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Telefónica O2 CR: Czech Hold'em with Attractive Dividend

This report analyzes the investment potential of Telefónica O2 CR, a stable telecommunications company with shares quoted on PSE and LSE. It discusses the company's valuation drivers, risks, and profitability, as well as its adaptation to market trends and regulatory challenges. The report recommends a HOLD position with a target price of CZK 398.

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Telefónica O2 CR: Czech Hold'em with Attractive Dividend

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  1. Telefónica O2 C.R. Czech Hold'em with attractive dividend Target: CZK 398 HOLD University of Economics, Prague CFA Institute Research Challenge 2012 London, UK 15 March 2012

  2. University of Economics, Prague 15March 69,41% Integrated telco operator Telefónica S.A. Major shareholder (2006) Service breakdown Czech incumbent SKmarket entry 1Q 2007 Fix: 2,8 mil. Mobile: 4,9 mil. Mobile: 1,1 mil. Stagnant market Growing market Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks 2

  3. University of Economics, Prague 15March Stable company with shares quoted on PSE and LSE Performance in 2010 1,9 Revenues (GBP bn.) 41 OIBDA Margin (%) 10,4 Dividend yield (%) Source: Reuters Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  4. University of Economics, Prague 15March Stable company with shares quoted on PSE and LSE PX Telefónica 02 Stable price in last 3 years Source: Bloomberg Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  5. University of Economics, Prague 15March Stable company with shares quoted on PSE and LSE PX Telefónica 02 Profitability&Stable dividends CZK Slovak market potential Adaptation to trends Recommendation HOLDTarget priceCZK 398 Falling market & Rising competition Spanish motherproblems Current price 374 CZK Regulation Source: Bloomberg Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks Target price on 23/12/2012

  6. University of Economics, Prague 15March Valuation drivers Market development Profitability&Stable dividends Analytical Peers comparison Slovak market potential Adaptation to trends Regulation Recommendation HOLDTarget priceCZK 398 Falling market & Rising competition Profitability Technical Spanish motherproblems Discount factor Regulation Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  7. University of Economics, Prague 15March Saturated Czech market with potential in new services Market Development Industryrevenues (CZK bn.) Market shares (%) -12% 2010 Peers comparison 2009 CZ Telco Regulation Others Traditional servicespenetration (%) Broadbandservicespenetration (%) Financial plan Discount factor Source: Team analysis & estimations, ARs, Regulatory reports Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  8. University of Economics, Prague 15March Slovak market represents a dynamic part of portfolio Telefónica Slovakrevenues (EUR mil.) Market Development Halfsizeofthe Czech market 35% Similardynamics (2Y delay) 28% 21% 11% • Falingrevenues Peers comparison • New upcomingtrends Regulation Mobile market revenues (%) Telco market shares (%) Financial plan Discount factor Others Source: Team analysis & estimations, ARs, Regulatory reports Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  9. University of Economics, Prague 15March Peer comparison highlightsstrongandweakareas Peers comparison Peers comparison Regulation Financial plan Discount factor Source: Team analysis & estimations, data for 2010, Reuters, 34 Europe telco companies Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  10. University of Economics, Prague 15March Revenues and profitability impacted by Regulatory Measures MTR Revenues Profit Mobile Termination Rates Regulatory Roaming Regulation Regulation Frequency Spectrum Auction • Opportunity to extend to 4G • Threat of new operator entry ? ? Dividends & FCFF Wholesale Mobile Origination Market • Threat of new virtual operators entry • Network release for regulated prices WACC Source: Team analysis & estimations, ARs & Press Releases Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  11. University of Economics, Prague 15March Despitestabilizedrevenuesdividendsin decreasing trend Peers comparison OPEX Revenues FCFF ≈ Dividends Regulation Profitability Financial plan WACC Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Risks Company overview Valuation drivers Valuation Risks

  12. University of Economics, Prague 15March Despitestabilizedrevenuesdividendsin decreasing trend Peers comparison OPEX Revenues FCFF ≈ Dividends Regulation OIBDA margin ≈ 39% Profitability Financial plan WACC Further restructuralizationsteps will help keeping profitability at the same level Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Risks Company overview Valuation drivers Valuation Risks

