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Is Windstream Boldly Setting a New Trend?

Carol Wilson
7/29/2014

Windstream's bold move Tuesday to separate its services business from the underlying physical network could be just the first of many such moves within telecom. (See Windstream Spins Network Assets Into a REIT.)

In fact, as Windstream Communications Inc. (Nasdaq: WIN) spins off its physical network assets –- namely its copper and fiber distribution networks –- into a real estate investment trust (REIT), the new company is expected to sign up other communications service providers as "tenants," company executives said today.

Wall Street cheered the move, lifting Windstream's stock by nearly 14% to $11.99, and even boosting other telecom stocks in anticipation of other similar deals.

The move puts the low-growth, capital-intensive part of a telecom operation -- the access networks -- into one business, while enabling the original parent company to focus on higher-growth strategic efforts in the enterprise space.

Windstream executives this morning were promoting the deal as a positive for all involved –- its investors, its customers, and the two resulting companies, each of which will have a sound strategy going forward.

The deal "unlocks significant shareholder value" for Windstream investors, who get shares in the new company commensurate with their existing shares, and will receive dividends from both companies, says Windstream CEO Jeff Gardner.

For Windstream, the advantages are a massive reduction in its net debt -- to the tune of $3.2 billion -- made possible by payments from the REIT, enabling the company to move ahead more quickly with broadband expansion, the transition to an all-IP network, and additional new services for the mid-sized enterprise market it is targeting, he adds.

For consumer customers, the move means better access to broadband. The company is promising to expand the reach of its 10 Mbit/s broadband to 80% of its customers, while delivering 24 Mbit/s to 30% of its footprint.

As importantly, Gardner says, the company will be able to respond more quickly to new service demand in the enterprise space, where Windstream's network and cloud services target mid-sized businesses and often serve Tier 2 cities. (See Windstream Makes Regional Cloud Play and Windstream Portal Integrates Cloud, Network.)

"It's about better aligning with where we'd like to take the business, and [delivering] more flexibility to meet our business goals," the CEO comments. Noting the fast pace of change and the impact of mergers and acquisitions in the cloud and business services space, Gardner says the new Windstream will be more nimble and better able to respond.


Our NFV & the Data Center event digs deeper into how telecom service providers are evolving their data center strategies. You can check it out here on Light Reading.


The REIT, meanwhile, will initially have Windstream as an anchor tenant, but will be able to grow independently by physical expansion into other markets and by obtaining other tenants.

The deal, which has U.S. Internal Revenue Service approval but still needs state regulatory acceptance, is complex but straightforward. The new REIT will take on about $2.2 billion in Windstream debt in a straight debt-for-debt exchange, and also provide $1.2 billion in cash, which Windstream will use as part of its debt reduction plans. Windstream's net debt reduction, after fees and expenses, will be $3.2 billion.

— Carol Wilson, Editor-at-Large, Light Reading

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mendyk
mendyk
7/29/2014 | 2:12:54 PM
Magic
If you stick feathers on a dog and call it a falcon, will it fly?
cnwedit
cnwedit
7/29/2014 | 2:29:28 PM
Re: Magic
Sorry, not following the feathers-on-a-dog analogy. Are you calling the REIT a false bird or the parent company?

This is actual structural separation process is not a new idea but this is a new way of going about it. It's actually a pretty rational way to do things. You don't agree?
mendyk
mendyk
7/29/2014 | 3:02:30 PM
Re: Magic
As you suggest, it's a variation on a well-worn theme that corporate executives have played and played to extract or unlock "hidden value" -- the real goal is to boost share prices. But companies that do this always have to pretend there are other motives.
cnwedit
cnwedit
7/29/2014 | 3:20:08 PM
Re: Magic
I'm not sure I see this as an investment gimmick, but we'll see how it plays out. I think there is a rational argument for having one company focused on the pipes and another focused on the services. 

How well they execute the strategy will determine whether they succeed at either option -- a short-term move to please investors or what I think, a longer term strategic play. 

 
James_B_Crawshaw
James_B_Crawshaw
7/29/2014 | 3:44:38 PM
Re: Magic
They are not doing this because separating the service business from the network assets makes strategic sense. They are doing it to avoid paying corporation tax. Putting the network into a REIT vehicle means it avoids paying corporate tax as long as it pays out 90% of income as dividends. I think you will find that after they do the split the REIT is valued much more highly than the service operation that is left. With large fixed leasing costs and no assets to speak of I know where I'd rather put my money ...
mendyk
mendyk
7/29/2014 | 3:53:43 PM
Re: Magic
Thanks, James -- that takes some of the "we're doing it for the kids" veneer that Windstream is pushing out.
cnwedit
cnwedit
7/29/2014 | 4:01:30 PM
Re: Magic
Good point, and one I should have stressed in the story. I'd read the WSJ piece which basically compares this to the inversion deals that pharmaceutical companies are attempting. 

But the structural separation angle isn't someting I'd completely dismiss. 

As for how the stock performs, we'll see. At other places where this was done - not the U.S. - the services operation has fared pretty well. 

 
brooks7
brooks7
7/29/2014 | 5:34:41 PM
Re: Magic
Carol,

The REIT can only defer the tax for the money that the REIT earns.  That money comes from the other part of Windstream...which of course means that the tax savings from it are not really meaningful.  The implication would have to be that all the profit from Windstream Services would pass through to the network.  Seems very illogical.

