Convergence
has become a core strategy for telecommunications operators (telcos) in
developed markets and we believe Malaysia will be no exception. The
bundling of disparate communication, entertainment and utility services
in a single package will be the direction where Malaysian telcos are
heading in order to remain relevant in the fast-changing
telecommunication and internet industry. In situations where lack of
presence affects an operator’s ability to move to quad-play, acquiring
peers that provide complementary services would be a possible option.
Hence, we believe that this path would create merger and acquisition
(M&A) opportunities in the industry with the potential integration
of Telekom Malaysia (TM) with Axiata and Maxis with Astro. However, in
the medium term, the telco sector is likely to experience a continuing
trend of falling service revenue due to a competitive industry
landscape. Hence, we project muted earnings growth over the next 3
years. Maintain Neutral on the telco sector. Although TM appears to be
the clear winner in achieving convergence sooner than its peers,
execution risks remain a key concern.
- Declining service revenue in the medium term. We believe that industry-wide revenues will decline in the medium term as telcos become more aggressive with their data offerings in order to protect market shares. Prepaid segment is suffering from falling subscriber base as well as ARPU and we ascribe this to a declining foreign workers population. In 2015, there were 2.135m foreign workers in Malaysia but this has dipped to 1.85m as at September 2016. We attribute this to stricter requirements imposed by the government for the employment of foreign workers. Additionally, foreign workers are leaving the country, as it is no longer an attractive employment destination due to the weaker ringgit. This has affected the migrant segment, which is the key customer base for the prepaid market. We are unlikely to see a recovery in the prepaid market as we expect the current issues to persist in the medium term. Meanwhile, postpaid market is holding up well but we believe competition will intensify moving into 2018, post-900/1800MHz spectrum reallocation with the rolling out and usage of additional spectrum by DiGi and UMobile.
- Muted earnings growth. Over the next 3 years, we are forecasting muted earnings growth of -0.4% for the sector. Operators that focus on the Malaysian mobile market will be more adversely affected due to growing competition while those providing converged solutions would have more resilient earnings but they could also invest heavily into fibre broadband deployment and wireless network that leads to higher cost. Hence, in the medium term, the telco sector is not likely to deliver exciting earnings growth given a crowded mobile space, ineffective data monetization and heavy investment into new infrastructure.
- Convergence is the key to staying relevant in the long run. We believe long-term growth will be driven by the operator’s ability to offer converged solutions (broadband internet, cable television, fixed line and wireless). By doing so, operators could improve customer retention and prevent traditional services from becoming obsolete on a standalone basis. With internet usage becoming more widespread and permeating all aspects of society, we believe forward-looking telco players that embed over-the-top (OTT) services, IPTV (internet protocol television) and mobile VoIP (voice over internet protocol) into their offerings would excel in the long run. Consumers would demand more media content and more network bandwidth is needed to increase the quality of their interactive experiences. However, it is also important to achieve significant improvements in software and network efficiencies in order to offer these services at little or no cost to their customers. Being a convergence player, we reckon it should limit the decline in revenue as usage of internet services increase while pricing is maintained. Given the existing industry landscape, we believe the increasing pressure to achieve convergence would suggest market consolidation in the future.
- Moving to quad-play or convergence leads to more M&A activities. Among the incumbents,
only Telekom (TM) focuses on convergence but we reckon that for it to
achieve this, it would need to invest heavily into the wireless
business. Market chatter has been rife about potential merger between TM
and Axiata, which we do not rule out the possibility given the
potential synergies i.e. extensive broadband and mobile network,
enlarged customer base, cost savings from sharing of resources. Celcom
would provide TM the immediate entry into the wireless market than
re-building a new business via Webe, which could take years before
achieving steady state. We are also of the view that Maxis and Astro
make a good pairing. A merger with Astro would allow Maxis to offer pay
TV services and digital content that complement its existing mobile
services. We note that Astro and Maxis are already co-marketing their
products with Astro gaining wireless access on the go for its content
while Maxis is able to bundle its fibre with Astro IPTV. Given the
emergence of OTT rivals, we believe Astro would be able to compete more
effectively if it has greater access to wireless and broadband networks.
This would enable the achievement of technological convergence by
merging Maxis’ wireless and broadband networks with Astro’s content
offering capabilities.
- Next spectrum re-farming exercise
in 2018? After the completion of the 900MHz and 1800MHz reallocation
exercise, we expect the next re farming to take place only in 2018.
The 2100MHz band is due for expiry in April 2018. Although the current
allocation under this band appears to be fair (each incumbent holding
2x15MHz + 1x5MHz), we believe the pricing, particularly the upfront
cost, could go up. Also, smaller operators were given allocation under
the 2600MHz band but going forward, we expect this to be re-farmed to
the major operators in order to improve efficiency and maximize revenue
collection by the government. Meanwhile, the valuable 700MHz band may
only be made available to the telcos once digital television
broadcasting is closer to successful launching, perhaps in 2H2018.
- Commercialisation of 5G.
We believe the commercialization of 5G in Malaysia will take time,
perhaps not within the next 5 years. Due to the higher capacity
requirements of 5G, it is vital for telco operators to be supported by a
strong backhaul infrastructure. In addition, 5G would also require
access to more spectrums and extensive network fiberisation. All these
involve high deployment cost and time.
- Lower dividend on stretched balance sheet and muted earnings growth. Historically, telcos have been paying attractive dividend owing to their high-margin business and stable earnings flow. However, the changing industry landscape with intense competition and heavy capital commitment should limit the telcos’ ability to sustain their dividends, particularly Maxis and Axiata. Going forward, dividend yield would remain unattractive at less than 4% p.a for FY17-18F. Based on our estimates, Axiata’s dividend yield would be the least attractive at 1.7% given its high gearing and heavy capex commitment for its regional operating units. DiGi should still be able to maintain a yield of c.4% due to its ability to seek external borrowing to fund for its capex. Meanwhile, we believe the timing for Maxis’ fund raising exercise is ideal as its earnings remains resilient at this juncture due to its premium branding and superior network infrastructure relative to peers. This however may not sustain moving into 2018, as we expect peers to improve on product offering and quality of services once they roll out additional spectrum under the 900/1800MHz bands. We have adjusted Maxis’ share base to take into account the 300m new shares placement. As a result, our TP for Maxis is reduced by 4% to RM5.64.
- We believe long-term growth will be driven by the operator’s ability to offer converged solutions (broadband internet, cable television, fixed line and wireless). By doing so, operators could improve customer retention and prevent traditional services from becoming obsolete on a standalone basis. Telekom is in the pole position as a convergence player but in the near term, earnings may be under pressure due to initial cost outlay in expanding its wireless business i.e. Webe. We reiterate our Neutral rating on Malaysia’s telco industry as we expect the sector to remain lacklustre in the near term.
Source: PublicInvest Research - 4 Jul 2017
http://klse.i3investor.com/blogs/PublicInvest/126691.jsp
http://klse.i3investor.com/blogs/PublicInvest/126691.jsp
