I originally valued BOC in December using a “sum of the parts” approach, using EBITDA and industry average multiples, and I was very conservative. I found it slightly undervalued with too small a margin of safety. I also had concerns over management, and I stayed away. But after viewing AlexB91‘s post on VIC, I went back and checked my work.
Let’s recap what I saw originally:
1. Consistent net negative earnings for all years except two. Losses were driven by the insurance and broadband segments. This stock will not be picked up by most screeners until it achieves positive earnings. Prospects for which were unclear to me.
2. A high amount of administrative costs from central management. Over $4M.
3. The existence of a compensation committee.
4. The compensation plan for the CEO(s) includes a base salary of $600,000, plus a performance incentive of 20% (now 10%) of any increase in equity book value above a 6% annual hurdle. Capped at $15M total until 2032. (this bonus cap has now been met)
5. BOC was selling at 85% of its intrinsic value.
Take a look at this income statement for the broadband segment:
Net losses increasing year over year. Rough.
I also saw that the broadband segment has a 30% utilization for their fiber connections, which has been the norm for the past 3 years.
I was misvaluing the broadband segment
I was in basically in agreement with AlexB91 on the valuation of all other segments of the business, but I was not correct on the broadband valuation (the biggest business segment).
AlexB91 rightly points out that the broadband segment is not mature. He sees EBITDA reaching $13.5M–$18.1M at maturity (in 3-4 years). He valued the segment at $143-249M. Whereas I originally valued it at the current EBITDA of $2.9M and a value of $31.9M.
What management told us:
The broadband segment currently has 14,000 fiber subscribers, 37,200 fiber passings, and 31,600 fixed wireless subscribers.
According to the 2023 annual letter they have invested $166.7 million into the broadband business so far.
What Alex adds:
AlexB91 states “CEO Adam Peterson projects a 9% – 11% return (unlevered yield) on all of their existing investment into broadband assuming no further investment.” This is according to his statements during the 2024 annual meeting. If true, that would value the segment (at a multiple of 11) at $182.6M. Which is ~$150M more than I originally valued it.
AlexB91 values it differently than I, from a bottom up valuation of each fiber crossing and each wireless customer, to arrive at a value of $143-249M.
I assume he did the due diligence here and is comparing comparables, doing his own research, etc. And if so, that adds $4.55 per share and increases my valuation to $22.02/share and a discounted price of 68% of intrinsic value, which is much more attractive. Being very conservative (without pricing in the other free options that exist here like SKYH appreciation) this appears to be very similar to LLYVK and thus a buy.
Management is not communicating well with shareholder or the market
If my valuation experience is indicative of the market’s approach, then it is clear that a misvaluation of the broadband business is the main driver of BOCs current discount. My original skepticism was driven by the fact that history is littered with fiber companies that have overbuilt and ended up with long strings of unprofitability and at times a net negative valuation. I think based on this generalization, the market is discounting the unique qualitative factors associated with BOC. (market segmentation, federal loans, etc.)
The CEO somewhat addressed this broadband valuation issue in his 2023 annual letter.
“Important to understand is although we have increased fiber subscribers to 9.6K in 2023, our fiber passings that are not yet customers have also grown significantly. When thinking about our passings, shareholders should understand that capital invested is not yet producing revenue or cash flow but has the prospect of doing so in the future. How many and the timing of those potential new customers depends on where these builds are and the type of fiber projects they are. Project types can vary from a greenfield HOA deal where we expect an exceedingly high penetration rate once homes are finished and sold, to brownfield projects where we believe ending take rate will be attractive, but not 90%+.“
Originally, what concerned me here was that management was not clearly communicating what matters most to the shareholders. To properly value the business, shareholders would need to know more about the broadband segment’s ARPU, take rates, cost per passing, gross margin broken down by project types. And yet the only thing I found about this in their SEC filings was a few slides in their presentation to shareholders slides 10-12: https://www.sec.gov/ix?doc=/Archives/edgar/data/0001494582/000143774924029649/bomn20240919_8k.htm
These slides go over key metrics for 3 types of broadband projects, but stops there. It doesn’t answer how much infrastructure is dedicated to each type of project or project status. Consider that management stated that they expect a return of ~10% on their total broadband investment, but only show investments that are 20%+ in the deck. That means that there are other projects in their portfolio that must poor ROI projects. Then again, on the positive side, now they have likely learned which projects to avoid, and future returns would be more in line with the 20% number.
Generally when I read communications from management, I find the most useful information is that which management chooses not to disclose. Especially information that they brought up in the past, but stopped mentioning.
Also when management talks about “prospect of doing so [achieving future cash flows] in the future” instead of actual data or strategy, that raises red flags in my mind.
In the 2024 annual meeting, shareholders thanked management for providing useful information, and management replied that they will be more transparent going forward. So I will look for these slides in the next presentations to shareholders in the 2025 annual meeting.
CEO Adam Peterson owns ~7M out of 31M shares. I don’t understand why he is not trying to be transparent and close the discount to value, surely he would benefit the most.
Perhaps with the incentive goal being met it is not a priority. Perhaps he is worried about competition, which is an understandable reflex.
However, it’s clear to me that the broadband segment is one in which BOC can build a sustainable competitive advantage. After recently re-reading Greenwald’s Competition Demystified I thought of BOC. The small local markets they invest in lend themselves to domination. in those markets they possess a protected supply side advantage. They are in a business with high upfront fixed costs. And there are high barriers to entry that entrench the first mover. This is because the unit/project economics of this business do not work for any newcomer who will face low or uncertain utilization rates.
Why does this discount exist? Why am I on the right side of this trade?
- With (increasingly) negative earnings this stock does not look great on a cursory view (like in my first evaluation). This stock will not show up in screens.
- Investors that look past the bottom line will find questionable actions by management (compensation, resignations, etc.), scaring them away from the stock. This stock has bad press and sentiment.
- Investors that look past this do not have information to properly value the business (unless they attend the annual meeting). The discount is based on an information asymmetry.
- BOC is investing heavily in broadband, a sector that has been historically overbuilt and littered with the likes of WorldCom, T-Mobile’s Wireline Business. This stock is in an unfavorable sector.
- This is a conglomerate with disparate segments and investments. This stock is moderately hard to value.
There will be no near term catalyst
Two things could catalyze the discount to intrinsic value.
- Management clearly communicates the status of it’s broadband segment to shareholders. Lay out timelines and status of projects. (Unlikely)
- EBITDA flows through to the income statements (3+ years away).
A catalyst is 3+ years away and that will be only driven by realized EBITDA growth.
I believe that BOC sells at 68% of intrinsic value. I believe growth of the annual intrinsic value of the business going forward (outside of SKYH) will be greater than ~10%.
I do not think management is being malicious, but I do not expect management to be more transparent with reporting on its broadband operation. On the flip side, that lack of transparency is also what provides us with an opportunity. I think 3 years from today the intrinsic value of BOC will be at least 2x its market price today (excluding SKYH appreciation).
Takeaway
Stocks like this that have hair on them and look like roadkill on first glance, but that show great value on further review (see: attending annual meetings) are exactly the types of stocks that I am interested in. Also the fact that AlexB91’s original post was downvoted and attacked in the comments (for unclear reasons) further indicates a mispricing to me. This stock is hated. I think the members of VIC hate it (like I did) because the management does not live up to the standards of Warren Buffett. But that isn’t the question. The question is whether this is a good investment, and I think it is (for the short term).
Bought at $13.69 on 1-7-25
Leave a comment