Prospects remain intact in telco stocks despite rich valuations

The telecommunications (telco) sector’s prospects remain intact given con­sensus estimates have yet to fully impute in new potential upcoming catalysts such as a prepaid service tax hike, the final allocation of the 4G spectrum, infra and network collaborations and the introduc­tion of a new business model into financial analysis models.

Outlining this, analyst Cheow Ming Liang from the research division of Kenanga Investment Bank Bhd (Kenanga Research) highlighted that these new catalysts to materialise, which he believed the earliest could be seen in the fourth quarter of 2012 (4Q12), could provide a ‘re-rating spark’ again to the sector going forward.

“On the flip side, we believe that the sector’s inflection point could happen when there is limited room for further divi­dend yield compression and an increase in risk appetite, which may result in the market shift­ing focus from defensive to high beta sectors.

“On top of that, we also expect a temporary lull in share prices in the sector during the general election (GE) campaign period,” he noted.

The local telco sector had re­corded an average year-to-date (YTD) total return of 38.3 per cent as compared to the bench­mark Kuala Lumpur Composite Index of 9.7 per cent.

The sector’s hefty YTD per­formance was led by DiGi.com Bhd (DiGi) at 47.1 per cent, followed by Telekom Malaysia Bhd (TM) at 38.1 per cent, Maxis Bhd (Maxis) at 34.5 per cent and Axiata Group Bhd (Axiata) at 33.5 per cent.

This was “mainly attributed to the stocks’ strong cash flow generation capability, stable operational environment and more importantly, solid divi­dend commitment.”

“Apart from that, the sector index component status and its defensive shelter status in nature have resulted in portfolio managers having to include in telco stocks when constructing their portfolios, especially dur­ing the current volatile market,” he stated.

Despite the strong YTD ral­lies in the sector’s stocks, both DiGi and Maxis still had room for further yield compression, Cheow pointed out.

“DiGi is currently offering a decent dividend yield of 5.2 per cent, based on our financial year 2013 (FY13) dividend per share (DPS) forecast of 28.5 sen, still far off from the group’s historical three-year lowest dividend yield of 4.32 per cent.

“Similarly, Maxis still offers a strong dividend yield of 5.7 per cent, based on our FY13 DPS forecast of 40 sen, as compared to its historical two-year average dividend and lowest dividend yield of 5.12 per cent and 4.28 per cent, respectively.

“Should we adopt these lowest yields to our FY13 DPS forecast, DiGi and Maxis could be valued at RM6.60 per share and RM9.35 per share, respectively, under a ‘blue sky’ scenario.

“On the other hand, our GE study suggests that defensive sec­tors (like consumer) may continue to outperform the benchmark index in the post-GE period.

“This is in contrast to high beta sectors (like property and construction), which tend to un­derperform the index during the one to six month period after a GE,” he stated.

Meanwhile, the deferment of the proposed six per cent prepaid serv­ice tax hike by cellular companies (celcos) had not seen any updates and Cheow believed that the issue would only be re-discussed after the 13th GE and likely take months before the conclusion could be finalised.

While celcos would tend to benefit from the proposed pre­paid service tax hike should the government give the green light and subscribers’ consumption behaviour remain unchanged, there was no sign suggesting that this plan would materialise in the near term at this juncture.

The Malaysian Communica­tions and Multimedia Commis­sion (MCMC) is expected to final­ise the allocation of the 2.6GHz (or 4G) spectrum and conclude the Apparatus Assignment (AA) by year-end.

Cheow was brought to under­stand that not all the nine players would receive the spectrum as the authority had set the infra and network collaboration as part of the pre-requirements for the assigning of any blocks of the spectrum to players.

“The finalisation of the 4G spectrum AA will mark another corporate milestone to the local mobile operators given that players will be able to provide 4G services and more value-added services, add better user experience as well as widen its revenue streams in a more cost-effective way.

“We believe its impact have yet to be factored in by analysts in their forecasts due to the lack of roadmaps provided by the mobile operators at this juncture.

“We believe that there will be more infrastructure and network collaboration agreements being inked between the industry play­ers in the next few months. Out of this, Celcom and TM collabora­tion could potentially be on top of the list,” he opined.