We  remain  NEUTRAL  on  the  sector,  with  DiGi  as  our  Top  Pick  for  its above-industry  revenue  and  earnings  growth.  Despite  increased competitive  activity  from  Maxis  and  Celcom  in  the  postpaid  space,  we believe mobile data pricing remains rational, which should bode well for data  monetisation.  DiGi  intends  to  grow  its  postpaid  subscriber  base and we believe it is still on track to do so despite rising competition. 
 
Outlook.  Overall,  for  the  five  telcos  under  our  coverage,  we  expect industry  FY14  revenue  growth  to  pick  up  marginally  to  5.2%  (2013: 4.6%),  due  to  expected  recoveries  at  Axiata  Group  (Axiata)  and  Maxis. Looking ahead, we expect  the industry to see  better earnings growth in FY15.  We  believe  Maxis  may  have  seen  an  earnings  trough  in  FY14 following  adjustments  in  its  data  pricing  for  roaming  and  pay-per-use charges, while Telekom Malaysia (TM) could see earnings growth return in FY15 as we expect its EBIT margins to remain stable in FY15.  

DiGi  stands  out  among  its  peers.  We  remain  bullish  on  DiGi.Com (DiGi), which we think is monetising data most effectively by encouraging data  usage  adoption  among  its  prepaid  users.  DiGi  delivered  the strongest earnings growth among the cellcos (1Q14: +8.0% vs -2% to -5%  for  peers).  DiGi  expects  to  see  a  greater  push  in  postpaid,  and  we think this is still achievable despite refreshed plans from Maxis and most recently,  Celcom. While Celcom’s postpaid plan is cheaper than DiGi’s, we note that DiGi offers a significantly higher quota of voice and SMS.

Data pricing still looks rational. In order to better monetise data, Maxis appears  to  be  making  an  effort  to  keep  data  prices  steady  by  not bundling  too  much  data  quota  on  its  new  postpaid  plan  –  ONEplan, which was launched on 30 May. While Celcom has responded quickly by refreshing its  postpaid  plans, we  believe  that  competition  is  still  rational and  there  are  conscious,  ongoing  efforts  to  monetise  data. Notwithstanding  charges  on  additional  data,  we  think  the  cellcos  are maintaining  efforts  in  monetising  data  by  not  pricing  data  below MYR15.00/GB.  

Tough  road  ahead  for  Maxis  fibre?  We  think  competition  in  the  fibre market  will  likely  remain  low-key,  which  should  allow  TM  to  continue enjoying its dominance. We think Maxis may need to sort out its pricing terms with Astro Malaysia Holdings (Astro) (ASTRO MK, NEUTRAL, TP: MYR3.54) first, or risk bleeding further in its home business.

Maintain NEUTRAL on sector. We remain NEUTRAL on the sector due to:  i)  continued  challenges  in  monetising  data,  ii)  pronounced cannibalisation  of  SMS  revenue  by  over-the-top  (OTT)  usage,  and  iii) valuations  that  do  not  look  attractive.  Nonetheless,  we  believe  the sector’s  fundamentals  remain  sound  with  relatively  stable  industry revenue  growth  and  no  immediate  visible  threats  to  dividends.  Our  Top Pick is DiGi.

