MTS may hold on to Allstream for time being, analysts say

Manitoba Telecom Services Inc. (MTS) may hold on to its Allstream Inc. asset as its business improves, leading to better offers for the division in coming years, analysts say. MTS, whose subsidiaries include MTS Inc. and Allstream Inc., said last September that it was undertaking a “wide-ranging strategic review” of its Allstream telecom business, suggesting the asset may become available to potential buyers. The company said at the time that the loosening of federal ownership restrictions for telecommunication companies presented a “logical opportunity to consider a full range of alternatives that could be undertaken to further enhance Allstream’s growing competitiveness.” Allstream, MTS' business services division, provides IP services to large, mid-market and small companies across Canada. It has a 30,000 kilometre fibre-optic backbone network for IP connectivity, digital switching, Ethernet, and security services, Allstream's website says. Dvai Ghose, an analyst with Canaccord Genuity, said in a phone interview this week that any company, apart from BCE Inc. due to regulatory concerns about market power, could purchase Allstream, though there hasn’t been much interest because the division does not have attractive margins. MTS does not publicly report whether Allstream is a profitable division on its own, though Ghose said its margins remain low and its revenue streams are declining. “All the cablecos can buy it, and none of them want to buy it,” Ghose said. “It doesn’t generate any cash.” In a research note dated Feb. 12, Ghose said any disappointing bids could lead MTS to back away from a sale. RBC Capital Markets analyst Drew McReynolds said in a research note Feb. 14 that, according to MTS’ 2013 guidance, the company expects Allstream to report positive free cash flow this year. “With Allstream fundamentals improving, we continue to believe that not selling Allstream at this time is a viable option for the company as the Board seeks to maximize shareholder value,” RBC said. McReynolds said MTS expects Allstream to grow revenues in 2014, a turnaround that would come one year earlier than analysts expected. MTS reported that operating revenues for Allstream in the 2012 fiscal year were $758.2 million, down from $825.7 million in 2011. “Allstream’s performance in 2012 demonstrated continued progress on its strategic objective to drive growth in on-net IP-based services and improve profitability, as demonstrated by nine consecutive quarters of year-over-year EBITDA growth and a $6.8-million increase in EBITDA as compared to 2011,” MTS said in a financial statement released Feb. 13. In its fourth quarter and year-end 2012 financial statement, MTS said Allstream’s converged IP revenue growth continues to be offset by a rise in disconnects related to an Ontario government decision to change its telecommunications services for doctors and medical clinics. “Excluding the impact of this contract, converged IP revenues would have grown 6.5% in 2012,” the company said. McReynolds said in the research note that a new three-year $55 million IP contract with federal department Shared Services Canada will also drive growth. “We believe management is trying to show less urgency and more optimism with respect to Allstream’s 2H/2013 and 2014 prospects in hopes of a better offer for Allstream later in the strategic review,” Scotia Capital analyst Jeff Fan said in a research note, also issued Feb. 14. Fan said that, until the second half of the 2013 fiscal year, Scotia expects Allstream’s converged IP growth to continue to be negatively impacted by the changes to the Ontario government contract. At that point, Fan said the federal Shared Services contract would begin to offset a “revenue drag” caused by the eHealth contract. “As a result, we expect Allstream’s revenue trend in the first two quarters of 2013 to be similar to 2012 and then to gradually improve in 2H13,” the note said. Fan said offers for Allstream have been below MTS’ expectations. He noted MTS management is hoping that a better trend in 2013 will bring in superior bids. Ghose said in his research note that earlier $800 million to $1 billion valuations for Allstream are “unrealistic.” He said $300 million “may be more likely.” Roberta Fox, chair and chief innovation officer at consulting firm Fox Group, said in a phone interview that Allstream could be appealing to newer wireless entrants looking to expand their wired infrastructure. “They’ve got the legacy and they’ve got national high-speed in a whole bunch of cities,” Fox said. She said Allstream has been focused in the small business and mid-market space, which could be attractive to a company like Bell or Telus Corp. “All the things that they’ve taken to market have been really focused on that smaller side, which the Bell and the Teluses are struggling to offer,” Fox said. Ghose said holding on to Allstream would leave MTS with a loss-generating asset. In the research note, he reiterated Canaccord’s “sell” rating on MTS and a $27 price target. MTS spokeswoman Selena Hinds said in an emailed statement that the strategic review is ongoing. “We are focused on getting to the right outcome for MTS and its shareholders,” she said. “We will update shareholders when the process has been concluded.” Hinds added that the process “is truly a strategic review and not merely a sale process.” —With reporting by Danika Grenier at dgrenier@thewirereport.ca and editing by Simon Doyle at sdoyle@thewirereport.ca

MTS may hold on to Allstream for time being, analysts say

News | 02/20/2013 9:41 pm EST

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