Rogers Communications: Strong Finish To 2018

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About: Rogers Communications Inc. (RCI), Includes: BCE, SJR, TU
by: Ploutos Investing
Summary

Rogers Communications is a leading Canadian communication services provider.

The company delivered an excellent 2018 with strong wireless subscribers growth and ARPU growth.

Rogers’ long-term growth prospect is good as the company expects to continue to grow its wireless and wireline Internet.

Rogers is trading at a slightly higher valuation than its peers and has recently increased its dividend by 4.2%.

Investment Thesis

Rogers Communications (RCI) (TSX:RCI.B; RCI.A) posted an impressive Q4 2018 with strong growth in its wireless subscribers and average revenue per user. Despite management’s choice not to commit to future regular dividend increases, its long-term growth prospect is still very good. The company has a low dividend payout ratio and appears to be allocating its cash towards bidding more spectrum, investing in infrastructures, and repaying its debts. Its wireless segment should continue to grow in the next few years thanks to Canada’s relatively lower wireless penetration rate. Its wireline Internet should also benefit from increasing demand for data and speed. The company is currently trading at a valuation slightly above its peers. We believe this is warranted as Rogers has a good track record of growth in the past. We continue to believe Rogers as a good investment choice for investors with a long-term investment horizon.

RCI data by YCharts

Recent Developments: Excellent Q4 2018

Rogers posted another excellent Q4 2018. The company added about 112 thousand wireless postpaid subscribers in Q4 2018. Overall, the company added 453 thousand postpaid customers in 2018. This was much better than 2017’s 353 thousand additions.

Source: Created by author; Company Reports

The company also saw its blended average revenue per user increased to C$65.12 in Q4 2018. This was an increase of 2.6% year over year. Although the rate of increase has slowed down from 4.5% a year ago, the company still posted good revenue growth of 7.7% in its wireless segment, thanks to a combination of subscribers growth and ARPU growth. Overall, Rogers saw its revenue increased to C$9.2 billion in 2018. This was a growth rate of 7.4% from 2017.

Source: Created by author; Company Reports

Another area where Rogers has done well is its churn rate. As the chart below shows, its postpaid wireless churn rate of 1.23% in Q4 2018 is an improvement of 25 basis points from the same period a year ago. Its 2018 postpaid churn rate of 1.1% is also an improvement of 10 basis points from 2017’s 1.2%.

Source: Created by author; Company Reports

2019 Guidance introduced

In the latest conference call, Rogers also introduced its 2019 guidance. As can be seen from the table below, the company is expecting its revenue to increase by 3% ~ 5%. This growth rate is likely going to be slower than its 2018 revenue growth. Management is also expecting its adjusted EBITDA to increase by 7-9% in 2019. The company is now expecting higher capital expenditures in 2019 than 2018. In fact, it is expecting capex of about C$2.85 billion to C$3.05 billion. Investors should not be concerned about higher capital expenditure as management in the conference call has stated that it expects similar level of capex for its wireless and cable business. The large envelope was set so that the company can capture the opportunity from Ignite TV migrations. Rogers is also expecting growth in its free cash flow by about C$200 million to C$300 million.

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Source: Q4 2018 Investor Presentation

We still think Rogers Communications is a good long-term buy

Despite a tough comparison from 2018 result, we still think Rogers is a good investment choice in 2019 and a long-term growth story.

There is still a lot of room for Rogers to grow its wireless business

Many investors are concerned that Canada’s wireless market will eventually end up in a price war just like what happened in the United States. However, Canada’s wireless environment is not as competitive as in the United States and we do not foresee this to change anytime soon. Unlike the wireless penetration rate of over 120% in the United States, Canada’s wireless penetration rate is well below that number. Below is a chart that shows the wireless penetration rate in Canada from 2010 to 2017. As can be seen from the chart below, Canadian wireless penetration rate has only reached by about 85.5% in 2017 and is expected to reach 87% in 2018. Based on the trajectory, we expect Canada’s penetration rate to increase by about 200 basis points every year. If our projection is correct, the penetration rate will not reach 95% until 2022. Besides lower penetration rate than the United States, Canada also has one of the fastest population growth rates among the G7 countries thanks to its policy of welcoming immigrants. In fact, Canada receives over 300 thousand immigrants every year and this represents over 60% of its population growth every year. In this environment, we do not anticipate there will be aggressive price war from the three incumbents as there is room for major incumbents to grow without initiating a price war.

