stanley - REIT Questions for Management  Can you describe interest levels from other companies in working with you on REIT conversion?  How do you size the market of available assets for the newly created REIT?  How are you thinking about the pace and magnitude of the REIT sell down?  What is the timeline for finalizing the management team for the REIT?  How quickly do you think you can grow the dividend at the REIT?