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join:2001-12-10

New Chapter?

New Chapter?

If bankruptcy looms for Adelphia, it may not be such a bad thing
By ANDREW BARY

Adelphia Communications, the country's sixth-largest cable operator, hurtled toward bankruptcy last week, sending its stock below $1 a share on Friday amid fears that a filing would wipe out equity holders.

The debt-burdened company, tarred by a financial scandal involving the founding Rigas family, said Friday that some of its subsidiaries are in default of their bank credit agreements because of the failure to produce financial statements. The Nasdaq Stock Market said it plans to delist the company's stock on Monday, which would force the company to purchase $1.4 billion of convertible bonds.

The company already has missed $50 million in interest payments on its public debt. The founding Rigas family has ceded control of the company after disclosing the family borrowed $3.1 billion from banks collateralized by Adelphia's cable systems in order to finance purchases of Adelphia stock, bonds and other assets without approval of the company's board. The family assets pledged against those loans are valued at about $1.5 billion.

Adelphia Communications is a treasure-trove of opportunity -- and risk -- because the company has about $17.6 billion of debt and preferred stock outstanding in addition to its 285 million common shares. The common stock finished Friday at 70 cents, down $2.07 in the week, leaving it way below its 52-week high of 42.77 and its record high of 87 in 1999. As the table on the following page shows, Adelphia's equity is highly sensitive to the value of the company's six million cable subscribers.

With Adelphia teetering on bankruptcy, the fight already has begun over the direction of the company. Adelphia has announced that it's pursuing the sale of some of its cable systems, which include significant clusters in Los Angeles, Cleveland, Buffalo and West Palm Beach, Fla. But Adelphia board member Leonard Tow, a 12% Adelphia shareholder, and Highfields Capital, a Boston investment firm that holds a 6.8% stake, want Adelphia to move slowly and avoid a fire sale of assets.

It may be tough to reorganize Adelphia without bankruptcy, given its loan defaults and the difficulty in attracting outside equity financing or new bank loans amid the turmoil. Bankruptcy would allow the company to restructure its operations without the pressure for quick asset sales.

One problem faced by Adelphia is that potential buyers of its cable systems are said to be concerned that any deal could be voided by bankruptcy court if Adelphia subsequently files for Chapter 11.

It's possible that Adelphia could obtain some breathing room. One investor says Adelphia ought to seek temporary funding from its banks by threatening not to honor the $3 billion in Rigas-related borrowings, because those bank loans weren't board-sanctioned. The banks sit atop the company's capital structure, meaning they're likely to get paid off in full. The banks are owed an estimated $7 billion.

Adelphia's plight comes at a bad time because the cable industry valuations have fallen sharply in the past year.

Rob Gensler, a media and telecom portfolio manager at T. Rowe Price, points out that the sky-high cable valuations of $4,500 to $5,000 per subscriber in 1999 and 2000 were primarily driven by purchases by three companies, Adelphia, Charter Communications and AT&T. Adelphia now is out of the picture. AT&T is selling its industry-leading franchise to Comcast. Debt-laden Charter, controlled by billionaire Paul Allen, appears unwilling to pay high prices at a time when the public market is valuing cable systems at lower prices and its own stock is under pressure. Comcast did pay $4,500 per subscriber for AT&T's 13.5 million cable subscribers last December but the effective price of the $72 billion deal has fallen below $4,000 per subscriber because Comcast's stock is off over 20%.

Wall Street is souring on cable stocks because of their persistent negative cash flow after interest expenses on their huge debt and ongoing high capital expenditures.

Cablevision New York, at 19, is down 60% this year, while Charter, at 7, is off 58%. Charter fell more than a dollar last week amid concern that it would take on more debt to finance a cable deal with Adelphia. But Oren Cohen, a Merrill Lynch high-yield debt analyst, believes any such deal would improve Charter's capital structure.

