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Level 3 Communications Inc. (NASDAQ: LVLT) announced its acquisition of Servecast, an Irish broadband and mobile video provider for $45 million. In terms of the cost of this deal, I wouldn't think much of it. This clearly wasn't an acquisition meant to quickly bolster Level 3's financial figures, considering Servecast only had $5 million in sales in 2006. However, this acquisition should help LVLT in its battle against Akamai Technologies Inc. (NASDAQ: AKAM) in the web video space, even if it is not as significant as the Savvis acquisition. According to one analyst at a hedge fund I spoke to, although this acquisition is rather small in terms of size, he is "sure it will help" as the company becomes a more formidable competitor to AKAM. Anyone who has followed AKAM over the last two years realizes how lucrative the web video space is in today's "Web 2.0" age in which online video is becoming more prominent by the day.
But this isn't what all of you care about! You want investment ideas! While the stock isn't appealing to the deep value investor in me (low multiples, hopefully low debt, etc.), the stock is very interesting and I believe it has tremendous upside potential in the next year and a half as the company's acquisitions finally come to fruition and integration is completed.
That being said, I'd probably wait until after the company announces its second quarter results before establishing a sizable position, although opening a small starter position before the announcement also seems to make sense. I believe the company's second quarter is probably not going to meet expectations from speaking with several analysts who follow the company for private funds. They all agreed that the company is having integration issues and that this will be a "tough quarter" for the company.
However, I don't think that is a big deal. Why? Because the company is a late 2007 and 2008 story more than anything else since this is when the company's recent acquisitions will start to truly benefit the company. As the company has been buying up competitors, there will be less pricing pressure and competition (expect margin expansion). In addition, I think analysts are going to begin upgrading the stock as the story behind the stock (a major player in online video, VoIP, etc.) gains traction and as they realize they are low in their 2008 projections for the company. I believe the company will be able to do about $1.5 billion in EBITDA while analysts are still around $1.2-1.3 billion level. Why is this significant? Because analysts are the main figures in moving stocks. Anyone who watches the market realizes that a stock tends to go up when it beats expectations and vice versa. In addition, as analysts increase their projections for a company, they also increase their price targets (because they apply their multiple to a greater figure).
All this being said, I think Level 3 has the potential to be a $9-12 stock 12-18 months from now.
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