This article first appeared in The Edge Financial Daily, on December 21, 2015.

Telekom Malaysia Bhd
(Dec 18, RM6.52)
Maintain hold with a fair value (FV) of RM7.20: We maintain our “hold” call on Telekom Malaysia (TM) with a discounted cash flow-derived FV of RM7.20 per share.

This implies a financial year ending Dec 31, 2016 forecast (FY16F) enterprise value/earnings before interest, taxes, depreciation and amortisation of 7.5 times, which is TM’s three-year average and half of Singapore Telecommunications Ltd’s 14 times. 

As expected after the letter of award in February, TM signed two public-private partnership agreements with the Malaysian government to further expand fixed broadband coverage by implementing the high speed broadband phase 2 (HSBB 2) and the sub-urban broadband (SUBB) projects, which deploy the access and domestic core networks to deliver an end to end broadband network infrastructure and services over a 10-year period, as well as increasing coverage for the nation.

HSBB 2 involves the expansion of the previous HSBB infrastructure, covering other priority economic areas including state capitals and selected major towns, connecting industrial zones and higher learning centres such as universities throughout the country. The SUBB covers suburban and rural areas.

The investment costs of HSBB 2 and the SUBB are unchanged at RM1.8 billion and RM1.6 billion respectively. TM will pay 72% and 62% of the costs, with the government bearing the balance.

As these roll-outs will be targeting secondary cities and rural areas, we do not expect a rapid take-up by new customers, as in the initial roll-out of UniFi. Hence, the internal rates of return for the projects are likely to be lower, and stretch over a longer time frame to break even.

The management has not provided any guidance for FY16F, but expects capital expenditure (capex) to peak next year. Assuming that capex for HSBB 2 and the SUBB will be spent evenly over the next 10 years, the additional RM230 million capex will account for 8% of FY15F capital investment.

For now, we maintain our assumption that TM’s capex will account for 23% of FY16F revenue (versus 13.5% in the nine-month period ended Sept 30, 2015, and the management guidance of 20% for FY15F), and for it to decline to 20% thereafter. 

We also maintain our forecasts, which have already incorporated contributions from HSBB 2 and the SUBB, assuming net monthly subscriber additions of 11,000 for FY16F to FY17F. This translates into the peaking of TM’s net gearing from 74% in FY15F to 78% in FY16F, and subsequently declines to 73% in FY17F. 

The stock’s FY16F price-earnings ratio of 25 times is above its two-year average of 23 times, with fair dividend yields of 2% to 3%. — AmInvestment Bank Bhd, Dec 18