Telecommunications Sector Discussion
Student Investment Management Presentation
Fisher College of Business
Piaoyun Xing, Tianchao Xu
March 18, 2014
Agenda
1.
2.
3.
4.
5.
6.
Sector Overview
Business Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Market & Portfolio Weight

As of 3/7, Telecom S&P weight = 2.21% (smallest among
all industries)
- SIM portfolio Telecom weight = 1.14% (smallest among all
industries holding)

Only SIM holding is T-Mobile (TMUS)
S&P 500
SIM
3
Telecom Service Components
 Verizon surpassed AT&T to become the largest Mkt Cap
player after acquiring ownership stake of wireless business
from Vodafone
Company
Mkt Cap (USD) S&P500 weighting
Verizon
194.84
1.13%
AT&T
168.91
0.98%
American Tower
31.83
0.18%
Crown Castle International
24.62
0.14%
CenturyLink
18.01
0.10%
Level 3
8.86
0.05%
Frontier
4.9
0.03%
Windstream
4.85
0.03%
Total
456.82
2.64%

Other than Verizon and AT&T, the two largest components, all the
other companies have shown shrinkage in market weighting
compared to last quarter
4
Telecommunication Industry Overview
 Level 1 Industries:
- Pure-play Wireless Telecom Svc
Sprint (owned by Softbank), US Cellular, Leap Wireless
- Diversified Telecom Svc

Level 2 Diversified Telecom Svc:
- Integrated Telecommunications Svc:
Verizon, AT&T
- Alternative Carriers
Qwest Communications, SBA Communications
5
Sector Performance- YTD
 Underperform S&P 500 Index by an increasingly wider margin
6
Sector Performance- QTD
 Underperforming S&P 500 since end of Jan
7
Agenda
1.
2.
3.
4.
5.
6.
Sector Overview
Business Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Key Industry Metrics
 Market Penetration
- subscriber base as % of the total number of potential customer
- suggest how much growth potential remains in a certain market
 Average Revenue per User (ARPU)
- average monthly revenue generated by each customer unit
- driven by minutes of use and value-added services
 Average Revenue per Account (ARPA)
- driven by data allotments and added devices to the account in shared data plan
 Churn
- % of customers that terminate services every month
- goal to minimize this metric
9
Industry Life Cycle
Wireless
Wireline
Wireless Phase: Growth
Projected revenue growth rate over the next
five years 6.6%, contribution to economy (3.7%)
outpaces GDP growth (2.7%)
 Voice-only services in decline
 Increasing demand for wireless data and video
services with the proliferation of broadbandenabled smartphones and tablets
 Growth moderated by high smartphone
penetration (104%) and the rollout of 4G and LTE
network by major players near completion
Wireline Phase: Maturing
 Landlines replaced by Wireless
 Fiber delivery of content where most of the
growth comes from
10
Geographic Coverage
 Expanded wireless footprint across the U.S
- Motivated by achieving economies of scale
- 91% of the U.S population have three or more choice of wireless providers
82% have four wireless providers
- Big Four carriers have a combined subscription base in excess of 260 mm ppl
Southeast region:
West region:
Mid-Atlantic region:
1. 27.8% of market
size
1. 15.9% of market
size
1. 14.5% of market
size
2. Over-serviced
2. Most mature: high
mobile penetration
of 96.6%
2. Relatively affluent
3. Sharpest fall of
establishments
due to industry
consolidation
3. Tech savvy
population
3. Population decline
is driving down
subscriber increase
11
Customer Segmentation
 Post-paid: billed for usage of services on a monthly basis
based on the amount of services customers have used
- essentially unlimited credit; users with secured income
- growth slowing down as wireless penetration surpassed 100%
- higher ARPU
 Pre-paid: customers purchase a certain amount of call credit
monthly before services can be used
