Source: Frontier.
Shares of regional telecom Frontier Communications (FTR) have been on a roll lately. The stock is up 47% over the past 52 weeks, putting a considerable distance between itself and the S&P 500 market barometer.
There's no guarantee that the good times will keep rolling. Past performance is no indication of future results, and Frontier's rocket ride could very well run out of fuel.
That being said, the company and the stock still have a few catalysts left unexplored. Here are the three biggest reasons Frontier shares could rise higher, even from today's generous prices.
Following in Windstream's footsteps
Fellow high-yield telecom Windstream (WINMQ) is turning itself into a real estate investment trust, or REIT. By doing so, Windstream is unlocking more than $100 million in annual free cash flows, lowering its corporate debt, and giving investors a more flexible approach to investing in the company.
It's an innovative move, and analysts expect the idea to spread like wildfire throughout the telecom sector. Nomura Securities analyst Adam Ilkowitz sees a 50% chance that Frontier will follow suit.
If so, Ilkowitz sees the stock rising as high as $9.50, or about 40% above current prices. Now, Frontier hasn't announced any intentions to become a REIT, and the regulatory process to get there is not a slam-dunk "gimme." So keep in mind that Nomura's blended target price for Frontier is a more modest $7.50, taking into account the possibility that the company will stay in its current form.
But the REIT idea makes sense, giving the telecoms an efficient way of managing their substantial infrastructure assets. It's no free lunch, but it is a tantalizing, value-boosting move. I expect Frontier CEO Maggie Wilderotter to at least kick the tires of Windstream's innovative idea.
Growth by acquisition
Frontier Communications is no stranger to game-changing acquisitions. Did you pay attention in 2010, when the company spent $8.6 billion in cash and stock to buy Verizon's (VZ -0.53%) landline operations in 14 states? This is what that transaction did to Frontier's revenues:
FTR Revenue (TTM) data by YCharts
And that's not all. Last December, frontier agreed to take AT&T's (T 1.88%) landline operations in Connecticut off Ma Bell's hands.
This $2 billion transaction is still working its way through regulatory approvals, but it seems to be on track for closing in the fourth quarter.
Verizon and AT&T are doing their best to get out of the landline business, and from here Frontier is more than happy to take over these operations. The two telecom giants still have many more landline markets under management, and Frontier may see some more opportunities to buy its way into revenue growth in the years ahead.
Once again, Windstream's REIT idea must be considered. A two-part Frontier would have more flexibility to seek out further expansion bets, without letting the new debt loads bog down its balance sheet and damage its credit ratings. So, these two points go hand in hand.
Lots of headroom for dividend growth
Frontier offers a fantastic dividend yield today. Standing at an even 6%, it's the fourth juiciest yield on the S&P 500.
It's a great payout, but not a perfect dividend policy. To go with its massive landline buyouts, Frontier has reduced its payout per share twice in the past five years.
Income investors hate dividend cuts. The best dividend stocks don't just offer a great payout today, but also promise to increase the size of the quarterly checks over time.
The stock portion of the Verizon deal diluted the holdings of existing shareholders dramatically. Frontier's share count more than tripled overnight, while payouts per share eventually fell by 60%.
FTR Dividend data by YCharts
Frontier's dividend budget is about 30% larger at the back end of all this.
And here's the good news. The Verizon deal was costly, and it took a couple of years to straighten out the new operations. But it also boosted Frontier's free cash flows by 75%.
Today, the company spends just 47% of its free cash flows on writing dividend checks. In other words, Frontier has all kinds of headroom for increasing its quarterly payouts, thanks to the reliable cash flows from a game-changing acquisition.