The less-leveraged cable companies, Comcast and Cox Communications, have fared better. Comcast, which has substantial non-cable assets, including a controlling stake in QVC, is down 22% this year to 28, while Cox is off 20% to 33.62.

Table: Falling From Favor

Cable stocks excluding Cox now trade for about 11 times projected 2002 cash flow, which is defined as earnings before interest, taxes, depreciation and amortization. This calculation is derived by dividing each company's enterprise value, or equity value plus debt less non-cable assets, by the projected 2002 cash flow. Likewise, the cable stocks, excluding Cox, now are valued at $3,000 to $3,400 per subscriber based on enterprise value divided by total subscribers. (The Comcast data don't reflect the pending purchase of the AT&T systems.) Ironically, Adelphia equity isn't very cheap compared with that of its peer based on cash flow or subscriber value because of its high debt.

Adelphia has become a hot topic on Wall Street as distressed-debt, junk-bond investors and traditional equity investors evaluate a welter of Adelphia securities. Besides the estimated $7 billion of senior bank debt, there are $2.5 billion of secured public bonds, $5 billion of unsecured public debt, $1.4 billion of subordinated convertible debt, $1.6 billion of preferred stock and the common shares. (Precise debt levels can't be determined because Adelphia has yet to file year-end 2001 financial data or provide updated information about borrowing this year.)

Adelphia's bank debt trades for more than 90 cents on the dollar, reflecting the view that the value of its six million cable subscribers and the estimated $1.6 billion of pretax cash flow this year are ample collateral. The unsecured public debt, such as the 10 1/4s of 2011, trades at about 74, yielding 15%. The convertibles, including the 3 1/4% and 6% issues, trade for about 40, while the preferred fetches just 15 to 20 cents on the dollar.

"We feel the [public] bonds are more than adequately covered by the assets," says Jerry Paul, portfolio manager at Quixote Capital, a Denver hedge fund that owns Adelphia debt.

Much of the analysis boils down to a crude estimate of the value of Adelphia's cable systems on a per-subscriber basis and then how that accrues to the company's bonds, preferred and common equity. Merrill's Oren Cohen estimates that the public debt gets fully covered at about $2,400 per cable subscriber -- well below the so-called private value of cable subscribers, which is put at $3,500 per subscriber.

One of the risks with the bonds is that interest may not be paid for the duration of a bankruptcy, which could last two years or more, reducing their effective yield.

While the unsecured public debt looks safe, the convertibles are dicier and trade at much lower prices. In fact, the Adelphia converts and preferred are viewed as "fulcrum" securities whose ultimate values are the most uncertain. If investors are willing to bet that Adelphia's systems are worth $3,000 per subscriber, or $18 billion, there appears to be enough asset coverage for both the converts and the preferred as well as some residual value for Adelphia equity.

The table ("Valuing Adelphia") shows the theoretic value of Adelphia equity at various subscriber valuation levels. At $3,500, for instance, the common could be worth $12 a share, prompting one hedge-fund manager to speculate that Adelphia's stock represents a better bet than WorldCom shares, which trade for $1.70.

The Adelphia equity bull case is that the company has a balance-sheet problem, not a business problem, since cable systems remain valuable and highly marketable because of their monopoly nature and growing cash flows. Adelphia may have had self-dealing management, but it did boast one of the highest operating margins in the industry at 45% -- nearly twice that of AT&T.

The calculations in the table may represent the best case, because they don't reflect Adelphia's potential liability ($500 million or more) stemming from shareholder lawsuits related to the Rigas family's self-dealings, potential capital-gains taxes on the sale of assets, or undisclosed debt.

Adelphia also will require additional funding during 2002. The company is expected to generate $1.6 billion of Ebitda, but its $1 billion interest tab and $2 billion-plus in capital expenditures may result in negative free cash flow of $1.6 billion.

The negative free cash flow at cable companies in general has weighed on the entire sector, though bulls hope it turns positive for most companies in 2004.

