EUR 850.00 For Business Accounts Only

Morningstar | CenturyLink Shares Are Very Compelling Even After Our $2 FVE Cut to $18. See Updated Analyst Note from 02 Jun 2019

We are reducing our fair value estimate for CenturyLink to $18 from $20 after revising the time period over which we estimate CenturyLink will realize the cash tax benefits from its net operating losses, or NOLs, and mildly increasing our discount rate. Our opinion on the firm's underlying business is unchanged. We think it faces significant challenges in stabilizing revenue and does not benefit from a moat. However, we think the stock is undervalued.

In our view, the market is pricing in top-line declines to continue at around the 4% rate we forecast for 2019. We agree CenturyLink has significant challenges in growing revenue, as technological advances and software-defined networks allow for deflationary pricing and cannibalize higher-revenue businesses, and secular challenges to voice products keep that revenue stream in perpetual decline. Additionally, CenturyLink's subpar consumer network, relative to cable competitors, has led to net customer losses each quarter over the last few years. However, as CenturyLink further integrates its Level 3 acquisition, legacy products make up a lower proportion of sales, and the firm's improved consumer network passes more customers, we forecast the declines to improve each year, though we still estimate sales to fall 2% in 2023.

While the sales outlook looks bleak, we don't think the stock is getting credit for the firm's significant free cash flow generation or margin expansion opportunities. We expect the shift toward newer technologies to result in higher margins and for the firm to realize additional synergies from 2017's Level 3 acquisition. We forecast CenturyLink's adjusted EBITDA margin to expand 300 basis points between 2018 and 2023. When combined with the firm's use of its NOL's, we project free cash flow to average about $3 billion annually through 2023 and currently resulting in a free cash flow yield greater than 25% based on our below-consensus 2019 estimate.

Our enthusiasm for the stock is somewhat tempered by the firm's heavy debt load, which totals roughly $35 billion and accounts for about three fourths of CenturyLink's enterprise value. However, given the firm's free cash flow potential, we don't think the debt currently endangers the company. We expect the firm to continually pay down debt and reduce its leverage ratio, which currently results in net debt roughly four times EBITDA, to about three times over the next five years.