Telkom | Wireline freefall

TKG's H1'20 results highlighted the pace of transition from voice copper services to fibre and LTE based networks are accelerating at the expense of cashflows. The transition reduces the Group's cashflow generation as high margin, high cashflow voice revenues decline and are replaced with lower margin, capex intensive LTE and mobile services. In addition, data subscribers are trending more towards LTE (+59% y/y) for delivery than fibre (+3% y/y), which consumes mobile data traffic capacity at lower margins and higher capex compared to fibre. However, we believe the legacy fixed-line business is approaching its floor, with the fixed data revenue base equalling the fixed data base in H1'20. A less meaningful declining voice revenue base should deliver less-volatile earnings in future, while the fibre and LTE businesses scale and leverage TKG's natural advantages in fibre backhaul and data capacity spectrum. The shift in mix between copper and LTE has accelerated mobile capex. However, mobile does not have sufficient scale/EBITDA to self-fund. Therefore, net debt increased 34% h/h (+R3bn) to c.R12bn. TKG is struggling to reduce operating cost in the legacy business fast enough to adapt to the change in mix, given the high staffing levels in Openserve (36% of operating cost). We expect TKG to reduce its workforce to improve EBITDA.

In this report we downgrade our rating to a MARKET PERFORM and reduce our earnings forecast for FY'20, FY'21 and FY'22 by 25%.