Is Another Dividend Cut Looming For Telstra?
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Telstra ((TLS)) has lowered guidance for key metrics in FY18, with the exception of free cash flow. Difficult trading conditions persist in both the mobile and fixed areas of the business and the company has signalled that the FY18 result will be at the bottom end of the $10.1-10.6bn profit guidance range.
Mobile subscriber growth has stayed strong but postpaid average revenue per unit (ARPU) fell by -3.6% in the March quarter. Pre-paid mobile broadband revenues also fell. The company reported solid retail fixed data net additions and growth in mobile postpaid subscribers, but competitive pressure has led to lower minimum monthly commitments.
Competitive conditions could be more strained as the industry moves towards unlimited plans, while the continued roll-out of the NBN is also expected to put pressure on fixed-line revenue. CLSA suggests that as Telstra now expects one-off NBN income to be higher, this must imply the underlying business is weaker in the second half.
While management guided to free cash flow at the top end of the $4.2-4.8bn range, brokers note this is primarily because of favourable timing of working capital movements in the current half-year.
Macquarie agrees with CLSA that the underlying business performance is weaker again, if allowing for the fact this includes NBN one-off payments in the top half of Telstra's range. The broker suggests new guidance parameters indicate Telstra's EBITDA (operating earnings) ex-NBN one-offs is falling by more than -10%.
Excluding one-off NBN income, CLSA calculates Telstra is trading on a 16.0x PE on FY19 estimates and the $0.22 dividend may not be sustainable given deteriorating core earnings. The broker, not one of the eight monitored daily on the FNArena database, has an Underperform rating and $3.07 target.
Ord Minnett is also of the belief that a dividend reduction by FY21 is inevitable, suggesting the competitive environment in mobile has not yet reached its peak and this is likely to happen when TPG Telecom ((TPM)) launches its mobile service later this year or early next year.
Ord Minnett expects a steeper decline in mobile ARPU and now estimates the dividend will be reduced to $0.18 a share from FY21. This is based on the current dividend policy of paying 70-90% of normalised earnings.
Macquarie downgrades estimates for EPS in the near term by -7-10% and cuts dividend estimates for FY19 and beyond to $0.20 a share. While Telstra could use NBN one-off payments to sustain the dividend for the next few years under its current policy, the broker contends increased pressures provide the scope for a more conservative view on the long-term dividend outlook.
Telstra has stated it will update the market in June on additional strategic initiatives being put in place to address the trends. Macquarie expects there may be further cost initiatives. Telstra could review some of the loss-making businesses in its new business segment and this could provide a near-term benefit to operating earnings.
It remains less clear as to what initiatives could be announced to improve market share and ARPU in the core operations. In fixed line, Macquarie expects the competitive dynamic will be challenging and Vodafone is likely to win some share over the next 12 months.
Citi agrees it no longer makes sense to pay $0.22 a share beyond FY18 when the ordinary dividend is likely to fall to $0.11 once the one-off payments end.
UBS estimates Telstra could be worth up to $4 in the long-term by factoring either upside from the 5G bypass of the NBN or Telstra taking a material share of the growth that is forecast for new 5G enterprise revenue.
Despite the long-term value, the broker envisages share price downside once TPG enters the mobile segment in the second half of this year. Hence, UBS remains Neutral on negative near-term catalysts.
Once these crystallise, nonetheless, Telstra could be attractive on a long-term risk versus reward basis. The broker's scenario analysis implies the market may be factoring most of the NBN headwinds but little of the associated 5G option.
Citi asserts drastic action is required to slow the earnings decline. There is limited scope for revenue growth in core businesses but Telstra could consider more aggressive cost reductions and asset sales.
The broker believes Telstra's current strategy is not working and the 5G is no panacea either. 5G provides cost savings because of efficiency gains over 4G and in the current competitive environment this simply allows for continued data limit growth, rather than improved profitability.
Similarly, with 180 NBN retail service providers (RSPs) the competition is so intense that any wholesale price cuts are likely to be competed away, rather than delivering margin expansion for RSPs.
Morgans has a positive investment thesis based on a pessimistic valuation, undemanding fundamentals and the probability that the NBN is forced to lower last-mile access prices.
The broker suggests "maximum pessimism" is nigh, as in the next 12 months NBN peak migrations will occur along with TPG launching its mobile network. At this juncture some positive catalysts are required to provoke investor interest, yet, Morgans points out, investors are getting paid to wait for this event to occur.
FNArena's database shows three Buy ratings, three Hold and two Sell. The consensus target is $3.39, suggesting 14.2% upside to the last share price. Targets range from $2.70 (Citi) to $3.99 (Morgans). The dividend yield on FY18 and FY19 forecasts is 7.4% and 7.3% respectively.
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