Softbank: 40% IRR Investing With Masayoshi Son

| About: SoftBank Group (SFTBY)

Summary

Sprint turnaround is almost complete.

Softbank domestic telco is generating consistent cash flow.

Son bets on demand for internet connectivity across everyday devices as diverse as automobiles and refrigerators with ARM.

Recommendation: Overweight. Px: $28. PT: $34 (>20% upside).

Click to enlarge

(Source: Company presentation)

Consolidated revenue for Softbank (OTCPK:SFTBY) increased 3% to ¥2,126B, adjusted EBITDA increased 8% to ¥678B (record high), EBIT increased 0.2% to ¥319B (record high), and Net Income increased 19% to ¥254B. The Net Debt/EBITDA increased from 3.8x to 4.4x (monetization of Supercell, GungHo and portion of Alibaba, and pro forma for ARM)

(in Billion yen)

Sales

%

Sales growth

EBITDA

%

EBITDA growth

EBIT

%

EBIT growth

Sprint

873.9

41%

-10%

271.7

40%

5%

45.4

14%

-35%

Domestic Telco

761.8

36%

5%

351.3

51%

9%

239

71%

11%

Yahoo Japan & others

490.8

23%

33%

59.5

9%

9%

50.3

15%

3%

Total

2127

100%

3%

682.5

100%

8%

334.7

100%

0%

Click to enlarge

Segments

The domestic telco business (the cash cow) saw accelerated growth via smartphones and FTTH. Cumulative subscribers increased by 580K yoy to 32.15M and EBIT increased by 11%. Churn rate dropped significantly yoy from 1.24% to 1.13%. Softbank mobile has the fastest network speed in Japan and in the world, and the network has content differentiation (eg. sportsnavi which allows live broadcast of professional baseball games by 10 out of 12 Japanese teams to Softbank mobile phones). This segment recorded ¥70B FCF vs. ¥-32.2 from last year, and mgmt. forecasts that this segment will generate ¥500B in 2016.

Sprint turnaround is making steady progress, with net postpaid customers' addition, opex reduction (down by $0.6B to $4B), and network improvement, which resulted in adjusted EBITDA +18% and forecasted adjusted FCF around break-even in FY2016. Spring postpaid phone additions increased 173K, churn rate dropped to historical low of 1.39%, and net sales have stabilized at $8B. Nielsen ranks Sprint first in terms of network speed, with Verizon, AT&T and T-Mobile ranking 2nd, 3rd and 4th. The company also started selling phones with installment plans instead of offering large discounts previously. Sprint has 5.1B in debt& obligation maturities in 2016 and 14-16B in liquidity.

Yahoo Japan is on its 19th year of net income growth and while search ad revenue has declined yoy, its display ads revenue grew 22% after the introduction of in-feed ads. YJ also has an e-commerce business that follows Alibaba's model, which grew 38% in shopping transaction value yoy to ¥100B.

Investments:

Click to enlarge

(Source: Company presentation)

· Softbank has a stake in Didi Chuxing, the Chinese Uber with a dominant platform backed by Alibaba and Tencent. Didi has surpassed Uber in terms of rides, is profitable in 230 out of 300 cities, and is believed to IPO in 2017 (currently valued at $26B). Uber agreed to sell its China business to Didi on Aug 1st 2016.

· Softbank exited Supercell, a gaming company, and generated $7.8B total proceeds (93% IRR) which allows SFTBY to deleverage and creates financial flexibility.

· Softbank received $8.8B net proceeds (68% IRR) from the sale of Alibaba stakes. SFTBY remains the largest shareholder with 27% equity stake; close partnership continues.

· Masayoshi Son has turned ¥739.8B to ¥10.1T (IRR 44%) in the past 10 years.

ARM Acquisition: Softbank announced in July 18th to acquire ARM Holdings, the UK-based designer of more than 95% of the world's smartphones' microprocessors, for $32B ($21.5B cash on hands and additional $9.5B loan) with no additional issuance of equities and no change in dividend policy. This deal marks a paradigm shift at the company to invest in the Internet of Things, as Son bets on demand for internet connectivity across everyday devices as diverse as automobiles and refrigerators. This deal also signals Son is confident about the Sprint turnaround. ARM currently has $1.5B sales, $770M EBIT, and 52% Op Margin. Softbank says its status as a telecom carrier poses no risk to ARM's relationship with existing clients.

Click to enlarge

(Source: Company presentation)

Valuation:

· Assuming 22x BABA P/E, 5x Sprint EV/EBITDA, JPY/USD of 139(37% decline from current levels), and flat telecom business, we arrive at a price target of $34, >20% upside.

a b c d e f g
(in $B) EBITDA 2015 Earnings MULTIPLE EV/mkt cap (b*d) or (c*d) % owned Softbank EV ($) (d*e) Current Market Cap
BABA us equity 6.83 25 171 32% 54.7 67.5
s us equity 6 6 36 80% 5.5 (after netting debt of $30.49B) 19.2
Jap. Mobile 10 6 60 100% 60*100%/1.37 = 43.8(Assuming JPY depreciates 37%*) 28.9
Jap. fixed line (ex Yahoo Japan) 1.2 5 6 100% 6*100%/1.37= 4.4(Assuming JPY depreciates 37%) 6.2
Yahoo Japan 1.9 11 20 43% 20*43%/1.37= 6.3(Assuming JPY depreciates 37%) 10.4
total 114.7 132
net debt (minus Sprint debt) 31
market cap 83.7
shares out 2.4
price target 34.9
last price 28.8
upside 21%
Click to enlarge

*Even at height of asian financial crisis (1998) USD was 139 yen or another 37% drop from current level. We will use this level for conservatism.

Disclosure: I am/we are long SFTBY.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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