Telefonica To Do Well Despite Dividend Cut, Cancellation Of Share Repurchase

| About: Telefonica S.A. (TEF)

Telefonica (TEF), a voice and data telecom, announced its quarterly results last week, and since the announcement, the stock has traded up almost 11%, despite the disappointing news of a dividend cut. The company has also announced a cancellation of its share repurchase program for the year ended 2012.

We previously analyzed Telefonica in detail. Below is a review of its first half results and analysis on how it's still a buy even after the dividend cut.

Overall, the company was able to show a very modest growth in revenues in the first half of FY2012, which was largely due to the deterioration of its European operations. The company generated 30.98 billion Euros in total revenues, up 0.3% YoY. The company's top line in Europe remained under pressure because of tough economic conditions, as well as increased competition. TEF generated almost 15.1 billion Euros in the first half, down 6% from the first half of the previous year. Despite a strong growth in its mobile broadband accesses, the company's total customer base in Europe fell by 1% YoY due to mobile disconnections in Spain and the rest of Europe. Fixed telephony business showed some deterioration as well, with a decline seen in its fixed line and broadband accesses. PayTV accesses, however, showed improvement in the first half, reaching the one million mark.

Spain posted negative numbers as well, with revenues from both wireline and wireless services declining in the first half, despite an increase in handset sales. However, as mentioned in the previous piece on TEF, Latin America, which contributes almost half of the total company revenues, continues to be the growth engine. In the first half, TEF's Latin American business generated 14.96 billion Euros in revenues, representing over 48% of the company's total revenue stream. A positive for the company is that the region that contributes almost 50% to its revenue stream is doing well and showing impressive growth. Revenues of almost 15 billion Euros in the first half meant an impressive growth of 7%. Total accesses in Latin America reached 209 million, up almost 10% YoY with an improvement seen in both fixed line, as well as mobile accesses. PayTV showed a 10% growth in customers in the first half.

Below is a summary of the key business metrics as of the first half end of 2012.

Telefonica 2H 2012 RESULTS

Latin america


Accesses (000s)



% change



% change

Fixed telephony accesses







Internet and data accesses







Mobile accesses














The overall deterioration in Europe is visible from the table above, however, Germany showed impressive results across all key business metrics.

Total mobile revenues from Germany increased to 1.9 billion Euros, an improvement of almost 8% YoY, led by increase in mobile service revenues and growth in average revenue per user.

Average revenues per user from its data services grew over 10%, largely due to higher smartphone sales.

Despite the overall disappointing results from Europe amidst the financial crisis, and a drop in earnings in the second half, the stock has gained some value since the earnings announcement.

Perhaps the Latin America growth factor continues to be seen positively by investors, which despite the slight recent deterioration in Brazil, has persisted and has largely offset the losses in Europe.

However, Telefonica's decision to cut its dividend and cancel its share repurchase raises some concerns about the company and its operations, especially in the European region.

The company has announced that it will resume its dividends next year in an attempt to reduce its debt pile (currently 56.6 billion Euros), as well as save its investment grade rating. Up until now, TEF has paid 3 billion Euros in dividends, and according to estimates, the company should save in excess of 4 billion Euros by not paying dividends for the remainder of the year, a move seen positively by investors and rating agencies. Moody's currently has the company's debt under review for a downgrade.

As of the financial year ended 2011, the company had total debt maturities of almost 10.5 billion Euros in 2012, which now stand at less than a million. In the next financial year, the company has to pay a total of 6.2 billion Euros in debt redemptions. Looking at the operating cash flows that the company has generated in the last few years, a consistent upward trend can be seen, with the company generating almost 17.5 billion Euros in the financial year ended 2011. The company also had cash and short term investments of over 6.5 billion Euros. With the current debt crisis in Spain and the high borrowing costs, the company's decision to cut dividends, as well as the sell off of Atento, its call center division, and a stake in China Unicom (CHU), will help reduce the company's debt burden. Moreover, on resumption of dividends expected in the second half of 2013, the company will pay 0.75 Euros per share, which roughly translates to a dividend yield of around 7%. Overall, the company's decision to cut dividends and slash executive management's remuneration has been widely appreciated by the market and rating agencies like Moody's, which recognizes the company's decision to be credit positive.

However, the agency also explained that in the current rating review, it will not only look at the overall Spanish sovereign rating, but also its possible impact on Telefonica. The company's CDS has risen almost 15% since the start of the year, however, after the recent dividend cut announcement, CDS has dropped almost 19%, signaling the confidence boost inspired by the company's latest actions. In light of recent events, as well as growth in Latin America, we are still bullish on TEF in terms of its price appreciation potential, which is trading at 15% above its 52 week lows.

The stock is just trading at a forward p/e of 6x, whereas Vodafone (VOD) is trading at a p/e of 11x and its U.S counterparts Verizon (VZ) and AT&T (T) are trading in north of 15x.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.