fisher college of business piaoyun xing, tianchao … - telecom sector...fisher college of business...

Telecommunications Sector Discussion Student Investment Management Presentation

Fisher College of Business Piaoyun Xing, Tianchao Xu March 18, 2014

Agenda 1. Sector Overview 2. Business Analysis 3. Economic Analysis 4. Financial Analysis 5. Valuation Analysis 6. Recommendation

As of 3/7, Telecom S&P weight = 2.21% (smallest among all industries) - SIM portfolio Telecom weight = 1.14% (smallest among all industries holding) Only SIM holding is T-Mobile (TMUS) S&P 500 SIM

Market & Portfolio Weight

3

Telecom Service Components

Verizon surpassed AT&T to become the largest Mkt Cap

player after acquiring ownership stake of wireless business from Vodafone

Other than Verizon and AT&T, the two largest components, all the

other companies have shown shrinkage in market weighting compared to last quarter

Company Mkt Cap (USD) S&P500 weightingVerizon 194.84 1.13%AT&T 168.91 0.98%American Tower 31.83 0.18%Crown Castle International 24.62 0.14%CenturyLink 18.01 0.10%Level 3 8.86 0.05%Frontier 4.9 0.03%Windstream 4.85 0.03%Total 456.82 2.64%

4

Telecommunication Industry Overview

Level 1 Industries: - Pure-play Wireless Telecom Svc Sprint (owned by Softbank), US Cellular, Leap Wireless - Diversified Telecom Svc

Level 2 Diversified Telecom Svc: - Integrated Telecommunications Svc: Verizon, AT&T - Alternative Carriers Qwest Communications, SBA Communications

5

Sector Performance- YTD

Underperform S&P 500 Index by an increasingly wider margin

6

Sector Performance- QTD

7

Underperforming S&P 500 since end of Jan

Key Industry Metrics

9

Market Penetration - subscriber base as % of the total number of potential customer

- suggest how much growth potential remains in a certain market

Average Revenue per User (ARPU) - average monthly revenue generated by each customer unit

- driven by minutes of use and value-added services

Average Revenue per Account (ARPA) - driven by data allotments and added devices to the account in shared data plan

Churn - % of customers that terminate services every month

- goal to minimize this metric

Industry Life Cycle

Wireline Wireless Wireless Phase: Growth Projected revenue growth rate over the next five years 6.6%, contribution to economy (3.7%) outpaces GDP growth (2.7%) Voice-only services in decline Increasing demand for wireless data and video services with the proliferation of broadband-enabled smartphones and tablets Growth moderated by high smartphone penetration (104%) and the rollout of 4G and LTE network by major players near completion

Wireline Phase: Maturing Landlines replaced by Wireless Fiber delivery of content where most of the growth comes from

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Geographic Coverage

Expanded wireless footprint across the U.S - Motivated by achieving economies of scale - 91% of the U.S population have three or more choice of wireless providers 82% have four wireless providers - Big Four carriers have a combined subscription base in excess of 260 mm ppl

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Southeast region: 1. 27.8% of market

size

2. Over-serviced

3. Sharpest fall of establishments due to industry consolidation

West region: 1. 15.9% of market

size

2. Most mature: high mobile penetration of 96.6%

3. Tech savvy population

Mid-Atlantic region: 1. 14.5% of market

size

2. Relatively affluent

3. Population decline is driving down subscriber increase

Customer Segmentation

Post-paid: billed for usage of services on a monthly basis based on the amount of services customers have used

- essentially unlimited credit; users with secured income - growth slowing down as wireless penetration surpassed 100% - higher ARPU

Pre-paid: customers purchase a certain amount of call credit monthly before services can be used

- fast-growing area - benefit from younger demographic preferring less expensive plans - Sprint acquisition of Virgin Mobile - T-Mobile only offered prepaid plans - AT&T acquired Leap Wireless

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Industry Concentration & Consolidation 95% of market dominated by Big Four (Verizon, AT&T, T-Mobile,