  13. University of Economics, Prague 15March Despitestabilizedrevenuesdividendsin decreasing trend Peers comparison OPEX Revenues FCFF ≈ Dividends Regulation x Profitability Financial plan WACC Depreciation follows decreasing trend & higher CAPEX are supported by cash from WC Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Risks Company overview Valuation drivers Valuation Risks

  14. University of Economics, Prague 15March Despitestabilizedrevenuesdividendsin decreasing trend Peers comparison OPEX Revenues FCFF ≈ Dividends Regulation - 16% x Profitability Financial plan WACC Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Risks Company overview Valuation drivers Valuation Risks

  15. University of Economics, Prague 15March Discountratemustcovercurrentchanges in telco Peers comparison Regulation Revenues forecast Notablylowinterestrates in medium run Major changes in EuropeanandCzechtelco sector Discount factor WACC Source: Team analysis & estimations, Reuters, Mařík, M.: Company´s ValuationMethods Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  16. University of Economics, Prague 15March Discountratemustcovercurrentchanges in telco Peers comparison Regulation Revenues forecast 1st phase Discount factor WACC Source: Team analysis & estimations, Reuters, Mařík, M.: Company´s ValuationMethods Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  17. University of Economics, Prague 15March Discountratemustcovercurrentchanges in telco Peers comparison Regulation 50y govt bond Revenues forecast Low ratesadjustment 5,04% Discount factor WACC Source: Team analysis & estimations, Reuters, Mařík, M.: Company´s ValuationMethods Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  18. University of Economics, Prague 15March Discountratemustcovercurrentchanges in telco Peers comparison HistoricalEuropean telco Beta Regulation 2009 Eurozone problems affecting Spanish market Revenues forecast Stable development Regulatory changes on bothEuropeanandCzech level 0,80 0,13 0,22 0,44 Discount factor WACC Unlevered beta Leverage effect Resulting beta Business risk adjustments Source: Team analysis & estimations, Reuters, Mařík, M.: Company´s ValuationMethods Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  19. University of Economics, Prague 15March Discountratemustcovercurrentchanges in telco Peers comparison 8,93% Regulation 5,91% 5,79% 5,75% 5,41% Revenues forecast Discount factor Contribution to total value Average WACC 32% 1st phase (2012 – 2015) ≈8,0% WACC 68% 2nd phase (2016 – ∞) Source: Team analysis & estimations, Reuters, Mařík, M.: Company´s ValuationMethods Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  20. Team F Student research 15 March Our final recommendation is set toHOLD CZK bn. Share price 570 Discounted Cash Flow Entity Model 399 520 470 Discounted Dividend Model 398 52-week average 420 DCF 398 DDM Market price 370 374 Market MultiplesAnalysis 329 – 568 – All excessive cash is paid out in the form of dividends 320 Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  21. Team F Student research 15 March Our final recommendation is set toHOLD Market multiples Share price 570 Discounted Cash Flow Entity Model 399 Divi yield 520 EV/ EBITDA 470 Discounted Dividend Model 398 P/BV 52-week average 420 DCF 398 DDM Market price 370 374 Market MultiplesAnalysis 329 – 568 P/E 320 Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  22. Team F Student research 15 March Our final recommendation is set toHOLD Share price 570 Discounted Cash Flow Entity Model 399 HOLDTarget priceCZK 398 520 470 Discounted Dividend Model 398 52-week average 420 DCF 398 DDM Upside potential 6,7% Market price 370 374 Market MultiplesAnalysis 329 – 568 – 320 Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks Target price on 23/12/2012

  23. Team F Student research 15March Alternative scenarios with possible impact on future price Impact Successful frequency auction + • Potential for 4G network Auction • Payment transactions • Internet TV • Advertising services New technologies New tech Likelihood Regulatory pressures Parental company • New competitor • Virtual operators Regulatory Spanish problems - • Excessivedividends • Spin-offoptions Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  24. Team F Student research 15March Investment risks might form up in unexpectedscenarios Share price CZK Successful frequency auction Spanish problems Regulatory pressures 450 425 • Potential for 4G network Auction • Excessive dividends • Spin-off options • New competitor • Virtual operators 400 Parental company  427 CZK  427 CZK Regulatory 375 374 Market price  372 CZK 398 Target price  372 CZK 350  339 CZK  339 CZK 325 Source: Team analysis & estimations, ARs Target: CZK 398 HOLD Company overview Valuation drivers Valuation Risks

  25. Q & A Thank you for your attention Team of University of Economics, Prague

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