I think that CLWR is a short and is probably a zero or close to it. The company is over-valued; hasn't made a dime since its inception; currently has negative EBIT, EBITDA, FCF, and Gross Profit; will need additional capital before it has any hope of becoming profitable; was unable to sell any equity in its recent financing; has low-quality and thus low-value spectrum; has substantial competition; has a major partner who is beginning to run into trouble themselves; has many unhappy current retail subscribers; and finally, is operating on a wireless broadband standard that is no longer being supported by most major players.
Risks to my thesis
- THE STOCK IS HEAVILY SHORTED SO THE SLIGHTEST PIECE OF GOOD NEWS COULD CAUSE A SIGNIFICANT RALLY IN THE SHARE PRICE. THE COMPANY COULD ANNOUNCE GOOD NEWS AS DISCUSSED BELOW IN THE VERY NEAR TERM. ALSO THE STOCK IS HARD TO BORROW.
- According to the company, a resolution with Sprint on the wholesale pricing dispute is "imminent". If the two companies settle their dispute at a wholesale price higher than expected, then the shares will rally.
- According to the company, they have received "multiple bids" for the spectrum they are trying to sell. If Clearwire sells some of its spectrum at prices higher than what the market is expecting or higher than the spectrum value implied by the current equity price then the stock could rally.
Basically, Clearwire is a 4G wireless broadband service provider that sells both to the retail and wholesale market. The company ended Q4 2010 with approximately 4.4mln subscribers consisting of 1.1mln retail subscribers and 3.3mln wholesale subscribers. Clearwire's wholesale business sells 4G service to its wholesale partners who then remarket the service under their own brand name. Sprint is Clearwire's largest wholesale partner. Comcast, Time Warner Cable, Bright House, Best Buy, and CBeyond. Clearwire's retail services are marketed directly to consumers and are composed of various in-home (i.e. fixed) and mobile service offerings.
Bear Case (in no particular order)
- Clearwire equity is overvalued. Given the uncertainty in this situation, trying to build an accurate multi-year earnings model for CLWR is a waste of time. Thus I am attempting to approach the valuation question by assuming that things go really well for CLWR for the next five years and then stabilize after that which I think at this point given the company's history is generous. Assuming that CLWR's revenue doubles every year for the next five years (yes, this is a stretch but humor me) the company's revenue will be around $18bln in 2015. Sprint's Wireless segment margins (which is like an EBITDA margin) in 2010 were 15.8%. BTW, that is down from 33.3% in 2006 which clearly shows how competitive the wireless services business is but that is a different story. Sprint's margins include equipment subsidies so they are probably not perfectly comparable because CLWR's business will likely be mostly wholesale. However, the wholesale business has lower margins and there will be some equipment sales in CLWR's numbers so let's assume that CLWR's EBITDA margins in 2015 match those of Sprint's Wireless Segment currently and are around 16%. Using these assumptions gets us to $2.9bln in EBITDA in 2015. I will also assume that CLWR will not be a tax payer in 2015 so we don't have to worry about taxes. Sprint's total capex has averaged 11.2% of total sales over the last five years and was much higher in the years before that. Let's use 10% because it's a round number and I'm trying to give CLWR the benefit of the doubt. If we apply 10% against the estimated 2015 revenues of $18bln, we arrive at an estimated capex for that year of $1.8bln. As a point of reference, CLWR had $2.7bln of capex in 2010 and expects to have somewhere around $400-$500bln (in order to conserve cash) in 2011. So, based on my assumptions, EBITDA less capex will be $1.1bln in 2015. Now let's assume that interest expense and thus debt and cash stay constant at approximately $500mln per year which is where it will be in 2011 (yes, I know this is fantasy, but I'm trying to be as generous as reasonably possible). This leaves us with a very simple calculation of future free cash flow of $0.6bln (yes, there are other puts and takes but I am trying to illustrate a point). Now let's also assume that CLWR is able to maintain this level of FCF for the following five years at which point it is sold (or valued) in 2020 for a 5x EBITDA multiple allowing the equity in that year to realize $12bln of value ( 5x$2.9bln less $2.5bln of net debt = $12bln). If we discount these cash flows back to the present day at a 15% discount rate (a fair rate given that they recently priced debt at 12%) we arrive at a present value for the equity of $4.3bln or approximately $4.32 per share, or about 14% lower than the current share price. Now of course any first-year MBA could poke numerous holes in my quick and dirty analysis but the point I was trying to make is that even if things go well for this company