StarHub’s Q4 profit dips 15%

Broadband revenue down 8% while other 3 segments post sales increases

LOWER revenue from its broadband arm and higher cost of sales dragged StarHub’s fourth-quarter net profit down 15.1 per cent to $74.2 million.

Earnings per share for the quarter ended Dec 31, 2009, was 4.33 cents, compared with 5.11 cents in Q4 2008.

Q4 group revenue rose marginally by 2.5 per cent to $550 million, from $536.7 million.

‘I think it’s a reasonable set of results given the economic climate in Singapore (last year),’ said Neil Montefiore, StarHub’s newly-minted CEO.

The former chief of MobileOne took over from former StarHub helmsman Terry Clontz at the start of this year after he returned to the United States.

As with the previous quarter, Singapore’s second-largest telco is rewarding shareholders with a dividend of five cents per share for Q4, 0.5 cent more than the payouts for the first two quarters of 2009.

This brings its full-year dividend payout to 19 cents per share, higher than the 18 cents it paid in 2008 when the global economy took a drastic turn.

StarHub’s net profit for fiscal year 2009 rose 2.7 per cent to $319.7 million on the back of 1.1 per cent improvement in sales to $2.15 billion.

Full-year earnings per share came in at 18.68 cents, up from 18.28 cents in 2008.

The operator’s fourth-quarter profitability was dented by a 20.2 per cent increase in cost of sales to $230.3 million as a result of higher equipment and services costs.

An increase in handset subsidies due to the launch of Apple’s coveted iPhone in December and festive promotions were cited as the key reasons for the spike.

‘Typically with phones sold in Singapore, we see a payback in two to six months. That is the case with the iPhone,’ Mr Montefiore said at the results briefing yesterday.

Sales rose across three out of StarHub’s four business segments in Q4, with its broadband unit being the lone exception.

The company’s mobile business, which accounts for around half its sales, rose 3.1 per cent in the fourth quarter to $280.6 million.

StarHub’s mobile customer base climbed 8.6 per cent year-on-year to 1.92 million in Q4, thanks largely to the allure of the iPhone and other mobile promotions.

Pay-TV sales edged up 2.1 per cent in Q4 to $102.6 million and the much-feared customer defection in this segment did not materialise.

StarHub added 4,000 more cable television customers in Q4 despite having lost the English Premier League (EPL) broadcast rights for the next three seasons to arch-rival SingTel, ending the year with a tally of 539,000 customers. It previously said 10 per cent of its cable TV customer base could defect to the red camp as a result of the EPL loss.

Revenue from the operator’s fixed network business also rose 1.6 per cent in Q4 to $78.8 million.

However, these improvements were offset by an 8 per cent dip in its cable broadband sales during the period to $59.1 million as consumers continue to opt for lower-end plans and subscription discounts.

Looking ahead to the rest of the year, StarHub expects to grow its 2010 operating revenue in the low single-digit range, and Ebitda (earnings before interest, tax, depreciation and amortisation) margin on service revenue is seen at around 30 per cent.

The firm expects its cash capital expenditure to increase this year but it will not be more than 14 per cent of full-year operating revenue.

This is because of the projected investments that will be sunk into Singapore’s upcoming fibre-optic network by its new subsidiary Nucleus Connect.

This StarHub unit was formed last year after the telco clinched the government tender for operating and reselling bandwidth on the country’s new ultra-fast broadband highway.

The good news for shareholders is that StarHub intends to keep its quarterly dividend payout at five cents or more per share in spite of the higher capital outlay.

Besides preserving its dividend yield in 2010, the company’s new steward also intends to leave the operations of StarHub unchanged. ‘I will not be making any changes. It’s a well-run company,’ Mr Montefiore said.

StarHub shares closed unchanged at $2.17 before the earnings were released.

Below expectations: guidance for 2010E mixed; revenue slowdown

What surprised us

Starhub (STH) reported 4Q09 service revenue, EBITDA and net profit of S$521 mn, S$152 mn, S$74 mn: +1%, -7%, -14% yoy and 0%, -7%, -6% vs GSe. Key deviation from our estimates is on mobile SAC as STH introduced iPhone in December. Positives: a) sub adds pickup – broadband, cable TV and post-paid mobile adds all improved sequentially, the latter due to iPhone; b) churns remain manageable – pay TV churn is roughly flat qoq and broadband churn has fallen qoq, despite rivals getting more aggressive on both access and pay TV ahead of the NBN launch. Negatives: a) accelerating declines in broadband revenue – 4Q09 revenue was -8% yoy vs -3%/-6% for 2Q09/3Q09, due to ARPU declines; b) fixed network revenue trends also weakened, to +2% yoy vs +6-8% yoy the prior three quarters. We do not view higher SAC from iPhone as a negative necessarily as mgmt believes payback period is 2-6 months in Singapore and subscriber quality will improve, but would look for validation on returns in terms of ARPU /revenue pickup in coming quarters. Guidance for 2010E: 1) revenue growth of low single digit (vs I/B/E/S est flattish); 2) service margin of 30% (excl equip and Opco grant) (slightly lower than consensus of 31%); 3) capex not to exceed 14% (vs prior guidance/consensus of 13%); 4) S$0.05 DPS/quarter (unchanged).

What to do with the stock

We think STH faces meaningful operational headwinds/risks from NBN and pay TV and earnings/CF visibility is reduced. But, we believe 9% yield provides downside support. We prefer Mobile One (M1) in Sing telco space for its similar valuation/yield but offensive position / potential for mobile/NBN revenue share gains. We revised STH earnings by -13%/+15%/+13% in ’10E/11E/12E mainly to reflect iPhone/NBN upfront cost in ’10E and back-loaded benefits starting from 2011E. 12-m DCF TP is S$2.15 (from S$2.13). Still Neutral. Risks: Downside: broadband/pay TV share loss; Upside: b-t-e sub retention post NBN launch and EPL loss.

