Australian Telecom Sector - Riding on the Back of Rapid Digital Transformation

Australian Diversified Telecom Services Stocks outperformed S&P/ASX 200 Index (QTD*)

Data Sources: Refinitiv, Thomson Reuters, ASX; *24^th June-24^th September 2020

Analysis by Kalkine: QTD Average price performance of all 14 Australian Diversified Telecom Services Stocks as per GICS Industry Classification including MAQ, TLS, VOC, ST1, FSG, MNF, SLC, UNL, UWL, 5GN, VN8, OPC, TUA, TPG.

I. Sector Landscape and Outlook

The telecommunications sector entails companies which are providers of communication services such as internet services, telephone calls, messaging services, etc. The industry has evolved from a provider of traditional communication means to a multi-purpose platform of mobile devices. The increased use of mobile devices and broadband connectivity has driven the momentum around online trends like mobile payments, social interactions, video gaming, and video streaming, etc.. Significant investments have been made in the Australian telecommunications sector as the demand for data-driven services and new applications for continue to grow.

Most of the Australians, except those in rural and remote areas, have been satisfied with the quality and access to telecommunication services. However, there have been concerns over the affordability of these services even after services providers increased data quotas. Henceforth, the government is charting out plans to address such issues to provide the same quality and ease across the country.

Figure 1. Scale of Australia’s Telecommunications Sector

Data Sources: Australia Infrastructure Audit Report 2019, nbn 2019, Corporate Plan 2019-2022, Department of Communications and the Arts 2018, Demand for fixed-line broadband in Australia, ACMA 2018, Communications Report 2017-18, GSMA 2017, Mobile Connectivity Index 2017, Centre for International Economics 2018, Australian Competition & Consumer Commission 2018, Communications sector market study final report, Australian Government

As charted below, in June 2019, Australia ranked 4^th in the world for average mobile broadband speeds. However, the country was well behind other developed nations in terms of fixed broadband speeds. In June 2019, Australia was ranked 57^th in the world in this category, according to a report published by Infrastructure Australia. As the digital world continues to evolve with more and more technologies using telecommunications networks to enhance overall economic productivity in Australia, it can lead to new and improved outcomes for users.

Figure 2. Mobile Broadband Speed Across Countries (June 2019)

Data Sources: Australia Infrastructure Audit Report, 2019, Ookla (2019), Australian Competition and Consumer Commission (2019)

Key Growth Drivers

• Digital Developments: New technologies, escalating connectivity, and flow of data have been driving the telecommunications space over the past few years. In 2017, 52.9% of the businesses rated mobile internet as a very important service according to a survey conducted by the Australian Bureau of Statistics. Moreover, access to high-speed broadband was rated very important by 48.1% of the businesses in the same survey. As companies continue to move their data and IT systems to the cloud, there will be an increased requirement of investments and data centres across Australia.

Figure 3. Digital Growth in Australia (Jan’20 vs Jan’19)

Data Sources: United Nations; GSMA Intelligence; ITU; GlobalWebIndex; Social Media Platforms’ Self-Service Advertising Tools

• Increased Adoption by Government, Businesses and Households: Governments, businesses, and households are leveraging new technologies to gain increased access to information, improve service delivery, and strengthen economic productivity. Government bodies are using new technologies in several areas like health, public safety, and education. Businesses are embracing cloud-based solutions to reduce hardware costs and save on security and redundancy. Similarly, households are adapting to new technologies for convenience and automated living. As per GSMA Mobile Connectivity Index (January 2020), the overall mobile connectivity index score was 88.43 out of 100. Moreover, the component of ‘Consumer Readiness’ scored the highest with 92.83.

Figure 4. Mobile Connectivity Index

Data Source: GSMA Mobile Connectivity Index

• Growing Importance of Internet of Things: IoT represents an intelligent global network connecting multitude of devices from wearables, medical sensors, vehicles, appliances, etc. which are integrated with technology to operate more effectively. IoT is a growing source of revenue for the Australia’s telecommunications sector. Notably, Telstra Corporation’s IoT business surpassed industry growth rates and increased by 19.4% in revenue in FY19. According to the International Data Corporation (IDC), the global IoT spending will return to double-digit growth rates in 2021 and achieve a CAGR of 11.3% over the 2020-2024 forecast period.

Figure 5. Global IoT Spend Outlook (2016 – 2021)

Data Source: International Data Corporation, Kalkine

• Accelerated Growth Due to COVID-19: Due to the outbreak of COVID-19, a change in consumer behavior resulted in unprecedented demand for bandwidth and diversity, and fast-forwarded digital adoption. Therefore, favorable macro market trends are driving the industry in an upward direction. According to the Australian Competition & Consumer Commission’s (ACCC) Internet Activity Report for October 2019 – December 2019, the total volume of data downloaded increased by 23%, as compared to the June 2019 reporting period. Considering there is no respite from COVID-19 pandemic, the volume of data download will continue to grow at a rapid pace, if a large population stays at home for prolonged period.

As per Telstra’s CEO, Andy Penn, there is an imminent requirement to expand the network capacity to allow for smooth access as many people work from home. Further, he stated that NBN has announced plans to increase 40% capacity in its network to manage the growing internet traffic due to COVID-19.

Figure 6. Volume of Data Downloaded Across Different Services in Australia

Source: Australian Competition & Consumer Commission, Kalkine

• 5G Technology: Being the newest wireless communication technology for mobile data networks, 5G has gained immense popularity, with telcos like Telstra, Vodafone and Optus making good progress in developments across the area. 5G seems to have a much faster speed than the NBN’s Premium plans and is gaining a lot of traction due to high-speed offerings.

