Australia | Jul 03 2019
Headwinds galore are buffeting SpeedCast International, as the company endures a substantial downgrade to earnings guidance. Brokers have taken shelter on the sidelines.
-Volatility likely to persist and maintain pressure on the stock
-Over-geared balance sheet hinders upgraded ratings
-A rebound in deepwater energy operations could improve satellite communications segment
By Eva Brocklehurst
Hampered by a range of negatives, SpeedCast International ((SDA)) has issued a substantial downgrade to earnings guidance, sending the stock sharply lower and brokers scurrying to pull back forecasts.
There are multiple sources for the downgrade to the current half-year. The company expects first half operating earnings (EBITDA) of US$60-64m, which compares with US$60m in the prior corresponding half and comes despite a US$8-10m contribution from Globecomm.
Full-year operating earnings guidance has been reduced to US$140-150m from US$161-170m. This requires a relatively stronger second half skew versus recent years, although Credit Suisse notes it does have a tailwind of an additional US$5-10m in reduced costs.
Macquarie points to a confluence of risks that have come to bear on the company. The maritime and cruise segment has been hit by churn, there was slower implementation of the VSAT backlog and technical issues with the Carnival contract. Also NBN contract delays and slightly lower energy revenue made their contribution.
The broker had foreshadowed these risks, having downgraded the stock to Underperform in April and, while operating issues and the risk of an equity raising overhang the stock still, valuation support could be provided by potential corporate activity.
Nevertheless, Macquarie acknowledges that while the business could be an attractive target, the likelihood is reduced in the near term because of volatility in current earnings. Hence, the rating returns to Neutral.
Positives?
A more positive view requires delivery of sustained organic revenue and earnings growth and confidence that recent operating issues are not structural in nature.
Credit Suisse reduces its estimates for earnings per share by -26% for 2019, making less severe adjustments to the outer years in the hope that the issues identified are indeed temporary. While the valuation appears appealing, an over-geared balance sheet does not support an upgraded rating and Credit Suisse sticks with a Neutral rating.
The broker points out there is limited downside flexibility before covenants are threatened. The main concerns centre around Globecomm, where the level of churn within the existing book is unsettling, being only six months into SpeedCast International's ownership. Credit Suisse is also concerned about the fact the Carnival upgrade is taking longer and there is no line of sight on remediation.
Moreover, the commercial maritime segment was considered a dependable growth engine but it appears the VSAT conversion is taking longer and there is higher customer churn.
The slump in the share price could prove to be an over-reaction, UBS accepts, although investors now have additional concerns beyond the near term, as bandwidth costs appear to be outpacing revenues. Most divisions appear to be growing revenue and the company is executing on its synergies and cost reductions. Yet operating earnings are still falling.
Covenants
Credit Suisse points out there is limited downside flexibility before covenants are threatened. If the company misses full year guidance again (a warning for 2018 results was also issued over the Christmas period), UBS agrees this could test covenants, which are around 4x, although in this scenario SpeedCast International could seek lender relief.
Even if the company cuts the dividend to zero, free cash flow could stay low in the second half. The broker calculates, if the lower end of the operating earnings guidance range is hit, net debt/EBITDA could be around 3.9x. The company has indicated it is not considering a capital raising or asset sales at this point.
The broker assesses one key acquisition, Harris Caprock, is now the main driver of earnings. If an energy rebound eventuates and this delivers benefits to the deepwater operations then the upside could be material. Harris Caprock is now around 60% of the earnings base. UBS also wants more signs of stability before considering turning more positive, noting energy markets are volatile and an elevated debt profile could weigh on performance.
Canaccord Genuity assesses the stock is too highly geared for its current growth profile but does not expect banking covenants to be an issue. The broker calculates operating earnings would need to fall below US$122m in 2019 for a breach and given the natural skew to the second half, along with first half guidance, this should be achievable.
The broker, not one of the eight monitored daily on the FNArena database, maintains a Buy rating with a $2.79 target. Canaccord Genuity believes it is rare for global leaders in the satellite communications industry to remain this cheap and the most likely outcome is either a recovery in the share price or a takeover bid.
The database has three Hold ratings. The consensus target is $2.25, suggesting 26.4% upside to the last share price. Targets range from $2.20 (Credit Suisse) to $2.30 (UBS).
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