Once one of the most aggressive growth stocks on the ASX, TPG Telecom (TPM) fell on hard times in mid-2016, with the share price spiraling downward until its announcement of a proposed merger with Vodaphone Hutchinson Australia, a 50% joint venture with ASX listed Hutchinson Telecommunications (HTA).
Growth investors get nervous once a favored stock reaches the point where future growth prospects begin to diminish. In early 2016, analysts and market commentators began a steady beating of the moderate growth drum following years of mergers and consolidation within the sector. In the case of market darling TPG Telecom, it appears market participants saw few new worlds for the once high-flying company to conquer. The Full Year 2016 Financial Results sported a healthy 69% rise in net profit after tax (NPAT), fueled by TPG’s acquisition of rival iiNet. For FY 2017 TPG management forecasted modest 6% earnings growth.
According to many analysts, what had been driving share price growth of the major telecommunication stocks was their ability to increase market share by gobbling up smaller rivals. Fewer rivals would inevitably lead to slower growth.
Added to the slow growth drumbeat was the impact of the NBN (National Broadband Network) rollout and cutthroat price cutting to attract new broadband customers, in many cases a matter of stealing customers from each other rather than increasing the size of the market.
TPG is the fourth largest telco on the ASX, trailing industry leader Telstra Corporation Limited (TLS), with second and third slots held by SingTel’s Optus and Vodafone Hutchinson Australia. TPG had plans to expand its principal fixed line focus to include the building of its own mobile network to compete with the top three providers. Market enthusiasm for the proposed merger appears to be the result of less competition for the mobile segment, with many experts predicting TPG’s proposed bargain basement monthly mobile subscription fee of $9.99 per month falling by the wayside with its acquisition of HTA’s existing mobile customer base.
Despite the spectre of the ACCC (Australian Competition and Consumer Commission) looking into the merger, the share price of both TPM and HTA rocketed upwards on the news.
The reduced competition logic the merger would bring to the market was supported by the rise in share price of premier rival Telstra, along with that of smaller player with a small mobile footprint Vocus Group Limited (VOC).
Despite the hype, the telecommunications sector still faces tailwinds from the NBN as well as the infrastructure costs associated with the coming 5G Networks, expected to begin debuting in Australia in 2019 through 2020. The spectacular speed increases with 5G are being hailed as a “game-changer”, fueling the rise of the Internet of Things (IOT).
Despite debates over how 5G Networks could impact the NBN, the extreme speed of 5G is likely to enhance growth opportunities for the two biggest ASX Telco’s.
The following table looks at the top ASX players, excluding HTA in anticipation of the merger with TPG Telecom.
Aussie investors who frequent the numerous articles touting the advantages of high dividend paying stocks have found Telstra on various “recommended lists” for some time. TLS has a current fully franked dividend yield of 5.7%, yet over ten years the average growth in dividend yield was -2.6% and -4.7% over five years. When you add share price appreciation to dividends to get average annual rates of total shareholder return, you can see Telstra’s performance over time badly trails that of TPG Telecom, and to a lesser extent, the Vocus Group, which eliminated dividend payments in FY 2018. TPG has a scant current yield of 0.8%, but over ten years dividend growth averaged 17.4% and 13.1% over five years.
However, Telstra remains the 500-pound gorilla in the sector, flush with the success of the world’s first 5G mobile phone call, using equipment provided by the company’s mobile equipment partner Swiss-based Ericsson. The company anticipates a full 5G rollout in 2019, but rival Optus also anticipates a rollout of its own 5G Network in 2019.
Telstra is our largest telecommunications company and the 18th largest in the world, with the company website claiming 17.7 million Australian retail mobile customers; 4.9 million retail fixed voice customers; and 3.6 million retail fixed broadband customers. The company serves the small business, enterprise, and government sectors along with international business operations in 22 countries around the world.
