Wednesday, September 16, 2015

Altice and Drahi, one of the Main Actors Driving Disruptive Change in European Telecom and Elsewhere.

Investment thesis:   The Firehose Portfolio.

My broad investment strategy is to invest in world wide, wireless and wired data communications businesses to capture growth in advanced smartphone and mobile technologies.

I use the firehose analogy because the data flowing in and out of smartphones resembles some overpowering gusher from a high pressure firehose.  Demand for data and internet video is surging, telecom operators world wide are consolidating, while, at the same time upgrading wired and wireless infrastructure and capacity. Profitability is likely to surge. 

One of the main market players in Europe driving disruptive change is Altice SA. Lead by Board President, Patrick Drahi, Altice SA is a highly entrepreneurial, disciplined, operationally focused, acquirer of wireless and fixed line broadband businesses. From an initial base in the Dominican Republic, Altice has added wireless and fixed wire systems in Israel, Portugal, and France. A protege and former employee of John Malone, Drahi’s view, like Malone's, is that there are significant economies of scale, technology and scope in the broadband and wireless industries, which are best exploited by huge size.

At the same time, we think another side to Altice's story is that operating management lead by Dexter Goei can impose new discipline and improve profitability on larger and larger operations, and it is this discipline and the implied value to be captured that makes Altice such a disruptive force and interesting investment.  The plan is to improve the technological backbone of the systems, the penetration of subscribers on the systems, and the profitability of each subscriber. At the same time, acquisitions are made with relatively aggressive leverage, which the company then pays down equally aggressively from cash flow. 

Each of Altice’s recent acquisitions still offers significant upside, particularly, in France-but the company continues on an aggressive acquisitions path. In the first half Altice closed two very large deals. Portugal Telecom and Numericable-SFR. In both instances, the strategy is to be able to offer quad play wired and wireless services through the leading national platform. 

In France this required the merger of the largest cable and wireless services and will require significant investment in fiber to the home networks and in LTE/ 4G wireless capacity. 

In Portugal, the systems were advanced but subscriber profitability poor.  Though it has only been two months the signs of improvement in subscriber quality are clearly positive. In both markets, improvements have lead to higher than expected EBITDA. 

Altice interest is not confined to Europe. Recently, Altice made its largest offer to date for 70% of  Suddenlink,  the 7th largest US cable operator with 1.5 million residential and 90,000 business customers. With operations primarily focused in Texas, West Virginia, Louisiana, Arkansas and Arizona, Suddenlink is present in attractive growth markets for both residential and business services. In 2014, Suddenlink generated $2.3 billion in revenue and over $900 million in EBITDA. The transaction is to be financed with $6.7 billion of new and existing debt at Suddenlink, a $500 million vendor loan note from BC Partners and Canada Pension Plan Investment Board, $1.2 billion of cash from Altice with the remainder representing the roll over by BC Partners and CPP Investment Board. With current financing the deal values sudden link at around 11 times EBITDA. The deal should close in the first quarter of 2016, but that will be only a first step into the US market. 

 It is also his view that the US broadband industry is consolidating at every level below Comcast and Charter/TWC slash Liberty Broadband. 

Cablevision seems to be Altice’s next US target. CVC has 5.5 million passings, 2.6 million video subs, 2.7 million broadband subs. The rumored deal is for $34.5 per share (last trade $28.50) or $9.5 billion in equity plus assumption of $8.2 billion of net debt, or $17.7 billion. CVC currently generates $1.8 billion of EBITDA, so the deal appears to be worth around 10 times cash flow pre synergy with Sudden Link, pre cost savings.  Recently, Altice shifted the company domicile to Amsterdam from Luxembourg and following the lead of many acquisitive media entrepreneurs, created a two class share structure.  On August 12, 2015, current Altice shareholders received 3 shares of a new A share (with 1 vote) and and 1 share of a class B share (with 25 votes).  We expect the company to finance the majority of the transaction with its own non-voting shares and the assumption of debt, as the two class structure allows current managements to preserve control while growing aggressively through acquisitions.  We wonder however if a share exchange of voting for in essence non voting shares wiill be attractive to CVC non Dolan family shareholders. If more inducement is needed to finaalize the transaction then we presume Altice's Canada pension and BC Partners will provide the funding.  

Along with Liberty Global, it seems to me that the combination of scale economies and good operating habits developed by Altice will lead to significant equity creation over the long term in all of the company’s related equities. These include Numericable – SFR, Altice, and any other that may be created. As usual with the entrepreneurial breed of management, it may be a rough ride on occasion, but it will be long and fruitful. Equally important, these two companies propel change across the telecom landscape in Europe (and, elsewhere). I own both A and B shares.

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