- fast-growing area
-
benefit from younger demographic preferring less expensive plans
Sprint acquisition of Virgin Mobile
T-Mobile only offered prepaid plans
AT&T acquired Leap Wireless
12
Industry Concentration & Consolidation
 95% of market dominated by Big Four (Verizon, AT&T, T-Mobile,
Sprint)
- Verizon: 42.1% AT&T: 33.0% Sprint: 16.2% T-Mobile: 3.4%
 M&A led by major players drives consolidation of market share
1. Verizon $130 bn acquisition of 45% Verizon Wireless from Vodafone
2. Softbank $21.6 bn acquires majority stake in Sprint Nextel
3. Sprint $1.6 bn acquisition of Clearwire
4. T-Mobile (Deutsche Telecom) $1.5 bn acquisition of MetroPCS
5. AT&T $1.2 bn acquisition of Leap Wireless
13
LTE- The New Wireless Standard
 3G wireless like WCDMA platform used to be the standard
 4G is the next-generation of wireless platform
- Long Term Evolution (LTE): faster and higher data
throughput
- Worldwide Interoperability for Microwave Acess (WiMAX)
 Majority of 4G LTE rollout have almost completed by the end
of last year
- Verizon leads with 301 mm 4G LTE POPs
- AT&T 250 mm POPs
- Sprint and T-Mobile around 200 mm POPs
14
Smartphones
 Flagship phones like iPhone and Galaxy are must-have
- carriers have to pay subsidies to be eligible
 Handset subsidies are prevalent
- double-edge sword: lead to customer additions but hurt margin
 Carriers experimenting with eliminating/altering subsidy
- Verizon prolonged upgrade period from 20 mths to 24 mths
- EDGE Plan reduces subsidy for the ability to upgrade in 6
months given 50% of the cost is paid off
- T-Mobile eliminated all subsidies
15
Regulation
 The Federal Communications Commission (FCC)
- implementing laws enacted by Congress and President
- controlled the licenses for accessing radio frequencies for transmission
 Department of Justice (DOJ)
- antitrust and anticompetitive practices
16
Porter’s Five Forces
 Barriers to Entry: High
- spectrum availability, capital intensity, concentration
 Substitution: Low
- cable companies and Google
 Supplier Power: Moderate
- equipment, semiconduct makers etc
 Buyer Power: Strong
 Rivalry: High
- price competition intensified
17
Agenda
1.
2.
3.
4.
5.
6.
Sector Overview
Business Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Real GDP & Telecom
Raw BETA
0.027
Adjusted BETA
0.351
ALPHA (Intercept)
-1.746
R^2 (Correlation^2)
0.081
R (Correlation)
0.285
19
Disposable Income & Telecom
Raw BETA
49.727
Adjusted BETA
33.484
ALPHA (Intercept)
28771.150
R^2 (Correlation^2)
0.128
R (Correlation)
0.358
20
Consumer Confidence & Telecom
Raw BETA
0.124
Adjusted BETA
0.416
ALPHA (Intercept)
61.909
R^2 (Correlation^2)
0.051
R (Correlation)
0.225
21
Agenda
1.
2.
3.
4.
5.
6.
Sector Overview
Business Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Financial Analysis Telecom Sector
Financial Analysis Telecom Sector
Financial Analysis Telecom Sector
Financial Analysis Telecom Sector
Competitive margins
Depreciation of telecom
sector is higher the
market average
Financial Analysis Telecom Sector
Relatively lower ROE
Attractive high dividend
yield
Financial Analysis Industry
Integrated telecom
industry moves closely
with the sector, while
wireless brings
surprises
1. Sample selection
2. Higher costs and
expenses in wireless
companies
Financial Analysis Industry
Similar situation with
margins
Concerns about
wireless industry
margins
Financial Analysis Industry
Decent return of integrated telecom and the whole sector
ROE of wireless industry fluctuates
Financial Analysis Normalized Return
Financial Analysis Normalized Return
Integrated
Telecom
Wireless
Financial Analysis Normalized Return
Integrated
Telecom
Wireless
Financial Analysis Normalized Return
Agenda
1.
2.
3.
4.
5.
6.
