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number cruncher

What are we looking for?

Relative value and growth from cable and telecom companies.

The screen

Over the course of the current six-year bull market, U.S. cable and telecom firms have typically traded at price-to-earnings ratios above their Canadian counterparts – the S&P 500 telecom index P/E had an average premium over the S&P/TSX telecom index of 12 per cent.

Since the end of November, 2013, however, Canadian telecom valuations have been well above those of the U.S. players. If we look to the enterprise multiple, which takes a firm's total enterprise value divided by EBITDA (earnings before interest, taxes, depreciation and amortization), Canadian telecoms have traded at consistently higher valuations for almost the entire period.

To help cut through some of the mixed signals in the cable and telecom space, my colleague Lawrence Ullman and I wanted to search for firms at reasonable valuations supported by higher profitability and improving expectations. Specifically, we screened Bloomberg to list the top 10 cable and telecom stocks from the S&P 500 and S&P/TSX composite with the best combination of the following metrics:

– forward 12-month EV/EBITDA;

– forward 12-month P/E;

– free cash flow yield;

– return on invested capital;

– operating margin (operating income as a percentage of total revenue);

– three-month consensus earnings estimate revision.

More about the Ullman Group

The Ullman Group is an independent provider of strategic private capital management services to high-net-worth individuals, corporations, endowments, charities and foundations. With a collective 50 years of experience, our clients benefit from a rigorous and active investment management style. We are guided by our commitment to preserving and growing our clients' assets in challenging market conditions while still ensuring that they participate in full market cycles.

What we found

To test the strategy, we used Bloomberg to perform a back-test starting March 31, 2005, reselecting and equally weighting the 10 cable or telecom stocks that best met the criteria above. Over the 10-year period, this strategy would have generated an annualized total return of 15.8 per cent (in Canadian dollars) or 15.3 per cent (in U.S. dollars). Over the same period, the S&P 500 total return index had an annualized return of 8.5 per cent (Canadian) and 8 per cent (U.S.).

The opinions expressed in this report are those of the authors, and readers should not assume they reflect the opinions or recommendations of Richardson GMP Ltd. or its affiliates. Investors should contact a professional or do their own research before investing in any of the stocks shown here.

Craig McGee, CFA, is a portfolio manager and Lawrence Ullman, MBA, is director, wealth management and portfolio manager with The Ullman Group at Richardson GMP in Toronto.

Cable and telecom companies