NetLink NBN Trust - OCBC Investment 2018-03-14: A Safe Haven Amid Volatilities

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NETLINK NBN TRUST CJLU.SI

NETLINK NBN TRUST - A Safe Haven Amid Volatilities

• Foundation of Singapore’s fibre network.
• Defensive income streams.
• Attractive stable outlook.

The foundation of Singapore’s Next Gen NBN 

• NetLink NBN Trust’s (NLT NBN) nationwide network, in our view, is the foundation of the Next Generation Nationwide Broadband Network (Next Gen NBN) over which ultra-high-speed internet access is delivered throughout mainland Singapore and its connected islands. 
• NLT NBN designs, builds, owns and operates the passive fibre network infrastructure (comprising ducts, manholes, fibre cables and Central Offices) of Singapore’s Next Gen NBN. Currently, NLT NBN’s network is the only fibre network with nationwide residential coverage in Singapore.
• As of 31 Mar 2017, NLT NBN’s network consisted of 10 Central Offices and ~76,000 km of fibre cable, ~16,200 km of ducts, as well as ~62,000 manholes. NLT NBN’s network also supported ~43,000 non-residential end-user connections, and was deployed to approximately ~31,000 non-residential buildings as of 31 Dec 2017.

Resilient business model with steady growth outlook 

• With the increasing usage of fibre broadband services for day-to-day activities driven by growing demand for connectivity and rapid growth in data consumption from both residential and non-residential end-users, we believe NLT NBN has a resilient business model. Hence, we believe NLT NBN will be able to weather through various economic cycles given the defensive nature of its income streams. 
• Looking ahead, given NLT NBN’s current dominant position as the sole nationwide provider of residential fibre network in Singapore, we believe there is room to grow with the development of new residential areas as well as increase in penetration rates. 
• Furthermore, we expect NLT NBN to be a key participant of growth in other connected services within the non-residential and NBAP space, especially with Singapore’s push to transform into a digital economy.

Initiate coverage on NLT NBN with S$0.91 Fair Value estimate 

• All considered, we forecast NLT NBN to deliver distributions to unitholders of S$170.1m in FY18 on an annualized basis, S$181.1m in FY19F and S$185.4m in FY20F. 
• Given its stable earnings outlook coupled with policy to distribute 100% of its cash available for distribution, we value NLT NBN based on a dividend discount model. Consequently, deriving a S$0.91 fair value estimate, we initiate coverage on NLT NBN.

COMPANY BACKGROUND 

• NetLink NBN Trust (NLT NBN) is a passive infrastructure business trust that owns and deploys all the fibre optic cables in Singapore and offers wholesale dark fibre services to qualifying operators on a non-discriminatory basis.

A) NLT NBN – the foundation of Singapore’s Next Gen NBN 

• We believe NLT NBN’s nationwide network is the foundation of the Next Generation Nationwide Broadband Network (Next Gen NBN) over which ultra-high-speed internet access is delivered throughout mainland Singapore and its connected islands. NLT NBN designs, builds, owns and operates the passive fibre network infrastructure (comprising ducts, manholes, fibre cables and Central Offices) of Singapore’s Next Gen NBN.
• NetLink Trust’s (NLT) distribution policy is to distribute at least 90% of its Distributable Income to NLT NBN, while NLT NBN’s distribution policy is to distribute 100% of its cash available for distribution.

B) Singapore’s only nationwide fibre network 

• Currently, NLT NBN’s network is the only fibre network with nationwide residential coverage in Singapore. As of 31 Mar 2017, NLT NBN’s network consisted of ten Central Offices and approximately 76,000 km of fibre cable, 16,200 km of ducts, and 62,000 manholes.
• The network supported approximately 1.2m residential end-user connections, “passed” 1 1.5m residential homes, or substantially all of the residential homes in Singapore, and “reached” 2 1.3m residential homes in Singapore, as of 31 Dec 2017.
• NLT NBN’s network supported approximately 43,000 non-residential enduser connections, and was deployed to approximately 31,000 or substantially all of the non-residential buildings as of 31 Dec 2017.

