Poor Cogeco Cable Inc. - it's posting some of the best growth in the Canadian cable industry, and all anybody wants to talk about is Portugal.
It's not that the Montreal-based company made a bad bet on the troubled country's sovereign debt. Instead, it's that Cogeco Cable chose Portugal for its first foray outside Quebec and Ontario in 2006, when it bought Televisao por Cabo S.A., the country's second largest operator, also called Cabovisao.
As you may have heard, things are a bit troubled over there, and the results at Cabovisao reflect that. The situation is creating an overhang on Cogeco Cable stock - which also means a buying opportunity for investors who would like to own the Canadian cable company that may be best-insulated from the brutal competition in the telecom industry.
First, let's survey the scene in Europe. In the quarter ended Feb. 28, Cogeco Cable's revenue from Cabovisao dropped 14.1 per cent from the year-before period, with operating income cut nearly in half. Operating margins fell from 16.4 per cent to 9.9 per cent.
Scotia Capital Inc. analyst Jeff Fan - who has a "sector perform" and $47 target price on the stock - says the company is experiencing negative cash flow from Portugal, and the recent results have caused him to lower his subscriber and revenue-per-user estimates for Cogeco Cable. "We believe there is significant upside in value if the company decides to divest its Portugal business," he says.
That's speculative at this point - the company has made no such commitment, and has said in the past that it would like to expand in Europe. But, Mr. Fan notes, on the second-quarter conference call, Cogeco Cable executives said there is currently little activity on the mergers-and-acquisitions front in Europe. "We believe this will be perceived as positive news," Mr. Fan said.
I'll stipulate that it's not the best idea to recommend a stock because management isn't actually executing its expansion strategy. But as events unfold on the home front - where the company got 88 per cent of its revenue last quarter - Cogeco Cable executives may find the company's growth story is occurring right here.
Dvai Ghose of Canaccord Genuity, who has a "buy" rating and $50 target price, says Cogeco Cable is generating EBITDA growth that makes it a leader among its cable peers - up 13.6 per cent year-over-year in the recent quarter.
By way of contrast, Mr. Ghose says, Shaw's cable unit last reported EBITDA growth of 4.9 per cent and Quebecor's Vidéotron reported 5.1 per cent. Rogers' cable division put up a 15.8-per-cent mark, but the improved profitability was due to Rogers' slow subscriber growth, because the first months of a customer relationship, with related installation costs, are typically the most costly.
Somewhat ironically, the argument for Cogeco Cable is that it doesn't have a footprint in the big, growing metro areas of Quebec and Ontario - and is less vulnerable to the challenges other cable companies will face as Bell and Telus push television offerings. Bell is focusing on its core Internet-protocol television markets in Toronto, Montreal and Ottawa and will take some time before it enters Cogeco Cable's larger markets, Mr. Ghose believes. He says Cogeco Cable management expects IPTV "to eventually overlap only 15 per cent to 25 per cent of its Canadian cable footprint."
And few of Cogeco's own cable subscribers actually buy its telephone and Internet services as well, giving it room to grow revenue per customer, Mr. Ghose says.
Neeraj Monga of Veritas Investment Research, who has a fair value estimate of $46 on Cogeco Cable shares, says a 20-per-cent overlap by 2016, with 15 per cent of subscribers in the overlapping territory defecting, would cut just $2.00 to $2.50 per share from Cogeco Cable's value.
Yet Cogeco Cable is, by most measures, trading at a discount to the industry. Mr. Monga puts it at an enterprise value to EBITDA multiple of 5.8 versus 6.3 for Rogers and 7.1 for Shaw.
In fact, Cogeco has often seemed cheap - which raises the question of whether the discount is temporary or may persist. Mr. Ghose says over the last five years, Cogeco Cable's EV/EBITDA has averaged 5.7; his $50 price target implies just a 5.4 multiple. "It's a discount to historic [value] yet with decent upside," he says.
That upside will be even greater if Portuguese consumers make a surprising rebound, or if Cogeco Cable executes an exit. In the meantime, however, investors should turn a keen eye to the company's prospects here at home.
HOW IT STACKS UP
Latest quarterly earnings growth:
Rogers Communications Inc.'s cable division: 15.8%
Cogeco Cable Inc.: 13.6%
Quebecor Inc.'s Vidéotron division: 5.1%
Shaw Communications Inc.'s cable division: 4.9%
Source: Canaccord Genuity
David Milstead