New kid TWC off to a rocky start

Sub spending, weak forecast cited in cabler's sluggish debut

With a little more than two weeks of trading in hand, shares of Time Warner Cable Inc., the second-largest U.S. cable operator, are off to a somewhat sluggish start, and analysts have different takes on where the stock will go from here.

On Monday, TWC shares closed down 1.05% at $37.80, closer to their low of $35.93 than their high of $44 since debuting at the start of March. That gave the company a market valuation of $36.9 billion as of Monday.

Wall Street observers said that part of the rocky start is because TWC began trading at a time when investors were worrying that cable operators will keep spending aggressively to continue signing up customers for basic and advanced cable services to get a leg up on telecommunications competitors.

They also cite a slightly weaker- than-expected forecast by the company for growth in revenue and operating income before depreciation and amortization in the mid- to high-30% range this year.

TWC also signaled that financials and subscriber trends in about half of the cable systems recently acquired in a deal with bankrupt Adelphia Communications should improve this year, while the big markets of Los Angeles and Dallas will take the year to stabilize.

"L.A. and Dallas will take longer than the other acquired systems," TWC president and CEO Glenn Britt said in a recent conference call.

With that in mind, Pali Research analyst Richard Greenfield recently initiated coverage of TWC shares with a "neutral" rating, arguing that there are "better opportunities elsewhere in (the) cable sector."

Investors have been expecting TWC to show "significantly higher than peer group growth in 2007," he said. "We believe growth is likely to be more in line with Comcast and Cablevision. In turn, we do not believe TWC's premium valuation is warranted."

Goldman Sachs analyst Anthony Noto recently argued that TWC should see "accelerating growth" in 2008 but said the company will focus on integrating the Adelphia systems this year. He said because of this, the stock earns only a "neutral" rating as he estimates its upside to be 20%, compared with his 30% upside estimate for Comcast.

But there also are analysts who see TWC as a stock that investors should definitely buy.

Deutsche Bank Securities analyst Doug Mitchelson just initiated coverage of TWC shares with a "buy" and a $46 price target, which implies solid upside. The stock "could be a strong performer," he said in a report.

Among the possible catalysts for shares are the launch of telephony services in acquired systems, a future run-up in free cash flow in upgraded former Adelphia systems, the planned launch of services for small and medium businesses and the "potential for a sector valuation rebound given positive industry dynamics."

Mitchelson estimates that the newly acquired systems could pose a $1 billion operating cash flow opportunity for TWC.

Last week, Merrill Lynch analyst Jessica Reif Cohen also initiated coverage of TWC shares with a "buy" rating and a $45 price target, arguing the stock "represents an attractive valuation entry point at current trading levels."

She nonetheless acknowledged that the Adelphia acquisition "includes significant execution risk" as TWC seeks to narrow an operating margin gap between acquired systems, where margins run at about 28%, and historical TWC systems, where the margin is about 38%.

TWC executive vp and CFO John Martin recently detailed how considerably weaker the financial position of the recently acquired systems is than that of the older TWC systems. For example, monthly average revenue per basic cable subscriber in the new systems is $18 below that of the legacy TWC systems, Martin said. In terms of margins, Los Angeles and Dallas are even five to 10 percentage points lower than the rest of the newly added systems, he added.

Nonetheless, Reif Cohen expressed confidence that the management team will slowly but surely bring the acquired systems up to speed.

Overall, she said in echoing many of her Street colleagues, the Adelphia integration is the "valuation linchpin" for the future of TWC shares.
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