Author: tfwee
SingTel – OCBC
Challenges ahead
Growth to be constrained by S$ strength. SingTel’s regional associates have been its key driving force. Going into 2008, besides Bharti and possibly Telkomsel, we do not expect its other mobile associates to see strong growth. Even with Bharti and Telkomsel, the appreciating S$ could mean that their growth impact on SingTel is likely to be diluted. There is also the risk that SingTel might have to divest its stake in Telkomsel in the event that the dispute between Temasek Holdings and the Indonesian anticompetition body is not resolved amicably.
Nationalism against sovereign fund is negative on SingTel. Previously, one of SingTel’s key strengths was its strong parentage. However, in the current nationalistic sentiment against sovereign companies/fund, SingTel’s association with Temasek Holdings could be a disadvantage. This is particularly negative for SingTel as one of its key growth drivers has been its ability to identify and acquire undervalued mobile telcos. In the current climate, SingTel could potentially be disallowed to bid for any future regional telcos, and even if permitted, the stake is likely to be as a minority thus constraining its future growth.
Singapore to see margin compression. In the domestic front, SingTel is fighting many battles. It is trying to regain mobile market share (especially on the pre-paid segment) via attractive promotions. SingTel has also launched Mio pay TV with an equally aggressive campaign that undercut its rival and we also see it likely to embark on a “bid to win” strategy on NBN. In terms of financial impact, all these initiatives are likely stretch SingTel, and could possibly result in margin compression.
Maintain HOLD. Even though we see SingTel’s generous dividend as fairly defensive, in the current volatile market condition, our preference is predictability of earnings and maintenance of status quo. In that respect, its earnings growth is likely to face many challenges (as highlighted above both on the macro and micro fronts). The net effect of these challenges
happening at about the same time is that its earnings growth could be capped. We thus maintain our S$3.91 fair value estimate and our HOLD rating.
StarHub – OCBC
Domestic play with minimal earnings risks
Defending its turf. StarHub recently reported an impressive 3Q07 results with a 16% YoY increase in 3Q revenue to S$460.6m and with net profit up 25% YoY to S$81.4m. EBITDA improved 22% YoY to S$156.6m due to slower cost escalation, and this led to margin expansion to 35.7%. All business units did well, registering double-digit revenue growth. StarHub managed this despite the onslaught from its much bigger rival in almost all its business segments.
Mobile continues to dominate. On the mobile front, StarHub continued to grow with revenue up 11% YoY to S$233.7m in 3Q. Sequentially, subscriber growth was 3.0% and revenue growth was 5.3%, implying OEM of 1.75x. This is even more remarkable as growth came from the price sensitive prepaid segment and despite SingTel’s aggressive strategy to capture market share. Going into 2008, with the introduction of number portability, we expect competition to become more intense. However, if StarHub remains disciplined in its focus on profitability (as opposed to market share), it is likely to continue to deliver growth.
Cable TV to see stiff competition. In 2008, we anticipate SingTel to ramp up its promotion of Mio TV to try to capture market share. However, until SingTel improves on its content offerings, StarHub is likely to reign supreme in this area. As for margins, the recent revision of rates should arrest any decline post the EPL rights.
Upgrade to BUY on low earnings risks. Starhub’s investment case remains its domestic exposure and its ability to continue to provide growth from a mature market via innovative marketing strategies such as its bundling of services also known as Hubbing. Furthermore, even in the face of the onslaught from SingTel to garner pre-paid market share, StarHub remains steadfast and somehow has managed to balance subscribers’ growth with revenue growth to provide OEM of over 1.5x. Even on the pay-TV space, it continues to reign supreme and we do not see SingTel’s Mio as likely to threaten its supremacy in content in the short to medium term. Since our downgrade to HOLD in early Nov, StarHub has corrected by about 4%. At present trading range, we see meaningful upside. This together with a dividend of 16 cents (5.3% yield) and the fact that it is a pure Singapore play make StarHub an attractive alternative and safer proposition. We thus upgrade StarHub to BUY with a revised fair value of S$3.41.
M1 – OCBC
High yield defensive play
Good results due to lower costs and interest expenses. MobileOne (M1) recently delivered a good set of 3Q07 results. Revenue came in at S$200.2m (flat QoQ, +5.8% YoY) with net profit at S$43.6m (+8.0% QoQ, +1.6% YoY). The stronger sequential bottom-line was due to lower operating expenses (specifically due to lower handset costs) and borrowing costs (due to debt repayment).
Number portability likely in 1H08. Moving into 2008, M1 expects mobile number portability (MNP) to be introduced by 1H08. Prior to MNP introduction by regulators, the market place is likely to heat up with the 3 telcos attempting to tie up customers with attractive promotions. Presently, we are seeing some evidence of pre-MNP competition. More importantly, this in turn is likely to raise acquisition and retention costs, thus eroding margins even more. However, unlike its rivals, M1 does not offer many other services to spread its costs. As such, we see MNP to be negative to M1.
