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Stock Analysis Presented By: Brian Deshong Fall 2006
Student Managed Investment Fund Presented by Brian Deshong
Sector: Technology Date: December 3, 2006 Industry: Diversified Communication Services Recommendation: SELL
COMMENT This leading provider of wireless and other telecommunications services was formed in August 2005 via the merger of Sprint Corp. and Nextel Communications, Inc.
52 Week Range: $15.92 to $26.
KEY RATIOS AND STATISTICS QUARTELY EARNINGS PER SHARE HISTORY
Sprint Industry S&P Market Capitalization 57.12B 195.6B 12,698,336B Price-to-Earnings (TTM) 63.10 24.38 20. Beta 1.95 1.70 1 5-Year EPS Growth -7.37% -8.29% 15.82% Net Profit Margin (TTM) 2.19% 7.33% 13.66% Return on Equity (TTM) 1.74% 9.77% 20.22% Return on Assets (TTM) 0.92% 3.24% 8.30% Dividend Yield 0.52% 3.51% 2.09% 52 Week Change -22.55% 27.27% 12.88%
EPS Estimate $0.34 $0.37 $0.33 $0.
EPS Actual $0.33^ $0.35^ $0.32^ $0. Difference -$0.01^ -$0.02^ -$0.01^ -$0. Surprise % -2.90%^ -5.40%^ -3.00%^ -3.00% SHARE INFORMATION KEY FINANCIALS / SMIF RETURN ANALYSIS Price as of 12/12/06 (NYSE:S) 19. Shares Outstanding 2.9B Institutions Holding Shares 1, % Held by Institutions 80.32% Insider Shares Held 37.46M % Held by Insiders 1% Institution Shares Sold (Prior to last Qtr.) 44,179, % Change in Institution Shares Held -1.80% Insider Shares Purchased (2006) 1,980, Insider Shares Sold (2006) 2,414, Short Interest (December 2006) 74.8M Shares Short Sales % Outstanding 2.58% Short Days to Cover 5 Days
($Millions USD) 12/2005 12/2004 12/ Sales 34,680.00 27,428.00 14,185. Operating In. 4,559.00 3,428.00 1,929. Net income 1,778.00 -1,028.00 294. Total Assets 102,580.00 41,321.00 22,934. Total Liabilities 50,396.00 27,553.00 9,562. EBITDA 10,416.00 4,438.00 3,189. (As of 12/06) Gain (Loss) % of Portfolio % of Group Sprint 15.88% 0.73% 0.35% Service Sector 56.16% 14.79% 27.20% SMIF 37.09% 54.29%(Equities) 100% HIGHLIGHTS Sequential earnings for the last four quarters and the current quarter estimates are showing no acceleration or deceleration in quarterly growth rates, which could lead to little change in earnings growth over the near term. Sprint’s stock price is down 22.55% in the last 12-months; currently showing no momentum or catalyst. I feel that the stock at current prices may look very tempting, but will not move significantly for 3-5 years. Sprint’s 3Q Conference Call was excellent, to say the least. On paper it looked as if the company was doing great, however, the Q&A section led me to believe that management was hiding something. Also, I was disappointed that Sprint gave little to no guidance, which may make investors skeptical. The Technical Analysis & Ratio Analysis favors heavily towards a Bearish trend. If we take the Forward P/E Ratio of 15.42 and multiply it by the average 2007 EPS estimate of $1.33 we arrive at a 1-year forward price of $20.51, which is a whopping 0.56% increase over today’s current price of $19.43. Sprint’s Stock dividend has declined over the past five years. Often this is a sign of more difficult business conditions, and sometimes of financial trouble.
INDUSTRY ANALYSIS
The Wireless Telecom Services industry continues to evolve rapidly, paced by the growing demand from commercial and private users for voice, data and wireless Internet services. The threat of new entrants is severe, as government deregulation has opened the doors to the market. This has encouraged the global consolidation of existing players. Successful consolidations should create economies of scale; reduce costs, and increase innovation and new technology. In late 2003, federal rules went into effect allowing wireless customers to retain their phone numbers when switching carriers (known as wireless number portability). This has led to a definite negative impact on profitability, as service providers must offer more to their current subscribers in an attempt to retain them. Furthermore, several carriers experienced costly technical problems with the implementation. In an intensely competitive industry, the wireless number portability requirement has removed a source of customer loyalty. Surprisingly (or in spite of this), the industry kept pace with the recovery witnessed in the broader stock market during 2003 and 2004, but full recovery back to peak levels is unlikely in the near term. Continued growth of the U.S. economy, successful consolidation, strategic partnerships, and offers of a wider range of services will be the keys to positive growth in this sector.