The company’s Full Year 2018 Financial Results beat guidance, but revenue growth showed a meager 3% increase while NPAT (net profit after tax) dropped 8.9%. While of concern to many analysts, Telstra has been investing heavily, with $1.8 billion of a projected strategic investment expenditure of $3 billion, all going towards Telstra’s “Networks of the Future” build up, including its 5g Network and digitisation improvements across the board.
Investors were especially pleased with the company’s $480 million-dollar reduction in fixed operating costs, part of a strategic plan calling for a $2.5 billion dollars in cost reductions by 2022. Analysts at Goldman Sachs, impressed with Telstra’s growth in mobile subscribers, have a Conviction Buy rating on Telstra, which trades in the US under the ticker symbol TTRAF. Although it may seem contradictory to some investors, Telstra stands to benefit from the TPG/Hutchinson merger leading to an end to the margin-busting price wars.
For investors looking for solid, consistent management, TPG Telecom (TPM) has a long-standing CEO, David Teoh, meriting more than a casual look. TPG has made bold promises over the years and its long-term performance demonstrates it lived up to its claims. A waver of acquisitions propelled the share price in what seemed a never-ending upward arc, only to fall victim to changing market sentiment.
The latest deal may prove to be the company’s best, as a merger with Vodafone Hutchinson enhances the company’s capabilities and dramatically reduces its costs. TPG had plans for 5G Networks as part of the build-up of its own rival mobile network, but the Vodafone merger should eliminate the need for TPG to continue some of its costly plans, since the company would then be competing against itself in the mobile space.
David Teoh appears at it again, promising “We will be a more formidable competitor against Telstra and Optus”. The marriage between the two gives the combined company approximately 20% of Australia’s mobile phone market and 22% of the fixed line market, right out of the starting gate, with revenues of $6 billion dollars and earnings before interest, taxes, depreciation, and amortisation (EBITDA) of $1.8 billion.
The share price of ailing Vocus Group (VOC) also got a big boost from the merger, coming as a surprise to some Vocus investors who know the company is primarily a “fixed line” provider with only a small footprint in the residential mobile market.
Vocus ranks number nine on the ASX Top 30 Shorted Stock List, again coming as no surprise given the company’s FY 2017 Financial Results. While revenues more than doubled, profit went from $64 million to a staggering loss of $1.4 billion. The revenue increase was spurred by the merger with rival M2 Group in 2016. The loss was attributed to a series of massive write-downs in goodwill assets. Without the one-offs, NPAT fell from $152 million to $101 million. The company returned to profitability in FY 2018, reporting NPAT of $61 million.
Vocus offers residential broadband and mobile, along with cloud services and underground fibre fixed line connections to small businesses, enterprise, and government. The extensive national infrastructure network connects all Australian capital cities and a majority of regional centres here in Australia and in New Zealand, with direct connections to more than 5,000 buildings, and 70 data centres in Australia and New Zealand.
The company also wholesales NBN services to providers for resale to their own customers. Internationally, Vocus connects Australia and New Zealand to the US via the underseas Southern Cross Cable Network (SCCN). Vocus has invested heavily in the construction of another undersea cable system – the Australia Singapore Cable (ASC) -connecting Perth in Western Australia to Singapore, via Jakarta, Indonesia, and Christmas Island.
While the kind of fixed fibre connections to data centres and commercial and government organisations are unlikely to disappear in the near future, Vocus faces a threat from the advent of 5G mobile networks. The company has two brands offering services to the retail sector.
The dodo™ offers broadband internet services which can be bundled with gas and electricity supply. The iPrimus™ brand also offers broadband internet services along with fixed home phone lines. Both brands offer mobile services. The company’s Consumer Division is its largest revenue contributor at $790 million for FY 2018. Broadband contributed $393 million with mobile contributing only $56 million.
The threat to Vocus stems not just from the loss of mobile customers to 5G networks, but from broadband customers as well. If the prediction that 5G speeds will dwarf connected broadband speeds, albeit at a higher cost, those who can afford it may be ready to switch.
