Windstream on track with sound strategy, but Jefferies warns 'declines to persist for some time'

Windstream's management is making necessary investments in its business to meet consumer and enterprise demand for additional bandwidth, according to the analysts at Jefferies. However, the firm warned that Windstream's legacy business -- in small business ILEC/CLEC, carrier services and regulatory revenue -- will continue to decline for the foreseeable future.

"In our view, management is taking the necessary steps to improve its competitive positioning," the analysts wrote in a research note yesterday.

Specifically, Jefferies analysts noted that Windstream's Project Excel work in improving its network for consumer offerings late last year significantly improved the company's position against its cable rivals -- "though we believe further investment is needed to narrow the gap with top cable competitors (~45% of territory) and meet consumer's growing demands," the analysts wrote.

"In Enterprise, we believe investments in fiber are appropriate to move more traffic on-net, enhancing competitiveness and bending the margin curve. Targeted Enterprise margins appear reasonable, accompanying what we believe is sustainable 3%+ growth in the near-term," the analysts wrote.

However, the Jefferies analysts sounded the alarm on Windstream's legacy business, which they said accounts for roughly 40 percent of its revenue. "As such, Service revenue is expected to decline ~2% in 2016, and while we could see some modest improvements going forward, we expect revenue declines to persist for some time," the analysts wrote. "Importantly, like its peers, the mix shift in revenue pressures margins and free cash flow and we anticipate margins to decline further, despite management confidence in margin stabilization."

Overall, the Jefferies analysts raised their estimates on Windstream based on the company's spinoff last year of some assets into Communications Sales and Leasing (CS&L), an independent publicly traded real estate investment trust (REIT). But the analysts said Windstream's shares are trading at an "unwarranted premium to peers" based on the company's legacy challenges.

Earlier this month, Windstream's Chief Technology Officer Randy Nicklas left the telco, and the company said his duties will be assumed by three other company executives. The company declined to comment on Nicklas' departure.

Windstream's consumer and small business ILEC service revenues were $397 million in the first quarter, a decrease of 1 percent from the same period a year ago. Driven by growth in high-speed internet bundle revenue, consumer service revenues were $312 million, an increase of approximately $1 million from the fourth quarter.

However, Windstream lost 40,000 broadband subscribers to end the quarter with a total of 1.09 million subscribers.

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