We are maintaining our OVERWEIGHT view on the Telecommunication sector. Despite a lacklustre YTD price performance, the sector’s defensive nature and reasonable dividend yield will still be able to provide investors with the much-needed shelter during the current period of uncertainties. The sector’s outlook remains intact, in our view, judging from the incumbents’ FY13 KPIs and their earnings guidance. Based on our actual price/consensus target price study, we believe that there could be some near-term trading opportunities in Telekom Malaysia (‘TM”) and Digi. Even if the trend of a “flight to quality” is downplayed, we believe the sector could find its near-term floor level when the incumbents’ EV/forward EBITDA valuations fall to their respective mean levels. Valuation-wise, we have trimmed all our big capitalisation telco companies’ targeted standard deviation (“SD”) levels by 0.5x each after taking the following factors into consideration: 1) a potentially higher than expected margin pressure; 2) lack of dividend upsides in the 1H and 3) the fact that LTE earnings opportunities may kick in only later rather than sooner due to the absence of an LTE eco-system. Our big capitalisation telco companies’ target prices have been revised lower by 2%-6% after the above-mentioned SD adjustments, which also imply a lower EV/forward EBITDA multiplier for the stocks. TM (OP, TP: RM6.25 (from RM6.68 previously) remains our top pick in the telco sector due to its solid presence in the FTTH market and the lesser competition seen in its wholesale and fixed-line segment. We also reiterate our OUTPERFORM ratings on both Maxis and Digi although their target prices are now lower at RM6.75 (from RM6.92 previously) and RM5.30 (from RM5.60) respectively. Meanwhile, our Axiata (MP) TP has been lowered to RM6.60 from RM6.86 previously. There are, however, no changes in our OUTPERFORM call and target price on Redtone (TP: RM0.56).

4QFY12 results snapshot. Local telco players posted mixed 4QCY12 results. TM is the only incumbent that recorded better than expected results due to a higher turnover that was led by its lumpy other telco related services segment income. Maxis and Axiata’s results were within the street and our expectations while Digi was hit by higher operating costs due to a higher handset subsidy and competitive IDD pricings. On the dividend front, all the incumbents’ full-year dividends came in within expectations except for TM, which failed to meet the market expectations of it tabling a special dividend/capital management plan.

FY13 KPIs. All the incumbents are still expecting mid single-digit revenue growth in CY13 despite the intense competitions. Margin-wise, all the industry players are expecting some margin constrains as a result of the higher contribution from their data segment. Nevertheless, in absolute terms, the players are still targeting to achieve a mild annual EBITDA growth, if not flat, suggesting that the earnings outlook for telco operators remains intact for the current financial year.

Intensifying competition in the IPTV segment. Both Astro and Maxis have targeted to unveil their joint IPTV packages by end-April. We believe that it will provide a head-to-head competition to TM’s Unifi should the latter fail to implement its customer retention plans as well as enrich its current bundled IPTV plans.

Trading opportunities in TM and Digi? TM’s share price has corrected 13.1% for the YTD and is now at a 8.5% discount to its consensus target price (“TP”) of RM5.74. The discount is about 780 bps below TM’s 5-year actual price/consensus TP discount rate of -0.7%. Should TM’s consensus TP remain unchanged, this suggests some near-term trading opportunities may arise if the discount rate narrows to its mean level. Similarly, Digi’s share price is currently trading at a 8.9% discount to its consensus TP of RM4.85. The discount is about 700bps below Digi’s 5-year average actual price/consensus TP discount rate of -1.9%. In contrast, however, to the above two companies, Axiata’s actual price /consensus TP discount rate is now above its average level. This suggests a potential downside risk for the stock should the discount widen to its mean level. Maxis’ share price level, meanwhile, is fair in our view given that its discount rate is close to its mean level.

Near term floor valuations. In view of the 13th GE concern / uncertainties, the market could remain volatile. Apart from the ability to pay decent dividends, we believe that the sector could see excellent buying opportunity if it reaches its near-term floor level when the incumbents’ EV/forward EBITDA valuations fall to their respective mean levels. Based on our estimate, Axiata’s share price could see its worst performance at its floor level of RM5.47 (-13.6%) followed by Digi (-9.5% to RM4.00), Maxis (-7.1% to RM6.05) and TM (-6.3% to RM4.92). Should the incumbents’ share prices fall to these floor levels, the sector’s dividend yield will be more reasonable at 4.9% as compared tothe current 4.3%.

Source: Kenanga