What a brutal six months it’s been for Optimum Communications. The stock has dropped 26.5% and now trades at $1.55, rattling many shareholders. This was partly driven by its softer quarterly results and may have investors wondering how to approach the situation.
Is there a buying opportunity in Optimum Communications, or does it present a risk to your portfolio? Get the full breakdown from our expert analysts, it’s free.
Why Do We Think Optimum Communications Will Underperform?
Despite the more favorable entry price, we don't have much confidence in Optimum Communications. Here are three reasons we avoid OPTU and a stock we'd rather own.
1. Decline in Broadband Subscribers Points to Weak Demand
Revenue growth can be broken down into changes in price and volume (for companies like Optimum Communications, our preferred volume metric is broadband subscribers). While both are important, the latter is the most critical to analyze because prices have a ceiling.
Optimum Communications’s broadband subscribers came in at 3.81 million in the latest quarter, and over the last two years, averaged 4.2% year-on-year declines. This performance was underwhelming and implies there may be increasing competition or market saturation. It also suggests Optimum Communications might have to lower prices or invest in product improvements to grow, factors that can hinder near-term profitability. 
2. New Investments Fail to Bear Fruit as ROIC Declines
ROIC, or return on invested capital, is a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).
We like to invest in businesses with high returns, but the trend in a company’s ROIC is what often surprises the market and moves the stock price. Unfortunately, Optimum Communications’s ROIC averaged 4.3 percentage point decreases each year over the last few years. Paired with its already low returns, these declines suggest its profitable growth opportunities are few and far between.
3. High Debt Levels Increase Risk
Debt is a tool that can boost company returns but presents risks if used irresponsibly. As long-term investors, we aim to avoid companies taking excessive advantage of this instrument because it could lead to insolvency.
Optimum Communications’s $26.21 billion of debt exceeds the $1.01 billion of cash on its balance sheet. Furthermore, its 8× net-debt-to-EBITDA ratio (based on its EBITDA of $3.34 billion over the last 12 months) shows the company is overleveraged.
At this level of debt, incremental borrowing becomes increasingly expensive and credit agencies could downgrade the company’s rating if profitability falls. Optimum Communications could also be backed into a corner if the market turns unexpectedly – a situation we seek to avoid as investors in high-quality companies.
We hope Optimum Communications can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.
Final Judgment
Optimum Communications falls short of our quality standards. Following the recent decline, the stock trades at 7.8× forward EV-to-EBITDA (or $1.55 per share). This valuation is reasonable, but the company’s shaky fundamentals present too much downside risk. There are better investments elsewhere. We’d suggest looking at a dominant Aerospace business that has perfected its M&A strategy.
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