M1 – CIMB
Margin pressure on the horizon
• In line. 3Q07 earnings of S$43.6m (+1.6% yoy) were 3% below our estimate but 6% above consensus. While there was little surprise in the results, key highlights were: 1) increased competition in prepaid and data plans; 2) cost pressure from higher call and data traffic; 3) capex guidance of S$70m, down from S$100m.
• Data plan and prepaid ARPU declined. Topline of S$200.2m (+5.8% yoy) was primarily driven by subscriber growth. ARPU actually declined for data plans (-21.3% yoy to S$31.70) and the prepaid segment (-12.6% yoy to S$15.90). We believe data plans are facing increased competition from StarHub which launched its HSDPA offering island-wide in 2Q07 while prepaid has to deal with sustained aggression from SingTel. Postpaid ARPU rose (+3.7% yoy to S$61.80) as more customers signed up for mid-tier plans.
• Rising margin pressure to persist into 4Q07. 3Q service EBITDA margin declined 340bp yoy to 46.6% on higher traffic expenses (+60.3% yoy) and leased circuit costs (+19.1% yoy). We do not expect these cost pressures to let up in 4Q07 as M1 faces increased competition from SingTel (prepaid) and StarHub (mobile broadband). We also expect A&P expenses to rise as we enter the year-end festive season and the run-up to mobile number portability.
• Capex guided lower to S$70m. This implies S$44m will be spent in 4Q07 when the construction of the cellular backhaul network commences. The backhaul project is estimated to cost S$40m-60m and should provide some relief to leased circuitcost pressure, especially from FY10.
• Maintain Neutral with an unchanged target price of S$2.40. Our target price remains based on DCF valuation (WACC 7.9%, terminal growth 1%). Our FY07 earnings estimate has been reduced by 8% to reflect higher tax assumptions (18%, based on guidance) and a 50bp reduction in our FY07 EBITDA margin estimate. While M1 remains vulnerable to competition from SingTel and StarHub, we believe downside risk should be limited by forward yields of over 9%.