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Friday, March 4, 2016

Sector Update: Telco - Managing Headwinds



Maintain Neutral, Preference: Axiata

Malaysia telco sector

Muted outlook 

4Q15 results were mixed – mobile players struggled while it was more business-as-usual for fixed-line players. 2016 guidance was unanimously muted, and we have lowered FY16/17 net profit forecasts across the board. We now have HOLD ratings on all our stocks. On a relative basis, our preference is for Axiata (HOLD, TP: MYR6.10). 

4Q15: Mobile struggled; routine for fixed


4Q15 proved to be another challenging quarter for the mobile players, with net profit of the Big 3 all below expectations. The Big 3 again posted sequential service revenue decline (-0.7% QoQ), which meant fullyear service revenue of the Big 3 declined for a second consecutive year (-1.0% YoY). Net profit was further depressed by higher-than-expected depreciation, interest expense and taxes. Meanwhile, full-year results of fixed-line players (TM and TDC) were not as negative, with TM in line and TDC above expectations on forex gains. 

Cautious 2016 guidance 

With the exception of TDC, operators generally alluded to a challenging 2016. Mobile players are generally aiming for flat Malaysia revenue and EBITDA amid the increasingly challenging operating environment. TM is guiding for flat EBIT at its core fixed-line business as mild revenue growth is offset by higher staff, marketing and depreciation costs. TDC remains confident of achieving double-digit revenue growth, but margins could taper slightly in the absence of forex gains. 

Share price performance still a challenge


We have lowered FY16/17 EBITDA and net profit forecasts across the board. The sharpest cuts are in Maxis (higher depreciation) and TM (lower EBITDA and higher share of P1’s losses). We now have HOLD ratings on all our stocks. Share prices are down YTD, meaning the muted industry outlook has already been partly priced-in. On a relative basis, we prefer Axiata given its less Malaysia-centric earnings profile.

Mobile struggled; routine for fixed

Mobile service revenue down for the second year


4Q15 proved to be another challenging quarter for the mobile players, with the Big 3 again posting sequential service revenue decline (-0.7% QoQ). This meant full-year service revenue of the Big 3 declined for a second consecutive year (1.0% YoY). Fortunes of individual companies were mixed, with Maxis posting revenue growth (+3.3% YoY), Digi flat (+0.2% YoY), and Celcom posting a sharp decline (-6.8% YoY) in 2015. Celcom has been grappling with the consequences of its IT issues in 2015, and the lack of traction with its new products is a concern.  


Fixed-line revenue growth still at trend

2015 revenue growth for both TM’s (+4%) and TDC (+14%) was within guidance, with data-related segments again being the main growth drivers. For TM however, we were expecting stronger growth in its data segment given the US Dollar strength, but that did not materialise. Interestingly, both TM and TDC grew voice revenue in 2015 (+1% and +7% respectively) although this was more at the wholesale level rather than increased domestic voice usage. 


Disappointments exacerbated by items below EBITDA

The revenue shortfall at both Digi and TM meant EBITDA also disappointed marginally. In addition, depreciation generally trended higher. The mobile players in particular, are in a capex-intensive phase as they accelerate their LTE rollout. Axiata was further hampered by JV losses and higher-than-expected interest expense, while Maxis saw higher-than-expected taxes. 

Cautious 2016 guidance 

Mobile players aiming for stability

Mobile players are generally aiming for flat Malaysia revenue and EBITDA amid the increasingly challenging operating environment. This has not incorporated the potential incremental 900/1800MHz spectrum fees. Monetisation remains the main issue, with overall consumer sentiment still weak, and the migrant segment seeing severe headwinds due to the weak Ringgit. The Big 3 has repeated their intention to price products rationally.  

UMobile still the main disruptive threat

For now, we see UMobile being the main disruptive threat in 2016. UMobile has continued to launch products with aggressive pricing/features. Nevertheless, given its relative network inadequacies, we believe the overall impact to the Big 3 is unlikely to be material. Meanwhile, TM has finalized a domestic roaming agreement with Celcom, and is still targeting to launch its LTE product some time in 2016. Nevertheless, we believe a tangible impact (to the mobile players) will likely only be seen in 2017 as TM irons out potential teething issues. The other wild card is YTL Power’s Yes!, which also has plans to roll out a TDD-based LTE network. 

TM’s guidance for EBIT stability a disappointment

TM is guiding for flat EBIT at its core fixed-line business as mild revenue growth (+3-3.5%) is offset by higher staff, marketing and depreciation costs. Management is guiding for capex intensity to trend up (to 25-30% of revenue) as the rollout of HSBB2, SUBB and the LTE network intensifies, meaning depreciation would likely creep up. Management was again mum on expectations for P1, whose 2015 losses were much larger than expected. In our view, P1 will likely remain loss-making in 2016. In addition, TM’s stake in P1 has increased from 55% to 73% in Feb 2016 following a conversion of the convertible notes, meaning it will have to bear a larger portion of P1’s losses. 

TDC still optimistic

TDC meanwhile remains confident of achieving double-digit revenue growth. This stronger growth expectation relative to TM needs to be caveated by the much smaller base that TDC is coming from. The AAE-1 submarine cable system could potentially begin to contribute in 2016. Separately, management expects EBITDA margins to remain within the 35-40% range. Note however that 2015 EBITDA margin (39%) came in at the high-end of guidance due to forex gains. Thus we believe 2016 margins are likely to compress slightly YoY.  

Lowering earnings forecasts
We have lowered FY16/17 EBITDA and net profit forecasts across the board to reflect our revised revenue and margin expectations for the sector (the changes are summarized in the following table). Our forecasts have yet to incorporate the incremental 900/1800MHz spectrum fees. The sharpest cuts are in Maxis (higher depreciation) and TM (lower EBITDA and higher share of P1’s losses). Our DPS forecasts are also reduced correspondingly.  

Source: Maybank IB Research, 04 Mar 2016

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