Telecom Sector Singapore - DBS Research 2018-06-26: Few Years Of Pain To Turn TPG Unviable

Telecom Sector Singapore - DBS Vickers 2018-06-26: Few Years Of Pain To Turn Tpg Unviable Singapore Telecom Stocks TPG Telecom M1 LIMITED SGX:B2F SINGTEL SGX:Z74 STARHUB LTD SGX:CC3

Telecom Sector Singapore - Few Years Of Pain To Turn Tpg Unviable

  • TPG’s business case rendered unviable by aggressive mobile virtual network operators (MVNOs).
  • After 44% correction YTD, StarHub is still not attractive at 12-month forward EV/EBITDA of 6.8x versus M1’s 6.4x and Singtel’s core 5.4x. Too early to buy StarHub for potential sector consolidation a few years later.
  • Prefer Singtel > M1 > StarHub. Singtel continues to be our preferred stock for its stable core EBITDA prospects vs potential decline at M1StarHubSingtel is expected to resume earnings growth in FY20F, led by Bharti.

Few years of pain ahead as telcos intend to minimize revenue share gains for TPG.

  • MVNOs such as Circles.Life and MyRepublic with their low-cost model and superior customer service (100% app based), may garner a big portion of customers shifting to cheaper SIM-only plans (~10% gross revenue share in 2022).
  • As the majority of MVNOs’ revenue will flow back to their telco partners, telcos are better off losing revenue share to MVNOs than TPG by offering flexible wholesale pricing to their MVNOs. TPG is likely to compete on cheaper pricing but will be challenged by MVNOs that offer superior network quality and differentiated services.
  • We forecast 4% mobile industry revenue contraction over 2017-22 vs 1% contraction earlier due to higher take-up of cheaper SIM-only plans.
  • We project TPG to show EBITDA losses versus positive EBITDA in 2022 earlier with just 4% revenue share in 2022 (vs 5.5% earlier) forcing it to seek exit opportunities.

Singtel’s core business is trading at 12-month forward EV/EBITDA of 5.4x versus 6.4x for M1 and 6.8x StarHub.

  • We argue that Singtel’s core business should trade at the regional average of 7x EV/EBITDA given its ability to stabilise core- EBITDA via cost savings and revenue share gains in Australia. We peg M1StarHub to trade at 6x & 5.6x 12-month forward EV/EBITDA respectively at 15% & 20% discounts to the regional average due to their declining EBITDA prospects.
  • M1 is better placed than StarHub in our view, due to its non- reliance on Pay TV-mobile bundling (Pay TV expected to decline), and its proven MVNO partner Circles.Life. 
  • After recent correction, we upgrade StarHub to HOLD for potential returns of -3% including ~10% yield. 

Telcos pro-actively closing the gaps in the SIM-only plans via MVNOs.

  • TPG, the fourth Mobile Network Operator (MNO) set to enter Singapore in 2H18, faces an uphill battle, amid the myriad of Mobile Virtual Network Operators (MVNO) the incumbents have partnered with. Each incumbent has partnered with at least one MVNO, with the market leader Singtel joining hands with two, taking the total number of mobile service providers in the country to seven from just three players at the end of 2015.
  • By partnering with MVNOs the incumbents are
    1. making it difficult for TPG to succeed by stirring up competition in the SIM-only segments, which TPG is likely to target first, and
    2. generating wholesale mobile revenues, offsetting any potential revenue impact in the low-end segments that is likely to be caused by TPG.
  • TPG has already announced plans to offer unlimited voice and 3GB of data free of charge for 24 months to senior citizens in Singapore. The telco is also offering free unlimited data for six months (A$9.99 thereafter) in Australia, where TPG entered as a MNO.
  • We believe that TPG will likely adopt a similar strategy of offering free services at the initial stages of its entry in Singapore as well, possibly leading to price wars between operators.

We project annual industry contraction of 4% over 2018-22 in the base case scenario.

  • We have revised our assumptions of annual decline in the mobile industry through 2017A-2022F to 4% from 1% earlier on the back of
    1. rising adoption of SIM-only plans, and
    2. escalation of price wars in the industry as TPG battles it out with MVNOs.
  • SIM-only plans (8-9% of postpaid plans currently) are seeing rising adoption amid lengthening smartphone replacement cycles and aggressive promotions by MVNOs. Judging from Australia’ s experience, where SIM-only constitutes ~25% of the total postpaid, Singapore is likely to see a big rise in these plans. Customer spend on SIM-only plans vis-à-vis handset plans tends to be substantially lower and growing uptake would negatively impact mobile service revenues and dilute industry ARPU going forward.
  • We also believe TPG would need to adopt very aggressive pricing strategies during the first few years of entry to snatch revenue share in an overcrowded mobile space with seven service providers. This would likely lead to steep contraction of voice and data yields, further weighing down the industry topline. Factoring these, we project an 18% contraction in industry revenues by 2022 from present levels vs our previous assumption of just 4% contraction of the industry topline over the same period.
  • With the revision of our base-case scenario for the Singapore mobile industry, we have revised down the potential revenue share grab of TPG by 2022 to just 4.0% from 5.5% before, after factoring in the MVNOs. Under our new base-case scenario, TPG could remain cash-flow negative till 2022, four years after its entry.

Annual industry contraction of 6% over 2018-22 if TPG is more successful than our projections under the bear-case scenario.

