NII Holdings: Shares Multiply In Short Order, What’s Going On?

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Small companies can offer outsized gains in a relatively short period of time. What to think of NII Holdings (NIHD), which operates telecom services in Brazil under the Nextel brand (they are the controlling owner after partner ICE.net did not go through with their option to increase their stake in Nextel Brazil).

The shares looked down and out for the count only recently:

But at the end of February this year, they staged a remarkable comeback that got another shot in the arm on Tuesday (June 12), so enough reasons to have a look at what’s going on.

Some of the winners are the company’s own executives, as some of them have been buying shares in the open market. From FinViz:

The following graph gives some first indications:

ChartNIHD Revenue (TTM) data by YCharts

Difficult to see much of a turnaround here. We had to go deep into the accompanying deck to see any metric improving, but here it is:

That is, the churn rate on its 3G (WCDMA) /4G (LTE) networks is decreasing, even if that on its iDEN network has jumped. And there is a tad more good news, in the form of adding new customers on its 3G/4G networks even if their iDEN network attracts ever less new customers:

The following figure is even clearer, note the customer collapse at iDEN:

But you also see a line that provides a different perspective called “migration from iDEN,” so customers shift from iDEN to 3G. This isn’t surprising, iDEN is really something of a curious leftover from the past that was a feature of Nextel.

It uses specialist mobile phones and specialist technology (developed by Motorola in the 1990s). It’s still in use in a number of developing countries, among which is Brazil.

This isn’t a winner technology, Motorola doesn’t even make new iDEN handsets anymore, and the company announced it would close its iDEN network at the end of March 2018, although that has been postponed to the end of May.

That closure will lose them the remaining iDEN revenues (insofar these don’t migrate to their WCDMA or LTE networks), and the company will incur additional costs related to the shutdown, but at least there is an end to the bleeding.

Then there are the multi-year leases on several hundred sites where iDEN towers are housed, but management is swapping most of these (Q1CC):

In Q2, we plan to swap 250 empty iDEN towers for equal amount of sites that we can use in our 3G network. While there are some upfront costs to transferring and reinstalling our equipment on new sites, we believe we can recover this cost within twelve months due to the associated rent savings.

Optimism

So, in short, we see three reasons for the share optimism:

  • End of legacy iDEN network
  • Growth in their 3G and 4G networks
  • Cost-cutting

With respect of the growth of their 3G and 4G networks, it remains to be seen how that will fare as the figures until now have surely been inflated by the migration of clients from iDEN.

Management argues that they are well-positioned to capture “meaningful subscriber growth” (Q1CC) nevertheless, and indeed that’s what they’re doing (Q1CC):

Our 3G net subscriber additions were 93,000, the highest level in over two years. Our 3G churn dropped to 2.37%, the lowest level in over three years and 110 basis points improvement from the quarter before. We generated 303,000 gross ads in Q1, down a little from last quarter due to seasonality. During the quarter, we are also migrated 35,000 subscribers from our iDEN platform to 3G. In total growth on our 3G network was 128,000, leading to over 3 million 3G subscribers, a new high and 4% increase in our 3G base from last quarter. As a result we remain on track to meet out 3G net add guidance of 300,000 for 2018 as well as our 3G churn guidance of the mid 2% percent range for at least the first half of the year.

Whilst operating in a competitive environment, management argues their networks have three advantages:

  • A customer-centric approach
  • Good network quality
  • More generous data bundles

The latter is only marginally better than the competition and that situation is open to change, of course. There is quite a bit of data to backup management’s claim of being customer-centric (Q1CC):

At [indiscernible], the leading customer complaints portal in Brazil, our rating in March improved 17% compared to December and is now 3.1 times better than the average of our competitors..

Our porting ratio which is an indicator of our attractiveness in the market increased from 2.4 to 1 in Q4 to 2.9 to1in the first quarter this means that for every Nextel subscriber that ported out to a competitor, we ported in almost three new subscribers…

As of April, our net promoter score or NPS reached 33 points, a 4 point improvement from December. According to our market research, we’re now tied for NPS leadership and more and more operators in Brazil. Calls into our customer service centers dropped 6% in the quarter, while complaints from our clients to ANATEL also decreased 13% in the same period.

An NPS score is an index ranging from -100 to 100 that measures the willingness of customers to recommend a company’s products or services to others.

Cost-cutting

ChartNIHD Gross Profit Margin (Quarterly) data by YCharts

With the churn in iDEN, it’s not surprising to see the fall in gross margins, but the company’s operating expenses are declining:

  • In Q1, the decline was $18M from Q4 2017.
  • G&A declined by $8M to $70M.
  • S&M declined by $8M

The company’s metric is OIBDA or operating income before depreciation and amortization, and this is still negative (minus $8M in Q1) and the company only expects a small improvement in 2018 versus 2017. Looking at the 10-Q:

You notice operating expenses are declining quite substantially, but so is revenue. As a percentage of revenue, we see the following:

That is at least an encouraging trend the last two quarters.

