China Unicom‘s (NYSE:CHU) consistent gains in the Chinese wireless market continued in May, as it added over 3.3 million high-speed (3G & 4G) subscribers, taking its total 3G/4G subscriber count to about 138 million. Owing to the loss of about 645,000 2G users, the carrier’s net subscriber adds in the month totaled just over 2.7 million. The company’s performance in May is a significant improvement over the prior month when it added about 2.1 million high-speed subscribers and lost over 1.2 million 2G users, resulting in net additions of less than a million subscribers. ((Key Performance Indicators, China Telecom, June 2014))
China Unicom’s performance was dwarfed by market leader China Mobile (NYSE:CHL), which gained over 7.6 million high-speed subscribers in the same period. However, if we include the carrier’s 2G user losses (~5 million), China Unicom was ahead of the market leader in net additions by 21,000 last month. In fact, this is only the second time in China Unicom’s history that it has surpassed China Mobile in net monthly user additions. The last time this happened was in December 2012, when it was ahead of China Mobile by 67,000 user adds. It is also pertinent to note that China Unicom’s performance was far better than smaller rival China Telecom (NYSE:CHA), which added about one million 3G/4G users last month, but its overall subscriber base declined by a similar number owing to heavy 2G user losses.
Going forward, we expect China Unicom to continue its consistent monthly subscriber additions on account of its competitive plan tariffs and fast HSPA+ 3G network. Although China Unicom entered the 4G market a couple of months ago, we expect it to make significant gains only when the government awards FDD-LTE licenses to carriers. Reports in the media suggest it could happen by early next year.
Our current price estimate for China Unicom is $17, implying a premium of about 10% to the market price.
FDD-LTE Licenses Likely To Be Key
The Chinese government issued 4G TD-LTE licenses to carriers in December, but has yet to award FDD-LTE licenses. Initially, China Unicom was unsure on whether to use the homegrown TD-LTE standard or wait for the FDD-LTE license to launch 4G services. The carrier has chosen to selectively launch 4G services on the TD-LTE standard by building some of the required network itself and leasing some from China Mobile until the government issues FDD-LTE licenses. This approach doesn’t seem to be helping the carrier in competing against rivals, especially China Mobile, in the 4G space.
Even though the carrier does not report its 3G and 4G user adds separately, we estimate that it has far fewer 4G users than China Mobile’s 8 million. This is evident from the fact that its high speed user additions (3G & 4G) in the last few months (April & May) have been similar to its performance in the first few months of the year (January & February), when it did not offer any 4G service. While this could also mean that it is gaining more 4G users than 3G with the total additions remaining the same, it is highly unlikely.
The carrier is currently unable to register significant gains in the 4G market because the existing 4G standard (TD-LTE) is incompatible with the carrier’s WCDMA 3G technology. We expect the issuance of 4G FDD licenses to provide China Unicom the necessary push to rapidly gain in the 4G subscriber market as its existing 3G subscribers would be able to seamlessly transition to 4G.
Network JV Could Help In 4G Expansion
All three major Chinese wireless carriers are in discussions for a network infrastructure joint venture. If the JV is established, it might enable China Unicom to lease out TD-LTE 4G network infrastructure with relative ease, compared to the present situation where the carrier has to deal with China Mobile individually or build the infrastructure itself. The JV is also likely to allow China Unicom to increase its network coverage (2G, 3G and 4G) without the necessary capital costs, and reduce its operating expenses in maintaining the network infrastructure, which could provide the carrier an edge over China Mobile in terms of maintaining profitability and gaining high speed subscribers. Despite rapid user additions, China Mobile’s net profit declined over 9% year-over-year in Q1 this year.
However, the government’s recent decision to introduce a value added tax (VAT) in the telecom sector has raised concerns over an increase in tax liabilities for China Unicom and its impact on profitability in the near term.
Disclosure: No positions