Still, Gensler says it's hard to justify a much higher price than $3,500 for a cable subscriber. His calculates that the typical subscriber generates a bit more than $50 a month in revenues, including basic cable, digital cable and Internet access (though some stick to basic service). That means $600 to $650 a year in revenues.

An assumed 40% operating margin yields gross profits of $250 per subscriber a year. Gensler says that should support a valuation of $3,000 to $3,500 per subscriber. Capital expenditures now run $250 to $300 a subscriber, equal to all of the gross profit before interest expense. Looking at this math, cable critics have wondered why cable systems still fetch the prices they do.

"It's hard to see average monthly revenues getting past $75 or $80 a month," Gensler says. Assuming continued increases in basic cable rates and higher penetration for digital cable and Internet access, $75 a month in average revenues per subscriber might support $5,000 per subscriber valuation, but that's in five years. Gensler thinks that capital expenditures per subscriber aren't likely to fall below $125 to $150 annually per subscriber, holding down cable valuations. Industry fans would argue that Gensler's capex estimate is too high.

Safety-conscious investors can play cable bonds. Merrill's Cohen likes Charter's senior debt yielding around 12%, which stands ahead of Paul Allen's equity interest.

Cablevision bonds yield less, around 10%, because the company is less leveraged than Charter and has a better cable cluster located entirely in the New York area. Cohen also likes Cablevision preferred yielding 13%.

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E-mail comments to editors@barrons.com

Updated June 3, 2002

Copyright © 2002 Dow Jones & Company, Inc. All Rights Reserved

Valuing Adelphia

Given Adelphia's huge debt load, its stock is very sensitive to the value of company's 6 million cable subscribers. The current share price of around $1 implies a valuation of less than $3,000 per subscriber, which bulls think is too low. Caveat: the estimates don't reflect potential legal liabilities or added debt.

Assumed Value Per Adelphia Subscriber Assumed Value Per Adelphia Subscriber Share
$2,500 -9.00
2,750 -3.75
3,000 1.50
3,250 6.75
3,500 12.00
3,750 17.00
4,000 22.50

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Falling From Favor

Adelphia Communications isn't the only cable casualty this year. All the major stocks are down, with debt-laden Charter and Cablevision off sharply. Aside from highly valued Cox, cable stocks trade for around 11 times projected 2002 pre-tax cash flow and for $3,000-$3,500 per subscriber.

Company Recent Price 52 Wk.Hi- Low Mkt Value (bil) Debt & Preferred Stock (bil) Enterprise Value* (bil) 2002E Cash Flow (bil)** Enterprise Value/ Cash Flow 2002E Free Cash Flow (bil)*** Cable Subscribers (mil) Value Per Subscriber
Adelphia $1.16 43 - 1 $-0.3 $17.6 $17.9 $1.60 11.2 -$1.60 6.0 $3,000
Charter 7.16 25 - 6 5.3 18.4 23.7 2.10 11.3 -1.90 7.0 3,400
Comcast 28.26 45 - 25 28.3 12.0 27.0 2.50 10.8 0.60 8.5 3,175
Cox 33.78 45 - 31 21.3 9.0 26.0 1.80 14.4 -0.70 6.2 4,200
Cablevision 18.95 62 - 17 3.5 9.0 9.5 0.90 10.6 -1.30 3.0 3,200

* Enterprise value equals market value plus debt and preferred shares, less non-cable assets.
**earnings before interest, taxes, depreciation and amortization
***after capital expenditures and interest expense

Sources: Morgan Stanley; Merrill Lynch; Deutsche Bank Securities

permalink · 2002-06-02 17:53:37 · Print ·

New Chapter?

Buff News touts Tow, disses Kailbourne

Re: Buff News touts Tow, disses Kailbourne

Adelphia's Board to Examine Sale of Assets...

Buffalo and Cleveland too??

Re: Buffalo and Cleveland too??

Re: Buffalo and Cleveland too??

Re: Buffalo and Cleveland too??

great.

Re: great.