Wireless carriers showed generally healthy profitability, based on a growing subscriber base and cost efficiencies. Though Sprint Nextel had strong operating margin growth since 2005, its net income fell during the first half of 2006, disappointing investors. Sprint Nextel is still working its way through the integration issues resulting from the 2005 merger of Sprint Corp. and Nextel Communications Inc., as well as acquisitions of various affiliate companies. Part of the fallout from Sprint Nextel’s decline was the departure of Chief Operating Officer Len Lauer in August 2006, which did not fare well with shareholders.
Sprint has generated market-like returns over the past 5- and 10-year periods. Compared to its peers, Sprint hasn't fared very well. Its relative returns have been poor over the 10-year period, though its five-year record is somewhat better. Keep in mind when looking at a stock or industry's record that historic returns are not necessarily a predictor of future performance. Persistent strength or weakness, however, may very well say something about the structure of an industry or quality of a company's management.
COMPANY ANALYSIS / RECENT NEWS
Since his Sprint-Nextel merger closed a year ago, the company’s CEO and Chairman Gary Forsee has been struggling with a riptide of technical, financial, operational and cultural problems. This perfect storm, as he calls it, has been disastrous for the combined Sprint Nextel. The numbers tell the story. In the third quarter ended Sept. 30, Sprint added just 233,000 customers, including those getting prepaid phones. The very-thin net gain included the loss of 188,000 regular subscribers, a feat unheard of in today's go-go wireless industry. Rivals Cingular and Verizon Wireless, in contrast, added 1.4 million and 1.9 million customers, respectively. Sprints churn — the percentage of customers who drop off each month, or subscriber loss
psychology; in other words, market participants tend to provide a consistent reaction to similar market stimuli over time. Technical analysis uses chart patterns to analyze market movements and understand trends. Although many of these charts have been used for more than 100 years, they are still believed to be relevant because they illustrate patterns in price movements that often repeat themselves.
The technical analysis indicators that I have chosen to use are as follows: Bollinger Bands, created by John Bollinger in the early 1908’s, 50 and 200-Day Moving Averages, a Momentum Indicator, Parabolic SAR, and the Relative Strength Index (RSI). I will define these technical analysis indicators as I present my analysis and give them either a bullish (optimistic outlook) or bearish (pessimistic outlook) rating.
BOLLINGER BANDS 200-DAY MOVING AVG.
This is one of the most popular technical analysis techniques. The closer the prices move to the upper band, the more overbought the market, and the closer the prices move to the lower band, the more oversold the market. The price has been moving closer to the lower band, which indicates that the market is oversold, in other words, this means that sellers have been in control for several days or weeks. Prices have gone down too far, too fast. Most of the traders who want to sell have already done so, and therefore there are usually bargains – at least in the short term -- to be had, which is bullish for Sprint.
The 200-Day Moving Average is a long term moving average that helps determine overall health of a stock. Historically, a stock that is trading below its 200-Day Moving Average is in a long-term downtrend. The stock is generally considered to be unhealthy, until it breaks out above its 200 Day Moving Average. As we can see from our chart, Sprint is currently trading below its 200-.Day moving average, which is a bearish sign.
PARABOLIC SAR 50-DAY MOVING AVG.
A technical analysis strategy that uses a trailing stop and reverse method called "SAR," or stop-and-reversal, to determine good exit and entry points. Basically, if the stock is trading below the parabolic SAR you should sell, and vice versa. As we can see from the chart, Sprint is trading below the parabolic SAR, which is a bearish and is a sell indicator.
The 50-Day Moving Average is a short-term moving average that helps determine overall health of a stock. Historically, a stock that is trading below its 50-Day Moving Average is in a short-term downtrend. The stock is generally considered to be unhealthy, until it breaks out above its 50-Day Moving Average. As we can see from our chart, Sprint is currently trading above its 50-Day moving average, which is a bullish sign. From May until October of this year, the price has been below the 50-day moving average. Recently, we can see that the stock looks to be starting another downward trend, which is bearish.
