Telcos - CGS-CIMB Research 2019-05-21: UNDERWEIGHT

SINGTEL (SGX:Z74) STARHUB LTD (SGX:CC3)

Telcos - UNDERWEIGHT

STARHUB (SGX:CC3) registered another quarter of robust fixed enterprise revenue growth in 1Q19 (+14.1% y-o-y; - 8.2% q-o-q), largely owing to expansion in managed services and voice revenue.
Meanwhile, SINGTEL (SGX:Z74)’s Singapore enterprise revenue was also up, albeit by a mild 0.8% y-o-y (+3.2% q-o-q) as growth in ICT (managed services and business solutions) was mostly offset by decline in the traditional carriage business. EBITDA fell 12.6% y-o-y (-13.4% q-o-q) on price erosion from ICT contract renewals, lower fixed voice/mobile roaming income, and investments in digitalisation programmes.

.., down 4.9% y-o-y in 1Q19, attributable to lower IDD and voice usage, higher amortisation of device subsidies (adoption of SFRS 15) and larger mix of SIM-only plans. q-o-q, industry mobile service revenue dipped 3.7%.

.., falling 15k q-o-q (-1.9%), mainly due to customers’ shift to alternative over the top (OTT) video platforms and impact of piracy. Average revenue per user (ARPU) was steady (-3.3% y-o-y), with pay TV revenue down 0.2% q-o-q (- 8.4% y-o-y).

Service EBITDA margin for SingTel slid 3.6% pts y-o-y in 4QFY3/19 on the back of falling mobile service revenue and a higher mix of lower-margin fixed enterprise/ICT revenues, coupled with price erosion in the latter.
However, StarHub’s service EBITDA margin recovered 2.1% pts y-o-y due to lower staff costs, marketing expenses, and adoption of SFRS 16.

SingTel and StarHub’s earnings could come in below expectations in the next two quarters and beyond if:
1. enterprise fixed revenue growth does not pan out as favourably as predicted,
2. mobile competition in Singapore becomes worse than expected post TPG’s potential commercial launch in 2H19F, and/or
3. market competition intensifies in Australia and India for SingTel.
Our FY20-21 earnings forecasts could be cut should the above risks materialise.

Overall, we believe the Singapore telco sector earnings trend could remain weak in 2Q-4Q19F, due to more price pressures as existing players enhance the attractiveness of their plans ahead of TPG’s potential commercial mobile service launch in 2H19F. Investors may prefer to wait on the sidelines until they see TPG’s commercial launch offers, as well as its market traction by end-2019.

We forecast SingTel’s core EPS to be steady in FY3/20F, then expand 10.0%/10.3% y-o-y in FY21F/22F due to:
1. higher associate earnings, led by recovery at Bharti, and
2. narrower Digital Life (wholly-owned subsidiary) losses.
Among the incumbents, we believe SingTel is still the most resilient to intense competition in the Singapore mobile market upon TPG’s entry, as Singapore mobile accounts for only c.9% of FY20F group EBITDA. SingTel could also be the least impacted by any shocks from the 2100MHz/ 3.5GHz/28GHz spectrum allocations.
SingTel’s FY20F EV/OpFCF of 15.6x is broadly in line with the ASEAN telco average, backed by attractive FY20-22F dividend yields of 5.6% p.a., based on its commitment to pay DPS of 17.5 Scts p.a.
A potential re-rating catalyst is earnings rebound from 2HFY20F onwards, while a downside risk is keener competition in Australia, India and Singapore.
We maintain our ADD call on SingTel, which is our preferred Singapore telco pick, with an unchanged SOP-based target price of S$3.40.

We forecast StarHub’s core EPS to drop 34.3%/37.4% in FY19/20F, before stabilising in FY21F, at 1.7% growth. Although we project fixed enterprise revenue to grow healthily over FY19- 21F, the company may not be able to fully offset declining mobile revenues, as competition intensifies with TPG’s entry, along with weaker earnings from its pay TV and broadband segments.
We expect DPS of 9 Scts p.a. as per guidance in FY19F, but forecast lower DPS of 4.2/4.3 Scts for FY20/21F, which could be more sustainable levels due to the declining earnings, upcoming 700/2100MHz spectrum payments, and potential M&As.
We maintain our Hold call on StarHub with an unchanged DCF-based target price of S$1.65, arrived at after applying a 10% discount to our DCF-based fair value of S$1.84 (WACC: 7.1%), as we see a lack of near-term earnings catalysts. Its 13.4x FY19F EV/OpFCF is at a c.19% discount to the ASEAN telco average, which we deem as justified as its dividend yield could fall off from 5.9% in FY19F to 2.7%/2.8% p.a. in FY20/21F.
Upside/ downside risks: less-/worse-than-expected negative impact from TPG’s entry.