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February 20, 2007

Good Results From Rogers Communications

Rogers Communications (RG) reported very strong 4Q06 results. Wireless was the star performer with margin expansion exceeding analyst estimates. The Cable and Media divisions also performed well with modest beats on both revenues and EBITDA. EPS look to be way ahead of expectations at 28 cents vs. an estimate of 11 cents but RG trades off revenue and EBITDA and based solely on 4Q results it should trade higher.

This is also the time of the year when RG provides full year guidance. I find the guidance to be good but not great relative to expectations. I don’t think that analysts will have any major issues but since it is not a blowout the guidance could dampen the positive impact of the great 4Q numbers. Net-net, I think the quarter and guidance are a winner and RG will continue to trend higher after closing at an all-time high just prior to the earnings report....

RG released 4Q06 wireless subscriber results in January which suggested that margins in wireless could surprise to the upside. Slightly below par gross additions and lower than expected churn implies a focus on the best and most profitable part of the customer base. This turned out to be accurate and margins significantly exceed estimates based on service revenues and profits. Analysts were very impressed on the conference call.

There really wasn't much discussion about cable results in 4Q on the call as revenue and EBITDA growth both came in just slight ahead of expectations at about 11% growth.

Guidance for 2007 calls for consolidated revenue growth of 10-13% for revenues and 12-18% for operating profit. It looks to me like analysts estimates call for 12% and 14% growth so the guidance brackets the estimates. Given revenue and EBITDA growth of 20% and 34% in 2006, I think there was some hope for even higher guidance. This is the only area of concern for the stock coming out of the call but I don’t think it is a big deal. I suspect one year from today RG's 2007 results will be at or above the high end of guidance. In other words, as management noted the guidance is "respectable and achievable." I read that comment as all but saying "conservative."

Breaking down the guidance, wireless is expected to show 15% growth in revenue and EBITDA. The lack of margin expansion was source of questions following about 900 basis points of expansion in 2005. Management noted that it would not get anymore benefits from past merger integration and that they are planning conservatively given the coming launch of wireless number portability in Canada. Analysts seemed satisfied but their models might get tweaked. The big beat in 4Q and 2006 wireless results means that tweaking margins down won’t mean absolute estimates will come down.

On the cable side, 2006 revenue and EBITDA growth is fore cast at 12% and 11% respectively. Management noted that basic cable TV is the most profitable product so the slight margin contraction implied by the guidance is merely mix related as VOIP, high speed internet and digital TV continue to grow. I suspect that as VOIP matures margins will expand again. This guidance should not be an issue with analysts.

One area where guidance looks poor is in the company's business focused telecom operations. I either missed it or it didn't come up on the call but the company is calling for a $40 million decline in EBITDA in 2007 to just $10 million. It is not a big deal since total EBITDA is at $3.4 billion.

One interesting line of questioning concerned RG's sudden emergence as a significant free cash flow generator. 2006 marked the first time RG even had meaning free cash flow at $543 million. Guidance calls for $800 million to $1 billion in 2007 although management made mention that $1 billion was very realistic. RG is fast becoming underleveraged with $7 billion in debt and $3.4 billion in 2007 projected EBITDA. Management promised to provide an explicit plan for using free cash flow by mid-year. This should be good news for shareholders as acquisitions and significantly more debt reduction were more or less ruled out.

All the numbers in this summary so far are Canadian dollars.

In US dollars, RG is trading at a little under 9 times 2007 EBITDA guidance without adjusting for $1 billion Canadian in free cash flow. I think the stock can hold the current 10.5 multiple on 2006 reported results which equates to a target of $39. That leaves close to 20% upside on what I suspect will turn out to be conservative guidance. Not surprisingly I am staying long.

Posted by Steve Birenberg at February 20, 2007 09:19 AM in RG