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Dividend cut worries hit Windstream, telecom sector
February 22, 2013 / 8:30 PM / 5 years ago

Dividend cut worries hit Windstream, telecom sector

* CenturyLink dividend cut worries telecom investors

* Windstream CEO promises to keep dividend

* Investors question telecom dividend sustainability

By Sinead Carew

NEW YORK, Feb 22 (Reuters) - CenturyLink Inc’s 25 percent cut in its quarterly dividend last week has sparked fears other telecom operators such as Windstream Corp will follow suit.

While analysts say investors should not worry about companies such as Frontier Communications and bigger operator AT&T Inc making dividend cuts any time soon, they are much less optimistic about Windstream.

Windstream said on Tuesday it will maintain its $1 annual dividend but its shares have fallen about 14 percent since CenturyLink’s Feb. 13 announcement, as many investors have lost confidence it would be able to keep its promise.

Windstream Chief Executive Jeff Gardner said it is a mistake for investors to compare his company to CenturyLink and he promised to back up the dividend with a big drop in capital spending and interest expenses this year and next year.

“The fact of the matter is that we have very different businesses,” Gardner told Reuters on Friday, referring to Windstream’s move into business from consumer services and a stronger competitive position than CenturyLink.

“There’s no need for us to cut our dividend, neither this year nor next year nor in the future,” Gardner said.

Telephone companies historically have been able to provide solid dividend returns due to a steady revenue stream from home phone customers. Like utility companies, which count on people always needing electricity, network operators were able to count on consumers’ need for their home phones.

But telecoms has been less predictable in recent years as consumers have been disconnecting in favor of cellphones, Internet and telephone services from cable providers.

As a result, operators like CenturyLink and Windstream have turned to acquisitions and data services for business customers for growth. They have also leaned on cost cutting and tax credits to maintain high enough cash flow levels to support their dividends.

But analysts say that these efforts only take them so far.

“A lot of these companies are carrying the baggage of a legacy dividend policy that just doesn’t make sense any more in the current business they’re operating in,” Nomura analyst Michael McCormack said.

McCormack said “Windstream will probably have to go down the same path” as CenturyLink because it is unlikely to be able to cut costs enough to keep its current dividend.

UBS analyst Batya Levi has downgraded her rating of Windstream stock to ‘sell’ from ‘neutral.’

“Unlike its peers, we believe Windstream management will make every effort to maintain the dividend and reduce opex/capex to avoid a cut; however, we do not believe this is a sustainable strategy,” Levi said in a research note.

Moody’s credit rating agency placed Windstream’s ratings on review for a downgrade on Thursday, citing its “lack of progress in reducing leverage and management’s recent pledge to continue its common stock dividend at the current rate.”

CenturyLink has kept growing through a series of acquisitions in recent years, including Qwest Communications and Embarq Corp. But it said on Feb. 13 that tax credits related to its acquisitions will run out by 2015. These tax credits had helped to maintain the company’s dividend in recent years.

Another tax issue that could affect telecom operators in the future is the potential elimination of a depreciation tax benefit that was recently extended into 2013. This benefit allows operators to reduce their tax bills by writing off some of their spending on projects such as network upgrades.

This benefit may be eliminated in coming years, leaving operators less disposable cash to service their dividend, Wells Fargo analyst Jennifer Fritzsche said.

“I think it’s not just a CenturyLink problem. It’s a telecom problem,” Fritzsche said. “I do think taxes are going to be bigger part of the calculation going forward.”

Windstream’s Gardner argued that his company is less dependent on tax credits from acquisitions than CenturyLink and noted that its credits would last beyond 2015.

He sees Windstream’s taxes rising gradually over the next three years. But at the same time he said “you’ll see capital (spending) declines and interest declines.”

Since Frontier last year announced a cut to its dividend by more than 46 percent, analysts expect it to be able to keep the current payout level for some time.

“That (Frontier) dividend should be sustainable for the next 15 months or so,” Fritzsche said.

While AT&T and Verizon Communications have both been hurt by the same cord-cutting trends their rural counterparts face, these companies have been bolstered by their ownership of wireless services, which is still a growth sector.

Evercore analyst Jonathan Schildkraut said he does not think the specter of dividend reductions “is a real issue for AT&T and Verizon.”

But even though Wall Street has confidence in such companies’ ability to maintain their dividends, Fritzsche said investors wanted reassurance about the entire sector.

“CenturyLink has brought a lot of questions to every other telecom yield play right now,” Fritzsche said.

Windstream shares were up 8 cents at $8.47 on Nasdaq Friday afternoon after falling from $9.81 before the CenturyLink announcement the week before. CenturyLink shares were up 43 cents at $34.70 on the New York Stock Exchange. It had traded at $41.69 before it announced its dividend cut.

Frontier shares were up 4 cents at $4.06 on Nasdaq. It had traded at $4.50 on Feb 13 before the CenturyLink news.

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