Introduction

United States Cellular Corp.’s (NYSE:USM) lastly issued baby bond is the 7.25% Senior Notes due 12/1/2064 (UZC) issued in late 2015. Since then, neither USM nor the company that owns it, Telephone and Data Systems (NYSE:TDS), have issued any exchange-traded fixed-income securities. Now, nearly 5 years later, USM is offering its new 6.25% Series Notes due 2069.

The New Issue

Before we submerge into our brief analysis, here is a link to the 424B5 Filing by United States Cellular Corporation – the prospectus.

Source: SEC.gov

For a total of 20M notes issued, the total gross proceeds to the company are $500M. You can find some relevant information about the new baby bond in the table below:

Source: Author’s spreadsheet

United States Cellular Corporation 6.250% Senior Notes due 2069 (NYSE: UZD) pay a fixed interest at a rate of 6.25%. The new issue bears a “BB” Standard & Poor’s rating, it is callable as of 09/01/2025, and is maturing on 09/01/2069. UZD is currently trading above its par value at a price of $25.90 and has a 5.86% Yield-to-Call and a 6.11% Yield-to-Maturity. The interest paid by this baby bond is not eligible for the preferential 15% to 20% tax rate. This results in the “qualified equivalent” YTC and YTM sitting around 4.73% and 5.10%, respectively.

Here is how the stock’s YTC curve looks like right now:

Source: Author’s spreadsheet

The Company

U.S. Cellular provides wireless telecommunications services to customers with approximately 4.9 million connections in 21 states collectively representing a population of approximately 31 million as of June 30, 2020. U.S. Cellular’s strategy is to attract and retain wireless customers through a value proposition comprised of a high-quality network, outstanding customer service, and competitive devices, plans and pricing, all provided with a local focus. U.S. Cellular’s business development strategy is to obtain interests in and access to wireless licenses in its current operating markets and in areas adjacent to or in close proximity to its other wireless licenses, thereby building contiguous operating market areas. U.S. Cellular is a majority-owned subsidiary of and is controlled by Telephone and Data Systems, Inc. (NYSE:TDS). As of June 30, 2020, TDS owned approximately 82% of U.S. Cellular’s Common Shares.

Source: 424B5 Filing by United States Cellular Corporation

Below, you can see a price chart of the common stock, USM:

Source: Tradingview.com

U.S. Cellular is not paying any cash dividends in recent periods and currently retains all earnings for use in U.S. Cellular’s business.

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In addition, the market capitalization of USM is around $2.57B (according to Finviz.com).

Capital Structure

Below, you can see a snapshot of United States Cellular Corporation’s capital structure as of the time of its last quarterly filing in June 2020. You can also see how the capital structure evolved historically.

Source: Morningstar.com | Company’s Balance Sheet

As of Q2 2020, USM had a total debt of $1.75B, and with the newly issued UZD, the total debt of the company becomes $2.25B, which are senior to the company’s equity. This makes the Debt-to-Market Cap ratio at 0.88, which is a good ratio, as the company’s market capitalization exceeds the total debt.

Furthermore, we also want to add one more ratio, the Earnings-to-Debt payments. One can use EBITDA instead of earnings, but we prefer to have our buffer in what is left to the common stockholder. The higher this ratio, the better. From the income statement, we can see the company had a net income of $180M for the TTM with $90M paid as interest expense (to which another $31.25M yearly interest expenses for the newly issued baby bond must be added) that translates into a ratio of 1.48, which also is satisfying from a bondholders’ point of view since there is enough buffer for the interest payments. In the next table, we can also see historically how the company performs with respect to its debt payments coverage for the last 5 financial years.

Source: Morningstar.com | Company’s Income Statement

The Family

In this section, I will compare the newly issued baby bond with all other baby bonds, issued by U.S. Cellular and also the baby bonds, issued by USM’s owner – Telephone and Data Systems.

Source: Author’s database

Currently, except for UZD, there are outstanding 3 “babies”, issued by USM and 4 more issues from TDS. From the 7 baby bonds that are trading, 6 have passed their call dates and are anytime callable now, and UZC that is not callable yet reaches its call date in 3 months. By adding that, all issues are trading above their par value and the fact they are anytime callable, results in a negative Yield-to-Call (also Yield-to-Worst) for 5 issues. UZC, that is not callable yet, has a YTW of 2.75%, and TDA, that is the only issue to have a stripped price below $25, is the second issue with a positive YTW of 6.08%, equal to its Yield-to-Maturity. With a YTW of 5.86% of the new issue, UZD has the second-highest YTW, just lagging behind the just mentioned TDA.