over the next decade then the equity is still overvalued. Now let's add in some reality to my numbers. First, my pie-in-the-sky numbers assumed zero FCF for years 2011 to 2014. This will obviously not be the case as the company will likely burn multiple billions of capital over the next four years even without doubling revenues each year for the next five years. Second, it is highly unlikely that CLWR will double revenue every year for the next five years. For a point of comparison, Sprint's Wireless Service revenues have been flat to down every year since 2006 illustrating how highly competitive the wireless broadband space is. Also, at $18bln of revenue assuming a $10 wholesale ARPU (which is likely a high number given that the company implied the range in the current wholesale pricing negotiations with Sprint is between$ 4.50 and $9.00) that would mean a whopping 150mln wholesale subscribers. Even if you assume that the company is able to get to 10mln retail subs (unlikely especially given the company's recent statements that they are "pacing" their retail expansion) at a $45 ARPU, they would still need north of 100mln wholesale subs. This company will be lucky to hit $10bln of revenues by 2015 which would be an 82% CAGR. At that revenue level, even with my pie-in-the-sky margins, the equity is likely worth no more than $1.50-$2.00. Third, given the FCF losses that will occur over the next several years, assuming that debt stays constant at $4.3bln is silly, it will definitely be much higher unless the company is able to sell equity to finance its losses in which case the share count will be much higher. Anyway, I think I made my point. However, before I continue, some may suggest that CLWR's spectrum could be sold for enough to support the equity value. I am no expert here but recent Auction 86 (see buggs1815 CLWR writeup for links) was done at somewhere around $0.01 per Mhz-POP ($20.7mln for the full 76.5Mhz of which Clearwire was the buyer for half BTW). Clearwire has approx 46bln Mhz-POPs. Using even a $0.15 per Mhz-POP valuation (which is nearly 15x higher than the price paid per Mhz-POP in Auction 86) still produces only around $4.50 per share of equity value. Also, given that Clearwire has been trying to sell spectrum to raise capital and hasn't yet done so suggests to me that they aren't getting the price they need, much less the price they want.
- The company hasn't made money since its inception in the late 1990s. Craig McCaw took over Clearwire in 2004 with high hopes for turning the company into a wireless broadband power house. Well, so far that hasn't happened and I must say that success still seems pretty far off. BTW, Craig McCaw resigned his post as Chairman of Clearwire in late December 2010.
- Clearwire currently has negative Gross Margins, EBITDA, EBIT and FCF. In 2010, CLWR had ($370.6mln) in Gross Margin, ($1.8bln) in EBITDA, ($2.2bln) in EBIT and about ($3.8bln) in FCF. Wow, that WIMAX stuff sure is great!
- The company will easily need at least an additional $2.0bln in capital and likely much more. Based on what I believe are aggressive street assumptions, Clearwire will have positive EBITDA by 2013. Using these numbers, the company will still need $2.0bln of additional capital and that assumes much reduced capex which doesn't reconcile with the company's statement that they want to double their presence to 240mln POPs in the next few years when it cost them around $2.7bln to go from 44.7mln POPs to 117mln in 2010. But let's assume the number is $2.0bln and the company raises that money via equity which is what management said they prefer to do. If $2.0bln is raised at the current $5.00 per share price using straight equity that would mean an additional 400mln shares which would obviously be massively dilutive. If the company is able to raise this capital via a sale of spectrum then that would be much better for them, but they have been trying to sell spectrum from the middle of last year without any success. This
- The company has been saying for months that it would like to raise capital via equity. Yet, the most recent capital raise in December 2010 was done with 100% debt: 12% debt I might add. The first question that I have to ask myself is, "If the asset is so valuable, then why are you so eager to sell equity?" The next question I would ask is, "If the asset is so valuable, then why is no one interested in buying equity?"
- Clearwire's spectrum is low quality. I'm no scientist so on this topic I will only be repeating what I have read which is that the 2.5Ghz spectrum doesn't propagate well, doesn't penetrate barriers well and requires a greater density of towers to make it work well. These weaknesses are not only apparent in the numerous complaints from current Clearwire customers (see clearwiresucks.com) but they will also make it difficult for Clearwire to compete against the new LTE offerings from the likes of Verizon which is using the upper 700Mhz C-Block spectrum which doesn't have the same issues as the 2.5Ghz spectrum.
