When searching for income in a market where treasury yields are negligible and corporate yields aren’t much better, we may be tempted to seek out high dividend yielding equities. Century Link Inc (formerly Century Tel) certainly fits the description of high dividend payout with a current yield exceeding 7%. The company has been making headlines over the past few years with fairly significant acquisitions – more on that later.
Century Link (CTL) is a local/long distance phone service provider focused primarily on rural markets. Prior to the recent Qwest acquisition, the company had approximately 7 million access lines providing voice and data services to its customers. First, a quick recap of the telecomm industry over the past decade; the ILECs (incumbent local exchange carriers) have struggled with a fierce pricing environment, intense competition from the cable industry, and the slow bleeding loss of access lines. These carriers have scrambled to fill the void with consolidation or rolling out new higher margin services such as wireless data and high speed internet services.
Within the past two years, CTL has acquired Embarq for $5.8billion in stock and the assumption of $5.8 billion of debt. In 2010, CTL merged with Qwest Communications for a price tag of $10.6 billion. In the process, the company will acquire an additional 10 million access lines. The once relatively small rural operator has morphed into a major ILEC with all the good and bad that comes along with it. To the company’s credit, they have grown nicely over the past decade serving a profitable niche of rural America. Cash flow has been positive allowing a generous dividend payout. However, CTL has taken on a huge undertaking trying to digest these large carriers. Even if integration is relatively smooth, the company now is straddled with a very heavy debt load. The company’s stock was used as currency for the transaction and the diluted share count has exploded. CTL has grown rapidly in size with these mergers, but their legacy business continues to shrink. Last quarter the company lost 146,000 access lines. I realize this is a drop in the bucket with 17million lines, but it’s not growing. After all this, my primary concern is that this is a business that can’t earn a return on capital high even to create value.
Reasons to be cautious;
- Huge debt load
- Shrinking customer base
- No Wireless exposure
- Commoditized pricing with declining margins
- Low return on capital business
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