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In addition, in the following chart, you can see a comparison between USM’s and TDS’ baby bonds and the fixed-income securities benchmark, the iShares U.S. Preferred Stock ETF (PFF). As all 7 baby bonds are part of the ETF’s holdings, they also behave very similarly to each other. TDI is the only to trade slightly different and to significantly underperform the rest.

Source: Tradingview.com

Furthermore, there is one corporate bond issued by U.S. Cellular:

Source: FINRA | TDS3704564

TDS3704564, as it is the ticker symbol in FINRA, is also rated with a “BB” rating from S&P, pays a fixed interest at the rate of 6.70%, and matures on 12/15/2033, 36 years earlier than the newly issued UZD. With its market price of $131.75, the corporate bond has a Yield-to-Maturity of 3.668%. This, compared to the Yield-to-Maturity of 5.86% of UZD, translates into a yield spread of 2.19% between the two securities.

Sector Comparison

The image below contains all baby bonds that pay a fixed interest rate in the “Telecom Services” sector (according to Finviz.com) with a positive Yield-to-Call. It is important to take note that none of these and baby bonds are eligible for the 15% federal tax rate.

Source: Author’s database

Together with UZD, there are 10 baby bonds that meet the criteria. TDA and CTY are the two to be callable anytime, but their stripped price is above their par value, and thus, their YTC is a positive value.

Source: Author’s database

The 5.86 YTW of UZD, equal to its YTC, currently makes the baby bond the 4th-highest yielding issued in the sector, after CTY, TDA, and CTBB. Still, it is giving 1.96% higher YTW than the average 3.90% for the sector.

Fixed-Rated Baby Bonds

The next chart contains all baby bonds that pay a fixed interest, have a positive Yield-to-Call, and have a maturity date between 30 and 50 years.

  • By Years-to-Maturity and Yield-to-Maturity

Source: Author’s database

Except for a few issues, all other securities trade above their PAR and their Yield-to-Worst is equal to their Yield-to-Call. For the next bubble chart, I’m excluding those three securities to have a clear look at the peer group’s Yield curve.

  • By Years-to-Call and Yield-to-Call
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Source: Author’s database

Non-Investment Grade Rated Baby Bonds

This chart contains all baby bonds that pay a fixed interest, have a positive Yield-to-Call and carry an investment-grade S&P rating.

  • By Years-to-Maturity and Yield-to-Maturity

Source: Author’s database

  • By Yield-to-Call and Yield-to-Maturity

Source: Author’s database

Use of Proceeds

We expect to use the net proceeds from this offering for general corporate purposes, which may include, without limitation, the repayment of indebtedness, the purchase of additional spectrum and the funding of capital expenditures, including in connection with 5G buildout projects.

Source: 424B5 Filing by United States Cellular Corporation

Addition to the iShares Preferred and Income Securities ETF

With the current market capitalization of the new issue of around $500M, UZD is a potential addition to the ICE Exchange-Listed Preferred & Hybrid Securities Index during some of the next rebalancings. It will also be included in the holdings of the main benchmark, the iShares Preferred and Income Securities ETF, which is the ETF that seeks to track the investment results of this index. This is important to us due to its influence on the behavior of all fixed-income securities.

Conclusion

U.S. Cellular, 82% owned and controlled by Telephone and Data Systems, has a debt-to-market cap ratio at 0.88 and earnings-to-debt payments ratio at 1.48. Its newly issued baby bond, UZD, is rated a below-investment “BB” rating from S&P and has a nominal yield of 6.25%. With its market price of $25.90, it has a Yield-to-Worst, equal to its Yield-to-Call of 5.86%. When compared to the other USM and TDS “babies”, it gives the second-highest YTW in the family, just after TDA, as even 5 issues of the group carry a call risk. In terms of the sector, UZD gives a 1.96% higher YTW than the average one.

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Disclosure: I/we 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 Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.



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