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Windstream REIT Move Ruffles Markets

Telco Windstream Communications stirred some financial breezes by declaring it had received permission from the Internal Revenue Service to house its network elements in a real-estate investment trust, a move that would not only allow it to avoid paying millions in taxes, but could shield it from potentially onerous regulations from other government agencies.

The initial news that Windstream had received a private-letter ruling from the IRS that would allow it to place network elements like fiber, copper and central office buildings in a REIT sent its stock and others skyward. Later, investors exhaled a bit. Windstream rose as much as 26% in early trading July 29, ending the day up 12%. The next day it lost 50 cents, dipping 4.2% to close at $11.33 per share.


Stocks of other competitive localexchange carriers, including Frontier Communications and CenturyLink Communications, which might follow Windstream’s lead, saw strong initial gains. Frontier rose almost 22% at one point on July 29, before ending the day with a 10.4% gain. CenturyLink rose 21% before closing with a more modest 5.8% increase that day. Both stocks dipped slightly on July 30.

For the cable and telco TV industry, the thought that a simple maneuver like creating a REIT to contain network assets could help sidestep potentially onerous regulations — including the possibility of Title II classification coming out of the Federal Communications Commission’s Internet neutrality rulemaking — briefly lifted the sector. AT&T rose as much as 5.1% in early trading July 29 before settling down to a 2.6% increase; Cablevision Systems rose as much as 6.9% before closing the day, up 2.3%. Charter Communications, Time Warner Cable and Verizon Communications all rose between 3% and 4% in earlier trading, before closing up less than 1% each.

Elevation LLC media analyst Stephen Sweeney told clients in a note the Windstream transaction “begs the question of whether or not other large telecom and cable companies will try to replicate this structure. While it is certainly possible in the long term, we are skeptical on this happening in the near term.”

Windstream’s REIT maneuver addresses several issues. The company said it would be able to trim debt by about $3.2 billion. And without a heavy tax burden, free cash flow could be applied to offer broadband speeds of 10 Megabits per second to 80% of its footprint and 24 Mbps to 30% of its footprint (twice its current reach) by the end of 2018.

Windstream, for its part, said in a statement that it was not seeking regulatory relief through the REIT filing and will continue to have sole responsibility for meeting its existing regulatory obligations. In announcing the REIT proposal, Windstream argued that the transaction will enhance its ability to meet its regulatory obligations as the company accelerates broadband investments, transitions more quickly to an IP network and pursues additional growth opportunities.

Under the new structure, Windstream would lease back the network from the REIT in an exclusive long-term agreement, paying about $650 million per year.

REIT benefits might not be so easy to achieve at other companies.

MoffettNathanson principal and senior analyst Craig Moffett said Comcast is the only consistent taxpayer in the cable sector. Others, like Charter, have net operating-loss carry forwards (NOLs) that shield them from paying taxes for years.

If Comcast was to place network assets in a REIT, Moffett estimated, it would avoid paying about $2.3 billion in taxes annually. A REIT would help AT&T save about the same each year, and Verizon would avoid paying about $1.5 billion, according to Moffett.

There are drawbacks to the REIT structure. A big one is that REITs must return at least 90% of their taxable income to shareholders, usually in the form of dividends, not plow it into the business.

That factor, and limitations as to how much control over the assets the parent retains, would be problems for Comcast, according to one person familiar with Comcast’s thinking. “A REIT is a separate publicly traded company with its own board of directors, a chairman, a CEO,” the person said. Thus, Comcast “wouldn’t have control.” Comcast officials declined to comment.


Other people familiar with the matter said that merely transferring assets to a REIT wouldn’t shield a telecom service provider from regulation.

“I can’t imagine the FCC would cede jurisdiction” over companies just because they transferred assets to a REIT, said one person familiar with the agency’s thinking.

The FCC might have a say on Windstream’s REIT conversion. According to Sanford Bernstein telecom analyst Paul de Sa, the FCC can review transactions that involve the transfer of assets or a change of control. It is not certain whether or not a REIT conversion would fit those definitions.

Moffett also told clients in a note that “Congressional pushback” is a real possibility in the wake of a rash of REIT moves by telcos and cable.

“It’s hard to envision bipartisan action on ANY issue, let alone fixing the tax code,” Moffett wrote. “But closing a tax loophole that your phone or cable company is exploiting to avoid taxes may be the one. It’s hard to imagine that there wouldn’t be relatively broad populist anger.”