Mobile Data Pricing Remains Rational

DiGi continues to outperform but look out for fixed line players We remain NEUTRAL on the sector. We believe there is a need to remain selective in the industry, and pick out companies that are still showing good growth prospects. Hence, we keep DiGi (DIGI MK, BUY, TP: MYR6.20) as our Top Pick. While there is clearly  continued pressure  on the cellcos’ revenues, DiGi’s mobile  revenue  grew  by 5.3% y-o-y in 1Q14.  While  Time  dotCom  (Time)  (TDC  MK,  BUY,  TP:  MYR5.20)  started  off  on  a  soft footing,  we  expect  stronger  quarters  ahead  when  it  recognises  more  lumpy  global bandwidth sales and starts booking in presales from the Asia-Pacific Gateway (APG) cable  in 2H14.  Domestically, we  remain  upbeat  on its prospects  amid more  rational competition from TM (T MK, NEUTRAL, TP: MYR6.10) and continued improvements in  its  data  centre  business.  TM  delivered  1Q  revenue  growth  of  8.1%  y-o-y  (partly boosted by lumpy projects) and we expect management to achieve its FY14 revenue growth forecast of 5.0-5.5% under its FY14 key performance indicators (KPIs). We remain NEUTRAL on Axiata (AXIATA MK, NEUTRAL, TP: MYR6.85) and expect the group’s FY14 earnings growth outlook to remain cloudy due to: i) XL Axiata (XL) (EXCL IJ, NEUTRAL, TP: IDR4,700)’s continued challenges in monetising data, and ii) XL’s earnings dilution following its  acquisition  of  Axis.  The  full  extent  of  losses  at Axis remains unclear (12 days of contribution from the loss-making Axis is equivalent to  IDR64bn  in  losses  in  1QFY14),  although  we  expect  earnings  accretion  from  this exercise  to  only  take  place  in  FY16.  Domestically,  intensifying  competition  and  the rising use of OTT applications appear to be putting a lid on Celcom’s growth.  Maxis  (MAXIS  MK,  SELL,  TP:  MYR6.00)  remains  a  work  in  progress. We  think  the stock  lacks  catalysts  due  to  its  lacklustre  earnings  growth  and  potential  margin pressure,  as  management  is  prepared  to  pursue  revenue  growth  at  the  expense  of margins.  Maxis  has  recently  been  more  active  in  managing  and  improving  its distribution. While these efforts are positive and may not imply pressure on margins, we believe any immediate results are unlikely. We  recently  initiated  coverage  on  OCK  Group  (OCK  MK,  BUY,  TP:  MYR1.65).  We like  the  stock  for  its  strong  growth  opportunities  in  the  leasing  of  telco  sites  and  its growing  green  energy  business,  both  of  which  offer  steady  recurring  income. Management  is  also  pursuing  growth  outside  of  Malaysia,  both  organically  and inorganically.  OCK  could  see  a  boost  to  its  profile  upon  transferring  to  the  Main Market in 4Q14. 
 
A soft 1QCY14 
The  Malaysian  telcos  reported  1QCY14  results  that  were  generally  in  line  with  our estimates,  with  the  exception  of  Time,  which  had  a  relatively  soft  quarter  due  to  a timing  issue  in  global  bandwidth  sales.  Post-results,  we  make  no  change  to  our earnings forecasts.  As  1QCY14  results  were  also  generally  in  line  with  consensus  expectations,  there was hardly any significant revision in consensus earnings estimates (in particular for DiGi and TM). However, the consensus trimmed Axiata’s FY14 earnings by 1.2%, partly  due  to  XL-Axis’  integration  costs.  The  street  also  tweaked  Maxis’  FY14 earnings lower (-1.4%) due to some lost revenue from data repricing. 
 
Industry revenue growth likely to remain at mid single-digit As  the  Malaysian  telcos’  1QCY14  results  did  not  spring  any  major  surprises,  there have been no changes to the telcos’ FY14 guidance or KPIs.  Overall,  for  the  five  telcos  under  our  coverage,  we  expect  industry  FY14  revenue growth  to  pick  up  marginally  to  5.2%  (2013:  4.6%),  due  to  expected  recoveries  at Axiata  and  Maxis.  Looking  ahead,  we  estimate  industry  earnings  growth  in  2014  to be  muted  at  -0.2%,  likely  due  to  weaker  earnings  primarily  from  Axiata  (losses  at Axis) and TM (no more tax incentivesNonetheless,  we  expect  the  industry  to  see  better  earnings  growth  in  FY15.  Maxis may have seen an earnings trough in FY14 following adjustments in  its data pricing for roaming and pay-per-use charges, while TM  could see earnings growth return in FY15  as  we  expect  its  EBIT  margins  to  remain  stable  in  FY15.  DiGi  and  Time, however,  may  see  a  slight  moderation  in earnings  growth  momentum  due to  a  high base effect.

Data pricing still looks rational despite increased postpaid activity In order to better monetise data, Maxis appears to be making an effort to keep data prices  steady  by  not  bundling  too  much  data  quota  on  its  new  postpaid  plan  – ONEplan,  which  launched  on  30  May.  Maxis  charges  MYR30.00/Gigabyte  (GB)  if a user exhausts his/her quota on ONEplan, which is higher than its previous SurfMore plan  of  MYR15.00/GB.  Nonetheless,  ONEplan  offers  significantly  more  voice  and SMS quotas.  

We think ONEplan will appeal to heavy voice users who do not consume excessive amount  of  data.  Indirectly,  we  think  this  can  be  viewed  as  an  effort  to  resuscitate voice  (blended  voice  usage  dropped  4%  y-o-y  in  1Q14),  and  it  is  a  positive  step  to keep voice and, in particular, SMS (which is on a steady downtrend) relevant.  While the new plan is laudable from a data monetisation perspective, it remains to be seen if it will gain a following among the more discerning data customers. We expect Maxis’ competitors to follow suit with similar plans in the coming months to remain competitive.