- Clearwire will encounter significant competition starting immediately. Clearwire had the first-mover advantage in 4G and 4.4mln subs and $3.8bln of cash burn is all they were able to do with it. Verizon is currently in the process of launching a host of new devices (the Motorola Bionic, HTC Thunderbolt and the Motorola Xoom tablet) on its 4G LTE network and plans full nationwide coverage by 2013. Given the fact that one is rather hard-pressed to find a satisfied Clearwire user, I think that Verizon alone will represent significant competition, much less AT&T and the other carriers. A quick look at Sprint's numbers is all you need to see how competitive the wireless business is and that is will Sprint having rolled out 4G a year ago (much of it using Clearwire's network BTW). In addition, Clearwire is starting to see competition from the nascent Lightsquared which is reported to be in talks with T-Mobile on a spectrum purchase which would hurt Clearwire's ability to sell its own spectrum to raise capital. In addition, Lightsquared it reportedly in talks with Sprint to use its cell sites and equipment to help build out its network which could provide Sprint with another partner.
- Sprint, currently Clearwire's most important partner, is having issues of its own. Sprint's wireless business has been going south since 2006 with Wireless Segment earnings dropping from $11.7bln in 2006 to only $4.5bln in 2010. With numbers like that, I would not be confident in an overly positive outcome from the wholesale pricing negotiations currently happening between Sprint and Clearwire.
- Many current Clearwire retail subscribers do not like the service (see clearwiresucks.com). I've been finding it much easier to find complaints on Clearwire's service as opposed to praise. While this is obviously anecdotal, it, combined with anemic retail subscriber growth, is not a good sign.
- Most major players are moving away from WIMAX. LTE is the standard that most in the wireless industry are coalescing around as their 4G standard. Clearwire management all but admitted this by saying that they could easily migrate their network to LTE by adding a radio in each tower at relatively little cost. So much for all of that money put into WIMAX.
|Subject||extremely sensitive to spectrum value|
|Entry||02/28/2011 07:09 PM|
Mr. Vandelay, this is an interesting idea but does it really make sense to pile on here with the shares near a 52 week low? First, I'm not long CLWRA and I can attest firsthand after trying their service at my house that it is not a viable competitor to wired broadband- in fact besides having shitty service they left a bad taste in my mouth when they tried to charge me a cancellation fee when I was unsatisifed contrary to what their in-store rep at Best Buy had told me.
However, spectrum value scares me too much to be short at this point. While you correctly point out that at $0.15 per Mhz/POP that the equity is only worth $4 and change (not huge downside unless they burn a ton more cash) if you bump that up to $0.20, the stock is worth $6.70. From what I understand bidders in both the Terrestar and DBSD bankruptcies hvae valued those companies' spectrum at a minimum of $0.20 per Mhz/POP, and I would further note that (1) this spectrum is in similar frequency ranges to Clearwire's; (2) many people expect the current bids for each to be eventually topped; and (3) this spectrum is currently burdened by the requirement of supporting satellite services which may or may not be lifted by the FCC (plus the government may ask for a portion of the value uplift). All of this to say I would not be confident that Clearwire's spectrum is worth less than $0.20 per Mhz/POP. Another recent comp is AT&T buying spectrum from Qualcomm at $0.91 per Mhz POP. Say I agree that Clearwire's spectrum is not as good and worth only 1/3 of the Qualcomm spectrum- that still gets you to $0.30 per Mhz/POP and nearly $12.00 of equity value. Qualcomm acquired the spectrum it sold AT&T relatively recently for only 1/3 of that value- an indication that spectrum value may be trending up.
I am not long and don't pretend to understand all the subtleties of their relationship with Sprint, nor of their business plan or the myriad of strategic investors. It just seems like in today's frothy market there are a lot of shorts where you don't have to worry about asset value like this.
|Subject||RE: extremely sensitive to spectrum value|
|Entry||03/01/2011 07:44 AM|
Thanks for the comment specialk. I forgot to mention that 60% of CLWR's spectrum is leased at a cost of about $300mln per year ($280mln in 2010 but going higher as leases roll off and are re-negotiated-the Catholic Church needs their money!). If you capitalize these lease rents at 12% (cost of debt) assuming they grow at 3% per year for the next five years then stabilize at that level ($325mln) for another 25 years then CLWR has another $2.5bln of debt in the form of capitalized EBS spectrum leases. Adding this to the current net debt of $2.5bln brings us to $5.0bln in net debt which would imply a $4.25 share price at a $0.20 price per Mhz-POP. At $0.22 per Mhz-POP you get to $5.18 so I would consider that flat. At $0.25 you get to $6.58 and I start to have a problem. I am by no means an expert on spectrum but given everything I've read on the 2.5Ghz band it is not very attractive spectrum even vs Terrestar's 2.0Ghz and definitely vs the 700Mhz spectrum AT&T bought from QCOM.
