Why I sold Cogent

Hello All, thejuice here. I wanted to update a previous set of blogs regarding Cogent (CCOI). As previously indicated, I purchased a group of next gen carriers when their EV/Ebitdas got in the 3.5 range. One of those names, Cogent was of particular interest to me as I believed that management needed to purchase approximately 32.1M shares by the end of 2008. Well, that turned out to be incorrect based on a follow-up call with investor relations. Consequently, I went back to the mattress to try and get a better handle on what was going on with their cash position, and what I found I didn’t like; so I sold. Below is a bit of commentary on that decision.

First, here are their results through the year and estimates based on the low end of their range for Q408 and FY09.

				est	est
	q1	q2	q3	q4	YE09
on-net	42,811	44,215	44,243	44,243	175,512
off-net	7,994	8,459	8,995	9,110	34,558
non-core	1,305	1,185	1,356	1,085	4,931
total rev	52,110	53,859	54,594	54,437	215,000
Cogs	-21,958	-22,952	-24,059	-24,059	-93,028
Gp	30,152	30,907	30,535	30,378	121,972
Sga	-15,550	-14,448	-16,403	-15,772	-62,173
core ebitdas	14,602	16,459	14,132	14,606	59,799
Adjustment	16	126	34	25	201
ebitdas, as adj.	14,618	16,585	14,166	14,631	60,000
one-time gain	0	0	9,735	47,000	56,735
final ebitdas	14,618	16,585	23,901	61,631	116,735
Interest	-671	-1,986	-2,159	-3,000	-7,816
working cap	-2,439	-250	5,848	-3,500	-341
Adjustment	-16	-126	-9,762	-47,131	-57,035
cf operating	11,492	14,223	17,828	8,000	51,543
Capex	-9,778	-9,029	-9,515	-6,000	-34,322
core FCF	1,714	5,194	8,313	2,000	17,221
repay cap lease	-6,396	-3,638	-5,571	-8,446	-24,051
mature st invest	0	650	0	0	650
Disposition	22	44	40	0	106
stock option	53	47	21	20	141
exchange rate	245	100	-836	0	-491
FCF, as adj.	-4,362	2,397	1,967	-6,426	-6,424
stock buy	-18,054	-27,994	-11,984	-1,385	-59,417
debt buy	0	0	-9,941	-37,800	-47,741
change in cash	-22,416	-25,597	-19,958	-45,611	-113,582
begin cash	177,021	154,605	129,008	109,050	177,021
end cash	154,605	129,008	109,050	63,439	63,439

Looking at the total revenue line we can see that for all the comments that the current economic winter has not impacted their business, we are looking at around a 4.5% increase in revs this year. That’s much slower than their historical average. Furthermore, they are predicting a 16.00%+ increase next year, and a 25% increase in ebitdas – where is that growth going to come from? Twice this year they have had to reduce guidance; saying you are going to grow that much next year in the current environment smacks of optimism. Since revenues are the key input for FCF I look at the numbers and can’t help but believe the trend is to the downside and further revisions are in the cards.

The other major issue is actual cash flow generation – or lack thereof. These guys are on path to burn approx. 64% of their cash this year and another 28% next year. In fact, they haven’t even created cash THIS year! FCF, as adj. is actually -2k even when you take into account one-time gains associated with dispositions and stock option cash gains. Doesn’t it look like these guys have one-time gains that are just enough to keep their FCF number positive? Hmmm. Their CFO has made comments that the business is generating cash, OK where? Core FCF-type numbers don’t count when the company uses an accounting method that requires you to make big capital lease payments. Also, their current estimates are based on the dollar trading around $1.30 to the Euro. This might be another big problem since I believe we might see parity in the currencies as the EU cuts rates on recent reports of non-existent inflation in the UK.

There are some things I like, they are the low cost provider, they are aggressive and I have heard their sales people knock down walls to make sales (at least the sales guys that don’t churn – they turn over around 25% of their sales force on a yearly basis).

So when would I buy again? Well, sticking to my 3.5 EV/EBITDAS target, which is where the industry traded at a short time ago, that’s a LONG way down from 3.85. Here’s my year-end calculation based on today’s security prices….

CCOI
cash	63,439,000
equity	169,400,000	44,000,000	$3.85
current/other	8,646,000	8,646,000	100.00%
leases	97,559,000	97,559,000	100.00%
1% 14	38,455,292	90,705,000	42.396%
adj. ebitdas	60,000,000	196,910,000
ev	250,621,292
ev/ebitdas	4.177
debt/equity	0.854
debt/ebitdas	2.411

And here’s the same calculation with my buy price….of 2.93.

CCOI
cash	63,439,000
equity	128,920,000	44,000,000	$2.93
current/other	8,646,000	8,646,000	100.00%
leases	97,559,000	97,559,000	100.00%
1% 14	38,455,292	90,705,000	42.396%
adj. ebitdas	60,000,000	196,910,000
ev	210,141,292
ev/ebitdas	3.502
debt/equity	1.122
debt/ebitdas	2.411

Cogent is an interesting company, but they are expensive compared to some of the deals out there…..like SCMR that is selling for less than their cash per share, that’s right folks you get the business for FREE! As much as CCOI might be a deal at ev/ebitdas of 4.177, I think you can buy better stuff for much less. JMHO so feel free to give me a differing opinion, I change my mind all the time!

thejuice.

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