• Reduce SingTel (SGX:Z74)'s FY21F/22F underlying earnings by 18%/6% primarily due to weak Optus, bringing us 21%/15% below consensus; continued earnings downgrades have led to the core business trading at a negative value.
• With scrip dividend scheme in place, 12.25 Scts dividend per share (5.3% yield) seems easily sustainable.
• Maintain BUY on SingTel with a lower target price.

Woes in Optus Continue, Prompting Earnings Cut

Optus likely to witness a sharp dip in FY21F EBITDA with mild recovery in FY22F.

• Australian consumer business started off FY21F with a rocky start in 1Q21, with revenues down by 11% y-o-y and EBITDA crashing 32% y-o-y, on lower operating revenue, structural change in its fixed-line business with the migration to the national broadband network (NBN), continued data price competition and pandemic-related expenses.
• We project a drop of ~S$700m in Optus EBITDA to S$1,777m (-28% y-o-y) in FY21F, which is 9% below our previous estimate, primarily due to higher than expected losses in the equipment sale business. The mismatch between equipment sales and equipment cost has been rising since 4Q19 and the loss on equipment sales doubled to A$524m in FY20. We project the impact of equipment sale losses in FY21F to be ~A$250-300m with reduction in the inventory of handsets.
• Earlier, we had expected minimal losses from equipment sale in FY21F but that does not seem to be the case now. Besides, we continue to project ~A$100m rise in traffic costs in FY21F as more customers switch to NBN and A$300m drop in NBN fee in FY21F. However, in FY22F, we expect Optus’s EBITDA to mildly recover despite another A$300m drop in NBN revenue due to two key reasons.
  1. an absence of equipment losses in FY22F possibly;
  2. recovery in roaming revenue coupled with faster than previously projected 5G rollouts.

In contrast to Singapore operations, 5G capex spend in Australia likely to be accelerated.

• Telstra, the leading telco in Australia recently announced its intention to extend their 5G coverage to 75% of the population by June 2021 from the present network coverage of 33% of the population. In lieu of this, Telstra has opted to accelerate its 5G rollout and bring forward A$500m of capex into 2020 which was previously planned to be utilised in 2H21. Hence, Telstra’s FY21 capex guidance is likely to rise from A$2.8-3.2bn to A$3.3-3.7bn and capex as a percentage of sales is projected to increase from 15% to 17% in FY21.
• Meanwhile TPG is also seeking to aggressively ramp up its 5G coverage over the next 12 months with the six largest cities in Australia expected to have a coverage of over 85%.
• As such, we believe that Optus will also accelerate its 5G rollout. We project Optus to incur FY21F capex of ~S$1.5bn (previous estimate of S$1.3bn). Optus’s capex as a percentage of sales in FY21F now stands at 22% (vs. 16% in FY20).

Telkomsel weaknesses to impact associate contributions in FY21/22F; Bharti’s expected turnaround a blessing.

• Telkomsel continues to cede market share to XL Axiata, Indosat and other smaller players in Indonesia such as Smartfren and Hutchison 3. Weak cellular business and revenue market share losses is expected to reduce its overall contribution to SingTel’s by 14%/10% y-o-y in FY21/22F respectively. We have been rather aggressive in cutting our numbers for Telkomsel.

A big relief for Bharti.

• The Supreme Court of India has allowed telecom operators in India to stagger their aggregate gross revenue (AGR) dues over a period of 10 years. As per the ruling, the telecom operators are only required to make an upfront payment of 10% of the total liabilities by end-FY21F. Since Bharti has already paid 38% (after accounting for Videocon penalty to be paid) of total liabilities, this condition has already been satisfied. As per Emkay’s calculations, Bharti will face annual payouts of INR50bn (S$932m) from FY22F onwards.
• We expect Bharti to implement anther 20% y-o-y tariff hike in FY21 with its ARPU increasing by 33% over 1Q21A- 4Q23F. As such, Bharti’s anticipated turnaround will result in its pre-tax profit contribution to Singtel increasing by ~S$470/430 in FY21/22F respectively. Taking these factors into consideration, we now expect associate pre-tax contribution growth of 13%/17% y-o-y in FY21/22F respectively.

SingTel’s Net Debt-to-adjusted EBITDA Is Far Below 2.75x, the Ceiling for the Lowest Investment Grade Rating

• SingTel’s net debt-to-adjusted EBITDA (cash dividends from associates added back to core EBITDA) has risen to 2.5x in FY21F vs. 2.1x in FY20 following weaker operational and financial performance in both Singapore and Australia. At present, SingTel’s net debt-to-EBITDA is far below the ceiling of 2.75x required for the lowest investment grade rating by
• Moody’s. Moody's expects SingTel's net adjusted leverage will remain elevated at 2.4x-2.5x over the next 12 months, reflecting operational challenges from the protracted coronavirus outbreak, increased competition in its core markets of Singapore and Australia, high levels of capex, and a commitment to shareholder returns.
• SingTel's A1 rating combines
  1. SingTel’s A3 baseline credit assessment (BCA), reflecting the company's underlying strength, derived from its well-established and geographically diversified business platform; and
  2. credit support that Moody's believes Temasek Holdings, which owns 52.5% of SingTel, is likely to provide in a distressed situation, which results in a two-notch uplift from its BCA.
• The current credit rating by Moody’s of A1 with a negative outlook for SingTel could be further downgraded if outlook remains weak;
  1. net debt-to-adjusted EBITDA is more than 2.75x or
  2. EBITDA margins prevail below 30% on a sustained basis.

SingTel’s Shareholders Have Voted in Favour of a Scrip Dividend Scheme

• SingTel’s shareholders can now be paid in shares instead of cash, after a successful vote to include a scrip dividend scheme. The amendment was approved on 30 July at the annual general meeting (AGM) by a majority of SingTel’s shareholders including Temasek Holdings which owns 52.6% of SingTel.
• A scrip dividend scheme, would provide SingTel’s shareholders with the opportunity to acquire further equity in the telco without having to incur brokerage fees, stamp duty and other related costs. SingTel would also benefit from the scheme since the cash which would otherwise have been paid out in cash dividends may then be retained to reduce its net debt and accelerate 5G rollout. The inclusion of new provision is not, however, by itself indicative of any definitive proposal by the SingTel to adopt a scrip dividend scheme in any particular year.
• Potential issue of scrip dividends will help improve SingTel’s net debt-to-adjusted EBITDA multiple. SingTel could possibly issue scrip dividends to its shareholders from FY21F.
• If only Temasek Holdings were to opt for the scrip dividend, SingTel could potentially save ~S$1bn per annum in cash in FY21/22F. This will have a significant positive impact to the net debt-to-EBITDA multiple which could bring it down to below 2.0x prompting for an upgrade in credit ratings.

SingTel's Core Business Is Trading at a Negative Value

• Market value of SingTel’s associates is worth S$2.49 per share, more than SingTel's share price; and implies that the market is assigning a negative value to its profitable core business in Singapore & Australia (vs. our fair value of +48 Scts per share).

Source: DBS Research - 4 Sep 2020