G&M Compendium BCE Inc.’s (
) $5-billion acquisition of internet provider Ziply Fiber will strengthen it as a “fiber player” in North America, according to Scotia Capital’s Maher Yaghi.
However, much like the cautious early view taken by investors of Monday’s announcement, which sent its shares plummeting 9.7 per cent, the equity analyst has concerns about the deal, which allows Canada’s largest telecommunications company to operate in four U.S. states in the Pacific Northwest – Washington, Oregon, Montana and Idaho – and provide fibre internet services to 1.3 million residential and business locations
“Implementing a DRIP and holding back on dividend increases did not come as a surprise [Monday],” he said in a report titled A Bold New BCE. “We discussed this potential in a note in September. That note was published post the company’s MLSE deal. What was new was that BCE is essentially using the proceeds of the MLSE deal to invest in a new market to gain growth but which will also lead to FCF dilution until 2028 and FCF/share dilution until 2030 by our estimates. We agree with the premise that fiber is a long term winner in broadband however the price paid for that growth needs to be commensurate with that opportunity.
“Would it have been better for the company to buyback its own stock at 6.8 times EBITDA and grow FCF per share that way or pay 14.3 times EBITDA out-of-home on the premise that this investment will have a higher long term ROIC than existing assets? It will take time to get a definitive answer to that question. Clearly the decision to go into the U.S. is bold, could be a first of many and possibly lead to divestitures in Canada.”
Andrew Willis: Bell’s challenge is convincing investors it is the best owner for U.S. fiber network Ziply
With Ziply is projected to generate earnings before interest, taxes, depreciation and amortization (EBITDA_ and revenue of US$400-million and US$700-million in 2025, Mr. Yaghi sees the acquisition as a “positive,” expecting it to be dilutive to free cash flow in the next few years due to the cost to load customers and capex to expand the fiber footprint.
“As a result of the transaction, BCE is also maintaining the annual dividend at the current level of $3.99/sh for 2025 and implementing a discounted DRIP ... Wile the DRIP will lead to some deleveraging starting in 2027, it will be hard for the company to remove the DRIP before 2030 in our view without bringing FCF distributions (including lease costs) above 100 per cent,” he said. “On a comparable basis, our new estimates show a dilutive impact to FCF/share from the transaction until 2030.”
Maintaining his “sector perform” recommendation for BCE shares, Mr. Yaghi trimmed his target to $47.50 from $50.50. The average target on the Street is $47.56, according to LSEG data.
Elsewhere, Canaccord Genuity’s Aravinda Galappatthige downgraded BCE to “hold” from “buy” with a $41 target, falling from $51.
“BCE’s proposed acquisition of Ziply, in our view, is likely to place incremental near-term pressure on the investment thesis on a number of fronts, including lower FCF generation over the next three years, delayed easing in balance sheet leverage, and the incremental dilution from the DRIP introduction (we estimate almost $1B in new equity annually),” he said. “While we recognize the longer-term strategic case, we also believe that the market will take a while to digest the 14.3 times 2025E multiple, especially considering the heavy capex phase over the next 3-4 years. Notwithstanding the longer-term growth opportunities the U.S. fibre space opens up for BCE, we believe that the stock is likely to focus more on FCF generation and de-risking of the thesis through balance sheet management over the next 12-18 months, given the conditions in the local market. An encouraging element of BCE’s prior thesis was the de-levering that would have occurred post the Northwestel and MLSE divestitures, which we estimated would touch 3.2x by mid-2025, when their peers would be higher. We also note that the capex profile of Ziply over the next three years is likely to be notably elevated, likely going above 100-per-cent CI, placing significant pressure on BCE’s FCF. This raises more legitimate questions of dividend sustainability beyond 2025. Consequently, we are downgrading the stock.”
Other analysts making target changes include:
* RBC’s Drew McReynolds to $47 from $52 with a “sector perform” rating.
“Notwithstanding near-term NAV dilution, we believe the Ziply acquisition along with the pause in dividend growth and institution of the DRIP do provide incremental visibility around the balance sheet trajectory and dividend sustainability, and reinforces management’s fibre-first strategy,” said Mr. McReynolds. “While we continue to believe BCE is well equipped to navigate a slower revenue environment leaning on a scale advantage, FTTH investment and Internet market share gains, cost efficiencies, an extensive array of tactical initiatives across wireless, wireline, and media, and long-term growth in 5G B2B (IoT, MEC, private network, cloud, security), we look for more timely entry points with the closing of the MLSE and Ziply transactions, an associated uptick in revenue and EBITDA growth, and greater progress in tracking towards targeted dividend payout and leverage ratios potential catalysts for the stock. "
* National Bank’s Adam Shine to $42 from $48 with a “sector perform” rating.
“There were always going to be concerns that Bell in future, after delevering with non-core sales and completing key part of its fibre build next year, could pursue an acquisition that wouldn’t please some investors,” said Mr. Shine. “We just didn’t think this would happen in final part of 2024, with an expensive U.S. foray that won’t be FCF accretive until after 2028 and will elicit ongoing questions of ‘why’ despite Bell’s strategic rationale for doing this deal now. Not to be ignored is that growth is slowing in Bell’s domestic market. This in and of itself is often a trigger for diversification, but the U.S. has a rapidly evolving competitive landscape among large established players that appears destined to increasingly touch areas in and around Ziply’s footprint, while Bell has struggled of late in Canada with stepped-up competition and more aggressive pricing tactics by the Big 3. It’s not a given that Ziply will fulfill the promise of materially improving cash flow growth after its fibre build across the more rural parts of its four-state footprint in U.S. Pacific Northwest.”
* Desjardins Securities’ Jerome Dubreuil to $45 from $51 with a “hold” rating.
“Plugging Ziply’s low penetration and impressive footprint growth target into a DCF suggests a much better financial outcome than implied by yesterday’s share price reaction. However, the large number of assumptions required to get there, the delayed improvement in the pre-DRIP payout ratio, the negative signal on Canadian assets and the little integration potential between assets lead us to use a higher discount rate, lower our target price and maintain our Hold rating.
* TD Cowen’s Vince Valentini to $43 from $50 with a “hold” rating.
“Many questions from investors about why BCE needed to take on more debt leverage for a seemingly expensive acquisition. We do not like the move (simply doing nothing and paying down debt with the MLSE proceeds would have been better, in our view) and our forecasts and TP have been lowered,” he said.
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