• Lower prepaid revenue and higher depreciation and amortisation expenses impacted 2QFY17 earnings

• Postpaid segment continues to expand steadily

• Higher capex utilised to deploy 900MHz spectrum and network expansion

• Maintain NEUTRAL with a revised target price of RM5.02

Weaker quarterly performance. Digi.com Bhd (Digi) posted 2QFY17 earnings of RM358.9m. After adjusting for foreign exchange and derivative losses of –RM2.6m, the normalised earnings amounted to RM361.5m. This represents a decrease of -14.1%yoy. The drop in normalised earnings was mainly due to lower prepaid revenue as well as higher depreciation and amortisation expenses. This lead to lower 1HFY17 normalised earnings of RM736.9m, a decrease of -10.5%yoy. All in, the group’s financial performance came in at the lower end of our and consensus expectations, accounting for 43.3% and 45.5% of FY17 full year earnings estimates respectively.

Steady double digit growth for the postpaid segment. 2QFY17 service revenue contribution from the postpaid segment posted an increase of +8.9%yoy to RM536m. Higher revenue was achieved in view of larger postpaid subscriber base of 2.3m (vs 2QFY16: 1.9m subscribers) and fairly steady ARPU of RM78 per month. This was mainly due to favourable postpaid take-up for entry level 4G plans, affordable device bundles and prepaid to postpaid conversions.

Recovery in prepaid subscriber base. 2QFY17 prepaid service revenue remained below the RM1.0b mark at RM917m (-13.9%yoy). This was mainly due to lower revenue from IDD services, third party contents and pay-per-use internet services. Prepaid ARPU remained resilient at RM32 per month. On positive note, Digi managed to attract new subscribers towards the end of 2Q17. This lead to sequential growth of +1.6%qoq to 9.7m subscribers. Nonetheless, this is still lower as compared to 2QFY16 prepaid subscriber base of 10.4m.

Capital expenditure (capex). 2QFY17 capex surged by +37.1%yoy to RM229m from RM167m as at 2QFY16. There is higher capital spending to maximise spectrum opportunities with deployment of LTE 900MHz sites and support 4G LTE and LTE-A network and fiber network expansion. Currently, the 4G LTE and LTE-A coverage has reached 86% and 45% respectively.

Impact. We are revising FY17 and FY18 earnings downwards by -9.4% and -7.5% respectively as we are assuming lower service revenue contribution from the prepaid segment. We are expecting more competition for the prepaid segment in anticipation of the launching of Webe’s prepaid plans which could be made available as early as 3Q17.

Dividend. In tandem with the lower quarterly earnings, Digi announced 2QFY17 dividend of 4.6sen per share. This is 0.8sen lower as compared to 5.4sen per share announced in 2QFY16. In view of our revision in FY17 and FY18 earnings, we are reducing our FY17 and FY18 dividend assumption to 19.5sen per share and 20.4sen per share respectively.

Target price. We revised downward our target price to RM5.02 per share, due to earnings downward revision, deriving it based on DDM valuation methodology. Our target price implies a forward FY18 PER of 24.5x.

Maintain NEUTRAL. The overall subscriber base, ARPU and service revenue were undermined by the contraction in the prepaid segment in view of heightened competition among its peers. We observed that there is strategic shift in service revenue mix which will further enable digital opportunities. This has lead to continuous positive traction from the postpaid segment. We expect this positive trend to pick-up pace in 2HFY17 due to the anticipated deployment of 900Mhz which will create a more balanced playing field with its peers. However, we expect to see further earnings dilution from the prepaid segment as we are anticipating Webe to rollout its prepaid plans as early as 3Q17. All factors considered, we are maintaining our NEUTRAL recommendation on the stock.

Source: MIDF Research - 13 Jul 2017