EUR 850.00 For Business Accounts Only

Morningstar | Encouraging Signs Behind Humdrum 4Q for BCE, Which Remains Our Favorite Canadian Telco; CAD 62 FVE

Narrow-moat BCE's headline numbers were not particularly impressive, but we saw numerous reasons for optimism underneath revenue and EBITDA results that were in line with expectations (fourth-quarter revenue and EBITDA both up 3% year over year). BCE is showing signs of the story we expect to play out, namely greater penetration and increased pricing in wireline and a second-to-none wireless offering. Most important, it is reaping benefits from its fiber-to-the-home build-out. We don't anticipate material changes to our CAD 62 fair value estimate. The opportunity we see makes BCE our top choice among Canadian telecom providers.

We believe fiber to the home improves BCE's product substantially and closes the quality gap with cable provider Rogers, BCE's biggest competitor. With nearly 30,000 net additions in the quarter, BCE capped a year where it added 110,000 high-speed Internet customers, expanding its subscriber base about 4%. BCE's full-year additions were similar to Rogers', but BCE outpaced the competitor in each of the last two quarters and increased data average revenue per user at a faster rate, over 1% in 2018, despite a promotional environment. In addition, BCE bucked the industry trend by adding television subscribers in 2018, including over 9,000 net additions in the fourth quarter. With an enhanced network, BCE can offer Internet protocol television service and rely less on satellite. BCE added over 110,000 IPTV customers in 2018, including 36,000 in the quarter, to more than offset satellite customer losses. Promotional activity led to wireline EBITDA margin contracting 50 basis points in the quarter and remaining flat for the year. We expect wireline margins will expand over time as BCE continues migrating toward higher-priced offerings and moves beyond initial promotions.

Wireless metrics were consistent with recent industry strength and our expectations. Wireless revenue and adjusted EBITDA each grew roughly 5% year over year.

In the fourth quarter, BCE added about 120,000 net postpaid wireless subscribers and 21,000 prepaid subscribers, bringing the year's totals to 448,000 and 32,000, respectively. Postpaid churn was down 3 basis points in 2018 to 1.16%, BCE's best level of the decade and consistent with the strength all competitors have been showing recently. Despite quarterly churn down 9 basis points from last year's fourth quarter, postpaid net additions dropped over 10%. Management attributed the drop to its unwillingness to get too promotional, but we attribute it more to a historically strong fourth quarter of 2017 across all providers and a year that will be tough to repeat for the industry. We believe we've seen a cycle peak for the three major Canadian wireless incumbents, and we expect churn to tick up from here for BCE as well as Rogers and Telus.

Since BCE launched its Lucky Mobile prepaid brand in 2017, it has focused on taking share in the prepaid market, where it lagged competitors, because it sees prepaid customers as a pipeline to postpaid customers. The higher proportion of prepaid customers and the onboarding of lower-revenue postpaid customers associated with the federal government contract that BCE won in 2017 muted growth in average billings per user, which was virtually flat for 2018. BCE's smaller prepaid base relative to competitors leads to its ABPU leading the industry. Given the company's desire to increase prepaid users, we expect ABPU growth to continue trailing that of competitors.

Management confirmed that it used Huawei equipment for its mobile 3G and 4G networks, but it indicated it has not yet made a selection for 5G, so its capital expenditure outlook will be unaffected if the government bans Huawei's 5G equipment. Capital intensity levels dropped in 2018 to a greater extent than we expected, and given how far along the firm is in its fiber-to-the-home build-out, we think lower levels will become normal. Wireless capital intensity was under 8% in 2018, lower than it's been in many years. We expect that to rise as the 5G build-out ramps up, but we think the firm has been very efficient with its spending, and we expect that to continue.