Opportunity for wireless broadband. In order to capitalize on the broadband market growth, M1 has launched its High-Speed Packet Access (HSPA) which is a wireless broadband system piggybacking on its 3G network. The new system will offer downlink of 3.6Mbps or 9-10 times faster than current speed. However, the window of opportunity on its mobile system could be short-lived with the roll-out of the free wireless broadband access under the proposed National High Speed Network. Indeed with M1’s introduction of its wireless broadband, its rival has recently also launched similar offering.
M1 is a defensive yield play. M1 has underperformed over the last 12 months losing over 8% in capital value. We believe the key reason is due to its inability to grow and that is as a result of its limited telco service offerings. M1 remains a very profitable business with ROE of over 21% (compared to SingTel’s 4.8%), albeit mature and with not much growth. However, its key attraction remains its very generous dividend policy of paying out at least 80% of profits. For FY08, we project a payout of 15 cents giving investors a return of about 8%. This together with a potential upside of about 20% to our fair value of S$2.33 makes M1 a very attractive and defensive proposition. We maintain our BUY rating.
TELCOs – OCBC
2008 likely to be challenging year
Key drivers in 2008. Looking into 2008, Singapore’s telco sector is likely to face some issues. This includes S$ appreciation vis-à-vis other currencies, stock market volatility, nationalistic sentiment against sovereign company/fund investment, higher inflation rates. Against this uncertain climate, our stock selection criterion is defensiveness in earnings. We prefer telcos with pure Singapore exposure, high earnings visibility, high dividend payout and with a non-aggressive growth strategy.
Number portability encourages switching. Mobile Number Portability (MNP) will be introduced in 2008, and this is likely to be preceded by intensive competition to lock in existing and new customers. There is some evidence that aggressive marketing has already started, and this is reflected in some telcos’ willingness to sacrifice revenue growth at the expense of subscribers. Our OIR’s Economic Matrix shows this clearly. With anticipated competition, there is likely to be margin erosion. However, depending on the individual telcos growth strategy some could be affected more than others.
NBN: Does return justify investment? 2008 will see the bidding for the National Broadband Network (NBN). Investment in the NBN network is expected to run into the billions and its tariff charges are likely to be heavily regulated. The return is unlikely to be very high, as it is on a competitive bid basis, tariff charges are likely to be regulated, and return may not commensurate with the high investment costs.
StarHub reigns supreme in pay-TV market. In 2007, SingTel entered the Pay-TV arena with Mio TV. However, we do not see the take-up rate to be high and this perhaps explains SingTel’s promotion to offer free Mio TV with its broadband packages. We see Mio TV to need to revamp its content and differentiate itself to tap onto undiscovered demand to compete in the Pay-TV market.
StarHub and M1 our top picks for 2008. As we move into 2008, telcos are likely to face a challenging environment on both the macro and micro fronts. Our stock selection criterion is thus defensiveness in earnings. In that context, our preferred telcos are StarHub and MobileOne (M1).
TELCOs – CIMB
A less bumpy ride on the way up
• 3QCY07 results in line, Singapore telco service consumption growth intact. Earnings for the three telcos came within our expectations. The key positive was robust 9.5% yoy revenue growth for the sector, driven by mobile and broadband, which both grew 12% yoy. The key negative was margin pressure due to unique factors at SingTel (strategic initiatives and increased contributions from low-margin IT sales) and StarHub (lag in passing on higher BPL costs). Overall, Singapore’s telco service consumption growth remains intact on the back of an immigration boom and a robust domestic economy.
• Positive outlook for 2008. The migration boom and the fastest rise in wages in seven years provide a promising backdrop for telco services for 2008. In addition, we expect wireless broadband and 3G services to provide upside to growth expectations on greater availability and affordability of user-friendly 3G handsets as well as the introduction of service innovations such as capped data plans. Margins in 2007 hit a low and we expect improvements in 2008. However, the scope of margin expansion should be capped by structurally higher retention costs with mobile number portability (especially at SingTel) and no let-up in intense but rational competition.
• StarHub and SingTel should be the biggest winners. Although all three telcos should benefit from subscriber growth, StarHub stands out for its potential ARPU growth (postpaid mobile and pay TV) while SingTel should be driven by mobile subscriber market-share gains. StarHub’s best-in-class bundled offerings make it the best stock to own for telco service consumption growth in 2008. We expect M1 to be increasingly marginalised for lack of bundling capability.
• Robust free cash flow yields supportive of above-consensus prospective yields. We reiterate our view that there is significant scope for consensus to re-rate dividend expectations for the Singapore telco sector. We expect the sector to deliver an average CY08 dividend yield of 8.4% (consensus: 6.0%), fully backed by free cash flow from robust topline growth, limited capex and strong balance sheets.
• Maintain Overweight; StarHub our top pick, followed by SingTel. Singapore telcos offer attractive risk-reward in terms of historical EV/EBITDA valuations. The sector also offers reliable earnings from an immigration influx, the proliferation of 3G/wireless services etc. Finally, downside risks should be limited given hefty prospective yields on robust free cash flow. Key risks are irrational competition and NBN but these are on the low side. StarHub is our top pick for its bundled offerings and greatest scope for upside surprises on the ARPU front. SingTel is our next preferred pick for prospective subscriber market-share gains in Singapore and exposure to high-growth regional markets.