This article first appeared in Corporate, The Edge Malaysia Weekly, on June 27 - July 3, 2016.
DATUK Yeoh Seok Hong, YTL Power International Bhd’s executive director, whips out his phone and launches an internet speed test. The digital speedometer on the screen leaps to a blazing 100Mbps, effortlessly outpacing the download speed of most home high-speed broadband services.
But his phone is not connected to the WiFi at Majestic Hotel. Instead, it is on the new 4G LTE network of YES, which will be launched on June 30.
“It is going to be the first 4G network with Voice over LTE capability. Not only that, we are going to be the market leader in terms of pricing. We will be offering the most data for the best prices,” Yeoh tells The Edge.
While the performance of the new LTE network is certainly impressive, shareholders will be more interested in tangible earnings. After all, the RM4 billion mobile broadband venture has been loss-making for nearly six years since its launch in 2010, weighing down YTL Power’s balance sheet and share price.
Cumulatively, the mobile broadband business has cost YTL Power some RM3.4 billion in loss before tax. On top of that, the RM4 billion capital expenditure drained the group’s once-enviable coffers and put a freeze on dividends for a few years.
The immediate good news for minority shareholders is that capex on the network has ended, says Yeoh, who has overseen the group’s telecommunications venture over the years.
But stemming capex is not enough. The group needs an earnings boost. YTL Power, once known for its steady cash flow and predictable profits, is now facing an uncertain earnings outlook.
The UK’s referendum to exit the European Union saw the pound sterling drop as much as 6.17% against the ringgit, which will have an adverse effect on the group’s largest earnings contributor — Wessex Water.
Wessex Water contributed RM711.89 million to profit before tax for the nine months ended March 31, accounting for nearly 82% of YTL Power’s profit. Following the news of Brexit, YTL Power’s share price fell as much as 4.83% to a 52-week low of RM1.38 last Friday.
However, Yeoh points out that the water concession is a regulated asset. Brexit and the fall of the pound sterling will drive inflation up. Subsequently, Wessex Water’s rates will be revised based on inflation, which will help offset some of the impact from the currency’s depreciation.
Still, it is worrying that Wessex Water is now seen as the last bastion of reliable and stable earnings for YTL Power. The power generation assets, after which the group is named, have not been performing well.
A capacity glut in Singapore has hit the profitability of YTL Power’s energy unit there — YTL PowerSeraya Pte Ltd (see Power-Seraya chart).
“PowerSeraya made a mere S$2 million pre-tax profit in 3Q2016 (ended March 31), a far cry from the S$60 million to S$90 million quarterly run-rate in FY2013. We believe the 3QFY2016 showing represents the new run-rate going forward, a consequence of further tariff pressure, which is now reflected in our forecasts,” Maybank Kim Eng says in a June 20 report. It cut its target price for YTL Power from RM1.60 to RM1.40 on a “hold” call.
While Yeoh concedes that market conditions in Singapore are tough, he points out that PowerSeraya also has non-regulated businesses like selling steam and its oil tanker business, which will help mitigate the impact of lower run-rates.
Domestically, the group’s prized power concessions have also expired. While one of its two power plants — Paka power station in Terengganu — was given a nominal extension, it has been fraught with hurdles. Land disputes with Tenaga Nasional Bhd have delayed the signing of a power purchase agreement despite approval from the Energy Commission.
Can YES deliver earnings with LTE?
In an ironic twist, YTL Power now turns to its heavily criticised telecommunications business for an earnings boost.
The question is, can YES pick up the slack left by the group’s other segments?
After all, competition in the telecoms sector is stiff with a price and data war in full swing since the beginning of the year. It is a highly challenging environment for established players, let alone a relatively small telecoms company like YES.
But YES has also changed quite drastically, and not solely because of the new LTE network. The company’s business model and approach to acquiring customers are completely different. They have to be.
Back in 2010, when YES launched its 4G WiMAX network for broadband users, it was a premium offering and came with relatively expensive price tags. While it did manage to carve out a niche, YES never gained mass-market traction. It claims to have around 500,000 users.
Including revenue from 1Bestarinet, the telecoms segment generated RM700.2 million in revenue in the past 12 months ended March 31 while posting a pre-tax loss of RM226.14 million.
Come June 30, however, YES will be taking an aggressive stance with its new LTE network for mobile users.
Yeoh is coy when asked about the pricing, not wanting to spoil the big revelation. But he guarantees that the data plans of YES will be substantially cheaper than those of its competitors while offering more data.
Samsung’s launch of the Galaxy J Series smartphone that came with a free YES 4G SIM card hints at the pricing and data that YES aims to deliver. The phone came with 30GB of free data valid for two months as well as 100 minutes of voice calls and 100 SMSes to local networks.
Another shift in strategy is the fact that YES will be targeting the mass market by bundling affordably priced devices.
Giving a sense of scale for what YES can achieve, Yeoh points out that its existing infrastructure can support about five million users with an average usage of 5GB a month. For perspective, the average data consumed across all networks is estimated to be less than 2GB a month at the moment.
Based on its capacity, YES has plenty of upside potential. If it can price its services just right and maximise capacity, YES could become a serious earnings contributor to YTL Power.
Assuming YES can generate an ARPU of RM35 per person (a highly conservative base case), every 100,000 new users will add RM42 million to revenue annually. If YES can utilise half its capacity, or 2.5 million users, it would generate slightly over RM1 billion in revenue.
While it remains to be seen if the new LTE network will help YES return to the black, there are other bright spots for YTL Power’s minorities to look forward to.
Last year’s dividend payout of 10 sen a share came as a surprise to shareholders. This year, YTL Power should be able to maintain a similar level of dividend payment, which will cost it about RM700 million. Based on last Friday’s closing price of RM1.39, that works out to a modest yield of 7.2%.
“Excluding capex for Tanjung Jati A (the new Indonesian power plant), we estimate YTL Power can still generate over RM1 billion in free cash flow annually. Thus, YTL Power can still sustain a 10-sen dividend,” Maybank Kim Eng says in its report.
After all, with capex on YES having come to an end, YTL Power will have more free cash. On top of that, its net debt has been reduced by RM913.7 million from a year ago to RM14.8 billion.
Based on the group’s quarterly financial statements, it is understood that the reduction in net debt is due in part to the settlement of disputed gas payments with Petroliam Nasional Bhd, in favour of YTL Power. Recall that the original amount disputed was estimated to be around RM700 million, which went through a lengthy arbitration process.
That said, YTL Power will be under no less pressure to turn YES around. The launch of the new 4G LTE network raises that hope, which may even boost the group’s earnings.
However, it will not come easy. June 30 will also mark the beginning of a tough battle for market share in the highly competitive telecoms sector for YES.