The stock market has gone on a wild ride in 2020. After being down as much as 30% for the year in late March, the S&P 500 staged an incredible turnaround. Despite the economic dislocation caused by the COVID-19 pandemic, the broad market index is on track to end 2020 with a gain of more than 15%.
Telecom giant Lumen Technologies (LUMN) -- formerly known as CenturyLink -- has been left out of the rally. The stock plunged along with the rest of the market in February and March and never bounced back. Lumen shares are down 26% year to date. Even including reinvested dividends, Lumen shareholders are sitting on a 19% loss for the year.
However, the pandemic isn't likely to have any long-term negative impact on Lumen's business. As the telecom company continues to carry out its strategy and business conditions return to normal during 2021, Lumen stock could ring up big gains.
Revenue could stabilize in 2021
Shares of CenturyLink/Lumen have been in a downtrend for a decade due to a long series of revenue declines (excluding the impact of acquisitions). Revenue fell 2.8% year over year on a pro forma basis in 2018 and declined another 4.4% in 2019. Through the first nine months of 2020, revenue fell 3.5%, roughly in line with the recent trend.
The move away from traditional voice service has been the No. 1 revenue headwind in recent years. Additionally, traditional copper-based DSL internet has fallen out of favor, Lumen has been exiting the pay-TV market, and management made a strategic decision to walk away from other low-margin business. Despite these revenue declines, Lumen has used cost cuts to hold earnings before interest, taxes, depreciation, and amortization (EBITDA) roughly stable.
However, there are signs that revenue could stabilize by late 2021. First, Lumen has shed most of the low-margin revenue it intended to jettison. For example, "other" consumer revenue, which includes pay-TV revenue, totaled just $25 million last quarter, down from $71 million two years earlier. Second, the declines in voice and collaboration revenue are moderating, with revenue down 6.8% year over year last quarter, compared to a 10.9% drop in the third quarter of 2019 relative to the prior-year period. Third, consumer broadband revenue has been rising steadily, as growth in pricey high-speed fiber connections more than offsets a lower customer count.
Most importantly, delayed buying decisions by customers who were negatively impacted by the pandemic hurt revenue in 2020, but should provide a revenue boost as economies reopen during 2021. Lumen will also benefit as revenue from some key government contract wins recorded in early 2020 ramps up.
Deleveraging will continue
Lumen is in the middle of a multiyear deleveraging plan that's significantly reducing its debt and interest expense. These efforts have already paid off in a big way, as interest expense is on track to land around $1.7 billion this year, down from $2.2 billion in 2018.
Last quarter, interest expense fell to $409 million, putting Lumen's run-rate interest expense below $1.7 billion. Furthermore, the company has refinanced nearly $1.8 billion of high-cost debt since September. It also has more than $2 billion of high-cost debt that it can pay down upon maturity in 2021. As a result, interest expense will probably fall to around $1.5 billion next year and continue declining thereafter.
Lumen stock could be ready to rally
Today, Lumen stock trades for less than seven times earnings. It's even cheaper relative to the company's free cash flow. Moreover, Lumen's dividend yield has popped above 10%, despite a low payout ratio. All of these metrics suggest that most investors think the company is in a permanent downward spiral.
If Lumen can stabilize its revenue toward the end of 2021, it will provide a key proof point of the company's staying power. Meanwhile, continued deleveraging will reduce the risk level of the stock and support earnings growth. Indeed, with Lumen throwing off enough cash to pay down about $2 billion of debt annually (on top of $1.1 billion of dividend payments), the stock's $10.7 billion market cap seems absurdly low.
Lumen doesn't need to accomplish very much to be a huge stock market winner in 2021. All it must do is continue executing its strategy to reduce debt while stabilizing its revenue and cutting costs. If management succeeds in those relatively simple tasks, Lumen stock could soar in the upcoming year.