C) Services provided by NLT NBN 

• Through its network, NLT NBN provides a number of services to Requesting Licensees or OpCos. OpCos provide fibre services to Retail Service Providers (RSPs), who in turn, provide retail fibre services to end-users.
• The principal services provided by NLT NBN are as follows: 
  1. the use of NLT NBN’s network for the purpose of end-user fibre connections, currently for broadband, internet-protocol TV and VoIP services 
  2. the use of NLT NBN’s other passive infrastructure to provide fibre connections 
  3. the provision of other non-fibre ancillary services.
• The provision of Mandated Services by NLT NBN is regulated, whereby NLT NBN must offer such services to all Requesting Licensees at regulated prices, without preference or discrimination.

D) Brief history of NLT and Next Gen NBN 

• Intelligent Nation 2015 (iN2015) was a 10-year masterplan launched in 2006 and led by the predecessor to the Info-communications Media Development Authority of Singapore (IMDA).
• To achieve the objectives laid out in this masterplan, iN2015 recommended the establishment of a Next Generation National Info-communications Infrastructure (NII), of which the wired network access component is the Next Gen Nationwide Broadband Network.
• According to industry consultant Media Partners Asia (MPA), The Next Gen NBN was designed to allow operational and structural separation among the passive fibre network infrastructure (NetCo), the active infrastructure (OpCo) and retail service provider (RSP) layers. This structure was designed to have one NetCo, multiple OpCos (including the appointed Next Gen NBN OpCo) and multiple RSPs.
• In 2008, OpenNet was established as the NetCo for Next Gen NBN, as a consortium between Singtel, Singapore Press Holdings Limited, SP Telecommunications Pte Ltd and Axia NetMedia Corporation. 
• Singtel established NLT in 2011 to hold the passive non-fibre infrastructure assets (comprising ducts, manholes and Central Offices) used to support OpenNet’s deployment of the fibre network for the Next Gen NBN. NLT subsequently acquired 100% of OpenNet in Nov 2013. The integration of OpenNet and NLT was fully completed in Oct 2014 with NLT becoming the NetCo and passive fibre network infrastructure owner and operator for the Next Gen NBN.

INVESTMENT MERITS

Critical infrastructure enabling Singapore’s Next Gen NBN backed by a resilient business model 

• We believe NLT NBN’s nationwide network forms the foundation of Singapore’s Next Gen NBN, over which ultra-high-speed internet access is delivered throughout Singapore. As the sole appointed “Network Company” for Singapore’s Next Gen NBN, NLT NBN designs, builds, owns and operates the passive fibre network infrastructure (comprising manholes, ducts, fibre cables and Central Offices) of the country’s Next Gen NBN. Its network has been extended to substantially all of the non-residential premises in Singapore, while it has also passed 1.5m residential homes, or substantially all the residential homes in Singapore, and reached 1.3m residential homes, as of 31 Dec 2017.
• We believe the resilience of NLT NBN’s business model can be seen by the increasing usage of fibre broadband services for day-to-day activities, with MPA noting that ultra-high-speed fibre broadband has become a “necessity” and is no longer “discretionary”. Such services are driven by growing demand for connectivity and rapid growth in data consumption from both residential and non-residential end-users. Therefore, we believe it is highly likely that NLT NBN’s business will be able to weather through various economic cycles given the defensive nature of its income streams.
• In our view, the bulk of NLT’s total revenue is stable due to its predictable and regulated nature. Examining the components of its FY17 historical revenue of S$300.1m, we estimate that 76.9% came from connection and installation, 9.9% was contributed by ducts and manhole service revenue, 4.8% from co-location and 5.1% from central offices.
• Furthermore, we believe NLT NBN’s revenue is not impacted by residential end-user churn between RSPs, as long as they continue to utilise NLT NBN’s network in delivery of their active fibre services. In addition, competition between RSPs, to the extent that it reduces prices, might result in higher number of fibre connections requested by residential end-users, in our view.
• We believe NLT NBN is on track to enhance the integrity and resiliency of its nationwide network coverage further as it is currently in the process of laying additional fibre cable sufficient to increase the spare fibre capacity to residential households by at least 50%. This is expected to be completed by the year ending 31 Mar 2019, according to NLT NBN.
• In addition, NLT NBN intends to continue to roll-out new fibre infrastructure to all new buildings and developments as they are completed. NLT NBN also intends to invest in capital expenditure to rollout additional fibre to new and existing homes, such that it will be able to cater to the increasing number of multi-generational and multitenanted homes.

