OTELCO (OTT)

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RBC Capital Markets lowered its rating on shares of Otelco Inc. (Nasdaq:OTT : 5.31, -0.38), an incumbent wireline telephony provider, to "Underperform" from "Outperform" and price target to $5 from $17.

The company disclosed that Time Warner Cable is unlikely to renew a wholesale voice contract with Otelco. Time Warner Cable represented 11.7 percent of 2011 aggregate revenues, or $11.9 million of network access revenue. In addition, the company announced that it will not pay the $0.705/EIS unit annual dividend beginning 2Q12; the $0.975/EIS unit interest payment will be paid.

Otelco provides wholesale voice services in Maine and New Hampshire to Time Warner Cable, for which it received network access revenue for Time Warner voice traffic originating within and terminating outside the two states, as well as intrastate voice traffic between Time Warner and third party carriers. The contract non-renewal suggests that Time Warner will insource the services currently provided by Otelco (i.e. interconnection w/other voice carriers, operator services, E911/411, directory assistance) resulting in the lost revenues.

The contract expires at year-end 2012, and as such RBC lowered its 2013 revenue/adjusted EBITDA estimates to $86.8M/$37.4M from $98.8M/$42.5M previously. RBC wrote that its estimates largely reflect the Time Warner revenue loss, yet there are several uncertainties from the contract termination, including the contract's margins and the magnitude of additional revenue/cash flow pressures from a likely loss of terminating access revenue loss paid to Otelco by long distance (LD) carriers.

The brokerage believes that possible impediments include potential access-line and network access revenue erosion due to competition and technology substitution, the inability to significantly increase its high-speed Internet or long-distance penetration or to successfully integrate its recent acquisitions. In addition, we believe changing regulatory dynamics, interest-rate shifts, major shareholder selling, or changes in sentiment toward high-dividend-yield securities represent potential impediments.

On Tuesday, the stock retreated 15.92 percent to trade at $5.60. Shares have been trading between $5.55 and $19.69 over the past year.
http://www.istockanalyst.com/finance/story/5798305/rbc-capital-lowers-rating-on-otelco-ott-to-underperform-pt-5