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July 30, 2008

Headwinds Increase For Rogers

I began to sell Northlake's position in Rogers Communications last week ahead of its earnings report. I thought the report would be OK but given growing signs of slowing growth in wireless worldwide, I thought there might be some downside to RCI's numbers. I also thought that it would take a really good report to overcome this sentiment and the Rogers specific worries about recent Canadian spectrum auctions that will lead to increased competition in 2009 and beyond.

As it turned out, my concerns were validated by the quarter and investor reaction. I should have been more aggressive with my selling. I did sell more RCI very near the open but some of my position remains. I think the stock is modestly oversold off the quarter and will look to exit the balance on a rebound to $35-36....

....The quarter was mixed. Revenues were very slightly below expectations, EBITDA was in line, EPS were better than expected, and subscriber additions in both wireless and cable were light. The revenue miss is not material and flows from the subscriber misses. Cost controls were superior driving the margin expansion that led to in line EBITDA. The EPS upside was mostly non-operating. Guidance was maintained.

Net wireless sub growth was 92,000 vs. consensus in the 115,000 range. On the call, management clarified that most of the shortfall occurred following the announcement that Rogers would be selling the iPhone. They stated there was an immediate drop in purchasing. This is somewhat comforting as Rogers has been publicly optimistic about initial iPhone demand. On the call, management noted a similar optimism toward RIMM's new products. However, there are signs of slowing demand and rising competition. In particular, Ontario, Rogers largest market, is being impacted by slower economic growth. Cable sub growth was similarly impacted with the additional impact of renewed response from incumbent Bell Canada.

RCI shares have the potential for a significant rebound but the headwinds from slowing global wireless growth and increased competition specific to Canada will keep pressure on the shares limiting upside in the near-term. There are two catalysts for a recovery. First, wireless subscriber growth could pick up sharply in 3Q thanks to the iPhone and new RIMM products. Second, management could up guidance after reporting 3Q. This is a real possibility given that EBITDA is annualizing at $4.4 billion and guidance in $4.0-4.2 billion. Smartphone subsidies seem unlikely to reach $300 million and if they do it means that sub growth will surprise to the upside and those will be very valuable, high data/high ARPU subs.

While I have high regard for Rogers management and the company's long-term growth profile and I think that 2008 results will exceed guidance, I don’t think the time is right to be long the stock. Thus, my recent and ongoing sale of Northlake's position.

Posted by Steve Birenberg at July 30, 2008 10:21 AM in RG