Elevator Pitch

I maintain my “Neutral” rating on Singapore-listed telecommunication services operator Starhub Ltd. (OTCPK:SRHBF) [STH:SP]. There are signs of stabilization for Starhub’s mobile and pay television businesses in 4Q2019, but competition from MVNOs and OTT players, and piracy issues remain key downside risks. Furthermore, the company expects a lower EBITDA margin in FY2020 vis-a-vis FY2019 due to a change in revenue mix, notwithstanding the success of Starhub’s cost optimization program which led to higher earnings for 4Q2019.

A “Neutral rating” for Starhub is warranted. While the stock trades at below-average EV/EBITDA valuations relative to history, there are still risks such as higher-than-expected 5G capital expenditures, stiffer-than-expected mobile competition, and a faster-than-expected rate of subscriber attrition for its pay television business.

This is an update of my prior article on Starhub published on November 12, 2019. Starhub’s share price has increased by +4% from S$1.48 as of November 8, 2019, to S$1.54 as of February 26, 2020, since my last update. Starhub currently trades at 6.7 times consensus forward next twelve months EV/EBITDA, which represents a discount to the stock’s historical three-year and five-year average EV/EBITDA multiples of approximately 7.4 times and 8.2 times, respectively. The stock also offers a forward dividend yield of 5.8% based on the company’s FY2020 guidance of a full-year dividend payout of S$0.09 per share.

Readers are advised to trade in Starhub shares listed on the Singapore Stock Exchange with the ticker STH:SP, where average daily trading value for the past three months is over $1.5 million and market capitalization is above $1.8 billion. Investors can invest in key Asian stock markets either using U.S. brokers with international coverage such as Interactive Brokers, Fidelity, Charles Schwab, or local brokers operating in their respective domestic markets.

Mobile And Pay Television Businesses See Signs Of Stabilization

Starhub’s share price (not adjusted for dividends) has declined by -64% from S$4.29 as of February 27, 2015, to S$1.54 as of February 26, 2020, while the company’s revenue growth has stagnated with FY2019 revenue of S$2,330 million compared with FY2014 revenue of S$2,387 million. Increased competition in the Singapore mobile market with the entry of MVNOs (Mobile Virtual Network Operators) and continued subscriber attrition for the company’s pay television business due to disruption from OTT (Over-The-Top) players have been largely responsible for Starhub’s lackluster financial performance and share price decline in the past few years.

However, there are signs of stabilization for the company’s mobile and pay television businesses, as per Starhub’s 4Q2019 and FY2019 financial results released on February 20, 2020.

Revenue for the mobile business segment in 4Q2019 was up +0.5% QoQ at S$190.9 million. This implies that quarterly mobile revenue for Starhub has stabilized at around the S$190 million mark for five consecutive quarters since 4Q2018. The number of postpaid mobile subscribers and postpaid mobile ARPU (Average Revenue Per User) grew +0.6% and +1.4% QoQ to 1.451 million and S$40 per month, respectively. At the company’s 4Q2019 earnings call on February 20, 2020, Starhub credited the improved performance of the mobile business in the recent quarter to “more responsible pricing in the marketplace.”

However, there are three key risk factors which could potentially hurt Starhub’s mobile segment performance in the short to medium term.

Firstly, the current coronavirus outbreak could lead to lower roaming revenue for Starhub given that people are less likely to travel during this period. The company does not disclose the revenue contribution from roaming revenue. Secondly, competition from existing and new MVNOs remains a key threat to Starhub’s mobile business. There are currently 11 MVNOs operating in Singapore’s mobile market, and Starhub noted at the company’s recent quarterly earnings call that “we do know there are a number of MVNOs that are potentially ready to launch.” Thirdly, Singapore’s fourth and newest mobile operator TPG Telecom (OTC:TPGTF) (OTC:TPPTY) is planning for a full commercial launch of its mobile services this year, and it is uncertain how aggressive the new entrant will be in competing for new mobile subscribers.

For Starhub’s pay television business, ARPU increased +6.8% QoQ to S$44 per month in 4Q2019. Revenue for Starhub’s pay television business segment increased +0.6% QoQ to S$56.5 million, despite a -4.9% QoQ fall in the number of pay television subscribers in 329,000 in the past quarter.

The sharp decline in the number of pay television subscribers in 4Q2019 was mainly due to the cable-to-fiber migration program as a result of the decommissioning of cable infrastructure, which was completed in 4Q2019. Going forward, subscriber numbers for the pay television business should stabilize, given that the subscribers who migrated from cable to fiber have already signed new two-year pay television subscription contracts.

