NCB Capital: valuations are key attraction of KSA telecom sector

In itslatest update on the Kingdom’s telecom sector, NCB Capital, the GCC’s leading wealth manager and the Kingdom’s largest asset manager, believes that growth in the sector will remain driven by the broadband and corporate segments. 

Contraction in margins due to the increasing competition from Zain and the entrance of the MVNOs, as well as the reduction in Hajj visas, are the sector’s main concerns. However, the valuation of the sector remains attractive at 9.5x 2014E P/E, 5% below regional peers. 

“We maintain our Overweight ratings on Mobily, Zain and STC, with Mobily remaining our top-pick due to its strong fundamentals and positive dividend outlook,” said Abdulelah Babgi, equity research analyst at NCB Capital. “Our price target for Mobily has increased from SR93.2 to SR99.7 (17.3% upside) due to the decline in our capex assumptions by 11%, increase in our EBITDA margin estimate by 28-51bps and lower risk premium. 

“We have also increased our price target for STC by 9.2% to SR49.9 due to better clarity regarding its strategy for its international business. Thus, we have decreased our equity risk premium by 154bps to reflect the lower concerns. Key risks remain additional provisions from the international business and FX volatility. 

“Our net loss estimates for Zain increased in 2013E while it reduced for the years thereafter. Our price target for Zain decreased slightly from SR11.6 to SR11.1.” 

 Broadband remains key driver, although slowing down

“Growth in the sector will be mainly driven by the broadband segment in the short term, although this is expected to slow down as data reaches maturity,” said Mr. Babgi. “Penetration rates have reached 42% in 2012 (increased to 50% in 1Q13) compared to the OECD average of around 63%, which suggests a slowdown in growth in the coming quarters. However, any increase in the sale of low-end smartphones could increase this rate further and provide additional growth.” 

ICT/Corporate segment next key focal point

NCB Capital believes the corporate segment will become the next growth driver, at least for Mobily, since the market for this segment is relatively immature. Additionally, the government’s shift to e-government, the increasing e-commerce activity and the growing number of SMEs should support the long-term growth in this segment. 

Reduction in pilgrims a short-term pressure

“We estimate that the reduction in the Hajj and Umrah visas will negatively impact the telecom operators’ bottom-line in 2013E by approximately 3-5%,” stated Mr. Babgi. “However, because the expansions of the holy sites will more than double visitor capacity, we believe the long term effect of this will be positive for telecoms as more pilgrims visit the country.” 

Valuation remains attractive vs. peers

In conclusion, NCB Capital believes that valuation remains attractive vs. peers: The Saudi telecom sector trades at 9.5x 2014E P/E, compared to regional peers at 10.0x, although fundamentals are stronger. 

Ratings Summary 

ZAIN KSA

A turnaround story, remain Overweight

“We maintain our Overweight call on Zain with our estimates and price target changed slightly,” said Mr. Babgi. “We believe the company’s outlook has improved after the agreement with the Ministry of Finance and the successful debt refinancing. Moreover, we believe the company’s financial charges will decrease by 15% in 2013E, which should support the bottom-line. We expect Zain to start making net profits in 2017E.”

MOBILY

Moving towards a dividend play

NCB Capital reiterates its Overweight call on Mobily, with its PT increasing by 6.9% to SR99.7.  “We believe the company will face challenges in the short term due to the increasing competition, change in regulations and the maturing of the broadband segment,” commented Mr. Babgi. “However, we believe that the corporate/ICT segment will be the next leg of growth for the firm. Despite the above concerns, Mobily remains our top pick in the telecoms sector due to its strong fundamentals, attractive valuation and positive dividends outlook.” 

SAUDI TELECOM COMPANY

Axis disposal could signal start of the turn-around

Concluding his ratings summary, Mr. Babgi said: “We remain Overweight on STC with our price target increasing by 9.2% to SR49.9 due to a decrease in our capex estimates and equity risk premium. Our revised 2013E adjusted net income estimates have decreased by 10% off the back of a weaker-than-expected 1H13 results (on an adjusted basis). We believe STC has strong domestic operations, however the stock’s main drawback remains its volatile international operations.”