Following to my last post related to STC’s situation in 2009, I wanted to publish some interesting insights of the Saudi telecom industry coming from Al Rajhi Capital. In their opinion, the Saudi telecoms market is still booming and they expect 3.5G data to help drive mobile penetration towards 220% within five years. According to them, there are risks, but it is too early to prepare for a slowdown. I fully agree with this opinion.

As written before in this blog, STC’s foreign investments seem a distraction, even if they may bear fruit in the long run. Mobily is preferred as the leader in mobile data and is delivering strong growth while Zain (although is performing well for a no.3 player) is hobbled by excessive debt.

Relevant highlights

1) Saudi telecoms market: attractive overall. From a top-down perspective, the Saudi telecoms market is attractive. The country benefits from a young and fast growing population and from high GDP/capita. The mobile market, which accounts for 74% of the total, is growing fast and is also relatively concentrated.

2) Mobile market: data can drive growth further. Mobile broadband is expected to help drive mobile penetration in Saudi Arabia towards 220% within five years. Mobile broadband will fuel incremental growth, rather than replace existing voice revenues; however, it may threaten fixed-line DSL. In a core scenario mobile ARPU only declines modestly, but with RPM high by the standards of emerging markets there is a risk of sharper price falls.

3) New opportunities: don’t be distracted. Comparisons with historical overseas investment plans in the telecoms sector cast doubt on several aspects of STC‘s expansion strategy. STC‘s investments may boost growth in the future, but right now it has lost its way at home. Mobily is proving the near-term winner in Saudi telecoms; Zain is growing fast but remains in clear third place.

4) Stock conclusions. STC is inexpensive and its financial stability and dividend yield of 6.5% offer support; however, it lacks catalysts for performance. Al Rajhi Capital rates STC Neutral and set a price target of SAR46.4. Mobily offers strong near-term growth in their opinion and is not expensive for a fast-growing operator on a PE of 9.3x. They rate Mobily Overweight and set a target price of SAR64.9, implying 39% upside potential. With net debt 2.4x 2010 sales, these guys think fair value for Zain is more than 20% below the current price and rate it Underweight.

Interesting. Enjoy the reading, CVA.

Yesterdays article in the economist describes how mobile operators in developing countries cope with the inherently low ARPU’s of their customer base through creative cost cutting measures, achieving operating margins similar to leading Western operators.

A special report on telecoms in emerging markets.

The mother of invention. Network operators in the poor world are cutting costs and increasing access in innovative ways

PROVIDING mobile services in a developing country is very different from doing the same thing in the developed world. For a start, there may not be a reliable electrical grid, or indeed any grid at all, to power the network’s base stations, which may therefore need to run on diesel for some or all of the time. That in turn means they must be regularly resupplied with fuel, which can be tricky in remote areas. Then there is the challenge of running the network profitably. In Europe mobile subscribers typically spend about $36 a month, a figure known in the industry as the average revenue per user (ARPU). In America that figure is $51 and in Japan $57. But in China it is only around $10, in India less than $7 (see table 5) and in some African countries even lower. As mobile phones get cheaper and more poor people can afford them, ARPUs across the developing world are falling.

Operators in poor countries have responded by finding new ways to reduce the cost of operating mobile networks and serving customers. The country that has gone furthest down this road is India, so the result is sometimes known as the “Indian model”, even though some of its features originated elsewhere, and some low-cost innovations developed elsewhere have not caught on in India. Despite an ARPU of only $6.50 and call charges of $0.02 per minute, Indian operators have operating margins of around 40%, comparable with leading Western operators, according to a study by Capgemini, a consultancy. “On low-cost, innovative models, this is where the centre of gravity is,” says Prashant Gokarn, head of strategy at Reliance Communications, India’s second-biggest operator. Given India’s size, its combination of poverty and rapid growth and its reputation as a centre of technology and outsourcing, it is hardly surprising that it has emerged as the crucible of business-model innovation.

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Interesting article coming from SeekingAlpha, an american publication where we are active contributors. As I’ve recently seen different asian readers in the blog, I thought the article might be interesting for those, like us, that look at the emerging markets in East Asia.
Enjoy the reading, CVA

Millicom Should Benefit from International Bidding War.

Millicom International Cellular (MICC) could shortly be on the end of a nice windfall as three major emerging market telcos line up in a bidding war for MICCs Tigo network in Sri Lanka. Millicom has been making concerted efforts to divest its Asian operations as it realigns its strategy to concentrate on key markets in Latin America and Africa.

In August Millicom offloaded its Cambodian operations to local partner The Royal Group in a cash deal that saw Millicom receiving $346m in return for its 58.4% holdings in CamGSM, a premium that valued the operator at 7 x times 2009 EBITDA. The deal is expected to close before the end of 2009. This followed the company’s statement in July that it wanted to exit the Asian market.

