M1’s Q4 net profit dips 3.4% to $36.6m

Telco paying a final dividend of 7.2 cents, bringing its full-year payout to 13.4 cents

MOBILEONE yesterday reported a 3.4 per cent decline in net profit to $36.6 million for the fourth quarter of 2008 as competitive pressure started easing after months of intense rivalry.

Q4 sales slid 5.9 per cent to $194.7 million, while earnings per share came in 2.4 per cent lower at 4.1 cents for the period. M1’s Q4 profit was higher than the $35 million median estimate from five analysts polled by Bloomberg.

For the full 2008, the country’s smallest operator saw its net profit dive 12.6 per cent to $150.1 million from the preceding year. Sales for the year dipped 0.3 per cent to $800.6 million.

M1 proposed a final dividend of 7.2 cents, bringing its full-year payout to 13.4 cents or around 80 per cent of its 2008 profit. Despite the adverse economic conditions, the company expects to maintain a similar dividend payout ratio in 2009.

The firm’s full-year profit decline was due to higher customer retention costs with the introduction of mobile number portability (MNP) in June last year, said Karen Kooi, M1’s acting CEO and chief financial officer.

Average retention cost per post-paid customer for 2008 was $148, against 2007’s $132.

In addition, higher international traffic expenses also contributed to the drop, Ms Kooi told reporters and analysts at its results briefing yesterday. She was chairing the conference in place of outgoing M1 chief Neil Montefiore, who is set to leave the company next month after 12 years of service.

In response to MNP, the operator had introduced more competitive subscription plans which resulted in lower margins, while stepping up its marketing efforts to attract and retain customers but these initiatives tapered off in the tail end of 2008.Customer acquisition cost in Q4 fell to $131 from $162 in the preceding quarter and retention cost also dropped from $155 in Q3 to $135 in the last quarter of 2008.

‘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,’ CIMB said in a research note.

M1 added 10,000 new subscribers in Q4, most of whom were prepaid customers, to take its user base to 1.63 million. However, its churn rate, or the percentage of subscribers leaving M1, rose to 1.7 per cent from 1.2 per cent a year earlier.

‘We are not going out aggressively to take market share,’ Ms Kooi stressed. However, she reiterated the company’s intention to diversify beyond mobile services into Internet provision when the upcoming Next-Gen National Broadband Network is completed in 2012.

In the meantime, M1 has started offering fixed broadband by leasing infrastructure from StarHub but it did not reveal the take-up rate for these services.

‘We are not actively pushing the fixed-line broadband just yet and we have not started bundling,’ Ms Kooi said, adding that M1 is using this arrangement as a dipstick for its broadband foray in future. M1 shares rose 1.3 per cent to close at $1.52 yesterday.

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.

Will M1 put on a new game face?

TELCO counters are often seen as defensive plays during turbulent times and no other local telco epitomises this quality in its modus operandi more than M1. However, with the impending arrival of a new chief, will M1 finally change tack and go on the offensive, or will it continue to play nice and passively defend its turf?

Last Friday, M1’s chief executive Neil Montefiore announced his surprising decision to step down next month. Chief financial officer Karen Kooi will take the helm in the interim while the company hunts for a new head honcho.

Unlike Mr Montefiore’s 12-year stint, M1’s incoming chief is in for a much rougher ride. When it was formed in 1994, M1 was the only alternative to incumbent Singapore Telecommunications in a market long deprived of options.

Coupled with a relatively untapped base for radio paging and cellular services back then, M1 cruised to a decade of rapid subscriber growth and established a comfortable beachhead alongside SingTel and StarHub.

However, with sweeping changes being made to the competitive landscape in the last 12 months, M1 is showing early signs that it could be buckling under the pressure.

On the one hand, the operator is experiencing higher churn rates compared to its two rivals in the era of ‘true mobile number portability’.

More M1 customers have defected to SingTel and StarHub now that they are able to transfer their mobile numbers from one telco to another.

An average of 7,000 cellular subscribers port their mobile numbers every month, representing around 0.1 per cent of Singapore’s 6.27-million-strong cellphone user population. The churn rate in itself is not significant but the underlying fact that more subscribers are choosing to leave M1 is a cause for concern.

What is more alarming, however, is the ability of M1’s competitors to draw new subscribers even with the mobile market edging towards saturation point. In the third quarter of 2008, SingTel gained 45,000 new post-paid customers while StarHub recorded a tally of 17,000. In contrast, M1 added only 4,000 new subscribers in the period.

