Valuation of Blue Label Telecoms
Blue Label Telecoms (BLU) released a complicated set of H1:18 results. For the Group’s full presentation, click through to here.
While I’ve heard arguments about how obfuscated and complicated these result’s accounting is, this argument reflects more on how these critics lack a basic grasp of IFRS rules than anything else. IFRS has rules and you account for things like JV’s, associates, and deferred tax assets in only predefined ways. Complicated results are not the same as bad or questionable results.
Swiftly moving on from that rant, let me run through some intuitive numbers with you to arrive at a matchbox valuation for Blue Label Telecoms.
South African Distribution:
Blue Label Telecoms’ domestic distribution segment is the core business from which management have leveraged operations, cash flows and their route-to-market. This business predominantly sells prepaid airtime, electricity and a range of other electronic vouchers across a vast and deep (mostly rural, peri-urban and white label) network in South Africa.
Normalizing IFRS technicalities (like agent vs principal sales for various tokens, i.e. once again “IFRS rules” and not “Blue Label Telecoms discretion”), the segment’s sales rose +10% y/y.
During H1:18, management drew deep into this segment’s working capital to maximize free cash flow and help pay for both Cell C and 3G that were acquired during this period. One of the things given away were various discounts at various levels, thus EBITDA and profits were pretty much flat in this segment despite revenue growth. This is likely a one-time event, and from next financial year, I would expect this segment to continue at its normal growth trajectory of c.+5% to +15% y/y growth.
More interestingly, though, this segment generated an EBITDA of c.R1bn in H1:18, or R1.4bn for the full FY 17 (about R1.4bn on a 12m rolling too). Let’s use the slightly older FY 17 and place it on a reasonable 10.0x multiple (overseas virtual distribution businesses like this go on multiples that range from c.10x to c.20x; see here, here, here, here and here) to value the enterprise. Now, backing out net debt of pretty much nil at Group-level, you arrive at an equity fair value for this business of c.R14bn.
Funny, though, how Blue Label Telecoms’ market cap is only R12bn…?
Why? Maybe the rest of the Group is loss-making with massive overheads, terrible prospects and it is worth giving a negative value to?
I do not believe so, but allow me to illustrate why.
Blue Label Telecoms paid R5.5bn for its 45%-stake in Cell C. Assuming this is fair value and the rest of the Group is worth zero, then BLU’s share price is currently at a c.60% discount to the R19.5bn (=R14bn + R5.5bn) market cap that it should be trading at.
But, was a 45%-stake in Cell C actually worth R5.5bn? How does Cell C’s fair value stand by itself?
I previously valued Blue Label Telecoms’ stake in Cell C as worth at least R8.5bn. Seeing Cell C’s recent results (ignore the deferred tax asset, though it really is an asset), nothing persuades me that my previous view was flawed.
Cell C is at break-even, its balance sheet is recapitalised and its subscriber, sales and cash flow numbers are all growing nicely. Even more interestingly, it is now publicly asserting that it intends to list in the next couple of years (which would be a great value-unlocking moment for Blue Label Telecoms).
All of these are positives.
A quick matchbox calculation shows that Vodacom’s market cap values each of its subscribers as worth c.R4000 per subscriber (= R281bn market cap divided by 71m subscribers).
(MTN is both mostly ex-South Africa telcos and has its market value being distorted by fines, currencies and management challenges, hence I do not believe that it makes for a good comparison for Cell C. Thus, let’s stick with Vodacom as a clean, South African relative valuation base here.)
Hence, assuming that Cell C is worth only a quarter of what Vodacom is worth per subscriber (despite Cell C being third in the telcos market, not fourth) still implies that Cell C is worth R16.3bn (= 16.3m subscribers multiplied by R1000 per subscriber). This means that Blue Label Telecom’s 45%-stake would be worth R7.3bn.
Hence, even though I think 45% of Cell C could be worth materially more than R5.5bn, I will assume that it is only worth what was paid for it.
Rest of the Group:
The rest of Blue Label Telecoms group consists of a technology component, Indian and Mexican distribution businesses, media and cellular-related services and mobile handset financing.
Collectively, this portion of the business made a loss of R43m (sum of core net profits from each of these segments) in H1:18. Annualize that with rounding to costing the Group c.R100m per annum to keep going. Note, though, that this includes the Group overheads that run everything. Hence, this builds up a “Group overhead discount” for our coming Sum-of-the-Parts (SOTP).
Let’s give this cluster a 10.0x Price Earnings, in which case this cluster has a negative R1bn cost attached to it.
Given that Mexico is soon to reach break-even and thereafter will be contributing profits to the Group and that 3G Mobile (the handset financier) is making c.R60m to R70m profits per year, I think that forward earnings for this cluster is likely much more attractive than it has historically been.
Still, let’s be conservative and assume that this segment is worth negative R1bn.
If you take the above fair values and add them together, you arrive at a fair value for Blue Label Telecoms of R18.5bn (= R14bn + R5.5bn – R1bn), or c.1950cps. This includes the dilution from Cell C’s capital raise and the recent bookbuild. This 1950cps implied fair value is materially +c.50% higher than the current BLU share price of sub-1300cps, and it does not even take into account any major growth in most of the underlyings nor any synergies being extracted between the Group and Cell C.
In other words, what is Blue Label Telcoms fair value? To be exact would be difficult, but the above rough workings intuitively point to the stock’s fair value being quite a lot higher than its share price.
Hence, I continue to like Blue Label Telecoms as both a business and as a very investable ‘SA Inc’ share at these prices.