CNSL - Consolidated Communications: Potential Higher Bid

2023-04-13 15:03:51 ET

Summary

• This is an interesting non-binding merger arb situation.
• Telecommunications provider Consolidated Communications has received an acquisition bid from a buyer consortium led by its largest shareholder Searchlight Capital Partners (owns 34%).
• The spread currently stands at 3%.
• Given opportunistic timing and low relative valuation, there is a chance of a higher bid.

Consolidated Communications (CNSL) is a $445m market cap telecommunications provider operating in the US. This week, the company received a non-binding acquisition proposal at $4/share from a buyer consortium led by its largest shareholder Searchlight Capital Partners (owns 34%) and British Columbia Investment Management. The buyer consortium has noted that it expects CNSL's special committee of directors to review the proposal. The potential acquirer has stated that a transaction might require approval from a majority of CNSL's minority equity holders. CNSL share price has jumped 40% since the announcement. The spread to the buyer consortium offer currently stands at 3%. Downside to pre-announcement levels is 29%.

The current acquisition bid comes at a rather opportunistic time as the CNSL share price hovers near historic lows. Driven by stagnant topline and EBITDA growth, CNSL's stock has declined 40% over the last year and 66% since early 2019. Meanwhile, since 2020 the business has been undergoing a multi-year strategic transformation from a legacy wireline business to a higher-quality fiber provider business. Fiber has a number of advantages over other solutions for internet connectivity, including the fastest speeds. The company has highlighted that fiber has a higher ARPU compared to legacy wireline offerings - $67 as of Q4'22 vs $54 for copper-based solutions. CNSL has gradually grown its fiber coverage from 22% in 2021 to 38% in 2022. The management has guided for nearly 50% coverage in 2023 and over 70% through 2026. Amid the ongoing fiber roll-out, CNSL's management expects the company's revenue and earnings to substantially inflect going forward - a quote from Q4'22 conference call:

Longer term, we're looking to 2024 for another inflection point with year-over-year revenue and EBITDA growth. Specifically, we are targeting a compound annual growth rate in the mid-teens for EBITDA beginning in 2024 and meaningful margin expansion as our fiber business becomes the majority of our overall broadband revenue. To this end, we believe our EBITDA margins have upside to the mid- to high 40% levels over the long term.

In this context, the buyer consortium's attempt to scoop up the company at the cusp of a substantial revenue/EBITDA inflection seems opportunistic. Given this, there is a decent chance that the current offer will not be accepted by the company.

Relative valuation suggests there is substantial headroom for an offer above current share price levels. CNSL currently trades at 5.3x TTM adjusted EBITDA. The closest comparable Frontier Communications (FYBR), which has also been undergoing a shift from wireline to fiber, is valued at a 6.0x multiple. The peer, however, is seemingly a worse business, with a higher churn rate, lower average ARPU and an inferior network. Comparable industry transactions likewise suggest CNSL's price in an acquisition scenario might be substantially above current levels. A number of transaction involving fiber providers were performed at 11x-13x multiples, including Atlantic Broadband acquiring several of WideOpenWest's assets for $1.1bn (Sep'21, 11.5x EBITDA) and CableOne buying Hargray (May'21, 12.8x).

The buyer consortium is highly reputable. Searchlight Capital Partners is a private telecommunications-focused investment company with over $10bn in AUM. Searchlight is highly familiar with the company and its operational prospects - the shareholder's history with CNSL dates back to 2020 when Searchlight agreed to invest $425m into the company, receiving a 35% ownership stake and becoming CNSL's debtholder. The shareholder has since controlled two board seats (out of eight). Worth noting that in 2020 Searchlight acquired Ziply which has been undergoing a shift from wireline to fiber - similarly to CNSL. Considering that the investment in Ziply has so far panned out, the buyer's interest in scooping up CNSL is not surprising. Searchlight has also invested in GCI and Liberty Latin America. Searchlight's co-founder has been a director at Charter since 2009. Meanwhile, British Columbia Investment Management is one of the largest investment managers in Canada, with over C$211bn in AUM.

Takeaway

Consolidated Communications presents an interesting situation with a likely near-term catalyst. The current offer seems opportunistic and might be rejected by the company. Given Searchlight's interest in and familiarity with the company and the fiber space, a higher offer might likely be here. Relative valuation suggests CNSL might be worth materially above current share price levels.

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