Should I buy shares in Cable & Wireless Worldwide?

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Without a potential takeover by Vodafone (VOD), investors in Cable and Wireless Worldwide (CW.) would not have much to smile about.

Thursday's interim update revealed that trading in the last quarter of 2011 was in line with management expectations and the full year outlook remains unchanged.

The group also confirmed it was on track to increase hosting capacity in the UK and overseas in response to a rise in hosting sales pipeline. It even has a written commitment for a £260 million refinancing of the revolving credit facility.

But then things could only get better after 2011.

No dial tone

Last November saw the company post a big drop in profits to £35 million in the first half, compared to almost double that figure a year before.

No-one was surprised, though, as this news followed three profit warnings in the last year in the wake of exceptional items totalling £624 million, including a "goodwill impairment" of £436 million.

Investors were told that the 0.75p interim dividend would be the last for a while.

The beleaguered company appointed Vodafone man Gavin Darby as chief executive. Darby is certainly no slouch. His past life includes running Vodafone's businesses in the USA, Africa, India and China as well as a 15-year stint with Coca-Cola (KO).

It was a decision that was bound to please shareholders, many of whom were delighted to see the back of previous incumbent John Pluthero, who made £2.8 million in 2010 despite a 70% drop in the firm's share price.

New broom

Darby's review of the business is ongoing, with the objective to focus on delivering sustainable cash flow and improving returns on capital expenditure by reducing operating costs.

"My first three months at Cable & Wireless Worldwide have reconfirmed my initial view that this is a business with significant assets including a strong blue-chip client base and a dedicated workforce committed to delivering for our clients in challenging market conditions," Darby said on Thursday.

He added that he aims to "address our recent underperformance by refocusing our objectives on cash generation and return on capital whilst continuing to deliver for our customers".

Darby said the trading statement was underpinned by progress that already been made in these areas, including a new operational model.

A medium-term strategic agenda will be outlined with a further update in May.

"The company, although in line with expectations, described trading conditions as "challenging", which led to an early exodus from the stock on Thursday morning. However, in light of Vodafone mulling a takeover, CWW remains well bid and investors are evidently confident enough to buy in to the weakness," said Mike McCudden, Interactive Investor's head of retail derivatives.

"Furthermore, with Gavin Darby now in situ as chief exec, you can see that investors believe he is the man to turn the company's fortunes around despite interest from his ex-employer."

Call waiting

Despite its dysfunctional past, Cable & Wireless Worldwide (C&WW ) certainly does some things right; it remains the supplier of choice for 70 FTSE 100 companies.

Its extensive undersea and underground cable network is the jewel in the crown as far as infrastructure-hungry Vodafone is concerned.

Looking ahead, the deal might just see C&WW asset-stripped.

Chris Beauchamp, research analyst at IG Index, noted that C&WW has struggled since it was detached from the profitable Caribbean operations of CWC, and it remains dependant on its carrier operations (in which it carries traffic for other corporate clients).

"It's always been suspected that the business would be easier to dispose of in pieces rather than as a whole, which is what Vodafone probably plans to do. VOD will keep the cables, as it provides VOD with an alternative to having to use BT's (BT.A) cabling, for which it needs to pay a fee. VOD will probably then sell off the subsea cables and hold on to the UK cable network," Beauchamp predicts.

Killik and Co say that For Vodafone, a deal would enhance its corporate business, reduce its network costs, and bring tax synergies.

"We therefore believe that Vodafone could justify a paying a price well above the current level.  However, given that the process is at a very early stage – a decision must be made by 12 March – there is clearly a risk that a deal is not forthcoming, and that the shares will fall back."

AlphaValue, in its detailed analysis of the potential takeover, said that whatever the operational merits C&WW shareholders will be happy to know that, on a cash-financing basis, it would take more than a 200% premium to last Friday’s share price of 19.8p  to see any hint of a negative impact on Vodafone’s EPS.

“C&WW looks like a perfect target in a world likely to chase extra networking capacity as data flows swell just about everywhere,” it said, adding: “Assuming no competition concerns, the deal is a no-brainer for Vodafone and its shareholders. It is certainly excellent news as it shakes up a too complacent industry ripe with free cash flows.”

Could it survive alone?

A great deal is riding on Darby in more ways than one. If he can stabilise and turn around this wounded beast then he may even find that Vodafone is not the only bidder for the company.

Recent reports in The Sunday Times suggested private equity firm Apax is already showing interest.

Beauchamp believes that to survive alone, C&WW needs to complete the integration of the two UK telecoms companies bought last year and requires a period of stability post-Pluthero.

"More rational use of its cable network might not be a bad thing either, perhaps with C&WW looking to become a niche provider to a major industry that requires significant data provision," he said.

"Come and get me, Vodafone..."

On the Interactive Investor discussion board for C&WW, user 'foglight' commented: "This is very much a holding statement with things going as expected and non-committal. Good textbook stuff like concentrating on cash flow, costs etc. A sort of statement that says 'come and get me Vodafone while I'm down and before the outlook improves too much' imho (26.63p)".

Meanwhile, ‘drfuzz’ took an in-depth look at the approach Vodafone might take: “Let's take a step back for a moment, forget we are shareholders, stop speculating about how much CW is worth or how much we'd accept and look at it entirely from the side of VOD (which actually isn't so hard for me as I own VOD too).”

Our in-depth look at individual equities as they hit the news provides you with reaction as stocks soar or plummet, to help you decide whether to buy in or bail out. To find out how to spot the bargains and avoid the duds, read: Should I buy shares in...?

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.