Status Quo Plays In Broadband

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-ACCC drafts final ADSL pricing
-Seen defending regional status quo
-Little improvement for small telcos
-Lost opportunity to improve competition
 

By Eva Brocklehurst

The ACCC has published the draft final access determination for pricing of wholesale asymmetric digital subscriber line (ADSL). There's not much change except in the methodology the regulator is using to establish final prices. The ACCC plans to finalise the determination by August 13. The final decision reduces port prices but increases bandwidth charges. In doing so, there's an improvement in earnings outlook for the likes of iiNet ((IIN)) but not as much as the market had hoped for. For the wholesaler and retailer, Telstra ((TLS)), the earnings implications are small. Wholesale broadband is, for Telstra, around just 1% of revenue.

For Citi this is a lost opportunity to stimulate competition in rural areas. The pricing has minimal impact on the broker's earnings view for IIN, or TPG Telecom ((TPM)) for that matter, but what it does is extinguish any upside surprise for the stocks. Citi notes the non-Telstra ISPs viewed pricing of $15-20 a month as appropriate to stimulate competition, not the $20-30 a month in the draft pricing. Citi estimates Telstra holds a 75% subscriber share in regional areas and expects, with the current decision, the telco's grip on the regions will continue.

BA-Merrill Lynch finds two major surprises to the final draft. The shift to cost-based methodology has come without a meaningful change in the final prices and there is no change to the zone structure, despite the ACCC finding inconsistency with other declared services. Also, the ACCC appears to see no reason to mandate unbundling. For the broker this is of little benefit and will reinforce Telstra's competitive advantage and bundling strategy. UBS notes, despite draft prices being lower than average prices pre-declaration, many internet service providers (ISP) may not necessarily apply for regulated pricing, given existing commercial agreements. The broker believes lower pricing will have a second order impact of stimulating more off-net competition.

Credit Suisse notes the financial decisions made by the ACCC have been kept in confidence and it is quite difficult to critically assess the determination. Safe to say that Telstra earnings forecasts will increase by about 0.35% as the broker had previously assumed a bigger cut to pricing. The flow on benefits to Telstra's retail business is an added positive and the Hold rating is retained. The Hold ratings number six on the FNArena database.

The other two are Sell ratings, recommended by BA-Merrill Lynch and CIMB. Neither broker finds their view on Telstra's stretched valuation impeded by the latest ACCC news and believe more catalysts are needed to spark dividend growth. The consensus FY13 forecasts show a dividend yield currently at 6.3%. For BA-Merrill Lynch the decision will support the status quo and allow Telstra to shore up it competitive position in regional Australia over the coming year or so. While the direct earnings impact is negligible it should allow Telstra, in the broker's view, to win broadband share.

BA-Merrill Lynch had anticipated a re-alignment of the zone structure and a pass-through of the savings to retail from the decision. This has not eventuated and the broker has cut earnings estimates for iiNet, expecting subscription trends will be slightly negative over the next two years. A potential catalyst for an upgrade has been pushed back and a Buy rating is retained. There are four Buy ratings on the database. Citi has one. Despite reservations about the ACCC decision, Citi has a strong outlook for IIN, given the near-term impact of access pricing and, long-term, in the transfer to national broadband network (NBN) from copper wire. Nevertheless, the broker suspects there remain a number of risks which could make it difficult for the stock to achieve targets.

Credit Suisse has lowered earnings estimates for iiNet which are partly offset by a review of cost savings assumptions. This just takes the broker's forecasts closer to consensus. Again, a Hold rating is maintained. For JP Morgan the news has sparked an upgrade in earnings estimates but a Hold rating is maintained. These are two of the three Hold recommendations on the FNArena database. Price targets range from $4.50 to $5.50. The consensus target price of $5.13 implies 5.5% upside to the last share price.

Credit Suisse has not adjusted forecasts for TPG Telecom as the earnings sensitivity was immaterial, given the company's small off-net broadband subscriber base. TPG still is the broker's number one telco pick, with the attractive organic growth profile, ownership of infrastructure and under-leveraged balance sheet. On that score, the broker has a Buy rating and raised the target to $3.00, which stands at the top of the range on the FNArena database. The lowest is $2.15, which is held by Macquarie, which also, by the way, has the other Buy rating. The other three brokers covering the stock have a Hold rating. The consensus target of $2.59 shows just 2.1% upside to the last share price. The stock also has a 3% dividend yield for FY13 consensus forecasts. 

Meanwhile, Citi has had a look at mobile operator results for 2012 and found the slowdown in subscriber growth continues. Earnings margins are edging up as operators focus on profitability in a maturing market, but ongoing investment is required. Wireless broadband services grew 10% year on year but this is slower than the 20% plus seen previously. Telstra now holds a 47% subscriber share with Singapore Telecom's ((SGT)) Optus at 31% and Hutchison Telecoms' ((HTA)) Vodafone at 22%. Here too, Telstra dominates and looks like continuing to do so. 
 

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