Telecommunications Infrastructure in Australia: The Australian government has been progressively engaged in constructing Australia’s fixed line broadband network and has invested in new generation mobile networks. As per the Australia Infrastructure Audit Report 2019, most of the telecommunications infrastructure in Australia is privately owned except the National Broadband Network (nbn), which is under construction but has begun delivering services to users. In its latest Infrastructure Priority List released in August 2020, the Government listed all the priority projects and initiatives for 2020, which included mobile telecommunications coverage in regional and remote areas as a priority initiative, to be acted upon in a time frame of 0-5 years.

Figure 7. Infrastructure Priority List, 2020

Source: Infrastructure Australia, Australian Government

Risks/Challenges

Figure 8: Key Risks/Challenges for the Telecom Sector

Source: Kalkine

• Cybersecurity Risk: Increased adoption of telecommunication and digital services will increase the risks related to data privacy and system resilience, which can impact effective user engagement and may reduce the potential benefits of such services. 

• High Infrastructure Costs: As the country moves towards the adoption of 5G network services, there will be a need to substantial new infrastructure, which will lead to increased costs, planning and security challenges. 

• Proposed nbn Sale: The proposed sale to the private sector will require extensive restructuring and can impact the short-term and long-term service delivery and outcomes for users. The sale of nbn may not provide adequate value to shareholders and can be detrimental to the long-term goals of the users. 

• Lack of Digital Inclusion: The absence of digital inclusion for low-income households, old-aged people, people with disabilities or lack of proper education, may act as a disadvantage as well as a challenge for the telecommunications community. 

• Increase Costs for Businesses and Individuals: To compete in the digital economy, businesses look for more telecommunications services in the form of increased downloads, speed, and storage. High value-added benefits come at a high cost and may impact the ability to grow and make profits in the short-term. In addition, the rising demand for faster speed and data allowances will also come at a higher price for individuals initially.

Outlook: The telecom sector in Australia has grown with the help of technological advancements and is now more central to people’s lives at home and work, than it has ever been. Advancements across the sector are being continuously supported by significant investments by the government. The businesses are more focused towards adopting a diligent response to growth in demand for data-driven services and new uses for telecommunications. Consumers have so far remained positive to the quality and access to networks and are eyeing for better prices to enhance their experience. Moreover, increased connectivity for rural and remote users is what lies on the government’s agenda right now.

Overall, performance in the sector is currently being driven by a rapid shift to the online channel by the government and businesses, increase in number of mobile and internet users, technological advancements, investments in telecommunications infrastructure, and the impact of COVID-19 on online activities of individuals. Going forward, a change in consumer behavior, coupled with continued digital transformation across businesses and government support, will help drive growth in the sector.

II. Investment theme and stocks under discussion (TLS, MNF, VOC and MAQ)

After understanding the sector, let us now look at four companies listed on the ASX. The price potential of the companies under discussion has been analysed based on ‘EV/Sales’ method.

1. ASX: TLS (Telstra Corporation Limited)

(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: A$ 34.13 Billion)

Telstra Corporation Limited (ASX: TLS) is a provider of information and telecommunications services, including mobiles, internet, and pay television.

Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~13.44% on 24 September 2020 closing price. For the said purposes, we have taken peers such as Vocus Group Ltd (ASX: VOC), Macquarie Telecom Group Ltd (ASX: MAQ), Uniti Group Limited (ASX: UWL), etc. At the same price, the stock of TLS was offering a dividend yield of ~3.48%.

2. ASX: MNF (MNF Group Limited)

(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: A$ 396.26 Million)

MNF Group Limited (ASX: MNF) is a provider of software and services for voice communication.

Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~30% on 24 September 2020 closing price. For the said purposes, we have taken peers such as Telstra Corporation Ltd (ASX: TLS), 5G Networks Ltd (ASX: 5GN), Vocus Group Ltd (ASX: VOC), etc. At the same price, the stock of MNF was offering a dividend yield of ~1.3%.

3. ASX: VOC (Vocus Group Limited)

(Recommendation: Hold, Potential Upside: Low Double Digit, Mcap: A$ 2.23 Billion)

Vocus Group Limited (ASX: VOC) is an integrated telecommunications provider, which operates in the Australian and New Zealand markets.

Valuation

Our illustrative valuation model suggests that the stock has a potential upside of ~14% on 24 September 2020 closing price. For the said purposes, we have taken peers such as Telstra Corporation Ltd (ASX: TLS), 5G Networks Ltd (ASX: 5GN), Spirit Telecom Limited (ASX: ST1), etc.

4. ASX: MAQ (Macquarie Telecom Group Limited)

(Recommendation: Expensive, Mcap: A$ 987.4 Million)

Macquarie Telecom Group Limited (ASX: MAQ) is a telecommunication and hosting services provider to corporate and government customers in Australia.

Valuation

Our illustrative valuation model suggests that a price correction of ~12.78% on 24 September 2020 closing price. For the said purposes, we have taken peers such as Telstra Corporation Ltd (ASX: TLS), 5G Networks Ltd (ASX: 5GN), Opticomm Ltd (ASX: OPC), etc.

Note: All the recommendations and the calculations are based on the closing price of 24 September 2020. The financial information has been retrieved from the respective company’s website and Refinitiv (Thomson Reuters).

Disclaimer

Kalkine New Zealand Limited is authorised to provide class advice only. The information on this site does not take into account any of your investment objectives, financial situation or needs. Before you make a decision about whether to acquire a financial product, you should obtain the Product Disclosure Statement from the product issuer. You should consider the appropriateness of advice taking into account your own objectives, financial situation and needs and seek independent financial advice before making any financial decisions.