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Morningstar | BT Group Reported in Line Fiscal 2019 Results, but Weaker Guidance; Shares Undervalued

BT Group reported fiscal year-end results that were in line with our expectations, and we don’t anticipate any significant changes to our GBX 360 per local share fair value estimate. Our narrow moat remains intact, and we believe the shares are undervalued.

Revenue declined 1% year over year with an adjusted EBITDA margin of 31.6%, right where we projected. However, guidance for fiscal 2020 calls for a revenue decline of 2% versus our expectation of flat revenue, and an EBITDA margin of 31.8% against our estimate of 32.0%. Competition remains intense, particularly in the enterprise division, which accounts for about 25% of revenue, as legacy businesses where BT Group has a particularly large market share continue to decline, and competition for newer services is greater. Enterprise division revenue fell 5% during the fiscal year, as legacy service revenue dropped 12%, which was more than growth in newer areas like Internet of Things, Cloud, and security could overcome. We anticipate this trend continuing and expect lower segment revenue every year for the next four years.

Importantly, the consumer division, which accounts for about 45% of revenue, continues to grow, with revenue up 3%. Its converged product, BT Plus, now has 1 million subscribers. As the only operator in the U.K. that owns both fixed-line and wireless networks, we anticipate converged services will provide growth for many years. It is also benefiting from the rollout of faster broadband speeds.

There are also signs of improvement at the global services division, which accounts for about 20% of revenue. Reported revenue declined 6% for the year, but only 4% excluding currency movements. Sales only dropped 3% in the fourth quarter. Much of the revenue decline is also intentional as it walks away from low-margin business. This focus on profitability enabled segment EBITDA to increase 17% from the year-ago period.

The faster broadband speeds BT Group is offering are coming from the Openreach division, which announced it now has 2 million homes passed by G.Fast and 1.2 million passed by full fibre-to-the-home, or FTTH. The division also announced it will further speed up its FTTH rollout, and it now plans to pass 4 million homes by March 2021 and 15 million by the mid 2020s up from previously announced 3 million and 10 million homes, respectively. This faster rollout will cause costs to increase due to hiring and training new engineers. However, we expect the longer term revenue growth it should generate should offset the lower margins.