Patrick Brennan of Brennan Asset Management presented Liberty Latin America (US: LILAK) and Megacable (Mexico: MEGACPO) at Best Ideas 2022.
Thesis summary:
COVID hit Latin America particularly hard with the region ravaged by fatalities despite the implementation of severe restrictions. Many LATAM economies suffered deep recessions and the region may not experience a full recovery for the next 1-2 years – a recovery timeframe that severely lags the developed world. Despite operating in a more defensive industry, LATAM telecom names were far from bastions of safety and several — including Millicom (TIGO), Megacable (Mega), and Liberty Latin America (LILAK) — severely lagged broader indices during 2020 and 2021, with losses exacerbated by emerging market outflows, tax loss selling and other technical selling pressure. While economic and political uncertainty in LATAM markets will continue, these concerns are well reflected in stock prices as all three names trade at multi-year, multi-decade low valuations.
In a post-COVID, work and school from home environment, all three names should continue to benefit from increased broadband demand, especially as internet penetration levels are far below developed market levels. All three names have announced important strategic initiatives, including the acquisition of Tigo Guatemala (TIGO), an intention to double its broadband footprint (MEGA), and a pair of deals with América Móvil (LILAK). In the case of MEGA, the fiber expansion should materially increase growth and conceivably allow EBITDA to double over the coming five years. In the case of TIGO and LILAK, the various deals should (finally!) produce material owned free cash flow.
While all three names offer highly attractive risk reward opportunities, LILAK’s upside still appears highest. The company announced two deals with América Móvil (AMX) in Q4 CY21. First, the company announced the acquisition of AMX’s mobile business in Panama for $200 million in cash. Then, LILAK announced it was combining its LILAK’s Chilean operations (VTR) with AMX’s Chilean fixed and mobile business via a 50/50 Joint Venture. Both deals are highly strategic and were done at a low absolute multiple in the case of Panama, and at an attractive relative valuation (with no M&A premium) in the case of Chile. Patrick believes both deals should create substantial value in the years ahead.
Legislation changes allowed the Panama mobile market to consolidate from four to three players (Millicom and Digicel are the other two players) as brutal price competition had negatively impacted all participants and led to concerns about mobile investment in the country. LILAK paid roughly 4x post-synergy EBITDA for AMX’s business. Assuming the division’s normal 4x leverage ratio, this implies that LILAK will ultimately pay for the entire deal with leveraged synergies (i.e., zero equity contribution). Additionally, the deal will double LILAK’s spectrum holdings and likely allow some price rationalization going forward. It is exceedingly difficult to find anything to not like about the deal.
The Chilean JV is the more significant of the two deals and is equally compelling. Chile has been LILAK’s problematic market over the past several quarters because of increased fiber competition as well as from self-inflicted issues with network outages suffered during the country’s lockdowns. By combining with AMX (again at no M&A premium), LILAK will participate in 50 percent of the $180 million of targeted synergies. Additionally, the deal will transfer debt and capex requirements off-balance sheet (giving a further boost to free cash flow), substantially expand wireless spectrum assets (AMX has invested heavily in the 3.5GHz band and VTR has substantial unutilized spectrum) and create enormous optionality if the country changes existing rules on quad-play discounting. The combined JV currently passes ~4-4.5mm homes in Chile, and the JV anticipates expanding its footprint to an additional 1.5-2mm homes and thus essentially blanket the entire country. This fiber push is the “carrot” for regulatory approval of the deal. VTR will be transferring roughly 4x more net debt to the JV and will make a $100 million equalization payment to AMX. From a market perception perspective, this deal addresses the only weaker link in LILAK’s story.
COVID headwinds pressured Cable & Wireless’ B2B business, but the business has shown sequential improvement and overall margins are higher than pre-COVID levels. There continues to be a significant structural opportunity for further improvement. LILAK’s Puerto Rico division performed well throughout COVID, the early results of the AT&T acquisition have been better than anticipated and most of the deal synergies will be realized over the next two years. Putting it all together, Patrick believes LILAK can ultimately generate over $500 million of free cash flow (relative to a ~$2.7 billion market capitalization) over the coming three years. While the stock price continues to frustrate, the LILAK investment case continues to be compelling, as the stock trades far below any reasonable estimate of intrinsic value.
Patrick discussed Megacable toward the end of his Best Ideas 2022 presentation.
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About the instructor:
Patrick Brennan is the founder and portfolio manager of Brennan Asset Management, LLC (BAM), a Registered Investment Advisory firm based in Napa, CA, which utilizes a concentrated value investing strategy. BAM manages separate accounts and is the sub-adviser for the Oceancross Capital Partners Fund. Patrick has given presentations at multiple value investing conferences, including presentations to The New York Society of Security Analysts (NYSSA), The Nebraska Society of Securities Analysts and presentations on various names at the VALUEx Vail Conferences. Patrick coauthored an article on tracking stocks with Lawrence Cunningham for The Financial History Magazine and Patrick was featured in a write-up of Liberty LILAK in The Private Investment Brief. Prior to founding Brennan Asset Management, Patrick managed portfolios and led research efforts at two value investing firms in California: Hutchinson Capital Management and RBO & Co. Previously, Patrick worked at Mark Boyar & Company, where he led the firm’s research team and helped manage $800 million of assets across individual portfolios, institutional accounts and a mutual fund. Patrick also worked for six years in investment banking and equity research with Deutsche Bank, CIBC World Markets and William Blair & Company. Patrick graduated summa cum laude from the University of Notre Dame with a degree in economics and was inducted into Phi Beta Kappa. Patrick received the Chartered Financial Analyst (CFA) designation in 2002 and is a member of the CFA Institute (formerly AIMR). Patrick is originally from Omaha, Nebraska.
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