We are bullish on France Telecom (FTE) despite the recent dividend cut as the company is on track to meeting its full year guidance. Despite tough economic conditions in the region and fierce competition, the company has succeeded in bringing back customer growth domestically with solid growth coming from its African and Middle Eastern segments. Currently, the stock is trading near $10.50, almost 1% off its 52 week low and we believe this could be a good entry point for investors seeking capital appreciation and dividend income. The recent dividend cut implies a dividend yield of almost 10%. The stock is trading at a forward P/E of 6x which is at a discount to its competitors.
France Telecom, the largest telecom operator in France, recently announced its quarterly results. The company posted a drop in revenues and earnings as it continues to battle with deterioration in its domestic operations due to the entry of low cost mobile operator Lliad S.A. as well as the overall economic slump in the region. FTE generated revenues of approximately 10.8 billion euros, down 1% from Q3 2011.
Domestically, FTE is facing a tough time which is evident in its declining revenue quarter over quarter. The company derives almost half of its revenue from its domestic operations and in the recent quarters, the entry of a fourth mobile operator in the region has had an adverse effect on the company's revenue base. Lliad S.A. has already been successful in obtaining a 5.5% market share in the French mobile market due to its heavily discounted mobile packages which is making it difficult for companies like FTE to sustain or raise its prices.
Domestic weakness but return to customer growth:
In the third quarter, revenue from France operations fell 5.4% to 5.3 billion euros largely due to the weakness in the traditional fixed line business. However, it seems like that Lliad factor is starting to cool off with the passage of time. The company's mobile customer base in France returned to growth in the quarter recently ended with net additions of 320,000 customers. This is a dramatic improvement from the first and second quarter of the current year during which the company lost 155,000 and 615,000 customers, respectively. Other European countries also contributed to the recent rebound in mobile customer base. Notables were Romania that added almost 200,000 customers after losing 41,000 customers in the second quarter. Spain also had a strong third quarter in terms of mobile additions, adding 138,000 customers compared to 85,000 additions in the second quarter.
Growth in Africa and Middle East:
FTE's African and Middle Eastern segment continues to be the key driver of growth as it has shown a consistent improvement in revenue over the recent quarters. In the third quarter, total revenue from the segment rose to 2.05 billion euros, helped by the results in Africa, Middle East and some countries in Europe. In Europe, revenue increased due to an improvement of revenue in Belgium. Increased handset sales that include those of the new iPhone 5 launched in September led to the growth in customer base in the region, giving a 1.4% boost to the overall revenue.
KEY PERFORMANCE INDICATORS
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High dividend yield despite the cut:
The company has recently cut its dividends due to high debt levels as well as to compete with Liad that is already having an effect on its revenue base and profitability. FTE is still paying one of the highest dividends in the Telecom Industry in the region. The dividend cut comes as no surprise as other telecom operators in the region that include Telefonica (TEF) have already suspended their payouts. Now the company will pay a dividend of 80 cents per share which translates to a dividend yield of almost 10%. The company recently announced that it is aiming to achieve a debt to EBITDA ratio of 2 by the end of 2014 and the recent dividend cut is a step in the right direction.
2012 guidance reaffirmed:
The company's management has confirmed its FY12 guidance for operating cash flows to be close to 8 billion euros. Its cash flows are under constant pressure due to discount offerings by its peers, however, it seems likely that the company will be able to meet the 8 billion target based on the recent results.
Currently, FTE is trading at cheap valuations, reflected in its price to earnings multiple of 6x which is a discount of 46% and 62%, respectively, over the industry and its historic average. Moreover, it is trading at 0.5 times its sales which is a 32% discount over the multiple of its Spanish rival Telefonica, indicating that the stock is currently undervalued.