Given the rising price competition in Malaysia, all the celco players are likely to see further margin compression in the coming quarters. However, we believe Axiata will be less susceptible to earnings downgrade due to its more diversified operations. Axiata’s earnings do not just focus on Malaysia as it has other operations in the high-growth developing markets. We believe recent share price weakness presents good buying opportunity. At 19x PER, Axiata is trading below its 5-year historical average of 21x. With our TP of RM6.30 implying a potential upside of 12%, we are upgrading our call to Trading Buy, rather than an outright Outperform given the uncertainties over spectrum pricing.

• Strengthening LTE network. Celcom has recently announced a tie-up to appoint Ericsson and Huawei as its main network infrastructure partners to integrate, deploy and manage the 4G LTE network developments. The company has set aside RM1.8-2.2bn to deploy the infrastructure over the next 5 years. With the new technology adoption from Ericsson and Huawei, Celcom is expected to gain from cost savings as it would lead to a reduction in number of sites while getting a broader coverage. Note that earlier Celcom was expected to invest additional capex to add more sites after losing some spectrum under the 900MHz and 1800MHz bands. For FY16F, we expect Celcom to reinvest about 17% of its revenue into capital expenditure to upgrade and improve its networks. This is vital to ensure better customer experience, which is the key to success given the rising competition in the industry.
• Favourable overseas operations to provide cushioning for weaker domestic contribution. We expect a stronger contribution from Axiata’s overseas operations in Nepal, Sri Lanka and Bangladesh to provide some cushioning to the inevitable slowdown in the Malaysian market. Contribution from the recently concluded acquisition of Ncell (Nepal) will only be recognised from 2H16 onwards but full-year earnings enhancement is expected to be material at about 11-12% of FY17-18F EBITDA. On our estimate, Celcom would be contributing less to group’s EBITDA, down from 37% in FY15 to only 27% in FY18F as contribution from its overseas markets expands (Chart 2 & 3).
• Upgrade to Trading Buy. Axiata’s share price has recently fallen in line with the overall weakness in the telco sector and this could be due to concern over further margin compression as a result of an intensifying price competition in Malaysia. Unlike its celco peers, Axiata’s earnings are more diversified and we expect the weakness in Malaysian earnings to be mitigated by stronger regional contribution. Trading below its 5-year average of 21x forward PER, we believe Axiata’s current valuation of 19x forward PER is attractive (Chart 1). Our DCF-based TP of RM6.30 suggests a potential upside of 12%. Nevertheless, the uncertainties pertaining to spectrum pricing remains an overhanging issue for the telco sector. As such, we are only upgrading Axiata to Trading Buy.

Source: PublicInvest Research - 3 May 2016