Dominant position within residential fibre network 

• Given NLT NBN’s dominant position as the sole nationwide provider of residential fibre network in Singapore, we believe there is room to increase its penetration rates. This would be driven by the relatively high purchasing power and affordable fibre broadband services in Singapore, in our view. 
• Moreover, according to MPA, the demand for additional residential end-user connections has been and will continue to be driven by the continued migration from HFC and ADSL to fibre connections, the higher consumption of online video and audio services and increasing usage of cloud-based storage and computing services. This would propel the number of residential fibre subscriptions to grow at a 6.5% CAGR from 1.06m to 1.46m between Dec 2016 and Dec 2021, as per MPA’s estimates. Residential fibre subscriptions are expected to form 100% of total residential wired subscriptions in 2021, from 82% in 2016, based on MPA’s projections.

Room for growth across non-residential and NBAP segments 

• Besides the residential fibre network, we believe NLT NBN will also be a key participant of growth in other connected services within the non-residential and NBAP space. NLT NBN is obligated to offer non-residential connections to all non-residential premises as part of its facilities-based operations (FBO) license. It has an approximate market share of 34%, based on the 43,228 non-residential end-user connections its network supported and the estimated corporate wired broadband connections of 127,100, as of 31 Dec 2017.
• Looking ahead, MPA’s projections show that the total number of non-residential wired broadband subscriptions is expected to increase at a CAGR of approximately 6.0% from ~118,800 in 2016 to 158,230 in 2021. NLT NBN’s growth momentum is expected to be stronger during the same period, with an estimated increase from ~36,640 in 2016 to ~58,680 by 2021, representing a CAGR of 9.9%. Correspondingly, this would translate into a bigger market share of ~37% in 2021 for NLT NBN, versus ~31% in 2016. 
• We believe demand supporting this industry growth would be underpinned by an increasing number of SMEs operating in Singapore, government grants given out to encourage productivity improvements via digitalisation and increased adoption of fibre broadband, coupled with a boost in demand for video-conferencing platforms and cloud-based business applications designed for enterprises. 
• On the other hand, we believe factors driving NLT NBN’s higher market share growth would be its extensive nationwide network coverage which would provide access to end-users in a cost efficient and timely manner. This is in contrast to the networks of its competitors, which are concentrated in the CBD and large business parks. Moreover, NLT NBN provides an attractive neutral and non-discriminatory option for RSPs who do not have an established network as it is an independent network provider.
• Meanwhile, we are of the view that NLT NBN will also be a key beneficiary of the Singapore government’s Smart Nation initiatives, as these require fibre connections and we believe NLT NBN is in a strong position to capture these opportunities and serve as the fibre network infrastructure provider for such initiatives. Having already been involved in “Phase 1” of the Smart Nation Platform, we believe NLT NBN will continue its pursuit to become a lead partner of the Smart Nation Programme and will aim to be the network provider as additional phases of the Smart Nation Platform are introduced. We believe this would be supported by NLT NBN’s existing extensive nationwide network and plans to work with other Smart Nation participants on developing new opportunities. We also believe the entry of TPG Telecom (announced in 2016), which is the fourth mobile telecom operator in Singapore, would likely benefit NLT NBN, as it may require new NBAP connections and backhaul connections.
• Looking ahead, NLT NBN believes that the demand for NBAP connections will continue to gain traction with the roll-out of the Smart Nation Programme, whilst fibre remains the most appropriate medium for ultrahigh-speed transmission of data which is required for this programme. In addition, Dr Vivian Balakrishnan, Minister-in-charge of the Smart Nation Initiative, at the recent Committee of Supply Debates 2018 highlighted Smart Nation Sensor Platform as one of the Strategic National Projects that “aims to put in place an integrated nation-wide sensor platform to improve municipal services, city-level operations, planning and security” (see https://www.smartnation.sg/happenings/speeches/committee-ofsupply-cos-debates-2018-1). We believe NLT NBN’s existing nationwide fibre infrastructure network is capable to serve as an enabler of the Smart Nation Sensor Platform, which further supports our view of the tremendous growth in NBAP segment, albeit from a low base.
• This view is also buttressed by MPA’s forecasts, which estimates that the total market size for NBAP connections that may potentially be addressed by NLT NBN will increase at a robust CAGR of 75.6% from 489 in 2016 to 8,171 by 2021. Over this period, MPA expects NLT NBN’s NBAP connections to grow from 274 to 6,128 by December 2021, representing a higher CAGR of 86.2% and also translates into a large estimated market share of ~75%.

