Digi.com showed some operational improvement in 3Q17. Service revenue grew 1.6% qoq after two consecutive quarters of decline while the revenue decline in the prepaid segment reversed. The postpaid division, however, continues to remain strong, driven by its improved network (87% LTE and 49% LTE-A population coverage). 9M17 results are nevertheless weaker by 11% yoy due to a decline in revenue and higher depreciation and interest charges, but in line with expectations. Maintain Hold and an unchanged TP of RM4.74.

9M17 Profits Down 11% Yoy – Within Expectations

Digi’s 9M17 core net profit of RM1.1bn was lower by 11% yoy, dragged down by weaker revenue (a 5% yoy decline due to lower revenue from the IDD segment), higher depreciation charges from the 900Mhz and 1800Mhz spectrum fee amortization, and resulting higher interest charges from higher borrowings used to fund the spectrum payment. The 9M17 EBITDA margin has, however, surprisingly improved by 0.9ppts qoq to 45.9% due to cost controls and also lower traffic charges as Digi moves away from the IDD segment. In terms of dividends, Digi announced a 4.9sen DPS for the quarter, bringing 9M17 DPS to 14.2sen (99% payout).

Some Operational Improvement in 3Q17

Although 3Q17 headline earnings improved 7% qoq, this would have been closer to a 3% gain after stripping off a RM13.8m gain from its interest-rate swap. The gain helped to reduce interest charges in 3Q17, which fell 66% qoq. We expect interest expense to normalise to the c. RM30m/quarter range in 4Q17. Operationally, service revenue improved 1.6% qoq in 3Q17 after 2 consecutive quarters of contraction. Both prepaid and postpaid revenues increased in 3Q17, lifted by the contribution from internet revenue. However, voice revenue for both remained on the decline.

Maintain HOLD and Unchanged TP of RM4.74

No changes to our forecast. We maintain our Hold rating and an unchanged DCF-derived 12-month TP of RM4.74; given its dividend yield, Digi is still the most appealing company within the sector. Management guided that net debt/EBITDA levels should remain below 1x (currently at 0.7x) but should rise to <2x over the next 3 years with the additional payment for the upcoming 700Mhz spectrum due in 2018. We do not foresee any negative impact on dividends arising from this. Key downside risks include irrational competition, while upside risks include a higher-than-expected dividend payout.

Source: Affin Hwang Research - 19 Oct 2017