Telecommunications Sector

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Telecommunications Sector

• Sector Analysis
• Cindy Croat
• Philipp Hassanzadeh

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Outline

• Size and composition
• Business Analysis
• Financial Analysis
• Valuation Analysis
• Recommendation

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Size Composition

• Market Cap 315,901 million
• 4.19 of SP 500
• Current portfolio weight 4.94

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Size Composition
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Business Analysis
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Wireless External Factors

• Social Changes
• People more mobile life more fast-paced
• New Technology
• Growing product acceptance sales

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Wireless Capacity

• Switch from analog to digital
• 90 digital now
• Currently laying out the groundwork for 3G
  networks

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Wireless -Profitability Pricing

• Demand is growing quickly there is no huge over
  capacity of wireless services
• U.S. Market Leaders
• Verizon Wireless
• Cingular Wireless
• ATT Wireless

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Wireless - Profitability Pricing

• Very competitive environment!
• Competing over subscribers
• Pricing pressures
• Increasingly competitive contract plans by Sprint
  PCS, Cingular Wireless, ATT Wireless
• Average revenue per user (ARPU)
• Reducing minutes that fall outside of allotted
  contract terms

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Wireline - External Factors

• New Technology
• Driving businesses customers to wireless
• Cell phones
• E-mail
• Internet telephony-Real time voice transmission
  over the Internet
• Wireless networking technology allows rapid
  downloading of voice, video audio data

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Wireline -External Factors

• Government Regulation
• Telecommunications Act of 1996
• FCC undertaking regular 3-year policy review
• Social Changes
• People more mobile life more fast-paced

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Wireline -Excess Capacity!

• Major expansion of capacity in late 1990s
• Enormous sums of money spent trying to keep up
  with latest technology in broadband data
  delivery, wireless communications, fiber
  optics.
• Wholesale prices have plummeted capital
  spending in the sector has screeched to a halt.
• No one knows how long it will take the market to
  absorb the glut in network capacity.

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Wireline - Profitability Pricing

• Reduced demand due to new technology
• Excess supply, lower demand technological
  substitution has led to reduced profitability.
• 4 Main Competitors
• 1. Verizon Communications
• 2. Bell South
• 3. SBC Communications
• 4. Quest International Communications

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Wireline - Profitability Pricing

• Main Competitors
• Still dominate local phone services largely
  control the rollout of broadband access via DSL
• List of companies trying to compete with them can
  be dwarfed by list of companies that have failed
  trying.
• Difficult to enter into industry
• Large fixed costs

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Wireline - Profitability Pricing

• Strength of customers
• Numerous
• Price driven
• Low switching costs
• Pressure from new technology competition
  amongst suppliers has increased strength of
  customers.
• Numerous substitutes

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Financial Analysis
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• Revenues and Earnings
• Downtrend began in middle of 2000
• Possible uptrend began at end of 2002
• Net profit margin and ROE
• Similar trend

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Cash Flow analysis and debt

• Cash flow
• Negative Free Cash Flow after dividends
• Debt
• High interest burden

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Net Cash from Operations remaining stable Net
Cash from Investing decreasing prior to 1998,
increasing after 1998 Net Cash from Financing
fluctuates over time
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Net Cash from Operations increasing Net Cash
from Investing decreasing prior to 2000,
increased in 2001, still neg Net Cash from
Financing remaining stable
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Net working capital Decreasing prior to 2000,
increasing in 2001, still neg. !!!
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DuPont Analysis

• Margins Decreasing
• Asset turnover Declining
• Leverage Stable/Increasing
• ROE Decreasing

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Valuation Ratio Analysis

• P/E, P/S, P/B, P/CF
• Continuing downtrend
• Variation across the sector
• Technical Analysis
• Below both 50 and 200 day moving averages

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Recommendation Telecommunications

• Positives
• Earnings appear to be beginning an uptrend
• Valuation below historic averages
• Expect to see continued growth in wireless
• Economic turnaround ?

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Recommendations Telecommunications

• Negatives
• Declining dividends
• Need more time to establish uptrend in earnings
• Excess capacity in wireline sector
• Servicing huge debt load resulting from
  overexpansion will be difficult because of
  reduced FCF
• Competitive pricing cutting into revenues

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Recommendation Telecommunications

• Opinion
• Keep current portfolio weight (4.94)
• Observe further development of earnings trend to
  make to see if uptrend is established