MOMENTUM INDICATOR RELATIVE STRENGTH INDEX (RSI)
The Momentum Technical Indicator measures the amount that a security’s price has changed over a given time span. What analysts do is buy when the indicator bottoms and turns up, and sell when the indicator peaks and turns down. As we can see, the momentum of the stock has peaked recently at 110 and has been on a downward trend ever since, which signals a sell indicator and is bearish for the stock.
RSI measures the strength or weakness of recent activity relative to historical activity for a particular stock or index. The RSI can identify overbought or oversold conditions when the buying momentum changes. The RSI will range from 0 to 100. Values above 50 are generally considered bullish and values below 50 are generally considered bearish. As we can see from the chart, Sprint’s relative strength is currently at 50 and downward trending, which can be considered bearish in a relatively strong market.
RATIO ANALYSIS
Ratio analysis is a tool used to conduct a quantitative analysis of information contained within a company's financial statements. Ratios are typically calculated from five-year numbers, in this case one-year, and are then compared to the Industry, Sector, and S&P500 to judge the performance of the company. Ratio Analysis is predominately used by proponents of Fundamental Analysis. The areas that I am going to evaluate are: Valuation, Dividends, Growth Rates, Financial Strength, Profitability, Management Effectiveness, and Efficiency. Here I will look at and evaluate selected ratios from each of these areas.
Valuation Valuation Ratios Report helps you decide whether a stock is inexpensive or costly relative to alternative investment opportunities. The first ratio that I choose to evaluate is the Price-to-Earnings (P/E) ratio, which the single most widely used measure of a stock's value. The P/E is sometimes referred to as the "multiple", because it shows how much investors are willing to pay per dollar of earnings. As we can see, Sprint currently carries a P/E of 63.10, compared to 24.38 of the Industry, and 20.60 of the S&P500. This signifies that investors are willing to pay $63.10 for $1 of Sprints current earnings, which is not attractive for future and current investors. Usually, a stock with a high P/E ratio relative to its peers signifies that a stock is overvalued. In Sprint’s case, using the P/E approach, they are highly overvalued.
The Beta measure stock price volatility relative to the overall stock market. A higher beta indicates that a stock is relatively volatile while a lower beta indicates more stability. In Sprints case, their current Beta is 1.95, compared to 1. of the Industry, 1.00 of the S&P500, and 1.10 of the Sector. What this means is that Sprints stock, on average, will rise or fall 95% more than the market. So a 1% market move, up or down, should spur a 1.95% move for the stock. Compared to its peers, Sprint can be seen as a highly volatile company, which is not a positive sign for the average investor.
Moving Average Analysis Type Price % Slope 10 Day 19.56 98.4 DOWN 21 Day 19.88 96.8 DOWN 50 Day 18.81 102.3 UP 200 Day 20.69 93.1 DOWN
of 17.33. The Net Profit margin may also be low based on the fact that they typically buy large quantities of inventory, sell the products very quickly, and repeat the process by frequently reordering goods.
Management Effectiveness The ratios shown in Management Effectiveness Comparison Report are widely regarded as the ultimate measure of corporate performance. Return on Assets (ROA) is an indicator of how profitable a company is relative to its total assets. The higher the ROA number, the better, because the company is earning more money on less investment. Sprints ROA is 0.92%, compared with the Industry average of 3.20%, the S&P average of 8.28%, and the Sector average of 6.98%. We can conclude that Sprint is well below their peer standards, which is a bad sign, and tells us that they are not investing its capital efficiently, most likely because of the merger with Nextel Communications Inc.
Return on Equity (ROE) shows how much return management has earned on the capital that is actually owned by the shareholders, or the owners of the business. Investors usually look for companies with returns on equity that are high and growing. Sprints ROE is very bad, to say the least, with a ROE of 1.74%. This is 18.46% less than the S&P500, 8.02% less than the Industry, and 15.38% less than the Sector. What this tells us is that management is not using their money more efficiently than their peers, and that their top competitors are taking market share away from them.
Efficiency Efficiency ratios serve as important signals of deteriorating or improving business fundamentals that may not yet be reflected in reported earnings and measure how efficient or intensively a firm uses assets to generate sales. Total Asset turnover identifies how much sales we are able to squeeze out of all our assets. Asset turnover measures the firm's efficiency at using its assets in generating sales or revenue; the higher the number the better. It also indicates pricing strategy: companies with low profit margins tend to have high asset turnover; those with high profit margins have low asset turnover. Sprints Asset turnover is 0.42, compared to its peer average of 0.82. Sprints peers are almost double that of Sprints Asset turnover, which means that the company is less efficient at using it’s assets in generating revenue or sales than its peers. It is also surprising to note that Sprint also has a low profit margin, which is a sign of financial trouble ahead.
