The stock market performance of Turkey's largest mobile phone operator (and arguably the best-known Turkish company to U.S. investors) Turkcell (TKC) has never been what anybody would call stable, but the last four years have been rough indeed. Although Turkcell looks promisingly cheap by many metrics, investors may not find as much value here as they hope.
Has The Bleeding Stopped?
The biggest problem for Turkcell has been competition; regulators in Turkey have wanted more competition in mobile phone services and have imposed mobile termination rate and interconnect fee cuts as a means of achieving that. Something similar has happened to America Movil (AMX) recently and Turkcell doesn't have the luxury of strong growth outside of Turkey to offset the damage. As if that weren't enough, rivals Vodafone (VOD) and Avea (mostly owned by Turk Telecom) have sought to build share by aggressive under-cutting Turkcell on pricing.
The net result? Turkcell now has between 52 and 55% share in the market – more than a 10% loss in about five years.
Unfortunately, Turkcell's international expansion plans have done little to help stem the damage. While the company operates in countries like Ukraine, Belarus, Georgia, and Kazakhstan, these operations have not been major contributors to free cash flow growth and they have introduced more foreign currency risk.
Maybe, though, things are stabilizing. Turkish regulators seem happy with the present level of competition and have said they do not intend to revisit rates again soon. While price competition is still a threat, Turkcell's services are only about 30% more expensive than Vodafone's – down significantly from a 125% price premium in mid-2009. Moreover, the margins of Turkcell's rivals are about half theirs, so further price-based competition may not make so much economic sense.
Ownership Squabbles May Be Near The End
One of the biggest operational headaches for Turkcell has been the near-incessant squabbling amongst its largest owners. The ownership structure of Turkcell is a little convoluted, but the bottom line is that about 36% of the shares float freely, Sweden's TeliaSonera (OTCPK:TLSNY) owns about 38%, and the rest (27% or so) is owned by Cukurova/Alfa.
The relationship between TeliaSonera and Cukurova/Alfa is such that if one claimed the sky was blue, the other would object on principle. This has drastically harmed the company's strategic planning (and cost it a talented CEO) and has even resulted in the suspension of the dividend because of a board-level deadlock. Now, though, the parties are awaiting a Privy Council ruling that should clear up matters. At a minimum, the Turkish government has expressed its displeasure with the ongoing dispute in a manner that seems evocative of when parents threaten “don't make me come back there”.
If and when this is resolved, not only will the dividend likely come back, but Turkcell should also be free to be more forward-thinking in its competitive strategy.
What Lies Ahead For Turkcell?
Within Turkey, Turkcell still has room to grow. Penetration is still somewhat low by European standards (about 90% versus 100%+) and usage (measured in minutes) has grown with economic improvements. Should Turkey stay on a growth track, Turkcell should be able to sell not only more minutes but more high-margin offerings like data as well. Turkcell could also benefit from improved government policy – right now taxes make up almost half of the cost of mobile phone ownership, or roughly double the rate in much of Europe.
There is also a slim chance that Turkcell could look to combine with Turk Telecom, the incumbent landline operator. This is a low-probability outcome, though, and doesn't necessarily offer the free cash flow harvesting potential that America Movil is hoping for with its similar acquisition of Telmex.
Turkcell may also have a brighter future outside of its own borders. Turkcell's ex-Turkey operations are conducted through Fintur, a joint venture that is majority-owned by TeliaSonera. Depending upon how the ownership battle resolves, perhaps Turkcell could acquire a majority stake in this enterprise. Even more promising, though, could be the expansion of operations into countries like Libya, Syria, Iraq, and Sudan – countries with highly-publicized problems, but long-term potential for a regional player.
Now The Bad News
It's not all going to be easy for Turkcell. For starters, there are not a lot of easy under-penetrated cellphone markets left in the world. What's more, while there are generally good business ties between Turkey and Russia, Turkcell would have a tough time pushing aside Mobile Telesystems (MBT) or VimpelCom (VIP). Likewise, Vodafone, France Telecom (FTE), Deutsche Telekom (OTCPK:DTEGF), and Telefonica (TEF) have largely sown up Europe.
Potential Turkcell investors also need to realize that this stock is often traded as a proxy for Turkey itself. Although there is a liquid Turkey-specific ETF now [iShares MSCI Turkey (TUR)], it hasn't really changed the fact that this is almost the only option for investing in Turkey. Companies like Enka Insaat (OTC:EKIVY), Sabanci (OTC:HOMJF), and Anadolu Efes (OTCPK:AEBZY) are all interesting investment prospects today, but only Anadolu is even remotely investable/tradeable for most ordinary investors.
Why does it matter if Turkcell is a proxy? Given the worries about inflation, secular/religious tension, and civil unrest in the southeast of Turkey, all of these could weigh on the shares without necessarily harming Turkcell's performance all that much.
The Bottom Line
Turkcell shares are undervalued today, but only just barely enough to be a reasonable buy candidate. I've personally held on in large part because I thought the ownership squabbles have hidden some of the true potential value and that better things could be in store upon resolution. Still, even my patience is fairly well frayed at this point.
Turkcell should be able to post mid-to-high single-digit growth through the middle of the decade, particularly if the company gets moving on overseas expansion. At the same time, the company has solid margins and should continue to deliver good free cash flow. Mature telecom service providers are not really the best way to exploit emerging market growth, but Turkcell is a stock where undervaluation and the potential for improved perceptions could lead to some solid capital gains.