Underperformed in 1H20 but our stock calls were top sectorial gainers with commendable return. If 5G spectra are not forthcoming, cellcos may eventually re-farm existing airwaves for 5G deployment. As a pre-requisite for 5G deployment, fibre demand will grow exponentially. SST2.0 may haunt the cellcos again if instructed to absorb. Competition is BAU as players are cost focused. Reiterate NEUTRAL with preference in wired over wireless. Our top pick is TM (BUY, TP: RM5.17).

Underperformed in 1H20. KLTEL gave up 12% vs. KLCI’s 6% loss (see Figure #1) as outlook was hampered by Covid-19. Fortunately, our stock calls were spot on with both BUY calls (TM and TdC) being top gainers in the sector. Our overall view on the sector is largely unchanged for 2H20.

Airwave. 700MHz is the most sought after thanks to its superior propagation feature yielding operational efficiency (see Figure #2-#5). Based on MCMC’s final report, 5G pioneer spectra identified are 700MHz, 3.5GHz and 26/28GHz (mmW). We opine that they present a good mix of coverage, hybrid and capacity bands. However, the shift in political scene may lead to change in spectrum award mechanism, which currently has a lower priority as regulator is focusing on basic connectivity during MCO. To recap, MCMC was planning to make available 2×30MHz of 700MHz (FDD), 100MHz of 3.5GHz (TDD), 1600MHz each for 26GHz and 28GHz (TDD), respectively for tender (beauty contest) in 1Q20. If the allocation is suspended without further clarity in timeline and process, cellcos may eventually re-farm existing spectra for 5G (compatible NR frequency bands: n1 (2100MHz), n3 (1800MHz), n7 (2600MHz) and n8 (900MHz)).

Fibre is king. Its role as backhaul to transfer data at the speed of light has become ever more critical and a mandatory pre-requisite in 5G deployment. Demand will spike not only in terms of capacity, but also coverage in order to compensate for 5G spectra (especially mmW) shortcoming in propagation. Surge in wholesale bandwidth demand will boost margins even under MSAP regime. Also, new fibre rollouts are commercially negotiated (price not regulated) and fixed telcos will command more lucrative returns.

SST2.0. If implemented, cellcos may be asked by the government to absorb domestic prepaid subs’ 6% levy which is currently waived. On the flip side, this may reduce the intensity of the rivalry in the market as telcos grapple to contain this new cost item.

Yield play. Despite global central banks turning dovish, telcos’ dividend yields which average circa 2.5% (see Figure #6) is not attractive enough to spur domestic and foreign buying interests. Telcos’ foreign shareholdings were at their lowest levels in 2017-18 followed by slight improved interest in 2019 (see Figure #7).

Stronger greenback. HLIB expects USD to be stronger in 2020 averaging RM4.23- 4.28/USD compared to 2019’s average of RM4.14/USD (see Figure #8). This may lead to higher IDD traffic costs and foreign debt financing. TIME’s global bandwidth sale and leasing proceeds will be higher as majority are dominated in USD.

Competition. Business as usual as Big-3 telcos remain discipline and cost-focused. Prepaid-to-postpaid migration continues to be motivated by voice-to-date substitution. Gradually, wireless to erode wired’s market share with FWA solution leveraging on matured 4G and 5G in the future.

Maintain NEUTRAL with greater emphasis on fixed over mobile as they are the prime beneficiaries in 5G and broadband infrastructure build up. Our top pick is TM (BUY, TP: RM5.17).

Source: Hong Leong Investment Bank Research - 8 Jul 2020