M1 - DBS Research 2018-07-30: Circles.Life & Fixed Services Continue To Surprise The Market

M1 - DBS Group Research Research 2018-07-30: Circles.life And Fixed Services Continue To Surprise The Market M1 LIMITED SGX:B2F

M1 - Circles.Life & Fixed Services Continue To Surprise The Market

  • 2Q18 earnings of S$36.2m (+1.5% y-o-y, +4% q-o-q) was 3% above our expectation.
  • Contributions from Circles.life and growing fixed services segment supported revenues.
  • M1 is better equipped than StarHub to weather potential declines in the mobile segment with the entry of TPG.
  • Maintain HOLD and S$1.46 Target Price.

What’s New

Circles.life and fixed services segment support service revenues.

  • 2Q18 service revenues of S$193m (+5.2% y-o-y, +4.5% q-o-q) was driven by growth in mobile and fixed services segments.
  • Mobile service revenue expanded 3.8% y-o-y (+3.7% q-o-q) on the back of growing contributions from Circles.life and growth in data revenues, which accounted for 64% of mobile service revenue during the quarter (vs. 55% in 1Q18), offsetting the impact of legacy declines and rising uptake of SIM-only plans.
  • Fixed services segment expanded 27% y-o-y (+15% q-o-q) supported by a higher fibre customer base and contributions from corporate projects.

~ SGinvestors.io ~ Where SG investors share

1H18 earnings growth is not sustainable into 2H18 as per management guidance.

  • 2Q18 earnings of S$36.2m (+1.4% y-o-y, 4% q-o-q) was ~3% above our expectations and beat consensus’ which was anticipating a 9% y-o-y decline.
  • Higher staff costs and facilities expenses, which expanded ~6% y-o-y during the quarter weighed on EBITDA of S$78.3m (+1.3% y-o-y, +3.7% q-o-q). Cost of sales recorded a marginal increase of 0.7% y-o-y, with the impact of lower handset subsidies and traffic costs largely offsetting the impact of higher wholesale and other expenses of the fixed services segment.
  • M1 has achieved 57% of our FY18 earnings projections in 1H18 but we anticipate a tougher 2H with the entry of TPG, leading to tight price competition on the mobile segment and potential erosion of margins from growing contribution of the fixed services segment. M1’s management also guided for a y-o-y decline in earnings in 2H18.

Cash flow generation to support expansion.

  • M1’s balance sheet has remained strong with its relatively consistent capital expenditure and dividend payments. The company maintained its capex guidance of S$120m for FY18. 
  • M1 will also incur another S$188m in FY19/20 for the 700 MHz spectrum acquired in the 2017 General Spectrum Auction. 
  • We believe M1’s cash generation and flexibility would further lever its balance sheet to easily support current and future spectrum needs and network expansion plans.

M1’s revenue share to decline amid competition from TPG and MVNOs.

  • We expect the Singapore mobile industry to decline ~18% from the current levels by 2022, recording an annual decline of 4% during FY17-22F, on the back of rising adoption of SIM-only plans and an aggressive TPG. 
  • After factoring in the impact of SIM-only plans and potential poaching of subscribers from Mobile Virtual Network Operators (MVNOs) and TPG, we believe that M1 will record revenue share losses of ~1.3% p.a. over 2017-2022 vs. 2.5% for StarHub
  • Growing contributions from Circles.Life M1’s MVNO partner, and M1’s cheaper mobile SIM-only plans with equipment should allow M1 to minimise revenue share losses over the period in our view. With the potential ARPU dilution from SIM-only plans and subscriber losses, we project 4% annual decline in M1’s mobile revenues over 2018- 2022, in line with our industry base case.

Better equipped than StarHub to weather the storm.

  • Amid the potential industry-wide decline of the Singapore mobile segment, we believe that M1 is better equipped than its rival, StarHub, to weather the impending storm as
    1. strong mobile support from Circles.Life should minimise revenue share losses,
    2. non-reliance on bundling with Pay TV services and,
    3. growing fixed services and a new IoT segment should partially offset the impact of a decline from its mobile segment on EBITDA.
  • This should allow M1 to limit its annual EBITDA contraction to 3% over FY17A-20F vs. 4% for StarHub in our view.
  • We argue that M1 should trade at 12-month forward EV/EBITDA of 6x (vs. 5.6x for StarHub), representing a 15% discount to the regional average of 7x.

Maintain HOLD with an unrevised Target Price of S$1.46.

  • Due to the lack of clarity on future free cash flows, we have adopted a peer multiple based valuation to value M1 at S$1.46.
  • We value the counter at 12-month forward EV/EBITDA of 6x, at ~15% discount to the 7x regional average. The counter offers a yield of ~7% at current price levels.

Bear-case Target Price is S$1.20 if TPG causes severe disruption.

  • If TPG causes server disruption with its free mobile plans, M1 could see a 10% drop in FY19F EBITDA vs our base case of 4% drop. We use 5.4x 12-month EV/EBITDA to derive our bear-case TP.

Sachin MITTAL DBS Group Research Research | https://www.dbsvickers.com/ 2018-07-30
SGX Stock Analyst Report HOLD Maintain HOLD 1.460 Same 1.460