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Telecom Egypt: Meet the management webinar – key takeaways

  • Digital transformation is key, Hayah Karima project is a boost

  • Modified shareholder agreement with Vodafone key highlights and Vodacom strategy

  • Management 2021 and 2022 guidance

Al Ahly Pharos Securities Brokerage
11 January 2022

Capturing the Benefits of Infrastructure

Telecom Egypt has been investing over the past years in its fixed broadband and mobile infrastructure, resulting in a faster speed and better quality. Demand has been both volume and price-driven, with the company witnessing customers additions across the board along with higher ARPUs fueled by increased consumer spending.  Moreover, higher customers usage was accelerated by Covid along with content specifically directed to the Egyptian market. Solid retail revenue growth supported the company’s margins as well, given their relatively higher margin nature than the wholesale segment.  

Operational Updates

Data: The growth trend in data usage is expected to continue going forward, with Covid being an accelerator rather than a one-off event pushing usage growth. Management expects solid growth in data to continue, driven by higher usages. Consumer adaptation to internet usage that was brought up by covid would continue to push demand further.

Fixed broadband: Tremendous growth in fixed broadband has been witnessed over the past year and is still growing. Fixed voice penetration currently stands at 42%, where fixed broadband penetration stands at 38%, which is significantly lower than the peer average. Countries with a similar GDP per capita usually enjoy a fixed broadband penetration of around 60-70%, offering a massive room for growth driven by volume growth. Management expects to reach the peers' average of 50-60% penetration in 5 years.

ARPUs have been gradually increasing as consumer spending gradually increases along with higher usages. In 2022f, management expects a double growth in the number of customers, however, ARPUs are expected to show slower growth, given a strong base in 2021.

Mobile: Customers along with ARPUs have shown healthy growth, driven by higher usages; exceeding management’s expectations when it comes to revenue growth. ETEL’s mobile ARPUs are currently 15% lower than other operating MNOs' average ARPU. ETEL’s mobile market share stands at 7% and the company targets a 9% market share in 2022.

Fiber optics: There are currently around 33-34 mn homes connected with a fiber access network (up from 30.8 mn homes in 2020).

Digital transformation is key, Hayah Karima project is a boost

Telecom Egypt has been working on different digital transformation projects over the past years related to NUCA, followed by the schools' project, driven by the government’s appetite for digital transformation that included as well connecting the government units together in order to create a centralized database for the government.

The project of connecting government units together is scheduled over 3 phases, out of which ETEL has completed phase 1 of the project with EGP1.0 bn of revenues recognized between 2020 and 2021. This leaves a pipeline of 2 phases, each of a similar amount to that of phase 1.

Another key project is the “Hayah Karima project” at a value of EGP7.0 bn for phase 1 (covering 1mn homes scattered around Egypt in rural areas), intended to be completed in 18 months where the government is fully paying for the project in advance. ETEL is still negotiating with auditors to the accounting treatment, whether this should be recognized as revenues based on a percentage of completion (over 18 months) or following a grant account (over longer durations). It's worthy to note that despite the social aspect of the project, it has the same margins as ETEL’s conventional business.

In 2021, ETEL recognized EGP300-400 mn of digital transformation projects. By 2022, ETEL is expected to recognize around EGP4.5 bn coming from phase 1 of the Hayat Karima project, if auditors decide to follow the percentage of completion revenue recognition method. 

Capex investments gradually normalizing

ETEL guides for a capex/sales ratio of high-20% in 2021, despite witnessing only a 16% capex/sales ratio in 9M21. This can be explained by a ramp-up in 4Q21 that would result in meeting management’s guidance.

For 2022f, management guides for mid-to-low 20% capex/sales ratio, which would gradually normalize to reach 18% by 2023-25f on average. 

According to the payment terms of the USD305 mn spectrum fees, ETEL has paid 50% of the USD305 mn spectrum fees in 2021 and is paying 25% of the value in each of 2022f and 2023f.

Improved working capital dynamics, gradual debt repayments, and partially hedged FX risk

Working Capital: The company had foreseen positive changes in the net working capital cycle, resulting in a positive impact on the operating cash flows, with operating cash flow almost doubling in 2020, compared to 2019, and further improving in 2021. Driven by enhanced working capital management, revenue growth, and EBITDA margin expansion.