While Celcom has responded quickly by refreshing its postpaid plans, we believe that competition is still rational and there are conscious, ongoing efforts to monetise data. Celcom  has  refreshed  its  postpaid  plans  with  First  One  Plan,  which  was  launched this week (roughly a month following the launch of Maxis’ ONEplan). Notwithstanding charges on additional data, we think the cellcos are maintaining efforts in monetising data by not pricing data below MYR15.00/GB. While both cellcos’ plans share some similarities,  the  main  difference  lies  in  the  amount  of  data  bundled  under  their respective plans.  If  marketed  properly,  we  think  Celcom’s  postpaid  subscriber  growth  could  regain traction,  especially  from  heavy  data  users.  Although  their  plans  are  not  directly comparable since Maxis is offering unlimited voice and SMS while Celcom offers only a  small quota  of  voice and  SMS,  we  think  Celcom  is  holding  the  view  that  postpaid subscribers are talking less and using less SMS, while valuing more data. A decline 
in minutes of usage (MOU) per subscriber and a sharp drop in industry SMS volume imply that Celcom could be on the right track. We  remain  positive  on  DiGi  despite  increased  competitive  activity  in  the  postpaid market. We  think  DiGi’s SmartPlan postpaid  products,  which  were  launched  not  too long  ago  in  early  March,  still  look  competitive.  While  Celcom’s  postpaid  plan  is cheaper than DiGi’s, we note that DiGi offers a significantly higher quota of voice and SMS.

Across  the  border,  SingTel  (ST  SP,  NEUTRAL,  TP:  SGD3.80)  has  taken  an  even bolder  step,  being  the  first  in  Singapore  to  introduce  the  Easy  Mobile  Plan,  which allows  postpaid  users  to  customise  their  plans  and  allocate  their  monthly  spending across voice, SMS and data.  However, as smartphone adoption is still low in Malaysia (c.40%)  versus Singapore, we  think  the  local  cellcos  are  unlikely  to  offer  such  customisable  features  until  data adoption becomes more widespread.

Tough road ahead for Maxis fibre?  
We think competition in the fibre market will remain low-key, which should allow TM to continue enjoying its dominance. We think Maxis may refrain from trying to cause too  many  ripples  in  the  market,  as  we  believe  profitability  will  remain  challenging since it  is  absorbing  the  MYR25.00  monthly discount  for customers  who  sign  up  for Maxis’ fibre internet and Astro’s internet protocol television (IPTV).  We think Maxis may need to sort out its pricing terms with Astro first, or risk bleeding further in its home business. We believe that the longer Maxis stays on the sidelines, the  more  difficult  it is  to  gain  traction  and  build  scale,  while TM  continues  taking  up the lion’s share (c.70%) of the industry’s fibre subscriber growth.  Note that new UniFi subscribers are contracted over two years (TM imposes an early termination  fee  of  MYR500.00).  Collectively  as  at  1Q14,  TM  (653,000)  and  Maxis (61,000)  had  714,000  fibre  customers,  which  means  Maxis  (excluding  UniFi customers whose contracts are up for renewal)  is left with only an untapped market of  626,000  subscribers,  based  on  the  1.34m  threshold  stipulated  under  the  public-private partnership (PPP) agreement. Note that, while Maxis had signed a high speed broadband (HSBB) (Access) service with  TM,  we  understand  that  the  terms  are  such  that  the  latter  is  only  obligated  to share  access  with  only  1.34m  premises,  ie  the  target  agreed  upon  under  the  PPP agreement with the Government.  However,  TM  continues  to  roll  out  HSBB  on  a  demand-driven  basis,  and  has  now reached  1.54m  households.  Thus,  we  think  TM  should  be  able  to  tap  into  the additional  households  over  and  above  the  stipulated  1.34m  threshold,  while wholesale users compete in an increasingly smaller untapped market. Going forward, we think there could be more upside for TM in anticipation of HSBB Phase 2. 

Risks 
The  risks  to  our  view  include:  i)  lower-than-expected  bond  yields,  ii)  stronger-than-expected  subscriber  additions,  iii)  better-than-expected  execution  (such  as  network upgrades and expansion), and iv) a benign pricing environment.  
 
Valuation and recommendation 
We remain NEUTRAL on the Malaysian telco sector due to: i) continued challenges in  monetising  data,  ii)  pronounced  cannibalisation  of  SMS  revenue  by  OTT  usage, and  iii)  valuations  that  do  not  look  attractive. Nonetheless, we believe the sector’s fundamentals  remain  sound,  with  relatively  stable  industry  revenue  growth  and  no immediate visible threats to dividends. Our Top Pick is DiGi. 

Source: RHB