Mexican tax issue

Mexican tax claims are $73M, for which they have $110M in escrow in relation to the sale of Nextel Mexico. With respect to the Mexican tax issue, management argued (Q1CC):

We are continuing to work with the Mexican tax authorities to file the necessary amended income tax returns in order to resolve $73 million of claims related to the 2010 and 2011 years. However, we were recently informed by the escrow counterparty of their views related to the claims release requirement which could result in a delay of the escrow release, but we believe will not impact the ultimate amount recovered.

The 10-Q gives a more complete picture (New Cingular Wireless is the company that bought Nextel Mexico, the emphasis is ours):

The potential tax indemnity claims submitted by New Cingular Wireless purport to relate to various ongoing tax audits by the Mexican tax authorities for the years 2010 through 2014. Of the total potential tax claims, $12.2 million relates to actual assessments that Nextel Mexico has received. The remaining amounts relate to unassessed matters. New Cingular Wireless’ claims include $35.5 million related to the audit of Nextel Mexico’s income tax return for 2010 and $36.9 million related to the audit of Nextel Mexico’s income tax return for 2011. The remaining $37.6 million of potential tax claims relates primarily to non-income taxbased audits for the years 2011 through 2014. We recently reached an agreement with the Mexican tax authorities related to the audits of Nextel Mexico’s income tax returns for the years 2010 and 2011. Specifically, we agreed to incremental tax liabilities of $36.9 million to settle all open issues related to these tax years. We expect to utilize existing tax credits to settle these liabilities, although it is possible that we may need to settle a portion of these liabilities using cash that is currently held in escrow. We are in the process of working with the Mexican tax authorities to finalize the official process and file the necessary amended income tax returns in an effort to close the audits related to the years 2010 and 2011. As of March 31, 2018, we had $1.5 million accrued related to the 2011 income tax audit. We are continuing to work with the Mexican tax authorities to settle the open non-income tax-based audits and accelerate the release of the remaining escrow. New Cingular Wireless has recently indicated their views on certain aspects of the escrow and purchase agreements related to the release requirements for escrowed funds with which we do not agree. This difference of interpretation could result in a delay of the release of the remaining amount of cash in escrow

So we assume they will recover at least some, perhaps most of this, which will be important as the company still burns quite a bit of cash (see below).

Cash burn

The company is burning quite a bit of cash:

ChartNIHD Cash from Operations (TTM) data by YCharts

In fact, their Q1 cash, cash equivalents and restricted cash declined from $305.7M to $ 248.9M just in the quarter alone, a net decrease of $56.8M and the decline isn’t really moderating, at least not with respect to Q1 2017. From the 10-Q:

Management argues that they can survive until the end of next year but on this rate, that seems a bit of a stretch, Q1CC:

we continue to believe we have sufficient liquidity to fund our business to the end of 2019. However, to bolster our liquidity and mitigate any potential delays in the recovery of cash held in escrow, we are considering alternatives to raising incremental capital.

This remains to be seen.

Proposed regulatory change

The CC mentioned spectrum reform by regulator ANATEL, increasing regulatory caps on spectrum which, according to management:

When enacted, these changes and our better operational performance may open up new opportunities for us to unlock the value of our assets. We will proactively explore alternatives as the process evolves.

There is nothing in the 10-Q about this but here is what’s at stake. From telegeography:

Brazil’s National Telecommunications Agency (Agencia Nacional de Telecomunicacoes, Anatel) is set to consider increasing the spectrum caps currently applied to each operator, potentially paving the way for a large-scale merger. According to local news site TeleSintese, the proposal – which was presented by Anatel board member Otavio Rodrigues – would see the spectrum cap for sub-1GHz bands increase from 29% of the overall spectrum in circulation (per operator) to 35%, while the cap for spectrum in the 1GHz-3GHz range would rise from 21% to 30%. A public consultation is now anticipated, the report notes.

The proposed increases seem not terribly significant, but perhaps just significant to increase the chances for the company to sell parts or even be acquired in total.

Given that the jump in the share price coincided with the news above (February 26 2018), it looks like some insiders are positioning for such eventuality.

Debt

Here is the 10-Q:

Declining, but just a bit and $639M is twice their market capitalization. Stuff like 5G is perhaps some way off in a country like Brazil, but that would take another major CapEx round for which they don’t seem to have the means, at least not at present. The company is still building out their LTE (4G) network, which hasn’t the same coverage as their 3G network.

Valuation

ChartNIHD EV to Revenues (TTM) data by YCharts

With the recent share price revival, the valuation has also gone up but this isn’t really providing much to hold on for investors.

Conclusion

There is some room for optimism. The end of the iDEN bleed is there after the present quarter. Their 3G and 4G networks are actually growing and seem in good customer standing. The company is aggressively cutting costs as well.

But the Brazilian economy is still in a funk, the company is still far off from profitability and still bleeds large amounts of cash. The company only has sufficient funds to last until the end of next year, at best, with debt at twice the market capitalization.

With 5G around the corner, the company seems woefully under-capitalized. Most of its revenues still seem to come from 3G.

All in all, while not denying considerable progress and coming back from the brink, the shares still seem a risky bet to us at this moment but it looks like insiders know more here, given that the jump in the share price coincided with a proposed regulatory change that could improve an asset sale or acquisition.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

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