We are maintaining our NEUTRAL call in the telecommunication sector. The prepaid subsegment will continue to be a hard fought battle ground in view of the escalating competition. Nevertheless, a price war is not expected given the incumbents are only expecting margins to decline only slightly on year-on-year basis. We believe, both the M2M and enterprise solutions will be the new growth areas for Celcos over the mid-tolong-term should their ventures into these segments are successful. Meanwhile, we also expect Celcos to introduce speed base tier-pricing data plan in CY14 to further monetarise their data investment. Regulation risk, on the other hand, could potentially pose another threat to the Celco incumbents given their respective various 2G/3G spectrum licences had already expired in CY13 or will expire in the next few years. Valuation-wise, there is no change in our telecommunication companies FY13-FY15 earnings forecasts. Telekom Malaysia (OP, TP: RM5.94) remains our top pick for the sector due to: (i) its solid presence in the FTTH market, and (ii) lesser competition in its wholesale and fixed-line segment. We are maintaining our MARKET PERFORM calls on both Maxis (TP: RM7.34) and Axiata (TP: RM6.73). Meanwhile, our OUTPERFORM ratings on both Digi (TP: RM5.24) and Redtone (TP: RM0.81) remain unchanged.

3QCY13 results snapshot. Local telco players generally reported decent 3QCY13’s results with TM being the clear outperformer underpinned by its higher operational efficiency and lower effective tax rate. Maxis, meanwhile, saw its bottomline boosted by better cost efficiency, while Digi and Axiata posted reasonable set of results, within our expectation. On a closer look, Digi’s solid results were on the back of continuous improvements in network quality, larger 3G network footprint and customer base, as well as higher take-up rate of its mobile internet offerings while Axiata, reported flat YoY net profit growth due to higher operating costs in Indonesia.

Prepaid segment continued to be a battle ground, where Maxis has continued to lose market share to rivals as well as other MVNO players due to the mismatch in pricing and subpar distribution scale. Meanwhile, the entry of the two new MVNO players (Altel Communications S/B and Telin, a subsidiary of Indonesia largest telco operator – Telkom Indonesia) in the previous quarter is also heating up the competition. Moving forward, the segment competition is expected to escalate, given that Maxis intend to defend its turf in the prepaid market share. Nevertheless, a price war is not expected to emerge as Maxis is only expecting its EBITDA margin to decline slightly on year-on-year basis albeit its plan to spend more on marketing to lure new subscribers.

2014 industry trends. Both the M2M (machine-to-machine) and enterprise solutions appear to be new growth areas where Celcos are planning to focus on in the coming year. Celcos’ SMS revenues are expected to continue to face challenges given that subscribers are now prefer to use more OTT applications to communicate messages over than the traditional methods. Nevertheless, the increasing data revenue coupled with more prudent cost management could provide a cushion to earnings. Meanwhile, we also believe Celcos will introduce speed based tier pricing data plan in CY14 to further monetarise their mobile data investment. For the fixedline segment, TM’s FTTH (fiber to the home) segment competition is expected to ease following Maxis’ review of its fiber segment business model which may potentially spark an exit from the business.

Key events to watch in 1Q14. Digi’s business trust will be the key event to watch, should it materialise during 1Q14. Nevertheless, in view of the bureaucratic procedures, we do not discount that the structure may materialise later rather than earlier. Meanwhile, we expect the telco sector may get some traction in February prior the release of their respective 4QCY13 report card coupled with the final dividend.

Risks. Apart of the usual escalating competition coupled with the rising operational cost environment, regulation risk could potentially post another threat to the Celco incumbents given their respective various 2G/3G spectrum licences had/will expire in CY13-CY15.

Source; Kenanga