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Morningstar | Millicom Generates Solid 2Q Revenue, Demonstrating Our Thesis Is Progressing; Shares Undervalued

Millicom reported mixed second-quarter results, with solid revenue growth but light EBITDA margins. We believe these results demonstrate that our thesis is playing out and we are maintaining our fair value estimate of $86 per ADR and narrow moat rating. We continue to believe the shares are undervalued.

The firm reported revenue growth of 4.8% year over year, well ahead of our 2.3% full-year projection. Revenue grew in all three of its main divisions, with mobile B2C up 2.1%, home growing 12.6%, and B2B increasing 7.1%. We are particularly pleased with the improvement in mobile, which is the firm’s largest segment and declined 3.8% one year ago. We have anticipated this recovery for some time and have been frustrated that it has taken so long. We are also impressed by the further increase in the home (or pay-TV) segment. This has been the most consistent performer, with revenue growth of 7% to 8%, but it popped to double digits as Colombia expanded its connected base by 1.5%.

Since Millicom acquired UNE, the second-largest cable-TV operator in Colombia, it has been upgrading its network from heavily copper to a hybrid fiber coaxial, or HFC, network. While it has been growing its HFC-based subscribers, it has been losing copper-based ones at a faster rate. In the first quarter, it had net subscriber growth for the first time, which accelerated in the second quarter, and we believe this can continue to improve.

The firm continues to extend its HFC network in other countries as well, and the cost of this buildout is pressuring margins. Thus, EBITDA margin was only 35.8% in the quarter, which is below our full-year projection of 36.7%. However, we think this buildout is important, as it is helping provide the growth for the future. This is demonstrated by the pickup in connected cable-TV homes and the increase in full-year guidance for home connections to 400,000 from 300,000, though half of this increase is from an acquisition in Guatemala.

The star performer in the quarter was Bolivia, with service revenue growth of 15.7% and EBITDA growth of 17.5%. This is important, as Bolivia is the country furthest along in building out its 4G network with a penetration rate of 47%. Millicom also almost doubled the number of homes passed by its HFC network over the past year. Both of these network enhancements are leading to revenue growth, which we believe demonstrates the value of the firm’s network buildouts. 4G subscribers are spending more on data, which is driving average revenue per user, or ARPU, growth. Millicom’s ARPU increased 1% year over year, which is its first increase in many years.

However, not all is going smoothly. El Salvador, in particular, continues to struggle with service revenue down 3.6% and EBITDA falling 16.8%. While there are macro issues in El Salvador, management admitted on the earnings call that some of its problems were self-inflicted. A new management team was recently installed, and with help from corporate and implementing strategies that have worked in its other countries, Millicom expects to be able to turn El Salvador around.

Finally, in Africa, revenue grew 2.9% and importantly with the divestitures that have been made, the remaining countries are equity free cash flow positive. Management stated on the call that for the right opportunity, these countries could also be sold, and the capital redeployed in Latin America. We don’t anticipate anything occurring in the near future, but do expect these operations to eventually be sold.