With CamGSM gone, Millicom continues to hold interest in Sri Lanka & Laos. Tigo Sri Lanka, a 100% owned entity, is now on the auction block, with India’s Bharti Airtel and state controlled BSNL having expressed interest, as both operators are looking to expand into new markets and Sri Lankan operations could create some nice synergies with Indian activities. Now that UAE based Etisalat has thrown its hat into the ring, we could see a bidding ward erupt, as three majors go after the prize.

Cash rich Etisalat has had a terrible 2009, as it desperately seeks to expand out of its domestic market, recently failing to secure the purchase of Morroco’s number two operator MediTel, as Telefonica and Portugal Telecom offloaded the unit to local private investors. Etisalat has been on the hunt for the last 18 months or so and has made bids to operate networks in Iran, Morroco, India and Libya. Currently the country is also on the prowl in Nigeria, where it is looking to add to its existing operations. The company bought a 40% stake in Emerging Markets Telecommunication Services (EMTS) for $400 million last year, and it is now looking at acquiring incumbent operator Nitel.

Analysts said the move fit in with Etisalat’s strategic push to operate mobile networks in complementary markets that share commercial or social ties. It already offers some integrated services between networks in the UAE, Saudi Arabia and Egypt, and has said that building on such synergies across its 18-country global network is a priority.

Etisalat announced the Millicom bid in a stock market statement, but did not disclose the price it is offering to pay for Tigo Sri Lanka, which has more than 2.2 million customers. A report in The Wall Street Journal recently said Bharti Airtel [BOM:532454] would be willing to pay up to US$120 million (Dh440.7m) for the company as it seeks to combine Tigo’s 2.2 million subscribers with its existing local operator.

The telecom rumor mill also has Russia’s Vimpelcom (VIP) involved in the bid, however nothing is yet firm on this. It would seem more likely for Vimpelcom to look at Millicom’s Laos operator, as the Russian carrier has launched services in Vietnam and Cambodia this year.

For me the most likely candidate is EtiSalat, as Bharti is tied down in lengthy negotiations with MTN over its $25Bn merger and this would seem to be a side show. BSNL is also rumored to be looking at acquiring a stake in Kuwaiti telco giant Zain at present, whilst Etsisalat has the appetite, the money and the credit rating to make the deal. MICC’s management are shrewd operators and will squeeze every last dollar out of this, so if Etisalat want into the Sri Lanka market, it is my opinion that they will pay a premium.

Reading at Wireless Federation that Zain, one of the leading mobile operator in Middle-East and African countries, have inked an agreement with SCB to launch its mobile money transfer service Zap in Uganda, I wanted to publish a couple of posts: one related to the mobile telecom situation in Uganda, and other related to money-transfer and some other mobile financial services. Here’s the mobile market overview prepared by our consultants.

Uganda has a population of approximately 32 million inhabitants, which is growing at 2.7% per annum. It has a per-capita GDP (PPP) of USD 1,100 and a GDP annual growth of 6.9% in 2008. Uganda’s mobile market is growing rapidly, having benefited from two factors: (i) a continuous positive growth of the country’s GDP and (ii) a strong market liberalization – Uganda competition commission’s universal licensing scheme launched in 2006. As a result, mobile penetration reached 27% at the end of 2008 and is expected to reach 39% by year-end 2009, already having increased about 16 p.p. in the last two years.

Short-term growth potential in Uganda is confirmed when compared to other similar African markets. In Kenya, for example, while there are a similar competitive level, network coverage and mobile expenditure over available income, mobile penetration is much higher than in Uganda – 41% in 3Q’08 – while in Uganda was only 25.8%.

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This week, Vivendi, the French media conglomerate, has reportedly put in an offer to acquire Zain’s African mobile operations. Zain acquired the businesses in 2005 via the US$3.4 billion acquisition of Celtel. However, the firm is now reportedly looking at selling the networks, which are valued at as much as US$12 billion. For those who need to know whom are we talking about, Vivendi is the joint-owner (with Vodafone) of SFR (France’s second-largest mobile operator); is the company that controls Morocco’s Maroc Telecom; is an international player which has numerous stakes in other African countries such as Mauritania (Mauritel), Burkina Faso (Onatel) and Gabon (Gabon Telecom).

A sale of Zain’s African networks would be a surprising move as the operator has only recently completed rebranding the networks following the Celtel acquisition. There would be some countries that would “suffer” from this sale, such as Zain Nigeria that would have to be rebranded again despite having changed names several times in recent years, from Econet to Vodacom, then V-mobile, then Celtel and finally to Zain.

A separate report by Money Biz notes that Zain’s African businesses account for 16 of the group’s 23 markets and around 65 percent of the group’s customers. However, Africa only contributed 10 percent of group profit last year, and suffered a net loss in the first quarter. So, is it accurate to value it in US$12 billion?

