Analysts rarely downgrade stocks to the dreaded "sell" rating during a bull market. Yet four of the 18 analysts that cover Frontier Communications (NASDAQ: FTR) -- including Goldman Sachs -- have told investors to sell the regional telco's battered stock. With the stock down almost 90% over the past 12 months, is it time to follow those analysts to the exits?
What happened to Frontier Communications?
Frontier has been struggling with a shrinking customer base, declining revenues per customer, and high churn rates. Over the past four years, Frontier scaled up its wireline business by acquiring regional wireline operations from AT&T (NYSE: T) and Verizon (NYSE: VZ).
However, the latter half of that expansion was poorly executed, and Frontier lost hundreds of thousands of Verizon accounts due to billing problems, service interruptions, software failures, and customer service disasters. Those acquisitions also caused its debt levels to soar to nearly $17 billion during the fourth quarter, which dwarfs its market cap of about $550 million.
Frontier finished the quarter with just $362 million in cash and equivalents, representing a 31% drop from a year earlier. $656 million of its long-term debt is due within a year. Frontier also posted a net loss of $1.03 billion for the quarter, compared to a loss of $80 million a year earlier.
That loss was affected by two non-recurring items -- an $830 million tax benefit from new tax legislation, and an after-tax goodwill impairment of $1.82 billion that completely wiped out the windfall. Its adjusted EBITDA (which excludes those factors) fell 5% annually to $919 million, which beat estimates by $4 million.
On the top line, Frontier's revenue fell 8% to $2.2 billion. Its total customers fell 10% to 4.85 million, as it shed broadband, video, and commercial customers.
Its churn rate and average revenue per customer slightly improved on an annual and sequential basis, but those gains couldn't offset its big declines in users and total revenues.
On the bright side, Frontier expects its adjusted EBITDA to hit $3.6 billion for 2018 -- which would represent a nearly-six-fold jump from 2017. It also expects to generate an operating cash flow (a new metric introduced after its integration of Verizon's assets) of $800 million, and for its churn rates to improve throughout the year.
But here's the catch...
Frontier's promises of higher EBITDA and operating cash flows are encouraging, until you notice that it's axing its dividend -- one of the only remaining reasons to own the stock -- to hit those targets. Frontier says that suspending the dividend will give the company $250 million in extra cash per year, which it plans to use to pay off its debt.
Frontier investors should have realized that its dividend was in danger. After all, the company posted net losses for seven straight quarters, and the stock's decline had inflated its yield to nearly 50% before the announcement.
Cutting the dividend was the right move, but it also makes it silly to own Frontier when AT&T and Verizon both offer yields of about 5% with more stable core businesses. Some bulls have entertained the notion of a takeover, but Frontier really isn't an attractive takeover target, since any suitor would inherit $17 billion in debt and a shrinking customer base.
The bottom line
Analysts usually downgrade weak stocks to "hold" or "underweight" because they want to maintain friendly relationships with companies. Therefore, when a stock gets slammed with four "sell" ratings, it's a clear indicator that the company is in serious trouble.
Investors should always take analysts' ratings with a grain of salt, but Frontier definitely isn't a viable turnaround play. Investors who want a reliable telco stock should stick with a stalwart like AT&T or Verizon instead.
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