Treasure Chest: Telstra Entering An Upgrade Cycle

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FNArena's Treasure Chest reports on money making ideas from stockbrokers and other experts. Analysts at Wilsons are increasingly drawn to the investment thesis for Telstra in the current macroeconomic environment.

By Mark Woodruff 

Whose Idea Is It?

Analysts at Wilsons

The subject:

Brokers have been increasing their earnings forecasts for Telstra ((TLS)) in a sustained manner for the first time in years, according to Wilsons, and it’s felt the company is entering an EPS upgrade cycle.

In the currently challenging macroeconomic conditions, the broker’s investment strategy team has increased its exposure to Quality Defensives in its ‘Australian Equity Focus List’ portfolio to 22.5% from 17.5%, and increased its position in Telstra to 3% from 2%.

The company benefits from consistent user demand for mobile and fixed network plans through the economic cycle and receives annuity-like cash flows from company-owned infrastructure, explain the analysts.

Management has suggested the ongoing drag from the migration away from its legacy network to the NBN is all but over, and Wilsons feels earnings have reached a nadir in FY22.

Apart from the end of NBN headwinds, Wilsons feels the intense competition of recent years is easing, leading to an enhanced ability to raise mobile plan prices, without losing market share. Both Telstra and Optus have recently lifted prices, with the latter explicitly stating it will not compete on price. Both companies have signaled more price rises will follow.

Moreover, the T22 cost reduction strategy is on track to deliver -$2.7bn in annual recurring cost reductions by FY22, according to the broker, while management’s T25 strategy is to deliver a further -$500m yearly reduction to the cost base from FY23 to FY25.

The analysts are also drawn to Telstra’s 5G network leadership (more than twice the size of the closest competitor) which should assist in driving average revenue per user (APRU) growth, by converting customers to higher priced packages.

Noting that infrastructure assets typically command substantially higher earnings multiples as pure play investments, Wilsons points out Telstra is close to structurally separating its infrastructure assets from its consumer facing business.  

On top of this potential valuation uplift, Buy-rated Ord Minnett expects Telstra will look at further infrastructure asset sales with InfraCo potentially due to be monetised over the next 12 months. Previously, the broker valued these assets at around $32bn.

Wilsons agrees the company is likely to monetise more of its infrastructure over the medium-term. The sale of minority interests in its assets is expected to underwrite ordinary dividend payments, and shareholders will also benefit from extra funding for large capital management initiatives like special dividends and share buybacks.

A couple of weeks ago, Ord Minnett also pointed to a lack of M&A opportunities and the increasing prospect for buybacks. It’s estimated Telstra has the potential to initiate more than $3bn in capital management activities between now and FY25, which, working off a $4 share price, would be 4% accretive to earnings per share.

These buybacks are in addition to regular dividends, which the broker noted are limited by the availability of franking credits. A 21cps dividend is expected by FY25, though this could reach 22cps if further share buybacks are implemented.

More info:

Another source of revenue for Telstra (subject to ACCC approval) may accrue from the Multi-Operator Core Network (MOCN) agreement with TPG Telecom ((TPG)).

Credit Suisse feels the deal is unlikely to be rejected by the ACCC due to benefits of better regional mobile coverage for consumers at a lower price point.

Telstra expects the agreement to deliver between $1.6bn to $1.8bn of revenue over the initial ten-year term, and the broker forecasts consistent accretion to earnings over time, with an around $48m earnings (EBITDA) benefit by FY28.

The broker awaits ACCC approval before altering its forecasts and leaves its Outperform rating and $4.50 target price unchanged.

The FNArena database has six broker ratings with four Buy (or equivalent) ratings and one Neutral rating, while Macquarie currently doesn’t provide a rating. The average 12-month target price set by the brokers is $4.46 which suggests 13.2% upside to the latest share price.

Wilsons, not one of the seven brokers updated daily in the database, includes Telstra in its Focus List, but doesn’t currently set a target price or rating.

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