CONCLUSION
I feel that Sprint is unworthy of a position in our portfolio based on my analysis. High churn rates compared to their top competitors, a low amount of insider shares held, a bearish technical and ratio analysis, declining EPS growth, recent comments made by management, top management consistently leaving the company, a high short selling interest for the stock, and increased competition, to name a few, are all reason why I think we should sell this stock.
However, I do see the integration of the WiMax technology boosting Sprint’s competitiveness in delivering interactive multimedia services at a modest price (and operating cost) in the long-term, but it will be quite a challenge. This would be a perfect opportunity for Sprint to boost name recognition and gain back market share from their top two rivals, whom are Verizon and Cingular Wireless. But I do not see this happening for Sprint anytime soon; my guess would be three to five years. I feel that patient investors with this type of time window could potentially build a stake in Sprint now, being that it is heavily arguable if the stock is currently under or overvalued. However, the heavy downside still remains with the problem of management stabilizing the business in the near term. In our case, I feel that holding a stock for three to five years with no momentum or catalyst is ‘dead weight’ in our portfolio. Lastly, I feel that the so called ‘great’ $6million common stock buyback is not all that it is hyped up to be by Sprints management. I feel that Sprint is trying to
manipulate earnings and stock prices to ease the pain of recent missed Wall Street earnings per share expectations. To traders this makes perfect sense. By buying back stock in the open market, you help maintain the stock price, reduce the number of shares outstanding, and increase the earnings per share. Ultimately, this does not work out for long-term investors because it tends to reward people getting out of their investment, while not rewarding keeping the investment. There is no assurance that the stock price will go up. The only certainty is that the seller has cash and the holder entails all of the risk. This could also be an incentive for top management to hit exceptional numbers for the company to earn lots of stock, options, and be entitled for a bonus. Also, in my personal investment endeavors, I have seen first-hand that buybacks do not always work. I feel that raising the dividend level, which has been falling for Sprint, would be a better option because it is guaranteed money in the bank for investors, it reduces the cost basis for them and rewards them for being loyal shareholders. On that note, I recommend that we sell all 633 shares of Sprint at the current market price and run with our 15.88% gain.
Sector Industry S&P 500 Sprint-Nextel VALUATION RATIOS P/E Ratio (TTM) 26.89^ 24.38 20.60 63. Beta 1.10^ 1.70 1.00 1. Price to Sales (TTM) 2.90%^ 2.63% 2.93% 1.33% Price to Cash Flow (TTM) 15.41%^ 9.37% 14.56% 5.26%
DIVIDENDS Dividend Yield 2.12%^ 3.43% 2.06 0.52% Dividend 5 Year Growth Rate 7.52%^ -0.24% 9.79% -9.71%
GROWTH RATES Sales – 5 Yr. Growth Rate 11.78%^ 4.84% 9.90% 15.03% EPS – 5 Yr. Growth Rate 8.03% -8.30% 15.71% -7.37% Capital Spending – 5 Yr. Growth Rate 7.74% -10.86% 5.73% 4.26%
FINANCIAL STRENGTH Total Debt to Equity (MRQ) 1.02 1.11 0.73 0. Long Term Debt to Equity (MRQ) 0.86^ 0.99 0.58 0. Quick Ratio (MRQ) 0.75^ 0.72 1.22 0. Current Ratio (MRQ) 1.28^ 0.95 1.73 0. Interest Coverage Ratio (TTM) 8.24^ 3.86 14.77 2.
PROFITABILITY RATIOS Net Profit Margin (TTM) 8.68% 7.30% 13.67% 2.19%
MANAGEMENT EFFICTIVENESS Return on Assets (TTM) 6.98% 3.20% 8.28% 0.92% Return on Equity (TTM) 17.12% 9.76% 20.20% 1.74%
EFFICIENCY Receivable Turnover (TTM) 16.52 9.50 10.49 9. Inventory Turnover (TTM) 17.64^ 22.27 12.39 19. Asset Turnover (TTM) 1.02 0.46 0.97 0.
(TTM) = Trailing Twelve Months (The Timeframe of the Past 12 Months) / (MRQ) = Most Recent Quarter (The Previous Quarter) *Sector = Technology *Industry = Companies that operate along similar lines of business
