Questions, No Answers For Telstra Shareholders

This story features TELSTRA GROUP LIMITED. For more info SHARE ANALYSIS: TLS

By Chris Shaw

Telstra ((TLS)) yesterday held its 2010 Investor Day, the update for shareholders focused on an investment of $1 billion to drive market share, current operating momentum and Project New, the company's new three-year cost cutting program.

There were some positives in the update according to Goldman Sachs, as Telstra indicated operating momentum has improved in recent months following price revisions across the group's product range and a more aggressive approach in the marketplace.

As examples Goldman Sachs notes in July-August Telstra recorded net adds of 73,000 in postpaid mobiles, 176,000 in wireless broadband and 32,000 in fixed broadband. As well, the company recorded fewer fixed line customer losses in the period than for any two-month period since 2007.

One key issue in this drive for market share will be the impact on ARPU or average revenue per user and here Macquarie suggests the outlook is currently unknown. As revenues lag acquisition costs and both lower ARPU and higher subscriber acquisition costs will take time to become evident, the broker suggests any earnings accretion from the strategy appears at least 18 months away.

As margins are likely to come under threat from a more aggressive approach to gaining market share Macquarie sees cost cuts as important, so Project New will be a key to maintaining margins going forward.

The broker suggests the project will need be very aggressive if margins in FY13 are to be restored to FY10 levels given the likely revenue outlook, which implies achieving such a goal will be a challenge. As well, JP Morgan notes market skepticism regarding such programs is high given the failure of the previous five-year transformation project to deliver on promises.

In JP Morgan's view, the $1 billion to be reinvested in lowering costs may well have to be increased going forward, especially as competition in the industry shows no signs of easing from already high levels.

The other key point of the investor day was an update on the National Broadband Network (NBN), with management expecting to be in position to call a shareholder meeting to vote on the final NBN agreement by next June. As well, further details of the agreement are likely to be revealed at the Telstra AGM in November.

The big issue with the NBN, in Macquarie's view, is timing of any deal remains uncertain, a view shared by Credit Suisse given legislation needs to be passed through a delicately balanced parliament. This has the scope to delay any agreement, but Macquarie notes management still expects to net around $11 billion in value for shareholders from the transaction regardless of the final form of the deal.

BA Merrill Lynch suggests one other issue for Telstra is the market is concerned the dividend may be cut given it is higher than earnings at present. Management reiterated it expects to pay 28c in annual dividends despite the broker forecasting earnings will fall to 26c.

In BA-ML's view Telstra could do better things with the money given earnings are unlikely to recover in FY12, so post the update the stockbroker continues to expect a cut in payout to 26c per share in both FY11 and FY12.

Post the investor day brokers have made few if any changes to earnings estimates for Telstra and consensus EPS forecasts according to the FNArena database stand at 26.1c in FY11 and 27c in FY12 (both would be below the 28c dividend payout shareholders have enjoyed in years past). The average price target according to the database is $3.27, essentially unchanged from prior to the update.

Telstra is rated Buy three times, Hold four times and Underperform once according to the FNArena database, while non-database brokers Goldman Sachs and Morgan Stanley rate the stock as Hold and Overweight within an In-Line sector view respectively.

In the view of Morgan Stanley, if Telstra management can deliver earnings growth beyond FY13 then the market is seriously underestimating the value of the shares at current levels. But the uncertainty as to the success of current strategy, the NBN and timing of the delivery of any earnings growth is enough for most in the market to remain somewhat cautious on the stock.

Shares in Telstra today are weaker in line with the broader market and as at 11.55pm the stock was down 3c at $2.65. This compares to a range of $2.63 to $3.55 over the past 12 months and implies upside of around 21% to the average price target in the FNArena database.

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