Sprint) - Verizon: 42.1% AT&T: 33.0% Sprint: 16.2% T-Mobile: 3.4% M&A led by major players drives consolidation of market share 1. Verizon $130 bn acquisition of 45% Verizon Wireless from Vodafone 2. Softbank $21.6 bn acquires majority stake in Sprint Nextel 3. Sprint $1.6 bn acquisition of Clearwire 4. T-Mobile (Deutsche Telecom) $1.5 bn acquisition of MetroPCS 5. AT&T $1.2 bn acquisition of Leap Wireless

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LTE- The New Wireless Standard

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3G wireless like WCDMA platform used to be the standard 4G is the next-generation of wireless platform - Long Term Evolution (LTE): faster and higher data

throughput - Worldwide Interoperability for Microwave Acess (WiMAX) Majority of 4G LTE rollout have almost completed by the end

of last year - Verizon leads with 301 mm 4G LTE POPs - AT&T 250 mm POPs - Sprint and T-Mobile around 200 mm POPs

Smartphones

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Flagship phones like iPhone and Galaxy are must-have - carriers have to pay subsidies to be eligible Handset subsidies are prevalent - double-edge sword: lead to customer additions but hurt margin

Carriers experimenting with eliminating/altering subsidy - Verizon prolonged upgrade period from 20 mths to 24 mths - EDGE Plan reduces subsidy for the ability to upgrade in 6

months given 50% of the cost is paid off - T-Mobile eliminated all subsidies

Regulation

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The Federal Communications Commission (FCC) - implementing laws enacted by Congress and President

- controlled the licenses for accessing radio frequencies for transmission

Department of Justice (DOJ) - antitrust and anticompetitive practices

Porter’s Five Forces

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Barriers to Entry: High - spectrum availability, capital intensity, concentration

Substitution: Low - cable companies and Google

Supplier Power: Moderate - equipment, semiconduct makers etc Buyer Power: Strong Rivalry: High - price competition intensified

Real GDP & Telecom

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Raw BETA 0.027

Adjusted BETA 0.351

ALPHA (Intercept) -1.746

R^2 (Correlation^2) 0.081

R (Correlation) 0.285

Disposable Income & Telecom

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Raw BETA 49.727

Adjusted BETA 33.484

ALPHA (Intercept) 28771.150



Consumer Confidence & Telecom

21

Raw BETA 0.124

Adjusted BETA 0.416

ALPHA (Intercept) 61.909



Financial Analysis Telecom Sector


Depreciation of telecom sector is higher the market average

Competitive margins

Presenter

Presentation Notes

EBITDA = Operating income + Depreciation & Amortization. Difference between the two graphs is because Depreciation & Amortization of telecom sector is higher the market avg..


Attractive high dividend yield

Relatively lower ROE

Financial Analysis Industry

Integrated telecom industry moves closely with the sector, while wireless brings surprises

1. Sample selection 2. Higher costs and expenses in wireless companies

Presenter

Presentation Notes

Wireless industry’s sales is above the whole sector’s as well as the integrated telecommunication’s. In terms of earnings, however, Wireless industry has been underperforming since 2008. Reason: 1. sample selection 2. Higher costs and expenses


Similar situation with margins

Concerns about wireless industry margins


Decent return of integrated telecom and the whole sector ROE of wireless industry fluctuates

Financial Analysis Normalized Return

Integrated Telecom

Wireless


Benchmark Sector

S&P 500 Telecom IntegratedTelecom Wireless AT&T Verizon T-Mobile

P/Trailing E 17.26 14.90 14.93 - 13.13 16.35 289.80P/Forward E 15.91 12.94 12.96 - 12.36 13.26 80.71

P/S 1.69 1.19 1.20 0.65 1.37 1.10 0.89P/B 2.61 2.31 2.31 1.81 1.88 3.42 1.74

P/CF 9.23 3.98 3.99 5.77 5.06 3.43 5.85Debt/Assets 23.92 32.80 32.80 47.20 26.92 34.15 29.21

