Formerly high-flying IT firms looked on in envy as SA's only listed telecommunications stocks, Telkom and MTN Group, shot ahead in the past year.
Telkom stunned the market with a share price up by almost 160% at mid-May 2004 from its initial public offering on the JSE and New York Stock Exchange on March 28 2003. MTN rallied 120% over the same period. Both groups have consistently been in the JSE's top 20 market capitalisation ranking.
A Merrill Lynch telecom industry snapshot in March shows that both scored well in its global emerging market "momentum and value analysis", which ranks the best combination of EPS momentum, price momentum and low p:e. Telkom came out tops; MTN was seventh.
Both companies operate in highly regulated markets with limited competition.
Telkom, in particular, has scored as a result of delays in licensing a second network operator (SNO). As a result, its statutory five-year monopoly has dragged on for more than seven years. Investors have benefited handsomely. In the six months ended September 2003, Telkom's interim headline EPS rose 171% to 336c/share, group revenue increased almost 10% to R20,1bn and the group was able to declare a one-off interim dividend of 90c/share.
Cellular operator Vodacom, which is 50% owned by Telkom, also performed strongly for the six months. As a result, Telkom Group (including Vodacom) full-year results to March 2004 were expected to improve by more than 30% on the previous year.
Vodacom continues to dominate the SA market. In addition it has operations in Tanzania, the Democratic Republic of Congo, Lesotho and Mozambique.
In June, Vodacom stunned the market by announcing it was pulling out of Nigeria, just two months after signing a five-year management contract with Nigeria's second-largest cellphone network, Econet Wireless Nigeria (EWN). Though unproven, loose allegations of corruption and lack of corporate governance forced Vodacom - under pressure from its US-listed shareholders, Telkom, SBC Communications of the US and Vodafone of the UK - to terminate its Nigerian contract. This is a serious setback, considering that Nigeria is Africa's fastest-growing cellphone market. Though success in Nigeria would have ensured long-term growth for Vodacom and, indirectly, for Telkom, the exit from Nigeria reduces potential risk of litigation and investigation by the US justice department - both of which could have had negative consequences for Telkom.
Aside from this embarrassing debacle, Telkom has done well. Telkom Group CEO Sizwe Nxasana attributes the group's profitability and cash flow improvements to strict cost discipline, debt reduction and strong growth in mobile phones, and margin expansion and strong cash generation in the fixed-line business. "Our performance has been by design, not by chance. Our five-year business plan, though modified every year as we learn from our market and our performance, is designed to keep our business in balance and we will strive to continue to deliver value to our shareholders," he said at the interim announcements.
But it will be more difficult to make cuts for efficiency in the next couple of years. Telkom will have to increase capital expenditure once the SNO enters the market. In particular, it will have to invest in new broadband technologies for the consumer and corporate markets. Telkom expects to lose 10%-15% market share to the SNO in the first three to five years. The fixed-line operator, which had just under 34 000 employees at the start of this year, is likely to continue shedding staff at 7%-10%/year.
There are also a number of legal actions that may affect future earnings. Telkom is contesting the R3,7bn recommended fine by the competition tribunal for alleged anticompetitive behaviour against the value-added network service (Vans) providers. The matter is expected to drag on for years.
The other large outstanding dispute relates to Telkom's termination of a contract for a system supplied by Telcordia of the US. Again, Telkom is contesting this and the legal process is expected to drag on for years. Telkom has provided $44m (R356m in financial year 2003 and R375m in 2002) for its estimate of probable liability, which includes interest and legal fees.
For both Telkom and MTN there is still a fair amount of regulatory and policy uncertainty which could affect earnings. This includes the draft convergence bill, which aims to overhaul the telecom, IT and broadcasting sectors but does not repeal existing sector-specific legislation. If it is passed in its poorly drafted form, it could create significant uncertainty in the sector.
Equity targets in the black economic empowerment charter for the information and communications technology industry could also affect MTN and Telkom, though specialist research firm Empowerdex regards both firms as substantially empowered.
MTN Group, under CEO Phuthuma Nhleko, had 32% of its subscribers outside SA at the interim results announcement in September. It has benefited handsomely from the huge growth of cellular services on the continent. The international business contributed 37% of total revenues, 53% of earnings before interest, tax, depreciation and amortisation and 54% to adjusted headline earnings per share at the interim stage.
Since its launch in 1994 MTN has expanded into Swaziland, Rwanda, Uganda, Cameroon and Nigeria, its most profitable market.
But MTN Nigeria, the biggest cellphone operator in that country, has come under fierce criticism for its poor-quality network. Its biggest challenge has been meeting demand.
There is now increased competition, with a fourth cellphone operator licensed. With more than 1,6m customers in December, MTN had almost half of the market. But EWN/ Vee Networks was a close second with almost 1m. Another rival, Globacom, was increasing the pressure.
