Earnings Report /

Telecom Egypt: Strong revenue growth, base effect shapes bottom line performance

  • Strong revenue growth driven by data and digital transformation

  • Favorable revenue mix drives margin improvement despite a surge in interest expense

  • Base effect shapes bottom line performance quarterly

Al Ahly Pharos Securities Brokerage
13 August 2020

Strong revenue growth driven by data and digital transformation

ETEL reported 2Q20 revenues of EGP7.94 billion, up from EGP6.61 billion in 2Q19 and up from EGP7.0 billion in 1Q20 (+20.2% YoY, +13.4% QoQ). Retail revenue grew by 40.4% YoY (contributing c60.0% of total revenues), mainly driven by a YoY increase of 42.9% in Home and Service revenues and a YoY increase of 33.0% in Enterprise Solutions revenues.

Movement restrictions and lockdowns boded well for Home and Consumer revenues, where Home and Consumer data revenues continued to grow significantly during 2Q20 (+42.9% YoY, +15.9% QoQ), mainly attributed to a growth of 44.2% YoY in home data revenues, fueled by an increase of 9.9% in home ADSL subscribers base to 5.8 million subscribers and an increase of 32.5% in Home ADSL ARPU to EGP144.2 per month in 2Q20. Home fixed voice revenues showed as well a healthy growth of 38.8% YoY and 11.2% QoQ, which is mainly attributed to an increase of 21.1% YoY in fixed voice subscribers base to reach 8.5 million in 2Q20, along with an increase of 17.7% in fixed voice ARPU per month to EGP26.9.

Healthy Home and Consumer revenue growth during 2Q20 is backed by 2Q20 being the peak of home schooling, working from homes, movement restrictions and the nation-wide implemented curfew.

Digital transformation revenues upheld Enterprise revenues amid weak segment data and voice performance, where Enterprise data revenues showed a minimal increase of  1.9% YoY and a decline of 10.8% QoQ, on the back of a lower subscribers base of 235k subscribers (-6.6% YoY, -4.3% QoQ). Enterprise fixed voice revenues showed a decline of 11.2% QoQ and remained flat YoY, which can be mainly attributed to a decline of 12.1% YoY and 14.8% QoQ in fixed voice ARPU. Weak Enterprise data and voice growth is probably attributed to small businesses and companies that were materially impacted by Covid-19 pandemic shifting to consumer lines, as they are currently not able to pay their Enterprise bills.

Enterprise revenues included EGP300 million related to NUCA projects and the first phase of the digital transformation initiative, after no digital transformation projects revenues were recognized in 1Q20. We expect Enterprise Solutions revenues to show growth during 2H20, mainly on the continuation of the government digital transformation projects.

International Customers and Networks (IC&N) revenues recorded a decline of 35.4% YoY and a slight increase of 4.5% QoQ, which is mainly attributed to a strong base effect in each of 2Q19 and 1Q20, where ETEL recognized revenues from PEACE cable in 2Q19 and recognized EGP270 mn from a new crossing agreement with google in 1Q20.

Domestic Wholesale revenues showed a significant increase of 39.4% YoY and 5.1% QoQ, where strong performance is attributed mainly on the increased demand from MNOs for infrastructure services and the recognition of EGP173 million of Indefeasible  Right of Use (IRU) sales.

International Carrier Affairs (ICA) revenues showed a trivial decline of 0.8% YoY and 0.3% QoQ; where witnessed EGP depreciation during 2Q20, offset higher international incoming traffic amid global travel restrictions.

Customers additions across the board

ETEL’s revenues growth was fueled as well by customers additions across the board, where:

  • Mobile customers recorded a surge of 57.7% YoY and an increase of 8.7% QoQ to reach 6.72 million customers, which can be mainly attributed to market share gains through offering attractive bundles.

  • Home and Consumer fixed line subscribers base grew 21.1% YoY and 3.4% QoQ, while Home and Consumer ADSL subscribers base grew 9.9% YoY and 2.2% QoQ.

  • Enterprise fixed line subscribers base grew 21.1% YoY and 3.4% QoQ.

Favorable revenue mix drives margin improvement despite a surge in interest eexpense

Gross profit came in at EGP3.15 billion in 2Q20, an increase of 23.8% YoY and 15.7% QoQ; implying a GPM of 39.7% in 2Q20 (+1.17pps YoY, +0.79pps QoQ). Annual margin enhancement is primarily attributed to a favorable revenue mix, namely higher retail revenue contribution (+8.7pps YoY) along with the recognition of digital transformation revenues. 

EBITDA stood at EGP2.75 bn in 2Q20, with a healthy margin of 34.7% (+23.6pps YoY, +2.1pps QoQ). The significant jump YoY is mainly attributed to a weak base effect, where 2Q19 witnessed the recognition of an EGP1.0 ERP costs.

