Is Windstream the Perfect Penny Stock?

Low-priced stocks are often low-priced for a reason: they have significant problems to overcome. Yet for those that have fixed their problems, they may be ready to take off to the next level.

At Motley Fool CAPS, a "penny stock" is any stock trading under $10, and you'll find some of the best CAPS All-Stars regularly seeking out winning single-digit investments. We identify them with a penny icon and by pairing up their opinions with some top companies trading for pennies on the dollar (relatively speaking), we may end up with more than just chump change.

Of course, just because a stock is low priced, isn't necessarily enough to suggest it will have an easier time recording big gains. Low-priced stocks are often low-priced for a reason. But this week we look at rural telecom provider Windstream (NAS: WIN) , which has seen its shares fall 18% over the past year and is now trading just under $10 a share, but is still garnering top honors at CAPS.

Windstream snapshot

Source: Motley Fool CAPS.

Growth is growth
Pursuing a growth-by-acquisition strategy has the ratings agencies worried Windstream will run into severe headwinds. Its December acquisition of PAETEC, for example, added $1.4 billion in debt to its already heavy burden. It has only $64 million in cash to offset almost $8.9 billion in long-term debt, and was seeking about $900 million in additional terms on its loans, though Standard & Poor's foresees it using most of the proceeds to repay outstanding balances on its revolver.

Moody's is also worried Windstream is stretching itself thin, like too little butter on toast. With a high dividend payout, there's little room for error in the telecom's operations and it leaves Windstream -- and its investors -- with "a narrow margin of safety."

Some are more equal than others
What Windstream does have going for it is a leading position in rural and less competitive markets, but it risks diluting that strength by expanding beyond those confines. It's caught between the need to grow but entering areas that are filled and already strained competitively by the presence of AT&T (NYS: T) , Level 3 Communications (NAS: LVLT) , and a host of other competitive local exchange carriers, or CLECs.

According to the market researchers at Global Industry analysts, the global telecom industry is expected to hit $1.8 trillion in the next few years, with the bundling of local, long distance, and Internet access for enterprise-level businesses a "burgeoning" growth opportunity. It will supplement the traditional small- and medium-sized businesses the CLECs currently cater to. Windstream is spending $1 billion this year to expand its network, with much of that focus on data centers that use the network.

It's also offering new services to business, continuing to boost its efforts to expand VoIP, cloud services, data bundles, data center services, and expanded distribution channels. Analysts view this as a chance to improve the revenue it receives from the segment, even going so far as to alleviate competitive pressure put on the telecom. But it moves into territory already occupied by Frontier Communications (NAS: FTR) and CenturyLink (NYS: CTL) , which witnessed the same challenges of trying to emphasize higher-margin services like broadband Internet to their traditional landline customers.

Out of time
At 24 times earnings it looks expensive compared to its rivals, which trade around the mid-teens, and when seeing how its enterprise value stacks up, Windstream also offers a lofty 24 times its free cash flow.

Still, its financial situation seems dicey and its penchant for buying up smaller rivals presents its own host of issues, not least of which is the company keeps adding on debt. I'm hesitant to think it can outperform the market averages, but you can tell me in the comments box below or on the Windstream CAPS page if you think this penny stock telecom play makes perfect "cents" for your portfolio.

Make some change
A dividend yielding north of 10% highlights the risky nature of an investment in Windstream. However, The Motley Fool has found nine solid investment plays that won't cause you to lose sleep. Get your copy of this free report, "Secure Your Future With 9 Rock-Solid Dividend Stocks," by clicking the link and downloading it today. Did I mention it's free?

The article Is Windstream the Perfect Penny Stock? originally appeared on Fool.com.

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