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Warwick Valley (WWVY) is a regional telephone company that provides telephone and online services to residential and business customers. An improved business landscape, strong finances, and a recent acquisition should lead to improved sales and earnings, which makes this stock an attractive offering. Its main appeal, though, is the well-covered, rising, and very generous dividend.

Why Invest In Warwick?

Most market watchers would agree that there will probably be a fair amount of stock market volatility over the near term. The global economic soft patch experienced in the second quarter is proving deeper and more entrenched than many investors expected. Warwick provides a certain amount of certainty, given its stable business model (see below) in affluent and fast-growing markets (parts of central and southern New York and northwestern New Jersey). The Beta is low (.45), and its Stock Price Stability rating, a proprietary Value Line measure, is relatively high. Moreover, the stock’s Safety rank, another Value Line metric, is  Above Average.

The company’s long-term debt-to-total capital ratio comes in at a very low 2%, and working capital has been consistently healthy. More important, cash flow per share is expected to head back into the $2-a-share territory this year, which should amply cover the recently enhanced quarterly dividend payout. At the time of this article’s writing, the dividend yield stood at 7.4% ($1.04 a share).

In addition, although this stock is unlikely to match the market averages over the next six months or so, its modest long-term appreciation potential is reasonably attractive when compared to most small-cap equities under our review.

Strengthening The CLEC/Cloud Business

Despite increased customer demand for hosted voice and software applications (movement to “The Cloud”), Warwick found that organic revenue growth wasn’t sufficient to replace lagging incumbent local exchange carrier (ILEC) revenue. As a result, on July 14th, the telephone company agreed to buy Alteva, a cloud-based unified communications (UC) carrier, based in Philadelphia, for $17 million. This sum comprises $11 million in cash, $4 million in stock, and $2 million in performance-based payments over the next 18 months.  The deal is subject to the customary FCC and shareholder regulatory approvals, but is expected to close within the third quarter of 2011. Following the closing, Alteva will be integrated into USA Datanet, Warwick’s competitive local exchange carrier (CLEC) business. The acquisition should help the company capitalize on the growth that both providers have been experiencing in the UC industry.  Alteva should increase Warwick’s revenues by 30% a year, with a 35% enhancement in operating cash flow. This may be greater should cost savings associated with operating synergies, and increases in business volume kick in over the next year or so. The deal is expected to be accretive to the bottom line within the first year of the amalgamation. Over the longer term, Alteva should enhance Warwick’s CLEC and ILEC franchises, as well as improve its profitability.

Conclusion

An investment in Warwick would be a defensive one in a turbulent market environment. The company is thinly covered, and in our opinion, not selling at a premium. The issue’s capital appreciation potential has improved pursuant to the Alteva agreement, although it is unlikely to match the market averages over the pull to 2014-2016. Still, given the Above Average Safety Rank, we consider the stock’s downside risk to be less than average. This is a good selling point in today’s uncertain equity markets.

Of importance, the common dividend provides a great deal of appeal. It has increased at a 10% average annual rate for the past three years, and will probably continue to do so, thanks in part to the Orange County-Poughkeepsie Verizon wireless partnership. This agreement enables Verizon to convert Warwick’s wholesale partnership into a retail operation, which not only includes 4G, but all future generations of wireless services. In return, WWVY is guaranteed significant payouts for the next two years and beyond. It has stated that it will use this influx of cash to sustain its commitment to its shareholders in the form of a common dividend.

At the time of this article’s writing, the author didn’t have any positions in any of the companies mentioned.