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By Tom Winnifrith, The Sheriff of AIM | Tuesday 27 December 2016
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from ShareProphets). I have no business relationship with any company whose stock is mentioned in this article.
Avanti Communications (AVN) finally published its annual report for the year ended June 30 2016 at 2.22 PM on the last Friday before Christmas, 112 minutes after the stockmarket closed. It is packed full of red flags which perhaps explains the publication at no-one is watching O'Clock. So let's start with an admission of what a crap business this is - the metrics on HYLAS 1.
This satellite went into orbit in 2011 and thus it has already been flying around the earth for five years. In eleven years the gas runs out and it is just another useless piece of junk in space. For the first time Avanti felt it necessary to review the carrying value of its asset but, oddly, decided that, notwithstanding the failure of Hylas 1 to come anywhere close to hitting its business targets, there was no need to impair.
Avanti writes that the reviews was based on:
Estimates of future cash flows originate from the detailed budget for the year to 30 June 2017 as reviewed and approved by the Board.Forecasts for the subsequent periods assume a ramp-up of satellite capacity sold over the remaining useful life of the CGU, derived from a combination of contractual ramps, development of existing customer relationships, and a modest underlying growth assumption in utilisation in addition to those factors of approximately 1.5% per annum. When the ramps with signed contracts mature over the coming 12-18 months, the HYLAS 1 satellite will be approximately 60% utilised. Further growth from new and existing customers is expected in addition to this and has been included within the forecast cash flows. The present value of cash flows is calculated by discounting the cash flow at 10%.
The estimate of future cash flows resulted in significant headroom over the carrying value of the CGU. Sensitivity analysis was carried out by management over assumptions made in the impairment model relating to yield, growth in utilisation and the discount factor applied.
It was identified that, all other assumptions being consistent, headroom would be eliminated by a:
70% increase in discount factor applied; or
40% decrease in forecast yield ($/MHz per month); or
scenario in which uncontracted capacity is sold at a significantly slower rate than forecast.
The above scenarios are not considered likely and the risks that they represent are considered to have been appropriately included in the impairment review.
What this company is saying is that, it now has visbility which will see the satellite running at 60% capacity six and a half years into its 16 year useful life. Can you imagine any other business thinking that such a low rate of utilisation so far after it opened up for trade was acceptable?
The company's review of the carrying value, it admits, may be suspect if yields on capacity sales fall or if capacity is sold at a slower rate that forecast but Avanti says this won't happen. WTF? The past five years has shown both a collapse in yields on capacity and also far slower sales than forecast. That is why Avanti is in the mess that it is in now. As the FCA wants us to know "past performance is no guide to the future." But usually, in business, it is a very good guide.
Is a 10% discount factor the right discount factor given the yield on Avanti's debt. If it is having to pay a stack more than 10% for its junk bonds ( which it is) surely that should be reflected in the discount factor applied?
There is every chance that yields will continue to collapse and as for Avanti actually hitting its sales targets? I suppose there is a first time for everything. The good news is that in eleven years time there will be no need for an impairment review, the asset will without doubt be worthless. the bad news is that based on its current cash generation it is probably already worthless - certainly it is worth less than the debt mountain associated with it.
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