Debt: Debt repayments will progress as initially planned. The company is still studying where it should covert its short-term credit facilities into long-term or rather repaid.

FX Exposure: ETEL is partially hedged against EGP depreciation, because of the foreign currency revenue streams. A 10% depreciation in EGP, would lead to FX losses of EGP1.4 bn.

ERP impact and rationale: During 2019, ETEL spent EGP1.1bn for the planned ERP, where 3000 employees joined the program. The payback period back then was 2.5 years and resulted in a cost-saving of around EGP400 mn per annum. Prior to that, in 2016, ETEL’s went for an ERP round as well, but only 200 employees applied; this can be justified due to unfavorable timings and inflationary pressures back then.

Modified Shareholder Agreement with Vodafone Key Highlights

Existing Rights:

  1. The right to buy VFG’s shares in VFE, should the major shareholder change directly or indirectly, through the RoFR process

  2. A committed minimum dividend policy for Vodafone Egypt of 60% of FCF starting 2022

  3. Assistance by Vodafone Egypt management in a due diligence process in case of a full or partial sale by Telecom Egypt

  4. A modified RoFR process allowing Telecom Egypt a longer RoFR duration and including an independent expert to perform a valuation report

  5. A tag-along option for a portion of TE’s shares in Vodafone Egypt, notwithstanding any other rights under the Egyptian law including the right to accept an MTO

  6. Information rights with regular disclosure to ensure visibility for Telecom Egypt on its investment in VFE

Dividends Policy:

Telecom Egypt’s modified shareholder agreement ensures a minimum payout ratio from Vodafone of 60% of FCF, with 2021 being an exception as ETEL received EGP4.5 bn from Vodafone.

It's noteworthy to mention that Vodafone has got spectrum at the same time Telecom Egypt did, where Vodafone spectrum fees are worth USD540 mn with the same payment terms. Therefore the agreement between ETEL and Vodafone takes into account the spectrum fees payment (60% of FCF post capex and spectrum fees payments).

Accordingly, this makes Vodafone’s distribution to ETEL lower over the coming two years (FCF will be impacted by spectrum fees payment). Management expects around EGP1.1 bn of dividends from Vodafone in 2022f and a slightly higher amount in 2023f, after which management believes that going forward dividends from Vodafone could double.

Use of Dividends Proceeds:

ETEL doesn’t plan to use dividends proceeds to finance capex, but might potentially utilize it for:

  • Deleveraging

  • ERP

  • Shareholder dividends

Vodacom Strategy

ETEL believes that Vodafone Egypt’s strategy won’t change after the ownership restructuring that took place, adding that Vodacom would follow the same strategy of Vodafone Group, so it’s more of a continuation of the Group Strategy with no major changes.

Vodacom has an edge in the financial services area, that would support Vodafone Egypt, where Vodafone Egypt is trying to excel in the field of Fintech and, capitalizing on its highest market share of 60% of mobile wallets in Egypt and going through the potential Bee and Masary deal.

Additionally, Vodacom has an aggressive dividends policy, that would potentially push Vodafone company to generate more profits and cash flows and hence more dividends.

Revised 2021 Guidance:

·        Early double-digit revenue growth

·        Mid-high 30s for EBITDA margin

·        Capex/sales of late 20s, excluding spectrum

·        Net Debt/EBITDA (including vendor financing) of 1.6x

·        FCF/EBITDA of mid double digit

Management 2022 Guidance:

·        Early double-digit revenue growth

·        Mid-high 30s for EBITDA margin

·        Capex to sales at mid-to-low 20s

·        Net Debt/EBITDA (including vendor financing) of 1.5x

·        Early double-digit free cash flow to EBITDA

·        Dividends payout of 2021 profits won’t be less than the previous year’s DPS (EGP0.75)

Telecom Egypt is currently trading at 2022f P/E of 4.2x, lower than its historical 5yr TTM P/E average of 5.8x and is at a significant discount to peer group average of 10.5x. ETEL is currently trading at 2022f EV/Adjusted EBITDA of 2.3x, at a significant discount as well to peer group average of 7.0x.