However, structural threats to Starhub’s pay television business such as piracy and competition from OTT service providers are unlikely to go away. Notably, Starhub emphasized at its recent 4Q2019 earnings call that “we don’t in the short term feel confident that’s (piracy) going to disappear.”

Looking ahead, Starhub is guiding for a +1%-3% growth in service revenue for FY2020, compared with a -3.7% YoY decline in service revenue for FY2019.

Success Of Cost Optimization Program Led To Higher-Than-Expected Earnings

Starhub’s 4Q2019 earnings were above expectations, increasing +75.8% YoY from S$19.8 million in 4Q2018 to S$34.9 million for 4Q2019. This was mainly attributable to the success of Starhub’s cost optimization program announced in October 2018.

As part of the cost optimization program, Starhub set a target of delivering cost savings amounting to S$210 million between FY2019 and FY2021. As of end-FY2019, Starhub disclosed that it has already achieved 64% of the targeted cost savings. The company’s operating expenses (excluding the loss-making cyber-security business) decreased -15.7% YoY and -4.6% YoY in 4Q2019 and FY2019, respectively.

Specifically, Starhub’s success in gradually changing its content costs for the company’s pay television business from a fixed basis to a variable basis (varying with subscriber numbers or subscriber revenue) has played a key role in its cost optimization program. Starhub has been negotiating with content providers for a change in the content cost structure. The company plans to seek alternative content to replace existing content from content providers who insist on charging content on a fixed basis upon contract renewal.

However, Starhub has guided for a lower EBITDA margin of 27-29% for FY2020, compared with a FY2019 EBITDA margin of 31.7%, despite expectations of further cost savings from the company’s three-year cost optimization program. This is because the company expects to generate a relatively higher proportion of revenue from the lower-margin enterprise business (mobile is a higher margin business relative to the enterprise business) in FY2020 vis-a-vis FY2019.

Risk Relating To Higher 5G Capital Expenditures Partly Mitigated With Joint Bid

Higher-than-expected capital expenditures relating to 5G, which reduce earnings and dividends, are a key risk factor for many telecommunication companies globally, and Starhub is no exception. However, this risk is partly mitigated with Starhub’s plans to collaborate with fellow mobile operator M1 Limited (OTC:MBOFF) (OTCPK:MBOFY).

On January 23, 2020, Starhub announced that it entered into a contract with M1 to “cooperate and submit a joint bid for a 5G licence.” Subsequently, Starhub and M1 submitted a joint bid for the 5G license on February 17, 2020. Starhub noted at its 4Q2019 earnings call on February 20, 2020, that “there will be significant savings in CapEx (capital expenditures)” due to network and infrastructure sharing as a result of the joint bid with M1.

Starhub has guided for a capital expenditures-to-revenue ratio of 6-7% for FY2020 which is lower than 7.5% for FY2019, but this does not include 5G capital expenditures and the cost of spectrum. The company has not given any guidance on 5G capital expenditures, but sell-side analysts from DBS Vickers expect Starhub’s capital expenditures-to-revenue ratio to rise to 13% between FY2021 and FY2024.

Besides higher-than-expected 5G capital expenditures which could potentially lead to lower dividends in the future (discussed in the next section), another risk is that Starhub does not win either of the two nationwide 5G licenses, which are expected to be awarded in mid-2020. Market leader Singapore Telecommunications Limited (OTCPK:SGAPY) (OTCPK:SNGNF) [ST:SP] and new entrant TPG are the other two companies with Starhub/M1 for the two nationwide 5G licenses.

Valuation

Starhub trades at 6.1 times trailing twelve months EV/EBITDA and 6.7 times consensus forward next twelve months EV/EBITDA based on its share price of S$1.54 as of February 26, 2020. In comparison, the stock’s historical three-year and five-year average EV/EBITDA multiples were approximately 7.4 times and 8.2 times, respectively.

Starhub offers a forward dividend yield of 5.8% based on the company’s FY2020 guidance of a full-year dividend payout of S$0.09 per share.

Notably, market consensus expects Starhub to pay a lower dividend per share of S$0.082 for FY2021. Starhub’s stated dividend policy is to pay out “at least 80% of net profit attributable to shareholders (adjusted for one-time, non-recurring items),” so the market expects lower earnings for Starhub in FY2021.

More importantly, Starhub declined to commit to whether the company will pay out dividends in FY2021 based on the stated dividend payout ratio or stick to an absolute amount similar to FY2020, as per the company’s comments at its FY2019 earnings call on February 20, 2020.

Risk Factors

The key risk factors for Starhub include stiffer-than-expected competition for its mobile business, a faster-than-expected rate of subscriber attrition for its pay television business, higher-than-expected capital expenditure relating to 5G, lower-than-expected dividends going forward.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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2020-02-28