Potential profit-margin squeeze ahead of NGNBN

What has changed?

• StarHub held an investor conference call on 4 February for its FY09 results.

Impact

• StarHub’s FY09 net profit was slightly below our and the market’s expectations, mainly due to the festive-season promotion and the launch of the iPhone in early December, which drove equipment costs higher by 67% YoY in 4Q09, offsetting cost-saving efforts in the first three quarters in 2009.

• StarHub guided for ‘low single-digit’ revenue growth in FY10, a service-EBITDA margin of around 30%, and a capex-to-revenue ratio of not more than 14%, which would lead to higher depreciation of around 13% of operating revenue. We have revised down our net-profit forecasts by 12% for FY10-11, mainly to factor in the higher depreciation charge.

• Although the high-level of coverage of NGNBN (Next Generation National Broadband Network) could expand StarHub’s corporate coverage nationwide while the low wholesale price of the OpCo (operating company) could lead to saving in leasing expenses, it could lead to heightened competition, particularly in the broadband segment ahead of the network rollout, and erode the company’s profit margin.

Valuation

• We lowered our six-month target price to S$1.92 (from S$1.99), equivalent to a PER of 11x our revised FY10 EPS forecasts, on par with StarHub’s Singapore telecom peers. The stock is now trading at 12.4x our FY10E EPS, a 5% discount to the average valuation for regional integrated operators.

Catalysts and action

• StarHub shares rose by about 3% one week ahead of the company’s results, due to what we think was an expectation of a positive 4Q09 earnings surprise. We believe the weaker-than-expected 4Q09 earnings (down 15% YoY), together with unexciting FY10 guidance, could create short-term pressure on the shares.

• Considering StarHub’s attractive dividend yield of 9.2% for FY10-12E, its valuation (12.4x FY10E EPS) appears undemanding. Nevertheless, SingTel’s (ST SP, S$2.98, 3) aggressive stance in the pay-TV market, which is the core of StarHub’s convergence strategy, could reduce the defensiveness of StarHub. Therefore, we maintain our 3 (Hold) rating.

Downgrade to Neutral

• Share price has recovered after the initial concern over loss of EPL content

After the sharp fall following the announcement that StarHub lost the rights to English Premier League (EPL) football content, StarHub shares have now recovered to previous levels as management increased dividends (Chart 1). In the past 3 months, StarHub shares are up 15% outperforming FSSTI by 12%.

• Q409 results and 2010 guidance below consensus forecasts

Q409 results were below our expectations and consensus as wireless and cable margins were pressured due to iPhone introduction and competition. StarHub guided for low single-digit revenue growth and 30% EBITDA margin in 2010. This implies EBITDA of about S$620-640mn, which is in-line with our forecast of S$633mn but below consensus of S$657mn. The guidance implies YoY decline in EBITDA margin from 31.8% in 2009. StarHub expects pay TV content cost to remain high despite the loss of EPL due to the cost to secure other contents.

• Dividends should provide some share price support

We think robust cash flows and balance sheet should help sustain S$0.05 dividend per share per quarter, which should provide some share price support. But EPL content loss and NBN launch would lead to StarHub losing market share in the consumer segment, which should negatively impact investor sentiment.

• Valuation: Downgrade to Neutral from Buy; Maintain S$2.20 price target

Reflecting Q409 results and 2010 guidance, we slightly adjust our 2010/11 EPS forecast to S$0.177/0.183 from S$0.182/0.179, respectively. Our price target is based on DCF using 7.8% WACC and 0% terminal growth.

Strong dividends, attractive value

StarHub reported in-line FY09 profit at S$320m. It maintained its dividend commitment at 20 cents for FY10, outlining its confidence in its business stability. This leads to what we see as a healthy 9% yield, while the stock trades at an attractive 11.8x PER. Buy maintained.

In-line FY09 performance

StarHub reported FY09 profit of S$320m (up 3% yoy), in line with RBS (S$322m) and street (S$324m) estimates. The company met estimates despite 4Q09 margins declining 290bp yoy, due to the temporary rise in marketing/subsidy spend in 4Q09 linked to its iPhone launch.

Performance drivers: stable mobile, pay TV, weaker broadband

Performance was driven by sequentially stable/improving ARPU in the mobile business (51% of revenues) with the improvement in the economy and rising data contributions. Pay TV (19% of revenues) also improved. However, performance was dragged down by weaker cable broadband contributions (11% of revenues) as a result of price cuts as competition intensified ahead of the NGNBN launch.

FY10 guidance: slight revenue growth but tighter margins, strong dividends

StarHub has guided for low single-digit revenue growth for FY10, driven by expansion in mobile contributions. This compares to the street’s expectations of flat top-line growth. Management has committed to dividends of at least 5 cents a quarter for FY10, allowing for a 9% yield. However, it guided for FY10 EBITDA margins to tighten to around 30% from 31.8% in FY09. This is in line with our expectations as broadband revenues are impacted by the NGNBN launch.

Buy maintained; undemanding value, strong yield, stable outlook

We continue to rate StarHub a Buy with a DCF-based target price of S$2.45. The company remains relatively cheap, in our view, at 11.8x FY10F PER and 6.8x EBITDA. It is yielding an in-our-view attractive and sustainable 9% for FY10-12.