Telecommunication - Values emerge again after sell-downs

We reiterate our OVERWEIGHT call on the local telecommunication sector. The sector recorded a negative average return of 3.1% since the recent broad market sell-down triggered by fears over uncertainties from the coming General Elections (GE) two days ago. While we believe the broad market may continue to face some hiccups ahead of the upcoming GE, we believe values in the sector have started to emerge again following the recent sell-downs. This could thus provide a good entry opportunity for long-term investors. The sector’s strong dividend yield coupled with the expectation of a stronger Ringgit (against USD) could also provide a safe haven and defensive shelter for investors during the current uncertain period. The key catalysts in the sector include 1) 4G LTE earnings opportunities, 2) infra and network collaborations, and 3) the introduction of a new business model. The key investment risks, on the other hand, include 1) a potential price war, 2) weakerthan-expected subscriber additions, 3) higher network and operational costs and 4) a lower-than-expected dividend yield. We are maintaining all our Telco companies’ FY12-FY14 earnings estimates. Telekom Malaysia (“TM”, “OP”, TP: RM6.80) remains our top pick in the sector. We also reiterate our OUTPERFORM calls on both Maxis (TP: RM7.20) and Digi (TP: RM5.77) while maintaining our MARKET PERFORM rating on Axiata (TP: RM6.81). 

Time to accumulate?  The FBMKLCI index has dipped by 2.85% (or 47.8 points) since the market sell-down two days ago, which was triggered by fears over the uncertainties from the forthcoming General Elections (GE). The local telco sector fell 3.1% on average in the same period with Digi (-4.5%) being the worst-hit telco stock followed by Axiata (-4.2%), Maxis (-2.9%) and TM (-0.9%). For the YTD, all the telco stocks were lower by an average of 5.8%, underperforming the benchmark index drop of 3.6% (or 220 bps).  While we believe the broad market could potentially continue to face hiccups ahead of the upcoming GE, we believe that values in the sector have started to emerge again following the recent sell-downs, thus providing a good entry opportunity for the long-term investors. As we highlighted in our 1Q13 Investment Strategy Review (dated 22 Jan 2013), we believe that the mainstream investment choices will still be on those stocks with high dividend yields and those that have consistently delivered positive total returns during the uncertain GE period. Telco stocks certainly fit into this strategy, in our view.  

Values emerging again after the recent sell-down. The recent two-day sell-down in the broad market has prompted us to re-look at telecommunication stocks. TM is currently trading at 6.9x EV/forward EBITDA, which is closed to its recent low of 6.8x recorded in November 2012. Similarly, both Maxis and Digi have also recorded comparable trading patterns. Maxis and Digi are meanwhile trading at EV/forward EBITDA ratios of 11.8x (vs. 11.9x) and 12.2x (vs. 12.1x), respectively. Axiata is, however, trading at 7.7x EV/forward EBITDA, a slight ‘premium’ as compared to the 7.3x that it recorded in November last year. 

Key catalysts. While the sector’s competition continues to be intensified, its long-term prospect remains intact, in our view, given that the consensus and us have yet to fully impute the new potential upcoming catalysts (i.e. 4G LTE earnings opportunities, infra and network collaborations, the introduction of a new business model such as business trust and/or the spin-off of tower infrastructure assets) into our financial models. Meanwhile, the sector’s strong average dividend yield of 4.6% in CY13 (vs. 3.6% of the FBMKLCI) coupled with the expectation of a stronger Ringgit (against USD) will provide a safe haven and defensive shelter for investors when the regional stock markets’ volatility level increases.     

The key investment risks include 1) a potential price war, although we downplay the possibility at this juncture, 2) weaker-than-expected subscriber additions, 3) higher network and operational costs (i.e. data and networks upgrade costs) and 4) lower-than-expected dividend yields.   

Source: Kenanga