Investment Highlights

• We reiterate our BUY call on Axiata Group (Axiata) with an unchanged sum-of-parts-based fair value of RM4.50/share, which reflects a neutral ESG rating of 3 stars. This implies an FY21F EV/EBITDA of 4.5x – 1 standard deviation below its 3-year average of 5.5x.

• We recently engaged with the company and took a deeper dive into the company’s proposed deal with peer Digi. The key observations are as follows:

1. A merger of equals
This is despite the “mechanism” of the deal which could entail the injection of Axiata’s 100%-owned Celcom into Digi (Digi is naturally a more ideal vehicle given its listing status, vs. Celcom being a private company). After all, post-merger, Axiata and Telenor will have equal stakes of 33.1% each in the merged entity called Celcom Digi, with the balance to be held by Digi's minority shareholders. Recall, Axiata will also stand to receive an adjustable cash equalisation sum of RM2bil, of which RM1.7bil will come from new Digi debt and RM300mil from Telenor.

2. Earnings vs. cashflow
While investors tend to value M&A exercises from an earnings standpoint, it is equally important to look at the free cash flow generating ability of the entities to arrive at fair valuations. We believe Digi’s structurally stronger cash generative attributes (vs. those of Celcom) should bridge the perceived valuation gap between the two by the market. Apart from mobile operation, Digi has another cash cow, i.e. tower operation (4K tower sites). In comparison, the towers utilised by Celcom’s operation are mostly owned by Axiata’s 63%-owned edotco.

3. Earnings dilution vs. merger synergies.
While Axiata may initially suffer earnings dilution from the exercise, we believe this will eventually be more than offset by potential synergies from cost optimisation, reengineering network operations, reduced redundancies and procurement rationalisation. Additionally, the merger aims to catalyse revenue growth from dual brand strategy, integrating operations, digitalisation and coordinate on home fibre convergence play. The enlarged scale of operations will also provide additional financial flexibility for future capex rollouts. 

For now, assuming no synergies nor opex savings, we estimate that the deconsolidation of Celcom’s earnings will cause Axiata’s FY22F EPS to decrease by 9%, partly offset by the contribution of the 33.1% associate contribution from Celcom Digi (Exhibit 1).

Incorporating a 10% reduction in Celcom Digi’s opex from the merger, Axiata’s FY22F EPS will instead increase by 4%, while net debt/EBITDA will improve from 1.1x to 0.8x. Additionally, Celcom Digi will be positioned to pay higher dividends given Digi’s payout ratio of 100% vs. Celcom’s RM500mil-RM700mil currently. Even a slightly lower payout ratio of 90% from Celcom Digi’s equity stake of 33.1% could translate to an additional cash flow of at least 10% for Axiata.

• For a regional telco operator aiming to be a high dividend-yielding stock with excellent opportunities to further monetise its assets and engage in multiple merger and acquisition activities, Axiata currently trades at a bargain FY21F EV/EBITDA of 4x vs. Maxis' 12x.

Source: AmInvest Research - 14 Apr 2021