Description

Fifth time’s a charm? We started writing a message on the Loral board, but realized there were so many updates that we decided to do a full post.  We won’t spend too much time on the business background given several prior posts. Loral is a holding company that owns a 63% stake in private, Canadian satellite operator Telesat. Through Loral, you can buy Telesat at a discounted valuation of just over 6x EBITDA or a 20% FCF yield with several incremental call options (C-band spectrum, a new LEO constellation, M&A) that could drive significantly more upside. 

The challenge with Loral has always been timing. After attending the company’s annual meeting in May, we think now is a particularly compelling entry point. We think the next 12 months have the largest number of potential catalysts in Loral’s recent history. While we have more confidence in a combination with Telesat, which will simplify the company’s structure and increase liquidity (more below), Loral now has several other ways to work independent of M&A. For the first time in a years, these other catalysts make Loral less of a pure play bet on whether or not MHR (controlling LORL shareholder) and PSP (other owner of Telesat) can finally come to an agreement.

C-Band Spectrum: Telesat has ~5% of the 500 MHz C-band spectrum in the United States. The FCC is exploring freeing up some of this satellite spectrum for wireless use. Intelsat and SES proposed creating a consortium of satellite operators that would strike private market deals in exchange for forgoing their C-band rights. There is still a long way to go through the regulatory process, but for now this seems the likely path, as opposed to a traditional FCC driven auction. While SES, Intelsat, and Eutelsat have all traded up on C-band prospects, Loral’s stock has drifted down to recent lows, despite in line results. We can only come up with 2 theories. First (our guess for most likely), Loral has no sell-side coverage or public investor calls, and the C-band exposure has simply been ignored by new investors while existing investors have become fatigued waiting for a combination with Telesat. Second, investors have misunderstood why Telesat has publicly pushed back against the Intelsat / SES / Intel C-Band proposal. We believe this is entirely due to negotiating over its share of consortium proceeds rather than some principled attachment to their C-band business.

While we do not think Telesat will be able to extract a massive amount of hold-up value, we do think they should be able to get their share. Importantly, Eutelsat recently announced it was officially joining the consortium showing that Intelsat and SES are looking for support from the smaller players. There are a wide range of estimates for how much net proceeds the satellite operators could receive. To be clear, we think you are paying ZERO for this today. In terms of potential upside, assuming 200 MHz is transitioned to wireless use at $0.35 per MHz-pop, Loral could receive >$20 per share of net pre-tax proceeds through its Telesat stake (assuming no additional hold-up value). To give a sense of the range of outcomes, net pre-tax proceeds to Loral could be as low $5 per share (100 MHz clear @ $0.15) or as high as $125 (400 MHz clear @ $1). We do not have a particularly strong view on the final outcome except that you are paying nothing for it at the current Loral share price, while all the other C-band holders are discounting much more favorable outcomes.  

New LEO Constellation: Telesat is in the process of finalizing the design of their Low-Earth-Orbit (“LEO”) constellation. In January 2018, they launched their first LEO prototype, which secured their spectrum position through the ITU, giving Telesat’s LEO constellation priority rights in the Ka band.  We think it’s unlikely all the planned LEO constellations are ultimately built and, along with OneWeb (which has priority rights in the Ku band) Telesat’s Ka priority rights give the company an advantaged chance of success as well as potential strategic value.

In the next several months, we expect Telesat to down-select to one or two manufacturers and around the same time make an initial announcement on financial partners. We believe the constellation will cost several billion dollars, and Telesat will rely on external funding. We think the company is likely in discussions to shore up a strategic player that will serve as an anchor investor for the constellation. This will allow Telesat to earn an attractive risk-adjusted return for its technology and licenses without risking a substantial amount of capital. While management has been reluctant to provide details, they have made it clear that they expect the LEO project to be a material value driver for the company. We have heard positive reviews on Telesat’s initial designs from other satellite operators, and the company has already signed partnerships with General Dynamics, Gilat, Global Eagle, and Optus. Similar to the C-band, we think you are paying nothing for potential LEO value at the current share price.  

Two Satellite Launches: This summer, Telesat is launching two new satellites, Telstar 18 Vantage and Telstar 19 Vantage (successfully launched on July 22^nd). While part of these satellites will be replacement, they will provide incremental capacity that will allow the company to resume growth. 19 Vantage is already pre-sold to Hughes and Bell Canada for broadband service.

Telesat M&A: For several years, Loral has been exploring ways to simplify the holding company structure. In 2014, Ontario Teachers and PSP were near a deal to acquire Loral for over $80 that ultimately fell apart.

For the last couple years the focus has shifted to a combination with Telesat, which would effectively IPO Telesat and collapse the structure. It seemed like this combination was imminent last year when Loral held off on paying a special dividend and added updated language to their filings on a Telesat combination. Then, we all waited 18 months and still nothing.

At the annual meeting this May, the company gave the explanation that the combination required an in-depth review of Loral’s tax history all the way back to inception. This tax work took a year and was the primary source of the delay, whereas we (and probably everyone else) assumed the delay was because of continued disagreement between the different stakeholders. Management said the tax work was almost done and commented that this past annual meeting would likely be their last. We believe the combination with Telesat will remove the holding company discount and finally trigger the payout of the $8 special dividend, a move that will reduce complexity, increase liquidity and potentially draw some new Street coverage.

Following a collapse of the holding company structure, we think Loral could trade more in line with peers. A 7.5x EBITDA multiple on the core business would equate to a value of $52. Additionally, factoring in potential C-band proceeds and different scenarios for the LEO constellation, we think Loral could ultimately trade to >$80, representing >100% upside.

Catalyst

- New satellite launches drive growth 

- News on C-band

- More details on LEO system

- Structure collapse / M&A