I also find it strange that the company has been trying to sell spectrum for many months now with no success and had to do a 12% debt financing as a result. It's possible they decided against selling spectrum because it is much too valuable but given recent management statement, that doesn't appear to be the case. It appears to me that they can't get the price they want for the spectrum that they want to sell and, to your point, whatever they do sell will imply a valuation for the overall company which could also be causing management some concern. Management has said that they have received multiple bids so why haven't they announced a deal?
As far as this short making sense, I guess only time will tell. I do understand the near-term risks and I believe I made them clear in my write-up. But remember that regardless of the $5.00 stock price, there is still $5.0bln of equity market cap left to short. I also believe that even if they do sell spectrum at attractive prices that they will simply dump the proceeds down the money-losing rabbit whole of this business and any rally in the shares will prove to be a great shorting opportunity.
|Subject||RE: RE: extremely sensitive to spectrum value|
|Entry||03/02/2011 02:59 PM|
I didn't know that much of their spectrum was leased in that manner and I am not in any way saying I would invest in Clearwire based on spectrum value. I do think it is a bad sign that erstwhile partner Sprint seems to be looking at other options and it is hard to figure out why they can't sell any spectrum given there seems to be interest in the market. In fact, if you are following the TSTR and DBSD situation a new bid came in that effectively raises the bid on that spectrum from $0.17 per Mhz/POP to $0.22.
Obviously anecdotal but I happened to talk yesterday to an industry research firm that was previously bullish on CLWR and the guy now is much more bearish, saying the tea leaves from Sprint are very negative.
|Subject||Wireless Spectrum Supply/Demand|
|Entry||03/02/2011 04:41 PM|
do you have a view on wireless spectrum supply/demand dynamics over the next few years? if there is likely to be a spectrum squeeze and CLWR owns the excess capacity, couldnt you make the argument that there could be significant value for their spectrum. also, not hard to upgrade their network to LTE. any thoughts on whether we hit a spectrum squeeze?
|Subject||RE: RE: RE: extremely sensitive to spectrum value|
|Entry||03/04/2011 07:16 PM|
Thanks for the information.
|Subject||RE: Wireless Spectrum Supply/Demand|
|Entry||03/04/2011 08:24 PM|
I'm not an expert on wireless spectrum supply / demand. Having said that:
1) It appears to me that at least currently, there is a large surplus of spectrum. The US market is near full saturation in mobile phones yet I still see three cellphone commercials every hour on TV. It seems like the carriers are simply trading their subscribers between one another.
2) Regarding CLWR, they definitely have much more spectrum than they know what to do with, probably one of the reasons why they want to sell some.
3) The Federal government controls massive amounts of spectrum that are currently going unused or underused, this spectrum could be reallocated to the private sector should the need arise. As a matter of fact, the NTIA and the FCC have been tasked with reallocating 500Mhz of spectrum over the next 10 years (with 300Mhz of the 500Mhz goal allocated over the next five years) for the use of broadband starting with 115Mhz of spectrum currently being used for weather satellite and military radar systems (15Mhz in the 1695-1710Mhz band and 100Mhz in the 3550-3650Mhz band).
4) Unused or underused commercial spectrum is also being targeted for reallocation under the National Broadband Plan which includes 120Mhz of very-robust broadcast TV spectrum as well as 90Mhz of MSS spectrum and 40Mhz of AWS spectrum.
|Subject||RE: RE: Wireless Spectrum Supply/Demand|
|Entry||03/06/2011 10:14 PM|
if you assume 100% data demand growth this year and a slow deceleration from here over the next few years, a 2x increase in spectral efficiency as carriers go from 3G to LTE, 5-6% annual tower growth that all goes towards coverage and then another 2x increase in capacity through new technologies (just to be conservative), by my math, its not hard to see a spectrum squeeze in the next 2-3yrs excluding CLWR capacity.
in my mind, the question becomes how much additional spectrum is likely to come online in the next 2-3yrs and doesnt seem like anything other than Lightsquared is coming on in that time frame and that might not even fill the hole (the govt will take at least 5yrs to get additional spectrum online). Unless data demand slows alot or some new technologies come out that can dramatically improve capacity, would seem to me that there could be a real need for CLWRs capacity. there is alot of risk around whether they can make it from here to there but unless you disagree with the above math, there is real value to their spectrum.
i agree with you the industry needs to consolidate and agree that carriers are largely commodity businesses that trade subs as there is minimal sub growth. but what happens in a commodity industry to the marginal player when there is a squeeze? i understand this coudl be a few yrs away, but unless you disagree with the math above, seems like a tough short to me.