China Unicom (NYSE:CHU), China's second largest wireless carrier and fixed-line service provider, has been beefing up its presence in 3G and fixed-line broadband. The high capital expenditures and mobile subsidies that it has been incurring as a result of its 3G foray, have been a big drain on cash in recent years. Going forward, however, we expect China Unicom's steadily rising 3G subscriber base, coupled with its sustained efforts in providing multi-service offerings to its fixed-line broadband customers, to bode well for the company in the long term.
Our price estimate for China Unicom's stock is $17.50, about 35% ahead of the current market price.
3G Subscriber Additions Picking Up
With significant investments in 3G over the last 5 years, China Unicom now commands a 30% market share in the 3G segment, even though its 2G market share is only about 20%. Its 3G subscriber additions have shown a steady increase over the years and in 2012, China Unicom added a total of 36 million 3G subscribers with an average addition of 3 million 3G subscribers every month. Continuing the steady run for the five months ending May 2013, 3G subscriber additions have risen at an average of 4 million per month exhibiting a healthy uptrend (operational data).
The 3G penetration as a percentage of all mobile subscribers of China Unicom is only about 37% currently. We feel that this represents a very large opportunity for the company to grow its data revenues and ARPU. But presently, a worrying trend points towards declining 3G ARPU. Due to a higher proportion of low-end smartphone sales, the new subscriber adds with these low end phones have been low quality.
As a result, China Unicom's 3G ARPU has declined to RMB 78 in Q1 2013 as compared to RMB 94 a year ago. Any further decrease in 3G ARPU could exert significant pressure on the overall ARPU. However, we see declining 3G ARPU as a short term trend that has come into play as a result of lower data consumption in low end smartphones. Over the long term, as consumers increase their data usage and shift to high end smartphones, 3G ARPU is bound to see a leg up in growth.
Fiber Optic Broadband Could be a Potential Goldmine
China Unicom has taken up several noteworthy initiatives in its broadband offering in order to bolster its subscriber base and market share. Its strategy of providing multi-service offerings as a unified bundle has helped it earn customer loyalty. Its 'Wo Family' package that offers high speed broadband, landline voice, 2G & 3G connections as an integrated service offering for a family, currently accounts for 30% of all residential broadband subscribers. The 'Wo Family' plan has considerable room to grow, helping not only the broadband division but mobile telephony as well.
China Unicom has embarked on improving broadband speeds through widespread deployment of its fiber optic network. China Unicom is giving a serious push to its Fibre-To-The-Home (FTTH) project as it will enable it to offer a host of multimedia services like IPTV, Video On Demand, VoIP etc. The Chinese government's efforts are also providing a strong impetus for high speed broadband adoption. A recent policy directive by the Ministry of Industry and Information Technology has made it compulsory for all new homes to have FTTH access, effective from April 1, 2013.
On the whole, services such as IPTV (Internet Protocol Television) and Video on Demand have a lot of potential and could become a big revenue growth driver for its broadband division, thereby providing stability to the broadband ARPU in the coming years. However, even though the potential is huge, there are significant downside risks as well. Key among them is slow adoption of these services and the threat from wireless technologies.
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