Absolute BasisIndustry Company

Benchmark Sector

S&P 500 Telecom IntegratedTelecom Wireless AT&T Verizon T-Mobile

P/Trailing E 1.00 0.86 0.87 - 0.76 0.95 16.79P/Forward E 1.00 0.81 0.81 - 0.78 0.83 5.07

P/S 1.00 0.70 0.71 0.38 0.81 0.65 0.53P/B 1.00 0.89 0.89 0.69 0.72 1.31 0.67

P/CF 1.00 0.43 0.43 0.63 0.55 0.37 0.63Debt/Assets 1.00 1.37 1.37 1.97 1.13 1.43 1.22

CompanyRelative Basis

Industry

Valuation Analysis Overview

High Median Low CurrentP/Trailing E 20.22 16.92 11.78 14.90P/Forward E 20.63 16.96 10.93 12.94

P/S 1.62 1.35 1.02 1.19P/B 2.62 1.88 1.73 2.31

P/CF 6.04 4.66 3.78 3.98Debt/Assets 31.53 29.57 24.47 32.80


P/S 1.78 0.92 0.74 0.70P/B 1.16 0.84 0.65 0.89

P/CF 1.01 0.47 0.30 0.43Debt/Assets 1.27 0.97 0.64 1.37

Relative Basis

Telecom Sector

Telecom Sector

Absolute Basis

Valuation Analysis Telecom Sector

Slightly lower than historical median level

Debt level is the highest in 10 yrs

Mainly reflect integrated telecom, absent of wireless

Presenter

Presentation Notes

Traded at relative low price level Debt is the highest in 10 yrs Represent Integrated Telecom, absent of wireless.


P/S 1.95 1.29 1.12 1.20P/B 2.86 2.23 1.82 2.31

P/CF 6.82 4.38 3.90 3.99Debt/Assets 32.55 27.89 24.63 32.80


P/S 1.27 1.00 0.77 0.71P/B 1.07 0.88 0.79 0.89

P/CF 0.72 0.47 0.39 0.43Debt/Assets 1.36 0.99 0.64 1.37

Absolute BasisIntegrated Telecommunication

Relative BasisIntegrated Telecommunication

Valuation Analysis Integrated Telecom

Close to median level but still lower

The highest debt level

Presenter

Presentation Notes

Close to median but lower Debt

High Median Low CurrentP/Trailing E 26.13 14.98 7.41 -P/Forward E 17.87 12.24 4.81 -

P/S 2.49 0.79 0.29 0.65P/B 3.50 1.31 0.52 1.81

P/CF 8.61 4.40 1.26 5.77Debt/Assets 52.43 36.01 21.57 47.20

High Median Low CurrentP/Trailing E 1.57 0.95 0.48 -P/Forward E 1.09 0.79 0.38 -

P/S 1.58 0.51 0.32 0.38P/B 1.50 0.44 0.26 0.69

P/CF 1.04 0.30 0.22 0.63Debt/Assets 2.15 0.29 0.00 1.97

Relative BasisWireless Industry

Absolute BasisWireless Industry

Valuation Analysis Wireless

Relatively high level of debt

Around median level

Presenter

Presentation Notes

Around median level Debt

Bull Cases/Positives Bear Cases/Risks

• M2M services expansion

generates subscription growth-T, VZ, S.

• Smartphone penetration offering revenue.

• Popularity of video streaming requires data plan upgrades, increasing ARPU.

• Wireline service providers benefit from higher video penetration and ARPU – T, VZ.

• The price war for customer

acquisition places pressure on margins.

• Google’s eyeing fiber expansion threatens T, VZ. Comcast-TWC deal makes the wireline business more competitive.

• New communication ways.

Recommendation Bull & Bear

Main conclusion: • We recommend overweight telecom sector. • The sector is slightly undervalued now. • Several bullish factors may drive the growth.

Recommendation Summary

Other recommendations: Overweight: Verizon, AT&T • Stability, high dividend yields, new growth trend, undervalued Underweight: T-Mobile • Riskier, volatility, overvalued

THANK YOU Q & A

fisher college of business piaoyun xing, tianchao … - telecom sector...fisher college of business...

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