In August 2016, Singtel increased its investment moats aggressively through the acquisition of stakes in Thailand’s Intouch Holdings Public Company Limited (Intouch) and India’s Bharti Telecom Limited (Bharti Telecom) for a total consideration of S$2.47 billion from parent company, Temasek Holding.
This transaction will be funded through internal cash, short-term debt and proceeds from a share placement of 386 million new Singtel shares to Temasek totalling S$1.605 billion at a price of S$4.16 per new share.
Rationale for acquisition
Investors may think that this is just one of those asset transfers between the two Singapore entities but I view this development differently. To put things into perspective, it is difficult for Singtel to directly acquire foreign telecommunication companies because these are high growth entities and most governments are generally reluctant to let foreign entities own 100% such strategic assets. By purchasing these stakes in Intouch and Bharti through Temasek, SingTel can increase its regional market share without facing foreign regulatory resistance.
Being a regional player, Singtel derived only 29% of its net profit from Singapore in FY2016. The majority of its revenue and profit are driven by its regional joint associates because the management is smart to acquire strategic stakes in telecommunication companies with either number 1 or 2 market share in regional countries. Typical, these are countries with high growth – young population and high mobile penetration.
This deal is expected to improve Singtel’s net tangible assets from $12.1 billion to $13.7 billion, strengthening its position as a regional player in the area of telecommunication sector. Besides growing its mobile and broadband businesses, Singtel is also actively building its cyber security capabilities through a new security operation centre in Sydney and launching the NUS-Singtel Cyber Security R&D Lab to innovate new technologies. SingTel’s acquisition of Trustwave in September 2015 is also bearing fruit, with revenue contribution from Trustwave at $129 million in 2QFY17.
Singtel’s 2nd quarter performance
FY2017 second quarter financial results showed a resilient performance in light of the challenging market conditions, supported by strong performance from regional mobile associates which continued to see increasing customers and data usage.
Operating revenue was up 2% to S$4.28 billion while net profit fell 6%. The decline was due to exceptional gains recorded by Airtel in the comparative quarter. Customer base increased by 3% to 629 million subscribers, further strengthening Singtel position as South East Asia’s largest communications company.
In terms of financial position, Singtel’s business continued to demonstrate excellent operating cash flow, with free cash flow in 1HFY17 amounting to $1.87 billion, up from $1.45 billion year-on-year. Having free cash flow allows a company to pursue opportunities that add value to shareholders.
With so much free cash flow, Singtel is able to make more acquisitions to spur growth. However, the company must weigh the balance between growth and debt. Personally, I am not against a company taking on debt to finance growth. But net debt for Singtel amounted to $9.3 billion and net debt gearing is 0.27. While this level of debt is still manageable for a company with such strong operating cash flow, I would like to see more strategic acquisitions in foreign telecommunication companies.
Australia’s Optus remained one of the best performing unit of Singtel, generating $568 million of profit before tax, more than double the amount of profit in Singapore. Similarly for Indonesia’s Telkomsel, which generated $365 million of profit before tax, the business is more profitable than Singapore unit. Most of Singtel’s foreign acquisitions were successful because the customer bases are much bigger compared to Singapore market. Going forward, I would love to see Singtel flexing its muscle in Malaysia, Myanmar, Vietnam or even China.
My strategy for Singtel
At current valuation, I consider Singtel’s share price inflated. Notwithstanding its excellent growth story and strong operating cash flow, I would only enter this counter at $2.80. This would provide me the level of safety margin and potential upside gains.
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