There  were  no  surprises  over DiGi’s  1Q14  results,  which  were  in  line with  our  expectations and  management’s guidance.  While  we  expect DiGi to continue outperforming its peers, it may be challenging for the telco  to  exceed  its  revenue  growth  guidance  should  the  industry outlook  remain  soft.  However,  the  impending  GST  implementation could be a potential boost to earnings. Maintain BUY.

• In line. DiGi.com’s (DiGi) 1H14 core net profit of MYR984m (+21.3% yo-y) was within our (49%) and consensus (52%) full-year estimates. ®  Still sustaining  its growth  momentum. Y-o-y,  overall  2Q14  revenue grew  by 5.6% (1Q14: +4.3% y-o-y) mainly due to strong handset sales (+40.2%). However, service revenue growth was not as strong (+2.8% yo-y) since voice revenue slipped 4.1%, partly due to slightly lower mobile termination  rates.  DiGi’s 2Q14  EBITDA  margin was  stable  at 45.5% (2Q13: 45.2%) as handset subsidies and traffic costs remain controlled. Its  core  net  profit jumped  20.4%  q-o-q  to  MYR499m  due  to  lower depreciation (-53.3%).
• Briefing  highlights. Management  maintained  its  2014  guidance,  and expects revenue to grow 4-6% y-o-y. As Maxis and  Celcom both  have lower revenue growth guidance, it is not surprising that DiGi continues to gain market share. However, we believe it may be challenging for DiGi to exceed its guidance, should industry revenue growth remain soft. We are positive  there is  traction  in  postpaid subscriber  growth,  which  is  partly attributable  to affordable  smartphone  bundling.  As  the  2Q  results  have shown, we expect DiGi to remain careful on  handset subsidies and do not expect its 2H14 EBITDA margin to come under significant downward pressure. Management said it is making progress on the business trust proposal but declined to offer a specific timeline.  Dividends. The telco’s management declared a second interim net DPS of 6.4 sen, which translates into a payout ratio of 100%. This brings YTD DPS  to  12.6 sen. We  maintain  our  forecast  FY14  DPS  of 25.6  sen, assuming a 100% payout ratio.

Briefing highlights

Outlook. Management maintained its 2014 guidance, and expects revenue to grow 4-6%.  Given  that  Maxis  and  Celcom  both  have  lower  revenue  growth  guidance (ranging from flat to low single digit growth), it is not surprising that DiGi continues to gain market share, we believe. 

With 1H14 revenue growth of 5.0% y-o-y, we believe DiGi is largely on track to meet its  guidance. However,  we  believe  it  may  be  challenging  for  DiGi  to  exceed  its guidance, should industry revenue growth remain soft. Management will continue to focus  on  execution  in  2H14, but is  wary  of  its  peers’ somewhat  sluggish  1Q14 revenue growth. Whether  the  lackluster  1Q14 service  revenue  growths of  Maxis (-4.9%  y-o-y) and Celcom (-1.7% y-o-y) are indicators of the industry’s outlook still remains to be seen. It may not be that all gloomy, however. We note Maxis had initiated some changes to its data pricing for roaming and prepaid during 1Q14, which resulted in some service revenue  lost  in  the  short term, with management  expecting higher  data  usage  and better customer experience to compensate sufficiently going forward. 

Postpaid. We  are  positive  there  is traction  in  postpaid  subscriber  growth,  which  is partly attributable to affordable smartphone bundling. Nonetheless, as the 2Q results have shown, we expect DiGi to remain careful on handset subsidies and therefore do not expect 2H14 EBITDA margin to see significant downward pressure. DiGi’s push in postpaid should remain supported by ongoing efforts to increase its 3G population coverage to 86% by year-end (peers’currently >85%). 

LTE. Management maintained its target of 1,500 LTE sites by year-end, but said it is too  early  to  provide  a  specific  figure  on  LTE  population  coverage. While  Maxis  is ahead of the game with about 10% LTE population coverage, the current lack of LTE devices suggests that there is no rush to roll out LTE yet. Business  trust. There  is  no  further  clarity  on  the  company’s  proposal  to  set  up  a business trust. However, management did say it is making progress but declined to offer a specific timeline.

Risks
The  risks  include:  i)  lower-than-expected  subscriber  net  adds;  ii)  worse-thanexpected voice tariffs; and iii) intense competition.

Forecasts
We make no change to our earnings forecasts.

Valuation and recommendation
Going  forward,  we  expect DiGi to  continue  outperforming  its  peers on  the  back  of strong  execution  in  data  and  prepaid. While  we  note  that  the  sluggish  industry revenue growth outlook (we estimate at about 1-2%) is a headwind for the sector, we expect the impending implementation (scheduled for April 2015) of the GST (Goods &  Services  Tax)  to  provide  a  material  lift (10-15%) in  the  cellcos’ FY15  earnings(pending the GST implementation, we have not factored in the impact to our earnings forecasts). DiGi is seen to be the biggest potential beneficiary, as we estimate about 65.0%  of  its  revenue  comes  from  prepaid,  followed  by  Celcom  (50.0%)  and  Maxis (45.0%). Maintain  BUY,  with  a higher FV  of MYR6.50  (previously  MYR6.20),  after fine-tuning  our cost  of  equity assumption  in  our DDM  (dividend  discount  model)valuation. Our FV translates to a FY15 P/E of 24x, which is in line with the sector’s forward P/E of 20-25x. 

Source: RHB