Net Interest expense balance came in at EGP1.04 billion in 2Q20, compared to a net interest income balance of EGP199 million in 2Q19 and compared to a net interest income of EGP22.85 million in 1Q20; which can be justified given that net interest expense balance included EGP151 million of one-off impairments and EGP549 million of FX losses during 2Q20. On the contrary, 2Q19 and 1Q20 witnessed the recognition of EGP454 million and EGP443 million of FX gains, respectively. FX losses and gains are mainly attributed to the EGP depreciation/appreciation due to revaluating USD denominated facilities. The surge in net interest expense balance can be attributed as well to an increase of 60.1% YoY in net debt balance, to stand at EGP16.26 billion in 2Q20.

Growth in investment income from Vodafone comes from a favorable base effect, despite weak operating profit

Investment income from Vodafone showed an increase of 12.3% YoY and 14.5% QoQ, to reach EGP537 million in 2Q20. Bottom line growth came despite relatively weak service revenue growth of 11.3% YoY and a minimal decline of 1.3% QoQ. Service revenue growth was driven by a growth of 12.9% YoY in ARPU, that offset a decline of 1.4% YoY and 0.7% QoQ in number of subscribers, respectively. 

Thus, the growth in bottom line can be attributed to a favorable base effect, given that 2Q19 witnessed higher interest expenses paid by Vodafone after distributing c.90% of its retained earnings as dividends and 1Q20 witnessed the recognition of one-off costs and provisions.

Base effect shapes bottom line performance quarterly

Net profit came in at EGP748 million in 2Q20 (+46.2% YoY, -43.0% QoQ); implying NPM of 9.4% (+1.6pps YoY, -9.3pps QoQ) in 2Q20 and came in at EGP2.06 billion in 1H2020 (-3.06% YoY); implying NPM of 13.8% (-2.9pps YoY) in 1H2020.

On a quarterly basis, the QoQ decline is justified (unfavorable base effect), given that the solid operational performance during the quarter has failed to offset FX losses and higher interest expense in 2Q20, which is attributed to an unfavorable base effect in 1Q20, with the recognition of EGP443 million of FX gains, compared to FX losses of EGP549 million in 2Q20.

The YoY base effect came on the back of a weak 2Q19 bottom line performance, on the back of the recognition of cEGP1.0 billion of ERP costs in 2Q19.

During 1H20, net profit came almost flat YoY (-3.06%), where solid operational growth along with FX gains in 1Q20 have partially offset 2Q20’s FX losses, higher interest expense and one-off impairment costs, given the ERP cost in 2Q19, resulting in an almost flat bottom line performance during 1H20.

Expect more digital transformation revenues going forward

The government is currently focusing on the digital transformation program and is looking to continue phase 1 of the digital transformation program in 2020 with a contract value of EGP1.1 billion, where ETEL recognized around EGP700 million (including 2Q20’s EGP300 million), and the remaining value is expected to be recognized 2H2020. The government is currently planning phase 2, from which ETEL expects to start recognizing revenues by the end of 2020 and throughout 2021. ETEL has already finished connecting around 5,000 points of fiber layouts and is looking at around 30,000 points, which should be either done in phase 2 or it could be divided on phase 2 and 3. However, the contract for the remaining 30,000 points is not yet signed, but management believe that the contract will be finalized soon. Connecting 5,000 points cost EGP1.0 billion, accordingly the cost of the remaining 30,000 points is going to be a multiple of 5-6x.

Expect secured revenue flow from wholesale business segment

ETEL has signed in May 2020 an agreement to be part of the consortium building the “2Africa Cable”. Accordingly, ETEL will have capacities over the cable and will recognize revenues for the crossing, where the consortium pay ETEL a crossing fee. Once the formal documentation of agreement is ready, the amount of revenue recognition will be announced.

Moreover, ETEL has signed with Etisalat Misr two first of its kind agreements relating to transmission and mobile-to-fixed interconnection, where Etisalat Misr is currently engaged in a long term agreement and a minimum of EGP2.0 billion commitment from Etisalat Misr to use ETEL’s infrastructure to connect their towers.

Both agreements will help ETEL to secure revenues for the infrastructure and transmission segment on the long term.

STC/ETEL decision on Vodafone Egypt is key stock performance driver

A key stock performance driver is STC’s decision regarding its MoU with Vodafone group to acquire its 55% stake in Vodafone Egypt. STC has extended its due diligence process on Vodafone Egypt for 60 days, starting July 12, with 3 potential scenarios for ETEL: 

  1. ETEL could choose to use its right of first refusal and match STC’s offer within 45 days from that offer,

  2. If option 1 above is not on the table, then according to FRA regulations, STC should submit an MTO to purchase 100% of Vodafone Egypt, where ETEL can sell its stake to STC at the same valuation offered to Vodafone Group, 

  3. If STC withdrew its offer to acquire Vodafone Group’s stake, ETEL’s bargaining power with Vodafone Group will increase and this might pave the way for ETEL to negotiate a transaction that provide ETEL with cost synergies.

Telecom Egypt is currently trading at 2020f P/E of 6.0x, which is at a significant discount to global peer average of 10.1x.