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Windstream to Pay $585M for Rural Carrier

Phil Harvey
NXTcomm News Analysis
Phil Harvey, US Bureau Chief
5/29/2007

Windstream Communications Inc. (Nasdaq: WIN) said today it will buy all outstanding shares of CT Communications Inc. (Nasdaq: CTCI) for $31.50 per share in cash, a 31 percent premium on CT's 30-day trading average. The deal, valued at about $585 million, includes the assumption of cash and debt.

Windstream, a combo of Alltel's old fixed-line phone businesses and all of Valor Communications, said in a statement that the CT buy would add some attractive markets in North Carolina, which are next to some markets it already serves. "Once this acquisition is fully integrated, Windstream expects to realize free cash flow improvements through expected annual cost synergies of approximately $30 million as well as reductions in capital expenditures," the company said in a statement.

Windstream didn't hold a conference call, and its press handlers haven't returned phone inquiries, but Wall Street's assessment of the deal is positive thus far. CT's stock shot up on news of the deal; its shares were up $9.79 (45.4%) to $31.37 by 3:00 p.m. ET today. Last week, CT's stock had traded as low as $20.39.

CT, headquartered in Concord, N.C., will add about 158,000 access lines and 29,000 broadband customers to Windstream's business. CT says that 95 percent of its ILEC lines are broadband capable and that 75 percent of those same lines can offer speeds up to 10 Mbit/s.

In 2006, CT reported net income of $71.7 million, or $3.62 per diluted share, on revenues of $176.9 million. The company has a market cap of $435 million, and it had cash and short-term investments totaling $100 million at the end of 2006.

The real meat of this deal, though, isn't that CT is doing something that can't be replicated by Cox Communications Inc. or another cable competitor. What CT gives Windstream is a steady source of free cashflow and a reliable enough business so that the company can continue its tradition of paying out big dividends and returning cash directly to shareholders.

"The firm's debt load, relative to the size of its cash flow, is among the lowest among high-yield telecom firms. The dividend payout, at about 70 percent of free cash flow, is also reasonable for now," wrote Morningstar Inc. analyst Michael Hodel, in a May 10 analysis of Windstream's business. That's why, among the deal's highlights, management listed that the CT acquisition would be "free cash flow accretive in first full year" and that the deal "reduces dividend payout ratio."

That last bit about reducing the payout ratio is key. As Morningstar noted, Windstream usually uses around 70 percent of its free cashflow to pay quarterly dividends. Because of some interest payments on its debt, Windstream's profits fell 11 percent in the first quarter, wrenching its dividend payout ratio up to 88 percent. But buying a business like CT, analysts say, will help Windstream stay on plan while expanding its market presence in places that are geographically close to its established central offices.

Analysts say this is probably not the last of the rural local exchange carriers to be taken out, as the financial strength of CT's peers in the space will probably now take center stage.

"We think this deal highlights the financial strength of the RLEC sector and the attractiveness of markets like CT's suburban Charlotte territory," writes Oppenheimer analyst Barry Sine, in a note to clients this morning. "We advise investors to swap into DECC [D&E Communications Inc.], SHEN [Shenandoah Telecommunications Company] and NPSI [North Pittsburgh Systems Inc.] shares as a continued way to benefit from the robust fundamentals in the sector."

CT Communications, by the way, is not to be confused with the other CT Communications, CTC Communications, or the Telecommunications Company of Chile, which trades under the ticker CTC.

— Phil Harvey, Managing Editor, Light Reading

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