TSAT - Funding For Next Gen Satellites Creates Opportunity For Telesat

2023-08-15 13:08:50 ET

Summary

• Telesat's next generation LEO "Lightspeed" satellite constellation is fully funded, with no planned equity dilution and reduced costs.
• Management's current assessment, could lead to material upside if the LEO project can deliver by 2027.
• An investor day may provide further details, but for now, Telesat looks potentially attractive, even if management now needs to execute over the coming years.

We've been waiting several years to hear that Telesat's ( TSAT ) next generation Low Earth Orbit, or LEO, satellite constellation is fully funded. That news was announced on August 11, 2023 . Importantly, there's no equity dilution and the company has bought down constellation costs by $2-$3 billion relative to earlier estimates. Service is expected to begin in 2027. TSAT is a national champion for Canada, a country which is the second-largest country in the world by area and has a distributed population in some very isolated areas. Therefore, TSAT has a strategic role to play in providing satellite service to the nation in the future, as it does today.

The Old Geostationary Satellite Fleet

In addition to the LEO Lightspeed fleet which the company plans to launch, it has 16 geostationary satellites in orbit with launch dates from 2002 to 2020 (per the company's most recent 20-F filing). Six of these have passed the end of their orbital maneuver lives. The remaining ten satellites have an average estimate of five years of orbital maneuvers left. As such, TSAT does need to launch Lightspeed to continue serving customers, and it's fair to assume that its legacy revenue will remain in steady decline.

The legacy satellite business can generate around $500M of EBITDA for the next six years until 2029 (note Lightspeed should come online in 2027), assuming a 5% decline in EBITDA each year and a 10% discount rate. That gives a discounted valuation of the legacy assets of $1B (pre-tax). This could be exceeded if these satellites perform better than expected.

The New Lightspeed Constellation

Management plans to host an investor day to discuss Lightspeed in more detail, but did share some nuggets on the Q2 call.

• The LEO satellites should have a useful life of 11 years (or perhaps more)
• The total investment of $3.4B should generate a 30% IRR
• Commercial operations are expected in late 2027
• EBITDA of $2B to $3B is apparently "not unreasonable"

This is all four years away, and assumes the technology works as planned, but suggests that management thinks the total value of Lightspeed might be around $10B on a discounted basis. Of course, we should take that with a pinch of salt, but it sets a high-water mark.

Net Debt

The company expects to receive a $260M C Band payment before the end of 2023. They have already received one payment here and it's a government payment, so we can have high confidence. The company has $3.5B of debt, this is a slight overstatement as it repurchased some debt after quarter end and it has been repurchasing debt at a significant discount. Net of $1.6B of cash, that's resulting net debt of $1.6B.

Really Fully Funded?

Management wanted to highlight that Lightspeed was fully funded on the Q2 call. However, it's important to note that the project may be scaled-up further in terms of number of satellites, which would increase costs further. Management is confident that this would only happen if the economics were going well as such they believe they are fully funded in either scenario.

Scenarios

We can therefore start to look at some potential scenarios for equity valuation as below:

We will learn more at the investor day that management plans to arrange, but it's clear that if LEO can deliver then there may be significant upside at Telesat. The bull case is abstracting from managements' Q2 call comments which are very early and preliminary at the moment. The bear case basically assumes the LEO project simply covers its costs, and the base case is something a middle path between the two extremes.

It is notable that all scenarios do offer upside at the current price of around $14/share. However, the valuations should be taken as directional only rather than extremely precise. We need to hear more on LEO's economics and see more validation of the technology.

Risks

• The cost-savings TSAT is looking to achieve on their LEO implementation involve small satellites and beam-forming technology. If this fails it could bankrupt the company. However, management is confident in the technology and Apple is apparently using the same vendor, which may be a good sign.
• The LEO constellation will not be operational until 2027 if all goes to plan. That's a long time for investors to wait and technology may evolve in the interim.
• The company's legacy business appears to be in steady decline as its legacy satellites approach the end of their useful lives.
• The company is carrying a relatively high debt load, leaving little margin for error.
• We are currently working off management estimates, which are early and could be proven incorrect as the technology and market evolves over the coming years.

Conclusion

It's good news that Telesat's next generation satellites are now fully funded. However, we still don't have full details on the economics of the project. If management's estimates are to be believed there may be significant upside.

However, we'll have to wait until 2027 to really find out. The upcoming investor day may shed more light here. Until then TSAT, even despite the recent rally, is something of an equity stub or call option and may perform very well if TSAT's Lightspeed implementation is as successful as management is hinting that it might be. This is a speculative investment, but may be worth keeping an eye on. If management can provide further detail for their early estimates on LEO economics, then the potential investor day in 2023 could prove a catalyst for the shares to move higher still. Though equally much relies on managements' estimates rather than cold, hard data today.

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