Australia | Feb 16 2007
By Greg Peel
The current B/H/S ratio for Telstra (TLS) in the FNArena database stands at 4/0/5. They don’t come much more polarised than that. (Merrill Lynch has been omitted as it has not reported since October).
The average target price is $4.44, which is not very far from the current share price, however the range of targets stretches from $3.90 to $5.30.
To establish today’s ratio, Macquarie downgraded from Neutral to Underperform – the only ratings movement since the result. In a nutshell, Macquarie simply feels this rally is overdone. It is not alone.
Back before T3, Telstra shares were wallowing in the low $3s and concerns were raised whether anyone in the retail market would even go near the new issue. We now know the opposite to be true. One broker – Credit Suisse – stood out from the pack as being what seemed to be ridiculously bullish at the time. Deutsche Bank upgraded to Buy before T3, and ABN Amro and Aspect Huntley both moved to Buy last month, after T3 got a roll on.
The remaining brokers were sceptical at best. None of them have changed their tune now that the share price is that much higher. The question is, are the opinions of the analysts who got it quite wrong in any way valid?
Execution, regulation and competition risks have been the catch-cry of the naysayers. Those risks haven’t gone away, in those analysts’ opinion. At least one broker was prepared to admit its shortcomings, however:
“We have clearly missed Telstra’s re-rating”, said the analysts at GSJB Were.
So too have Merrill Lynch, Macquarie, Citigroup and JP Morgan. But if the shares looked dubious at $3.40, they must look screamingly overvalued at $4.50, and that’s the upshot of these brokers’ current views.
While Sol Trujillo explained to a slavering media that a bad result was in fact a good one, the “anti” group began to pick it apart. Sure – mobile, broadband and directories were growing strongly, but at what cost? JP Morgan pointed out that mobile handset subsidies were up 98% and advertising spend up 38%. Merrills swooped on a cost growth of 7.5% against revenue growth of only 2.4%, which provided the 5.8% drop in earnings that Sol sees turning around in the next couple of years. Said Merrills:
“We find it hard to pay 18x for a stock with earnings still declining by 5.8% on an underlying basis”.
GSJB Were suggested some quality issues, such as lower depreciation and tax, “flattered the headline result”. Macquarie pointed out that CDMA migration had been underwhelming to date, and with only 12 months to go will really need to respond soon or Telstra will risk losing subscribers.
A bone of contention all the way along has been as to whether Telstra can make good on its 28c dividend promise. Telstra’s yield is a significant driver of retail appeal. The interim was announced on the money, at 14c, but JP Morgan points out Telstra had to borrow in the order of $1 billion to pay for it. Morgans added:
“We note that the stock is trading on 16x FY08 earnings – its highest PE in five years”.
Macquarie noted that as Telstra has had a track record of beating guidance in the past, and as guidance was upbeat, the market is already factoring in the more and leaving no room for upside.
With this litany of negatives, one wonders why anyone has seen fit to put their money behind the embattled telco. But they have. Perhaps it is because of appraisals from the likes of Deutsche Bank:
“Three of the four revenue growth engines that we had flagged are now delivering, with mobile growth higher than anticipated on strong 3G subscriber and ARPU numbers. Positive PSTN churn provides increased leverage during transformation.
We [continue to] recommend a Buy rating.”
And then there’s Credit Suisse. Once the market outcasts, with their outlandishly high $4.78 target when all about them were struggling with the concept of $4.00, the CS analysts are now looking like the only ones who knew what they were talking about all along. And they haven’t weakened:
“With the competitive environment in Telstra’s fixed line business having improved in recent months (with Optus, Telecom NZ and iiNet having little or no ULL impact), together with the operating cost savings being delivered as part of the transformation programme, we see the potential for consensus earnings upgrades of over 10% for FY08. Further, with greater comfort regarding the FY08 dividend, and Telstra currently trading on a 6.2% yield, we view further share-price upside in the near term.”
It would have to be said that the initial rally in the shares/instalments came about as a combination of institutions needing to reweight ahead of the new issue impacting the index, and yield-hungry mums and dads chasing the pot at the end of the rainbow. But the momentum has remained, and the market has bought a rosy outlook from the CEO.
Will Credit Suisse prove to have made the best call of 2006, continuing into 2007, or will the naysayers finally be proven correct in the medium term? I doubt those investors about to pocket 14c are all that concerned.