 

It seems much more likely to me that somebody read your AWS chart the other day.  Hard to build a Cloud company and have a network apparently.  Really I think the reason is that you can't invest in both at the same time as they have a different model.  Note:  ALL those companies on your chart write their own software.

Separately, the two different companies have completely different valuation models.  The REIT part of the company is valued as Assets + Income (very very low PE).  The Cloud part of the company wants to be valued as a High Tech Firm.  If you think you can make a great Cloud company than your REIT bit is going to crush your stock price in the market.

seven
cnwedit
cnwedit
7/29/2014 | 6:02:52 PM
Re: Magic
Brookseven,

I think that's why Jeff Gardner is willing to do this - he sees the future in the cloud services and other things Windstream can sell to businesses. Moving the copper and fiber distribution into a separate subsidiary creates a different business model for the services arm.

I'm leaving the tax discussion alone, given what I know is what I've read elsewhere. 

But one of the reasons I wouldnt' be surprised to see others take this approach is that Windstream has also blazed the trail with the IRS, getting physical network assets declared REIT-eligible.

 

Carol 
MarkC73
MarkC73
7/29/2014 | 7:18:41 PM
Re: Magic
I'm not sure if I'm on the camp of 2 halves are greater than a whole.  I guess I'll dig deeper in what the restructuring really means to both sides, or just wait and see what happens.  Because I don't really see the difference between 'tenants' of tomorrow and wholesale customers of today.  Financially, not burdening the two sides, smells of spin off opprotunity to me.
brooks7
brooks7
7/29/2014 | 9:13:29 PM
Re: Magic
Marc,

It goes something like this....

Would you rather own an access network - which is NOT the pipes Mitch - or would you rather be RingCentral (as an example)?

The access network is an asset that is a depreciating physical plant that needs maintenance and upgrade.  It is a low to no growth business at best, a declining one more likely.  The good news is that its hard to replicate so won't have a lot of competition.  So possible cash flow, but not a rising share price.  On top of that, the note of people leasing the network is pretty funny.  Companies can already do that through UNE-L.  Why would they start now?

The services business has a lot of potential growth but a lot of competitors.  If you really want to be a Cloud Company, you should plan to have a solution that gets connected over the Public IP network.  If you are connected to data centers over Public IP networks, then essentially all bandwidth is created equal and is a commodity.  There are Enterprise Apps that need different connectivity, but things like Salesforce.com work quite nicely without owning a single customer network or requiring a VPN.

I have put forth for a long time that network providers have no advantage in building Cloud Apps and this is why.  It is not clear to me that integrating 3rd party products (like RingCentral) is a great model.  The SW development houses (Amazon, Google, IBM, Microsoft, Salesforce) are doing a LOT better than the deployment houses.  But for no plant, you can be in the voice business by buying a VoIP switch.  Rent some Data Center Space and poof you are Vonage.

seven
mendyk
mendyk
7/30/2014 | 8:50:02 AM
Re: Magic
If the aggregate share prices of the two separate entities is greater than the original share price used to be, then mission accomplished. If not, then this is a fail from the corporate perspective. Remember when Ziff spun out Key3 Media? Same principle here. Let's hope for Windstream's sake the result is different
Mitch Wagner
Mitch Wagner
7/29/2014 | 8:53:09 PM
Re: Magic
If you stick feathers on a dog and call it a falcon, will it fly?

Don't think you're trying that on my dog, buster. 
jayja
jayja
7/29/2014 | 3:35:18 PM
The rubber hits the road
OK, people have talked about structural separation as a solution for the US Telecoms industry since the Clinton administration.  Now we'll know:  let's find out.
Mitch Wagner
Mitch Wagner
7/29/2014 | 8:55:25 PM
Re: The rubber hits the road
This kind of thing is a potential solution to the net neutrality problem -- one company owns the pipes, other companies provide the service. 
thebulk
thebulk
7/30/2014 | 5:28:59 AM
Re: The rubber hits the road
Is it really a possible solution or just a work around to Net Neutrality? I am skeptical... 
Mitch Wagner
Mitch Wagner
7/31/2014 | 2:48:31 PM
Re: The rubber hits the road
thebulk - Simple regulations are better than complicated ones. The more complicated the regulation, the more susceptible it is to being thwarted by megabilliondollar companies with teams of high-priced lawyers. 

Separating pipes from service has the virtue of being nice and simple. Net neutrality proposals sound simple on the surface, but they get hairy the more they think about them. 
thebulk
thebulk
7/31/2014 | 3:06:34 PM
Re: The rubber hits the road
FakeMitch, I see your point, but I am still skeptical. 
SachinEE
SachinEE
7/31/2014 | 6:14:53 AM
Why Windstream Has A Promising Future
This move by Windstream has quite a lot of benefits to both he members who act as executives, the employees and the customers who get their services from this company. The inventors get to get the shares from both the telecom and the windstream company which is very profitable to them. Customers will be able to get fast and efficient services as they will be quick service respond. The customers also are able to quickly access broadband. The windstream company certainly has a promising future seeing what telcom has been able to achieve over time.
SachinEE
SachinEE
7/31/2014 | 6:23:41 AM
Logic
Who wouldn't want to be 3.2 million dollars less in debt? Its just amazing how the thought process behind this was move came about, the move not only reduces losses but enables the company to move forward with broadband expansion and additional services, I hope it's a move that will be followed by the rest because no doubt, its going to be very successful.
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