Sector Overview
Business Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Valuation Analysis Overview
Absolute Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
Relative Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
Benchmark
Sector
S&P 500
Telecom
17.26
15.91
1.69
2.61
9.23
23.92
14.90
12.94
1.19
2.31
3.98
32.80
Benchmark
Sector
S&P 500
Telecom
1.00
1.00
1.00
1.00
1.00
1.00
0.86
0.81
0.70
0.89
0.43
1.37
Industry
Integrated
Wireless
Telecom
14.93
12.96
1.20
0.65
2.31
1.81
3.99
5.77
32.80
47.20
Industry
Integrated
Wireless
Telecom
0.87
0.81
0.71
0.38
0.89
0.69
0.43
0.63
1.37
1.97
Company
AT&T
Verizon
T-Mobile
13.13
12.36
1.37
1.88
5.06
26.92
16.35
13.26
1.10
3.42
3.43
34.15
289.80
80.71
0.89
1.74
5.85
29.21
Company
AT&T
Verizon
T-Mobile
0.76
0.78
0.81
0.72
0.55
1.13
0.95
0.83
0.65
1.31
0.37
1.43
16.79
5.07
0.53
0.67
0.63
1.22
Valuation Analysis Telecom Sector
Slightly lower
than historical
median level
Debt level is the
highest in 10 yrs
Absolute Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
Relative Basis
Mainly reflect
integrated telecom,
absent of wireless
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
High
20.22
20.63
1.62
2.62
6.04
31.53
Telecom Sector
Median
Low
16.92
11.78
16.96
10.93
1.35
1.02
1.88
1.73
4.66
3.78
29.57
24.47
Current
14.90
12.94
1.19
2.31
3.98
32.80
High
1.33
1.38
1.78
1.16
1.01
1.27
Telecom Sector
Median
Low
1.06
0.65
1.07
0.61
0.92
0.74
0.84
0.65
0.47
0.30
0.97
0.64
Current
0.86
0.75
0.70
0.89
0.43
1.37
Valuation Analysis Integrated Telecom
Close to median
level but still lower
The highest
debt level
Absolute Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
Relative Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
High
18.27
18.79
1.95
2.86
6.82
32.55
Integrated Telecommunication
Median
Low
Current
15.40
11.63
14.93
15.21
10.81
12.96
1.29
1.12
1.20
2.23
1.82
2.31
4.38
3.90
3.99
27.89
24.63
32.80
High
1.10
1.19
1.27
1.07
0.72
1.36
Integrated Telecommunication
Median
Low
Current
0.95
0.75
0.87
0.96
0.73
0.75
1.00
0.77
0.71
0.88
0.79
0.89
0.47
0.39
0.43
0.99
0.64
1.37
Valuation Analysis Wireless
Around median
level
Relatively high
level of debt
Absolute Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
Relative Basis
P/Trailing E
P/Forward E
P/S
P/B
P/CF
Debt/Assets
High
26.13
17.87
2.49
3.50
8.61
52.43
Wireless Industry
Median
Low
14.98
7.41
12.24
4.81
0.79
0.29
1.31
0.52
4.40
1.26
36.01
21.57
Current
0.65
1.81
5.77
47.20
High
1.57
1.09
1.58
1.50
1.04
2.15
Wireless Industry
Median
Low
0.95
0.48
0.79
0.38
0.51
0.32
0.44
0.26
0.30
0.22
0.29
0.00
Current
0.38
0.69
0.63
1.97
Agenda
1.
2.
3.
4.
5.
6.
Sector Overview
Business Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Recommendation Bull & Bear
Bull Cases/Positives
•
•
•
•
M2M services expansion
generates subscription growth-T,
VZ, S.
Smartphone penetration offering
revenue.
Popularity of video streaming
requires data plan upgrades,
increasing ARPU.
Wireline service providers benefit
from higher video penetration and
ARPU – T, VZ.
Bear Cases/Risks
•
•
•
The price war for customer
acquisition places pressure on
margins.
Google’s eyeing fiber expansion
threatens T, VZ. Comcast-TWC
deal makes the wireline business
more competitive.
New communication ways.
Recommendation Summary
Main conclusion:
• We recommend overweight telecom sector.
• The sector is slightly undervalued now.
• Several bullish factors may drive the growth.
Other recommendations:
Overweight: Verizon, AT&T
• Stability, high dividend yields, new growth trend, undervalued
Underweight: T-Mobile
• Riskier, volatility, overvalued
Q&A
THANK YOU