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We have recently written an article that warns investors far from Uniti Group (UNIT). shares due to the high probability of lowering dividends and more problems with their largest Windstream tenant (WIN). Fear created a new opportunity, Uniti Group, 8.25% October 15, 2023 Bond, Cusip # 20341WAD7 trading at $ 75. This is an opportunity to earn 11% return for more than four years. Return to maturity (which is the standard bond yield quote) today is 1
You will notice that the bond is in the name of "COMMUNICATIONS SALES & LEASING INC / CSL", which is the old name for UNITI.
$ 10,000 will bring about $ 1100 / year in earnings, and on maturity there will be 25% up .
As discussed earlier, UNIT has problems with maintaining the dividend coverage. Bond payments on the other hand are well covered by the adjusted EBITDA of 2.5x in the newest 10-Q. Interest costs are approximately $ 80 million per quarter, and the adjusted EBITDA is $ 199 million in the third quarter.
UNIT has managed to increase the adjusted EBITDA, with leasing and non-WIN leasing accounting for most of it. Source
At present, WIN reports 692 million dollars a year adjusted EBITDA. The acquisition of Bluebird will add approximately $ 14 million in annual EBITDA and fiber will continue to grow
UNIT bonds are dependent on some earnings from WIN, but this amount is rapidly declining. We believe that in extreme cases of bankruptcy by WIN and / or renegotiation of the lease, UNIT will be able to continue to cover interest payments comfortably. Remember, the total dividend currently consumes more than $ 420 million in cash every year. UNIT only needs about $ 320 million in cash to pay interest.
We believe that UNIT owns many valuable assets that are capable of generating a cash flow that exceeds what they are currently producing. Difficulties with WIN have an impact on UNIT's total shares and are likely to lead to a reduction in dividends. However, the purpose of this reduction is to invest further in its current assets to produce more cash. This will improve the assets that support the bonds.
The elephant in the room is the speculation about what happens if WIN is in bankruptcy.
If WIN does not file an application for bankruptcy, they will continue to lease as it is. As we discussed in our article on UNIT's common shares, we believe there is a significant risk of reducing the total dividend to free up funds that may be used for capital expenditure for growth. For bondholders this will be a positive move as current cash flows conveniently cover dividend payments and further investment will increase future cash flows.
If WIN does not file for bankruptcy, things can quickly become more complex. The best news for UNIT's bonds is that WIN quickly accepts the lease, and the restructured WIN or successor organization stems from bankruptcy with the same lease.
The other two options are a voluntary renegotiation of the lease (either before or during bankruptcy), or WIN rejects the final lease, forcing negotiations. There are several things that are critical to understanding.
- On takeoff, UNIT acquired 80% of WIN's assets. While WIN had some acquisitions and additions since then, the UNIT network remains critical for WIN to provide services to its customers.
- WIN has + 1.4 billion dollars in quarterly revenue, and the lease with UNIT is 173 million dollars / quarter.
- WIN is designated as a "last resort operator" because UNIT's network is needed to provide services from WIN, and there are some questions as to whether they could legally reject the lease.
- The EBITDA margin of UNIT for their WIN lease is more than 99%. Even with a significant reduction in the lease, UNIT can still meet its debt service needs.
The end result is that without leasing the UNIT ownership, WIN can not function. Failure to comply with the lease and cause UNIT to exclude the lines and cause WIN to be wound up. Since the UNIT lines linking WIN together, the lack of UNIT's lease would significantly reduce the liquidation value of WIN's assets. Many WIN assets can only be used with the UNIT network .
It is in the interests of all WIN deputies that full revenues continue to occur and UNIT's lease is an integral part of this. Without UNIT's lease, their potential reimbursement will be considerably less under a winding-up scenario.
As a "last resort", WIN has a legal obligation to provide services in many of their rural areas. They can not discontinue their services without the approval of state-level commissions. The purpose of these committees is to ensure that the service continues, regardless of whether the services are profitable to the supplier. In cases where a supplier leaves an area, these commissions are required to ensure that the qualified spare parts carrier takes over. If necessary, these committees will be included to ensure that services continue. For each company that replaces WIN as the ultimate carrier, the lease of UNIT's network would be significantly cheaper than the construction of a new one.
We therefore consider that the lease will continue and will only be changed by mutual agreement or final order by the insolvency court. The UNIT network will continue to be used and they are entitled to reasonable rent for this use.
The Leasing Agreement
We believe the big issue in insolvency proceedings will be whether the lease is a fair market rent. The WIN leasure is currently $ 692 million a year and has an escalator of 0.5% per year. It also provides exclusive use of WIN on the lines, which means that UNIT has no right to leverage unused capacity.
It is clear that the escalator of 0.5% is well below the market standard. By comparison, TPx rentals have a 1.5% annual escalator, CableSouth's lease has a 2% annual escalator plus two leases allow UNIT to lease some of its assets to other tenants.
In general, WIN lines are not used with maximum capacity, which means that UNIT can add extra traffic to potential competitors. When stopped, WIN does not want competition in its regions, so the main lease includes a provision that prevents leasing of potential competitors.
