Investment journal 9.6.2019: Telia LT situation update

Not much to see here. I own 7,7 % position in Telia Lietuva (Telia LT), a Baltic telco. I originally purchased it for of 1,15 eur/share about 14 months ago for defense and low valuation.

Since then, I have received 0,07+0,08=0,15 in dividends. The stock is now 1,12 eur, so total value from the position is 1,27 eur (10% return). Nothing great but at least I didn’t lose money.

Telia LT is a bit special as it’s listed in Lietuva but 88 % owned by Telia, which is listed in Sweden.

The parent Telia in Sweden is known for its bad capital allocation and governance (had acquisition spree in Kazakhstan, Turkey, Russia, Azerbaijan etc., where it had to retreat after failures).

As minority shareholder of Telia Lietuva, one can avoid the adventures of the parent company, because basically Telia Lietuva’s job is to send money to the headquarters. Almost 100 % of earnings/free cash flow is paid as dividends.

But is there still reason to keep the stock in the portfolio?

The company has announced employee reductions. It had 2980 employees in Q1-18, 2733 in Q4-18, 2642 in Q1-2019 and now with the new reductions the head count will drop to about 2400.

Relative to the comparable periods the head count will drop by about 10-20 % in coming quarters, which could improve earnings (haven’t done exact modeling though).

These reductions relate to Teo’s and Omnitel’s merger in 2016, which later became Telia Lietuva. The organization’s streamlining seems to continue still.

The headline revenue has dropped for two quarters in a row. This is explained by decline in the legacy fixed voice telephony services business (-35 % in recent quarter).

Management says the revenues are low margin. Management also says that excluding the fixed voice telephony services business the revenues are growing 3,4 %.

On face of it, this would seem to be net good news for the future earnings growth as higher margin increasingly important services grow and low margin less and less important services decline.

Fastest growing segments are mobile services, TV-services and equipment sales.

The other mobile service includes network interconnection and roaming. Roaming is growing revenue as foreigners use their mobile phones more in Lietuva. This despite EU abolishing the roaming surcharges in the EU region.

The revenue items are a bit tricky to interpret though as inside them there are opposing trends.

For example mobile services includes mobile internet and mobile voice, of which the first is growing and the latter is declining (net positive growth, currently).

In the internet services old copper lines are declining but fiber is growing (currently net negative growth). In the TV services, IPTV is growing but the old digital television declining (net negative growth).

So there is some struggle currently as the technology and the market changes. Only things that are growing are mobile internet, mobile roaming, equipment and IPTV.

We’ll see how long the growing revenue items mitigate the headline revenue decline, or other way around, how long the declining revenue items are drag for the headline revenue growth.

The fastest declining segment is voice telephony, but soon it will be so small that it will have negligible impact on the headline revenue.

Currently the revenue declines doesn’t seem to be a problem though as earnings are more or less stable (despite 1,8 % revenue decline EBITDA grew 2,7 % in last quarter).

Potential returns

If we look at the valuation, it’s about 12x trailing earnings and 6xEBITDA. Elisa, the Nordic blue chip peer, is 22x forward earnings and 12x EBITDA.

Both these are effected by the same technology and market change trends, and have similar growth profiles, so the discount is explained by something else.

Currently, Telia LT’s dividend yield is 7,1 %. With some earnings growth from the rationalizations and the the ex. voice telephony businesses growth, we could see 10+ % fundamental return.

The icing on the cake would be multiple expansion, say if emerging markets come back to fashion, or if there would be M&A transaction (Telia buys out the minorities or sells the operations to someone else).

I’m not sure if this stock is undervalued but currently my thinking is that because lack of better ideas I rather hold this for it’s stability and yield than cash, index or any of the other Nordic telcos.

And really, my thinking is more that the multiple difference between Telia Lietuva and the Nordic peers should get smaller, not so much that Telia LT should trade higher.

I have even thought of pair trading it (long Telia LT, short Nordic peers) but I’m afraid it would get too complicated for my purposes. So I stick with my simple long position until I’m more fully invested elsewhere in my portfolio or find something better.

Original blog about the thesis can be found here.

Disclosure: Long Telia LT

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