It would be very nice and neat for any value investors to own the company that kept generating the consistent level of cash flow with the certain degree of predictability, and that opportunity could be acquired for much less than the company should be worth. I begin to think of a range of telecommunication businesses, which own the mobile and fixed lines operator in emerging countries. Those successful companies are Vimpelcom (NASDAQ:VIP), Millicom International Cellular (MIICF), Mobile TeleSystem (NYSE:MBT), NII Holdings (NASDAQ:NIHD), etc. In the range of my articles, I will get into each company to dig into each company closely. The common features of those companies are the consistent growing cash flow, and the huge amount of long-term debt in its balance sheet. It’s critical to figure out the sustainability of the cash flow and the ample debt that the company should employ to determine the best one along with the price purchased.
In this article, I will dig into NIHD, firstly because it seems to have the best liquid balance sheet with the significant portion of asset in cash. Secondly, it has experienced the huge fluctuations over the years and now at the very modest valuation. Dated back 2003, the shareholders of NIHD was seeing their NIHD positions increase significantly, from only $2 per share at the beginning of 2003 to $89.5 per share in the middle of 2007, creating the compounded annualized gain of 132.7% per year within 4.5 years. Then at the bottom of global financial crisis in March 2009, the stock plunged back to $12.6, and it advanced greatly to $45 level at the end of 2010. Now it is staying at $21.4 per share.
(Source: Google Finance)
NIHD provides wireless communication services, targeting at customers who use the services at the medium to high usage patterns. It provides its services through the Nextel brand via operating companies located in selected Latin American markets, with principal operations in major businesses centers and related transportation corridors of Mexico, Brazil, Argentina, Peru and Chile. The target is to major urban and suburban centers with high population densities, where the company believes there was a concentration of country’s business users and economic activity. At the end of fiscal year 2010, all the operating companies had around 9 million handsets in commercial service, with the increase year-on-year of 1.64 million, and the majority is in Brazil and Mexico, then Argentina and Peru, not a significant number in Chile yet.
The business main focus is on customers who purchase services under contract and primarily use the services with the medium to high usage patterns, who value multi-function handsets, including the company’s Nextel Direct Connect feature. In the current customer base, typical customer has between 3 to 30 handsets, and some of largest customers have over 500 handsets, but it expects to have new customers which have lower number of handsets and this trend would continue. The revenue mainly comes from the service revenue and the revenue of selling handsets and accessories. The service revenue consists of the fixed monthly access charges for mobile telephone service and two-way radio service, and other services. The digital handset and accessory revenue represents revenues it earns on the sale of digital handsets and accessories to customers. NIHD generates the majority of total revenue from the service segments, taking around 95% of the total sales.
NIHD got the very decent growing performance in revenues, operating income and the net income. Since 2002, the revenue grew from only $143 million to more than $5.6 billion in 2010, the operating income advanced from $36 million to more than $1 billion, and the net income jumped from $43 million to $341 million. Along with that, the cash flow performance was even much better.
As we can see, the operating cash flow is on the consistent growth year over year. In 2002, the CFO topped only $25 million, and it has grown to $890 million just after 09 years later. However, the free cash flow was not that great due to the large capital expenditure growing along with the CFO over time.
In terms of the financial strength, like other telecommunication service operators, the business employs the large amount of debt as well as contractual obligations. The D/A is nearly 66%, whereas the long and short-term debt is 48% of the total asset, with the total amount of $4.46 billion. More than half of the debt is senior notes and convertible notes, then the financing for Brazil spectrum license. The $2 billion senior convertible notes will be due in 2012, ten years later. In addition, the nearly $890 million convertible notes due 2012 would be convertible into shares of common stocks at the conversion rate of 8.4517 shares per $1,000 principal, at the conversion price of $118.32 per share. Besides, the good thing is that the level of cash is not small; NIHD is holding more than $2.6 billion in cash, making the balance sheet more liquid. In examining the balance sheet, investors should notice the sudden jump in the level of intangible assets in the last two quarters, from $449 million up to more than $1.3 billion. It was due to the spectrum licenses were granted for Nextel Brazil in June 2011 in the 1.8GHz and 1.9/2.1 Ghz spectrums bands. The total purchase price was $910 million, and it would be amortized over the 15 year estimated useful life when the company began offering services using the spectrum, that it is expected to occur in mid-2012. So with this amount of cash on hand, and more than half of the debt would be due in 10 years time, the operating cash flow would be sufficient to cover it. I think that would not be the big burden on NIHD.
For relative valuation, it was trading at 12.1x earnings, 10% more than the book value, and only 3.7x level of operating cash flow, whereas the 05 year average is at 16.1x P/E, 2.2x P/B and 6.4x P/CF. Whereas industry-wide, the valuation stays at 17.9x P/E, 2x P/B and 4.6x P/CF. So relatively it was kind of undervalue in both historical valuation and industry valuation.
NII got the operations towards the postpaid corporate customers demanding instant connectivity, and the Motorola technology iDEN push-to-talk service has allowed NIHD to grow fast in corporate users. Even with the little market share of only 3%, but the ARPU is quite high, up to $51, the highest in the region because of the clients in business segment. In all the business operating countries, Mexico brought the highest margin to NIHD, but Brazil took the most volume, sales, and operating income. It is said that in the firm has added 20 MHz of wireless spectrum, which would cover almost 97% of population versus the current number of 45% coverage. In addition, the 3G deployment has been in the progress for the major markets. With those opportunities for expansion, the operating cash flow would have high probability of increasing, but the free cash flow would be in burden because of high capital expenditure, but that was preparing for the future, of the long-term operating performance over the long period of time in the future.
In terms of guru holdings, NIHD is in the portfolio of a lot of gurus including Joel Greenblatt, Steve Mandel, Mario Gabelli, George Soros, Lee Ainslie and Ron Baron.
Last but not least, very recently, the insider has kept buying in the shares when the stock price was around $20-$21. The highest value transaction belonged to Chaia Sergio, the President of Nextel Brazil, when he bought nearly 39,000 of shares for around $21 per share.
In conclusion, with the consistent growing operating cash flow, the ample level of debt, the opportunities of business expansion rapidly in all four operating countries and the reasonable purchase price, value investors might be better off to be aligned with the insiders and some gurus mentioned above to initiate the long position in NIHD at the current price. It can be considered the stock to hold for the long-run unless something drastically changes the legal environment in four operating countries, changes in technology and changes in the customer base.
This is the subjective viewpoint of the author, and it is not the recommendation to buy, hold or sell the stocks mentioned in this analysis. Anyone who wishes to buy, hold or sell the stocks has to do his/her own analysis at his/her own risk.