  • We project that almost a quarter of the industry topline could be wiped out by 2022, if TPG, backed with a strong balance sheet, adopts heavily disruptive pricing policies, much like Reliance Jio in India, driving MVNOs out of the market and instigating severe downward adjustments to industry yields. 
  • Under this scenario, we expect the mobile industry to contract at an annual rate of 6% over 2018-2022.

Annual industry contraction of 2-3% over 2018-22 if TPG is acquired in 2020-2021 under our bull-case scenario

  • Under our bull case, we assume that TPG will exit the Singapore mobile market by 2021, after intense competition from MVNOs and the incumbents, via a sale of its operations to an incumbent operator. 
  • Under this scenario, we expect the mobile industry to return to a growth trajectory by 2022 and the 2017-2022 annual contraction of the mobile industry to be limited to 2% vs our base-case projection of 4%.

Negative cash flow generation in

  • Singapore, coupled with TPG’s on-going investments in deploying a mobile network in Australia, could heavily weigh on the telco’s balance sheet, making TPG a potential target for acquisition.

Emerging Industry trends – Mobile

SIM-only plans gaining popularity.

  • SIM-only subscribers already account for ~12% of M1’s postpaid subscriber base (~83k subs) and a mid-single digit portion of Singtel’s subscriber base. SIM-only sales also contributed to ~18% of total plan sales of Singtel in 4Q18, up from 15% in the previous quarter. 
  • We believe SIM-only plans will rise in popularity over the medium term, with lengthening smartphone replacement cycles and the emergence of handset leasing plans, which could further incentivise subscribers to move away from bundled plans.
  • Growing adoption of SIM-only plans presents a challenge to operators, with potential declines in mobile service revenues, dilution of ARPU and profitability, despite the elimination of handset subsidies. Customer spend over the life of SIM-only contracts tends to be substantially lower than handset plans, and SIM-only plans remain less profitable vis-à-vis handset plans, even after taking handset subsidies into consideration.

Singtel introduces handset leasing plans

  • Singtel has recently introduced handset leasing for SIM-only plans over a selected range of high-end iPhone and Samsung devices. The leasing plans carry a 24-month contract term during which subscribers make monthly payments to Singtel. At the end of the 24-month period, users are expected to return the device to Singtel in “good working condition”.
  • We believe handset leasing plans would stimulate the adoption of SIM-only plans as the ability to lease handsets could lure subscribers on handset plans to SIM-only plans, given the zero upfront payment and lower payments over the lifetime of the contract.
  • Whilst we believe moving towards handset leasing could potentially lower mobile revenues, our estimates indicate the impact on earnings from the adoption of handset leasing plans would be marginal.

Circle.Life shakes up the marketplace with free mobile plans.

  • Circles.Life shook the Singapore mobile space with “Flexi”, a free mobile offering loaded with 1GB of data, 30 mins talk time and 10 SMS. The SIM-only service offered with no contracts, also allows subscribers to top up data capacity with S$8 for 1GB and S$12 for 2GB. With “Flexi” plans Circles.Life is expanding its targeted segments in the low-ARPU space.
  • The Flexi plans are targeted at low-data users, without a possible cannibalisation of its existing subscriber base on the 6GB-S$28 base plan. Whilst, the “Flexi” plan is unlikely to generate counter-offers from the major mobile operators, the MVNO is making life difficult for TPG in the battle for low- ARPU subscribers, which TPG is likely to target when it enters Singapore in the later part of 2018.

Stock Profiles

Singtel to better weather the storm. StarHub likely to be most affected over the medium term.

  • We believe Singtel would be the least affected by the projected contraction of the industry, Singapore mobile accounts for only 13% of the telco’s service revenues vs. 84% for M1 and 54% for StarHub. Rising contributions from Optus, with a growing mobile business in Australia, and the S$500m expected cost savings & avoidance in FY19F through digitalisation and other initiatives should help Singtel defend its core EBITDA vs. likely declines at M1 and StarHub.
  • Mobile revenue support from Circles.Life, M1’s MVNO partner, and a growing fixed and IoT business should help M1 partially offset declines in EBITDA in M1’s mobile segment.
  • StarHub, however, could likely record bigger contractions in EBITDA owing to a contracting Pay-TV business, heavy competition from M1 in the broadband segment and the lack of support for mobile revenues from an MVNO. Whilst StarHub has struck a MVNO partnership with MyRepublic, we believe it could take at least 1-2 years before StarHub records any meaningful contributions from MyRepublic. It took M1 ~2 years to generate meaningful revenue contributions from Circles.Life.

We argue for 6x 12-month forward EV/EBITDA for and M1, 5.6x for StarHub and 7x for Singtel’s core EBITDA

  • We argue that Singtel’s core business should trade at the regional average 12-month EV/EBITDA of 7x vs. 5.5x currently, given the telco’s limited exposure to the declining mobile industry of Singapore and its ability to stabilise core-EBITDA through cost savings and support from Optus.
  • We believe that M1 and StarHub should trade at 6x and 5.6x forward EV/EBITDA respectively, at ~15% and ~20% discounts to the regional average, given the weak EBITDA outlook of these players.

Company Report

Sachin MITTAL DBS Vickers | https://www.dbsvickers.com/ 2018-06-26
SGX Stock Analyst Report HOLD Maintain HOLD 1.46 Down 1.76
BUY Maintain BUY 3.70 Same 3.700
HOLD Upgrade FULLY VALUED 1.42 Down 2.05