The results in the fourth quarter should tell a similar tale. SingTel will no doubt get a lift from its exclusive tie-up with Apple for the iPhone. StarHub’s longstanding strategy of ‘hubbing’ or offering discounts for multiple services is expected to retain its allure, especially when consumers are now careful with their spending.

Both companies are even dangling freebies from notebooks to desktop computers alongside new broadband contracts, paving the way for them to up-sell additional services such as cellular subscriptions in future.

Without a viable second business, M1 cannot afford to do the same. At a time when providing mobile services has become somewhat of a lowest common denominator, a new laptop or a sizeable monthly discount could well be the deciding factor between one operator and another.

With the impending change-of-guard, a strategic review of M1’s existing business will be among the top items on the agenda. One key question that will face the new chief is how M1 will eke out growth when competitors seem to have the upper hand.

Unlike its rivals, M1 has always chosen to play nice under the stewardship of Mr Montefiore. When StarHub entered the market as an Internet service provider in 1999, it went on the offensive and offered free unlimited dial-up Internet packages, effectively sealing the fates of market leaders Pacific Internet and SingNet. It followed this up by with free incoming calls and per-second billing on the mobile front.

Diversification

SingTel also threw down the gauntlet locally by hogging the iPhone distributorship and by going after the next generation of mobile users with student plans offering free campus calls and unlimited text messages.

M1 will have to come up with something more impactful to shift the market dynamics back in its favour.

Diversification, both from a product or geographical perspective, is the other key decision that has to be made by the new M1 CEO.

With Singapore’s mobile penetration already at a sky-high rate of 130 per cent, should the company diversify into broadband-related ventures when Singapore’s new high-speed fibre-optic network becomes operational in 2012?

The danger here is that the Republic’s small Internet user base may not be able to support the vibrant broadband landscape that local authorities have envisioned with the dawn of the new network.

Overseas expansion could be another consideration for M1 with mobile services just starting to take off in emerging regional markets such as Vietnam and Cambodia. With its limited capital, partnerships with foreign players or even consolidation with another local telco could help this cause.

While M1’s future direction will undoubtedly hinge on its new skipper, one thing is for certain: the company cannot afford to stand still amid the current sea change. Against cutthroat competition, sometimes the best defence for a company is a good offence.

Offers value despite being below consensus

Event

M1 seen maintaining dividend payout

This despite expecting a fall in its net income due to keen competition

A DECLINE in MobileOne’s profits may not translate to a lower dividend payment for financial year 2008. Market analysts are, in fact, expecting the operator to maintain or even better its payout from last year.

M1, which registered a 4.4 per cent rise in net profit for FY2007, has said that it expects to register a ‘single-digit’ drop in net income for this year as it continues to reel from the impact of keen competition and higher customer acquisition costs.

OCBC Research, however, is projecting a more drastic drop of 14.4 per cent in M1’s full-year net income to $147.1 million on the back on a sales tally of $796.5 million.

And with the operator pledging to pay out at least 80 per cent of its net profit as dividends in 2008, the decrease in earnings should translate to a lower payout this year from the 16 cents that it allocated in 2007.

However, that may not be the case. ‘We are still expecting M1 to pay out pretty decent dividends. It’s likely to be higher than 80 per cent this year to at least match last year’s absolute amount,’ said OCBC analyst Carey Wong.

The operator has announced an interim dividend of 6.2 cents for the first six months this year and it will need to pay a final dividend of 9.8 cents in the second half for its track record to remain intact.

M1 did not confirm if this will be the case. ‘All relevant factors will be reviewed and taken into consideration in determining the actual dividend payout and this will be announced together with the financial results for 2008 in January next year,’ a company spokesman said.

Rival StarHub, however, yesterday reaffirmed its promise of paying investors 18 cents in dividends per share this year amid the worsening economic climate, up from 16 cents in 2007.

‘There is no threat to that commitment,’ StarHub spokeswoman Jeannie Ong stressed.

SingTel also said that it has the option of adjusting its guidance to maintain its dividend payout.

It has committed to paying 45- 60 per cent of underlying net profit as dividends but its full-year earnings could be hurt by continued foreign exchange losses and the underperformance of some of its overseas associates.

These concerns prompted shareholders to query SingTel on the impact to its payout per share for the current financial year at its Investor Day event last week.

‘The telco industry’s yield of 8.6 per cent compares favourably against the market’s average of 5.9 per cent. Given healthy cash flows, the companies should have the capacity to continue with rich payouts, particularly M1 and StarHub,’ noted Terence Wong, co-head of research at DMG & Partners, in his recent client note.