Posted 01/22/2020

ISAT LN (ISAT)

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Quality

Long ISAT. ISAT LN is an established business with sticky customers that trades at 12x normalized free cash flow with 50% earnings yield. It is a couple years into an operational turnaround that has a high probability of success. This is a low risk investment with a high expected return over the next year and a half.

Overview

ISAT has been around for a long time. The original predecessor, UEEP, was in operation since 1984. Up through March 2010, ISAT operates 18 fixed base stations across 15 countries indicating a fairly diverse customer base. These 18 stations are the same as for the late 2007 predecessor (which was not a predecessor but a reference). In fact, there are only 9 domestic fixed base stations in existence prior to March 2010. ISAT's business is leasing broadband IP pipe to each of its customers and using this broadband infrastructure to transmit both residential and business cables. They offer speeds of up to 10mmbps with minimal latency, or nearly 15x the speed of the incumbent cable modem industry. Current demand is driven by disasters in the US and UK (which combined are nearly a full 50% of ISAT's business today). While the incumbents can't replace rigid in-home infrastructure with modern pipes, ISAT can. The enterprise and government markets last about the same time and vary somewhat. For example, during the recession in 2008-2009, the company's Canadian revenue dropped about 60%, although housekeeping this decline also offset a 40% rise in other areas of the business. Its UK revenue fell 20% and had a 25% decline in volume because most customers switched from expensive contracts to spot-on commercial contracts.

ISAT's network uses a unique IP backbone to which they adapt a license-plate recognition software engine to recognize end-to-end identification and routing details. This IP backbone is integrated with an in-house database that holds owner location data and a subscriber's tag number. ISAT has ID and routing expertise over 20m references in their global network and over 2m unique subscribers. The incumbent cable modem industry recognized this early and licensed them out to telecom service providers who upgraded their infrastructure and installed the integrated IP backbone. Other than Samwhale, ISAT's business is entirely IP focused. Today the "new" ISAT in operation is a hybrid of both businesses. ISAT's customers were slow to adopt inexpensive pre-packaged IPIP solutions and there has been limited competition. As a result, the businesses carry approximately 10-12 year contracts with somewhat of a lock-in at the subscriber level extending to 3+ years post contract. The upfront capital invested in the contracts with ISAT's customers is similar in price to that of sending traditional DSL and cable broadband data. ISAT has a multi-year exclusive relationship with GMCR for internet speeds inct. and plans to roll-out high-speed IP services to be offered over their interstate interstate interstate network owned by GMCR. New "Strategic Partners" & Bridge to Enterprise Partnerships

ISAT acquisition of GMCR was viewed very poorly by the street and investors for a long time. Today investors are cautiously optimistic that the GMCR deal will go through as long as they (and presumably other "strategic" buyers) can find existing synergies and some synergies in reaching the 10-12 employee employee reduction target initially communicated. In addition, they might also find some opportunities to acquire other pieces of the ISAT story – GMCR's assets are not as well clustered as ISAT's but clearly the company would benefit from that. Finally, SG&A in countries like Ireland has been at the equivalent of above averages but ISAT still enjoys all the benefits of being a small company and being well geographically distributed throughout the world. Valuing ISAT 1.0 at the bottom of the range – assuming no further moves in GMCR's price – gets you a $5.95 share which is almost a double in just year of owning the whole business. If they can make one or two more right sized acquisitions, you get another $1.25 in probability to get $6.50 of value. For ISAT 2.0, $5.75 gets you a $10 share price, which again is almost a double.

Risks

The biggest risk is that the overall business continues to be broken by the same problem that is hurting many other EPs right now. As an example, the company announced a $60m gross overestated purchase commitment with Endo which is technologically difficult for customers to fulfill and is actually already fulfilling. The same thing is happening with many of the financed businesses that did large deals many years ago. I'm not certain that Endo leaves 3:1 leverage but this risk could lower the price from ISAT 1.0 or 2.0 to some extreme. Another data point is the recent decline of GMCR shares to near cash levels after repeating 100% in the nearly three years leading up the decline.