Zain Africa has definitively outperformed in the last 4 years. There was a dramatic jump in net income in 2006 – the year where the full impact from the Celtel acquisition was felt. From then, revenues have been growing rapidly thanks to the new acquisitions and the high take up of mobile services. It is true that the company has not been able to maintain profitability, mainly due to:

1. Adding less profitable businesses to its portfolio (lower ARPU or startup phase).
2. Costs related with integration and improving efficiencies.
3. Forex losses.

Having said this, Zain is one of the few operators in Africa & ME where growth is financed in larger proportion by equity than debt – for every dollar borrowed from the bank, shareholders put 1.13 $. Debt represents as of today a 37% of the funding needed for the expansion of the last five years whilst shareholders equity supports 42%.

The Group has therefore a healthy EBITDA level despite the negative impacts of new deployments and currency issues in certain countries such as Madagascar, DRC and Sierra Leone that, for example, have experienced issues with local currencies. However the main issues that can affect the valuation are:

1. With the exception of Nigeria and Sudan, the subsidiaries in Africa have small individual subscriber bases. Revenues will come once the penetration levels reach the forecasted penetrations, but this will not be in the short / mid term.
2. Growth through the acquisition of existing smaller operations in Africa presented the complication of integrating systems and processes since there are no existing quality standards, therefore increasing costs and reducing profitability.
3. The regional concentrations of the operations portfolio have increased the exposure in current downturn affecting the African region. In our opinion, group’s expectations have been delayed some years.
4. Certain African operations carry some inherent risk due to historical social and political unstableness that might affect Zain’s performance in the future, as it’s more and more complex to homogenize the business culture across regions.

Please find next our Zain’s profile assessment. It gives some additional economic data to understand the rational behind a potential valuation. As written before in this blog, I’m a firm believer of African’s opportunity. But 12 billion dollars is a, let’s say, “non-minor” figure.

If I were Dr. Saad Al Barrak I’d invest less than a minute to accept the offer – it is a no-brainer for me. I believe in Zain’s Africa potential in the long term but we’ll need a long time to get the same consolidated value coming from the operations. He has 12 billion reasons to turn around the repeatedly group’s statement of becoming a top ten global mobile operator by 2011, an ambition that is unlikely to be achieved if it were to sell off its African businesses.

Good luck in any case to both seller and buyer but special congratulations to Chris Gabriel and his executives either at a group and operation levels, real architects of this record valuation.

Enjoy the reading.

Best, CVA

I had recently the opportunity of speaking with the CEO of one of the mobile operators in Kenya and I realized how competitive the situation is turning even in the supposed “emerging markets”. Having worked in neighbour countries such Ethiopia (that is in a higher level of immaturity) or Sudan (which has significant similarities),  it’s not difficult to defend that it’s really a emerging market as there’ll be stiff competition among network operators for a Telecom market that will grow by 95 percent over the next five years.

As in any market, the introduction of new players in the Kenyan mobile market has created strong competition. While Safaricom and Zain alone ruled the market until very recently, new companies such as Essar Telekom Kenya and Orange now are penetrating the Kenyan market successfully. This has forced the operators to cut tariffs and introduce new air time promotions driving the market into a value dilution and ARPU erosion spiral.

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I’ve just read an interesting market review for Ghana coming from Informa. As you may probably know, Vodafone has recently arrived there as the growth opportunities are significant. My assessment on the oportunity for Vodafone was clearly stated in my previous post “Valuation is an art, not a science”. This post  reveals the current status of the country and the opportunities.

Best regards, CVA

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The Sudanese market is a prepaid market of over 8M subscribers and with a potential of 6-7M net adds within the next six years. 3 operators cover the total market share in 2008: Zain with almost a 50%, MTN & Sudani with near to a 25% each. Recent signs of market stagnation has been seen in the last quarters that have been heavily answered by Zain and Sudani with value-destruction initiatives (e.g. deployment of non-revenues-generating-sims, stimulating fake-market share but are reducing average operator’s ARPUs)

This unfair market share is because of the market is under a declared war for the acquisition of gross adds and SIM-penetrated market share, making Zain and Sudani to prefer spreading the market with SIMs and offer air-time for free better that focusing in market share of billed traffic. Zain and Sudani have already decided their growth strategy towards volume and quantity, positioning Zain as a high value brand, MTN as a top international player and Sudani leveraging on its status of the ‘national operator’

On top of this, a huge competition in the commercial areas (specifically in the pricing area, where the huge discounted plans and tariff are destrying current market’s value, and in the sales areas, where the huge channel commissions given by Zain and Sudani are making of the Sudanesse, a extremely competitive market).

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