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M1 shares suffering from massive bout of diarrhoea

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Bullionstar

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Being M1 customer, I like its unlimited free calls to three M1 numbers to local voice calls. Because of this innovative product, I have been its customers for many years. This is the power of subscription for a telecommunication company. In fact, mobile subscription is considered the most important investment moat for a telecommunication company because the motivation to switch to another mobile phone carrier is low once a customer subscribed to its data plan. However, as an investor, I would never invest in M1 shares.

From almost $4.00 in 2015, M1’ share price plunged to $1.73 lately. Being the smallest player, M1 faces the biggest risk of shrinking market share with the entry of new competitor, TPG Telecom. To make matter worse, Singapore market is very small and saturated.

M1

According to Infocomm Media Development Authority (IMDA), the mobile penetration rate in Singapore is about 150%, making Singapore one of the most well-connected countries in the world. This means that some of the subscribers may be using more than one line. Being the smallest player, it is not surprising that outlook for M1 is worrying.

With falling share price, investors may be wondering if it is the right time to buy M1 shares on the cheap. However, a word of caution is that when it comes to stock investing, cheap may not indicate value. In March, the three major shareholders – SPH, Keppel Telecommunication & Transportation and Axiata Group – appointed Morgan Stanley to advise on a strategic review of their stakes in M1. In July, the trio announced that they would not proceed with the review.

In my opinion, I suspect that interested parties in M1 may have made low-ball offers to the major shareholders. That could be why the review did not result in any transactions. Nevertheless, investors did not take the outcome kindly and punished the stock. After the announcement, the share price fell from $2.10 to $1.73. On current form, the shares seem destined for an ominous downward spiral.

In terms of financial performance, the telco continued to struggle in light of challenging operating environment. Net profit after tax for first half of the year declined 17.6% to S$68.8 million, partly driven by higher depreciation and interest expense. Total mobile customer base decreased 2,000 in the quarter to 2.04 million, and mobile churn was higher at 1.7%. With this set of dismal results, it would take a very brave investor to enter this counter at the moment.

But what is striking about M1 is its feather-weight balance sheet. Among the three telcos, M1 holds the lowest amount of cash and cash equivalents – at $6.1 million as of 31 June 2017. While I can understand that the telco business is a highly leverage industry, it does not make sense to me that the cash holding is so low. Even Starhub has a much higher cash holding of $450 million, while SingTel has $533.8 million.

The reason why M1 can afford to hold so little cash while having no cash flow problem for so many years is because the telco industry is very cash-generative business. Net cash from operating activities was $108 million for the first half of the year, a decline of 42.1%. Given that the company derived the bulk of its revenue from mobile telecommunication services and its mobile postpaid market share was only 25%, things may not be rosy going forward.

Return on equity (ROE) was outstanding for the past few years. From FY2012 to FY2015, the average ROE was an explosive 44%. FY2016 was lower at 36% and based on projection, the ROE will be lower for FY2017. ROE measures the management’s ability to generate returns using shareholders’ funds. In this regard, M1 fared much better than Singtel, which has ROE of about 16% for the past few years.

With free cash flow of only $30.4 million, M1 claimed that “they are investing in start-ups and digital solution providers with new technologies to generate new revenue streams.” To be frank, scaling is critical for the telco players. With a small market like Singapore, it is difficult for M1 to sustain even if they invest in start-ups. Ultimately, the money to be made is still in mobile telecommunication services and unless the company ventures overseas, the future is bleak.

Being asset-lite, I am not surprised that the Price/Book Value is about 4, even against the backdrop of declining share price. Is the share price considered inflated? I should think so. Many investors bought M1 shares because of its rich dividend pay-outs.

Since FY2013, M1 had paid $0.81 of dividends per share to its loyal shareholders. However, since then, the share price has declined by about $1.60 per share. So, if you have bought M1 shares in 2013 and hold it till now, you are likely to suffer from paper losses even if you factored in the total dividends received. Should investors cut losses and run for their lives? I don’t know but unless the management figure out how to reverse the company’s fortunes, things are likely to get worse.

To be fair to the management, they did a relatively good job of generating returns for shareholders all these years. However, M1 made a mistake of not growing its business in foreign countries in the early years. Now, it has to pay the price of having its business concentrated in Singapore. It will be interesting how the major shareholders are going to play the game. One thing for sure is that any takeover will not be cheap because M1 is not a distressed business, yet.

From the perspective of a mobile subscriber, the entry of a new telco is definitely good news because increased competition means cheaper data plans and drives product innovation. Already, last year, the three telcos all slashed their mobile data plan prices. Hence, the biggest winner out of this telco war is the customer. For the M1 investors, it is going to be woes after woes. Till then, enjoy the ride.

Read my other articles on Singapore telcos:

  1. Three-way battle for SingTel, M1 and StarHub
  2. SingTel’s NetLink Trust IPO application approved
  3. SingTel at a cross road
  4. Short selling on SingTel shares
  5. SingTel shares to rocket on NetLink Trust IPO?
  6. SingTel share in supreme form
  7. SingTel increased investment moat aggressively

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