M1 – CIMB

Recovery expected

4Q08 results preview

We do not anticipate any major surprises in M1’s 4Q08 results which will be released tonight. We expect its core net profit to rise 6.8% qoq but slip 3.2% yoy, on the back of revenue growth of 3.3% qoq but decline of 1.8% yoy. We expect EBITDA margins to improve to about 39% in 4Q (from 38% in 3Q) as the effects of mobile number portability (MNP) fade from the system and as subscriber acquisition and retention costs (SARC) normalise. FY08 core net profit is projected to decline by close to 10%, at the extreme bound of M1’s guidance of a single-digit decline.

Expect some dividends. M1’s commitment to a minimum 80% payout should theoretically entail a further cash return in 4Q08. Our numbers suggest that M1 could distribute a 7.4cts gross DPS in 4Q to top off the 6.2cts declared in 2Q. This would bring full-year gross DPS to 13.6cts, based on an 85% payout and translating into a yield of 9% for FY08.

Competition moderating. Throughout the festive season, there were more rational promotions from the three telcos. The campaigns stayed clear of providing free monthly subscriptions, which wreaked havoc on margins earlier, to focus on deeper handset subsidies or rebates for monthly subscriptions without equipment. We do not anticipate a repeat of the severe margin compression both before and after MNP and believe that SARC should moderate.

Favourite for OpCo? The winner of the OpCo bid will be announced sometime in 1QCY09. As highlighted before, we regard M1 as the favourite as it has the most room to be aggressive in wholesale pricing which constitutes the bulk of the criteria. Either way, a win or a loss would be positive for M1 as it would be transformed into a multi-product operator with the ability to compete on a more equal footing either as an official OpCo or retail service provider.

Valuation and recommendation

Maintain OUTPERFORM, forecasts and DCF-based target price of S$2.32 (WACC 8.3%, terminal growth 1.0%). M1 is our top Singapore telco pick as it offers relatively attractive yields at comparatively lower risks than its peers, trades at near-trough valuations, will face receding competitive risks on the mobile front and avoid a bruising and distracting content war. NGNBN would help to address its single-product disadvantage. Re-rating catalysts could include: 1) attractive dividends; 2) winning OpCo; and 3) cost-savings from backhaul upgrades at a conservative S$20m p.a. from FY10 or 11% of net profit then.

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