High barriers to entry 

• We believe NetLink NBN Trust has established a wide network which is made up primarily of fibre cable, ducts, manholes and Central Offices located throughout mainland Singapore and its connected islands. This network was developed with the support of a grant of S$732m in total from the Singapore government, in conjunction with iN2015. In our view, this expansive network would make it financially and logistically arduous to replicate, thus providing a high barrier to entry to potential competitors.
• As of 31 Mar 2017, NLT NBN’s network has expanded to comprise ten Central Offices, approximately 76,000 km of fibre cables, 16,200 km of ducts and 62,000 manholes. We believe another competitive edge of NLT NBN stems from its network’s ability to cater to future technological developments with limited substitution risk for the foreseeable future. This is because NLT NBN’s network can transmit data to support advanced technological applications and fulfil the requirements of sophisticated end-users with high bandwidth requirements, according to NLT NBN.
• In addition, NLT NBN believes the longevity and durability of its fibre cables would reduce the need for any material upgrade or replacement of fibre cables. Furthermore, although we believe the wireless broadband connection segment is expected to experience robust growth, it can also be seen as being complementary and not a substitute to fibre, given that wireless broadband service is unable to provide the same reliability and average speeds of a wired broadband fibre service.

Highly scalable operations and strong financial position 

• Given that NLT NBN already operates an extensive nationwide network, we believe its future long-term capital expenditure requirements would be largely limited to network maintenance and network expansion to cover additional residential homes, non-residential premises and NBAPs.
• However, in the near future, NLT NBN has plans to incur a higher portion of capital expenditure in the years ending 31 Mar 2018 and 31 Mar 2019, which is expected to be completed by 2019. We believe a significant portion of this is non-recurring in nature. In addition, we note that under IMDA’s regulatory model to determine pricing for NLT NBN’s services, NLT NBN is able to generate additional returns from incremental capital expenditure. NLT NBN can also keep its operating costs manageable, in our view, as it is not necessary for it to embark on any substantial marketing activities given that the provision of retail fibre services is undertaken by RSPs. As such, we believe the combination of low operating costs and limited future capital expenditure needs would result in a high degree of scalability for its business.
• NLT NBN had a total debt/EBITDA ratio of 2.2x, as at 31 Dec 2017, calculated based on trailing 12-month financials, which we believe is at a comfortable level. In our view, NLT NBN’s conservative gearing ratio provides it with ample debt headroom to take on more borrowings if necessary to fund its future growth strategies, capital expenditure and working capital needs. In terms of credit profile, as NLT’s primary customers are Requesting Licensees which include established players such as Singtel, Nucleus Connect (owned by StarHub) and M1, we believe NLT’s collection of payments is reliable. This is supported by the fact that NLT has not experienced any material bad debts in the years ended 31 March 2015, 2016 and 2017.

Experienced and capable management team 

• In our view, the Trustee-Manager of NLT NBN is helmed by a strong executive management team, comprising Mr. Tong Yew Heng as the Chief Executive Officer, Mr. Wong Hein Jee as the Chief Financial Officer and Mr. Chye Hoon Pin as the Chief Operating Officer. Collectively, they have more than 80 years of experience in investment management, infrastructure, and/or telecommunication sectors. 
• The management team is also supported by a majority independent and distinguished board of directors, bringing with them a broad spectrum of complementary skills in a variety of business fields including the infrastructure and telecommunications industries.
• An experienced, network-level senior management team is also in place to assist in the day-to-day operations of the NLT NBN. The team is composed of professionals with extensive experience in the infrastructure and telecommunications industries. The Trustee-Manager believes the team will continue to play a critical role in NLT NBN’s operational and financial performance and in cultivating a robust and positive working relationship with its business partners and regulators.

Continue reading » NetLink NBN Trust - A Safe Haven Amid Volatilities (Part 2 ~ Valuation & Key Risks)

Eugene Chua CFA OCBC Investment | Joseph Ng OCBC Investment | http://www.iocbc.com/ 2018-03-14

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