2023-07-20 11:30:00 ET
Summary
- Lumen Technologies stock has significantly underperformed over the past decade, with a total CAGR of -19.5% and a 5-year total return CAGR of -32.3%.
- Elevated interest rates and negative sentiment in the telco sector have worsened Lumen's outlook, with potential liabilities from a recent lead-covered cables issue adding to concerns.
- Despite these challenges, dip buyers returned this week to defend the steep selloff as they aim to hold the June lows.
- If LUMN could consolidate constructively over the next two months, the worst in its hammering could be over.
Investors still holding the bag in Lumen Technologies, Inc. (LUMN) have been hammered, as the stock has proven to be a vehicle of massive portfolio value destruction.
Investors who held LUMN over the past ten years posted a total CAGR of -19.5%, significantly underperforming the S&P 500 (SPX). Investors who boarded five years later posted a worse 5Y total return CAGR of -32.3%. As such, the bears in LUMN have won decisively. Therefore, I'm not surprised that LUMN bears are still holding on to their winning position, as it posted a short interest as a percentage of float of nearly 15% at the end of June.
While the metric is elevated, I don't consider it excessively high, which is unlikely to result in a massive short squeeze. In other words, things for LUMN could get worse for the bagholders if the market continues to give its vote of "no confidence" in Lumen's turnaround strategy.
I gleaned that the pessimistic Wall Street estimates seem sufficiently low for management to clear the bar more easily. Accordingly, analysts expect Lumen to post an FY23 adjusted EBITDA of $4.64B, markedly below the midpoint of management's guidance range of $4.7B.
However, given Lumen's high CapEx outlook of $3B at the midpoint, it's challenging to see how the company could significantly overcome the less optimistic analysts' projections, given the current macro uncertainties.
Elevated interest rates and a weaker commentary by AT&T ( T ) recently have worsened the outlook for the major Telco players, including Lumen. If that wasn't bad enough, the recent lead-covered cables fiasco has intensified the negative sentiment surrounding LUMN and its Telco peers, given the potentially significant liabilities involved.
However, I assessed that the developments are still nascent, suggesting that investors shouldn't jump to quick conclusions over the possible extent of the liabilities. Furthermore, AT&T CEO John Stankey indicated his disagreement with the Wall Street Journal's (or WSJ) reporting, stressing that " it conflicts with what independent experts have stated about the safety of lead-clad telecom cables."
The company also highlighted that such cables "represent less than 10% of its copper network," suggesting that the uncertainties could have been overstated.
As such, I believe the market's positive reaction to LUMN in yesterday's (July 19) trading session, as it closed up nearly 17% suggests that dip buyers saw the recent lows as an opportunity to return strongly. In addition, some weak short-sellers could have bailed out as well, assessing that the beaten-down valuation in LUMN might not offer a significant risk/reward profile unless the market expects substantial damage to Lumen's outlook moving ahead.
All eyes will likely be on management's commentary on August 1, as the company is slated to release its Q2 earnings . Investors are expected to parse the potential ramifications of the lead-covered cables to determine whether Lumen could be adversely affected. I believe the market's discounted positioning of LUMN's valuation against its Telco peers is appropriate, as Lumen's free cash flow or FCF estimates could continue to decline through FY25.
With that in mind, investors must assess whether the discount appropriately reflects these challenges, as Lumen could be impacted more significantly than its peers.
Accordingly, LUMN last traded at a forward EBITDA multiple of 4.6x, markedly below its Telco peers' median multiple of 6.6x (according to S&P Cap IQ data). It's also in line with the two standard deviation zone under its 10Y average of 5.6x. In other words, I believe it's reasonable for investors to assess that significant pessimism and uncertainties are likely reflected in LUMN's current valuation.
There is a glimmer of hope over LUMN's long-term chart. As seen above, it has suffered the worst decline in more than ten years. While sellers managed to take out a new low this month, buyers quickly returned this week to support the selloff, as explained earlier.
However, dip buyers must help LUMN consolidate constructively over at least the next two months and hold it above June's closing levels. If sufficiently robust buying momentum could return, I believe the risk/reward profile for a significant mean-reversion opportunity seems attractive, given the extent of the hammering.
LUMN has fallen significantly below its long-term averages, which could appeal to speculative investors considering taking a shot at the current levels.
Rating: Maintain Speculative Buy.
See additional disclosure below for important notes accompanying the thesis presented.
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Lumen: Buyers Are Getting Ready For Redemption