In the conference call for the fourth quarter of 2017, the management was asked to negotiate the lease in exchange for the ability
Yes. I apologize. I'm trying to think about what we hear from investors whether there are creative ways we can reduce the current pricing of the lease and whether I'm willing to do it in exchange for assets or something or the current income for you coming to the northeast, is it still important that you will not reduce that? Thanks.
Yes. Thank you for clarification. That's why we are not interested in reducing the lease payments. We said that before and we continue to believe that they say so, but there are definitely ways in which we and Windstream could work together to efficiently monetize part of Uniti's unused fiber in a lease that might be beneficial for both companies. So there really are some possibilities that we will continue to pursue over time. "
Although WIN probably does not like the idea of competition, their need for cash can encourage them to conclude a deal with UNIT on this issue. Then UNIT can make extra revenue from the lines, which can be done with very small investments and will help them diversify their revenues from WIN.
UNIT's management is consistent in its response that they will not negotiate for a lower payment. We believe that negotiations are possible despite the previous management's comments. We believe that the restructuring of the lease with higher escalators in exchange for lower current payments and / or arrangements that allows UNIT to hire some of the fiber to other tenants is obvious and is probably a negotiating point could reduce WIN's lease at the nearby
Any negotiation of WIN's lease would be significantly negative for ordinary shares, as it would almost certainly reduce the dividend. On the other hand, UNIT bondholders need only be concerned about the coverage of interests. In fact, any reduction in total dividends is positive for UNIT's bond holders.
Including the latest acquisition of Bluebird from UNIT, according to which the current EBITDA adjustment from non-WIN sources is $ 140 million a year. The current interest expense is about $ 320 million a year. This leaves a gap of approximately $ 180 million, to be offset by WIN's lease, plus an amount to cover UNIT's substantial needs.
Let's assume that in a final scenario, WIN's lease is reduced to $ 500 million, which is almost a 28% discount on the current lease, which would reduce WIN's $ 192 million. At this level, UNIT's adjusted EBITDA will be approximately $ 640 million / year, and its interest rate cover will be approximately 2 times . After interest, they will have approximately $ 320 million a year in the cash flow for capital, debt or other expenses. It is worth noting that this scenario would violate the UNIT clauses for their secured facility, which limits the overall leverage to 6.5x. This violation will trigger clauses that significantly limit their ability to pay common dividends.
As this would lead to a violation of a covenant, we do not believe UNIT will voluntarily agree to such a reduction. This is only to show that UNIT can continue to make interest payments, even with a significant cut.
Any voluntary negotiation, UNIT will maintain a leverage ratio that is no higher than 6.5 times the adjusted EBITDA. That would mean maintaining an adjusted EBITDA of about $ 730 million, meaning that WIN's lease would have to produce at least $ 590 million. Approximately 15% reduction of the current lease
The lease contract reduction of 50 to 100 million dollars is a reasonable round of negotiations that will allow UNIT to fulfill its clauses. We expect UNIT to require something from WIN or higher escalators or the right to hire some of the assets, which will allow UNIT to expand EBITDA in the future. While management has repeatedly stated that they do not intend to negotiate the lease, we believe that if this is a choice between the bankruptcy court uncertainty or the negotiation of a reduction, they will negotiate.
From WIN's point of view, their problem is that they have to pay a $ 310 million decision. This is a repayment of bonds already accounted for as debt, so if WIN repaid it with cash, it actually improves their credit scores. They could also receive new funding, which would be neutral. This is where potential negotiations with UNIT come into play. WIN negotiates a reduction in rent may make a difference in lender extending to $ 310 million loan or not. An agreement between WIN, its current creditors and UNIT should be easy to achieve to avoid bankruptcy or to file a pre-packaged bankruptcy that protects the interests of all parties.
Credit Rating for Bonds
It is worth noting that the UNIT bonds rating of Caa1 through Moody's. This means that UNIT's bonds are speculative. The assessment is mainly determined by their association with WIN. Moody's rationale is that Uniti's Caa1 CFR reflects its dependence on Windstream (negative Caa1) for approximately 70% of pro forma revenue. Uniti's rating will remain linked to Windstream unless or can not diversify the revenue stream so that Windstream represents significantly less than half of Uniti's total revenue. "
The rating action marks factors such as neutral revenues, high UNIT margins and the strength of the main lease agreement with WIN.
UNIT has set itself the goal of increasing the diversification of its revenue to 50%. With the impact on their share, we think UNIT is unlikely to achieve this goal this year. However, they have made significant progress towards this goal.
Since UNIT makes steps towards this credit assessment, it will begin to improve. Any WIN restructuring that leads to a minimal change in capital can also be highly credit-positive for UNIT.
Investors need to be aware of the risk of UNIT's bonds. Typically, bonds do not give more than 10%. However, the reaction on the market is excessive. There is blood on the street, and investors are well offset for risk. Finally, these bonds have a relatively short duration of four years, which also reduces the risk
More about the bond
The panic sale of ordinary shares and bonds of UNIT created a new opportunity for UNIT's bonds. This is Uniti Group, 8.25% 15oct2023 Cusip # 20341WAD7 which is traded today at $ 75. Now investors can earn 11% return for more than four years . Source: FINRA
$ 10,000 Will