Source: Created by author; StatsCan; Statista

Growth in data consumption will support its ARPU growth

In a report published by Ericsson (NASDAQ:ERIC), worldwide monthly data traffic per active smartphone is projected to grow from 3.4GB in 2017 to 17GB in 2023. This is a growth rate of 31% annually. Majority of the demand for data will be from video streaming. Video applications will account for 73% of mobile data traffic in 2023. This will be much higher than the ratio of 56% back in 2017. We believe Canada’s data consumption will also grow rapidly. This should support Rogers’ ARPU growth momentum in the next few years. Besides strong growth in data consumption, Rogers should also benefit from the rise of 5G and the future of Internet of Things.

Source: June 2018 Ericsson Mobility Report

Wireline Internet business should continue to grow

Rogers’ cable Internet business now represents about 54.4% of its cable business in Q4 2018. The company continued to add more Internet customers in the past quarter. Its Internet subscribers of 2.43 million are 25 thousand subscribers more than a quarter ago. On the other hand, Rogers lost 16 thousand TV customers. As its Internet business continues to grow, its margin should continue to improve, as Internet services typically have higher EBITDA margin than its traditional TV business. In fact, Rogers saw its cable adjusted EBITDA margin improved to 49.4% in Q4 2018. This was an improvement of 80 basis points from a year ago.

Source: Created by author; Company Reports

We expect Rogers’ cable EBITDA margin to continue to improve in the future as Rogers adds more Internet subscribers. In addition, as more and more users switch to higher speed Internet services, the company will be able to increase its cable Internet ARPU. In fact, about 60% of its Internet customers are now subscribing to 100Mbps or even higher speed services. This percentage was much higher than the 4% range five years ago. Rogers can now offer 1Gbps service in most of its footprint now. As demand for data and speed continues to grow, we expect Rogers’ customers will continue to switch to higher speed services. This should help it to grow its Internet revenue and improve its margin.

Management’s dividend growth policy shows how well the company is managing its cash flow

Although many dividend growth investors may be disappointed about Rogers’ dividend policy, we like its strategy much more than other companies which are committed to regular dividend increases. Management indicated in the conference call that the company does not want to be stuck in a cycle of regular dividend increase commitments. Rather, the primary focus is to invest in the future of the business. If there is excess cash flow, the company will prioritize towards share buybacks. We like management’s approach. The preserved cash can be used towards bidding for spectrum in the upcoming 600MHz spectrum auction as well as the deployment of 5G infrastructures. If Rogers can win more spectrum, it will help it to improve its network quality and speed even further. Its shareholders will eventually get rewarded with more subscribers and higher revenues.

Valuation

Rogers is currently trading at a forward EV to EBITDA ratio of 8.1x. Its valuation is slightly higher than BCE’s (BCE) 8.0x and Telus’ (TU) 7.5x. We believe Rogers’ valuation is warranted because the company has better growth profile than its peers. The company has consistently performed well than its peers in the past. In addition, its wireless revenue represents a higher percentage of its total revenue than its peers.

RCI data by YCharts

Rogers announced a dividend increase of 4.2%

Rogers currently has a trailing dividend yield of 2.8% (see chart below). In the conference call, Rogers announced to increase its quarterly dividend to C$0.50 per class B share from C$0.48 per share. This is equivalent to a forward dividend yield of 2.9%. The increase in dividend is its first increase since 2015. The company’s choice not to increase its dividend is not a sign of its deteriorating balance sheet and business. Rather, Rogers has a sound balance sheet with a debt leverage ratio of 2.5x at the end of Q4 2018. This was an improvement from 2.7x a year ago. The company’s dividend payout ratio of 55.8% (based on its 2018 free cash flow) is healthy and lower than its Canadian peers.

RCI data by YCharts

Risks and Challenges

Competition from Shaw Communications in wireless segment

Rogers continues to face competition from Shaw Communications (NYSE:SJR), the new incumbent which entered the wireless market back in 2016. At the moment we have not seen any signs of deceleration in its wireless growth momentum. However, we cannot rule out any future price wars.

Competition from BCE in wireline Internet segment

As BCE gradually completes its FTTH upgrade in Ontario, the company will be able to offer Gbps speed Internet to its customers. Hence, Rogers’ wireline Internet business is expected to face intensified competition in its wireline Internet business. This may impact Rogers’ cable Internet margin.

Investor Takeaway

Rogers finally announced to raise its dividend by 4.2%. Unfortunately, management is still not committing to annual dividend increases. Despite this fact, we still like Rogers because it has a strong growth prospect in its wireless and wireline Internet businesses. Rogers should be seen as a long-term growth story. We believe the company is a good investment choice for investors with a long-term investment horizon.

Note: This is not financial advice and that all financial investments carry risks. Investors are expected to seek financial advice from professionals before making any investment.

Disclosure: I am/we are long RCI, SJR, TU. 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.