MTN Group Still Offers Huge Potential - But That's Never Been The Issue
Summary
- MTN Group has credible drivers to build shareholder value, including ongoing growth in high-margin data and mobile money services, as well as an ongoing asset rationalization program.
- Regulatory and macroeconomic challenges have long been a problem, and that remains the case: Repatriating cash from Nigeria remains difficult and Ghana has imposed competition-boosting measures that hurt profitability.
- MTN Group shares look substantially undervalued on discounted cash flow and relative multiples, but operational, regulatory, and macroeconomic challenges are always going to be present.
MTN Group (OTCPK:MTNOY) is the sort of stock that will make you seriously question whether stockpicking is worth the time and energy. This company should have so much going for it, including a leading mobile service footprint across much of Africa and a fast-growing mobile money business, but results over the years have never lived up to the potential.
Some of the challenges are outside of the company’s control, including government ineptitude and corruption, macroeconomic challenges, and shocks like the COVID-19 pandemic. Other issues, like a weak competitive position in South Africa, should be more within management’s power to control but nevertheless linger on.
I remain bullish on MTN Group’s leverage to data traffic growth and mobile money growth, as well as its leverage to overall population and economic growth in Africa. That bullishness has to be tempered, though, by certain realities – there’s work to do in South Africa, the company has had contentious relationships with several governments, and Africa as a whole is a continent that investors have been waiting to see blossom for close to 50 years now.
MTN shares look undervalued even with exceptionally high discount rates and what should be reasonable, if not conservative, growth assumptions. Management is also pursuing some very sound operational strategies. Whether the macro and political environments will cooperate is a separate issue, though, as is the question of whether sentiment will meaningfully improve.
FinTech And Data Remain Power Potential Drivers
I’m quite bullish on the prospects MTN Group has in both its core service business and in its fintech (mobile money) operations.
The biggest opportunity within the core service opportunity is in data. Growth in data consumption has been a major profit driver for most service providers around the world (SK Telecom (SKM) perhaps offers the best example), as it is a high-margin service for the provider and one that regulators tend to be more lax about where pricing is concerned.
Data revenue grew 31% in FY 2020, well above the reported 18% overall revenue growth (closer to 11% on a constant currency basis), and grew to 27% of total revenue. Data subs grew another 20% to 114.3M, but that’s still fewer than half of the company’s nearly 280M subs, and only 140M subs have smartphones as of the year-end. As personal incomes grow, I expect meaningful ongoing growth from data services, and I expect this to be higher-margin growth as well.
Mobile money is likewise a major opportunity for MTN Group. Revenue rose 34% in FY’20 to ZAR 13.5B, or about 7.5% of total revenue, with 34% sub growth in the year. MTN Group ended the year with 46.4M subs, or about 16.6% of its subscriber base, and the company’s services are market leaders in several including Ghana, Cameroon, Uganda, and Cote d’Ivoire, and gaining traction in Nigeria.
What services MTN is allowed to offer varies by country, but the company has been adding international remittance capabilities, and that has been helping the business to grow. The bigger driver is simply the convenience of the service. Most African countries are seriously “under-banked”, with banks not really wanting to service the needs of the average consumer. Mobile phones are ubiquitous, though, and phone-based fintech services have largely filled the gap for most users.
I see fintech services as a major growth and profit driver for MTN in the years to come. The business is already quite profitable (close to 50% EBITDA margins) and it scales easily without significant capital requirements.
Management Priorities Look Sound
When I last wrote about MTN, I wasn’t sure what the new CEO Ralph Mupita was going to bring to the table that was new, as he has been a long-time MTN executive. So far, though, I’ve been rather impressed with what I’ve seen and heard.
MTN Group has remained focus on a patient asset sale program, with the company still looking to conduct some tower transactions and sell down some of its ownership stakes in its operating subsidiaries (MTN Nigeria and MTN Ghana are both locally listed). The tower sales in particular look like a sound move to monetize assets, and the market for tower transactions has been healthy (Brookfield Infrastructure Partners (BIP) has been active in India and could, perhaps, look at moving into Africa).
The company is also advancing it Project Ambition 2025. This program is looking to separate platform and infrastructure businesses were possible in an effort to maximize value. The company is looking to separate its fiber assets and find external investors to help growth a “network as a service” platform. The company is also considering separating out the fintech business – given the valuation given to fintech companies like Square (SQ), PagSeguro (PAGS), and Adyen (OTCPK:ADYEY), it makes some sense, as it is at least plausible that MTN’s fintech operations may be valued separately at less of a discount than its mobile service business.
Management has also kept the door open on growing the business. While selling out of non-African regions like Syria remains a priority, the company is “exploring” the opportunity to enter Ethiopia – one of the relatively few attractive opportunities left.
I also agree with management’s more conservative approach to dividends. Not offering a dividend for 2020 wasn’t popular with all investors, but the company is trying to establish a sustainable capital return policy. The company continue to have huge problems repatriating cash from Nigeria (it could only repatriate ZAR 286M in 2020, with ZAR 4.2B still waiting), and the company would have to dip into the cash generated by asset sales in the meantime. Instead, management is looking to establish a relatively low dividend in 2021 and beyond, but supplement that with buybacks and special dividends as circumstances allow.
Challenges Still Abound
For all of the good things I see at MTN Group, I still see substantial challenges as well.
There has been pretty minimal revenue growth in South Africa for three years now (though EBITDA margin has improved 400bp), and management is only looking for mid-single-digit growth in ’21. The company continues to lag Vodacom (OTCPK:VDMCY) in both market share and service quality, and the company is wrangling with the country’s telecom regulator over the terms for new spectrum auctions.
Relations with the Nigerian government have been more peaceful lately, but the SIM registration program is likely to create some near-term disruptions and I am concerned that the Nigerian government may declare that the company hasn’t done enough to register SIMs fast enough and impose some sort of sanction. Aside from that, cash repatriation remains a major issue, even as the company looks to invest around $1.6B in network capex as part of a three-year program negotiated with the government.
In Ghana, the country is seeing the impact of asymmetric termination rates imposed by the government from the fall of 2020 (Q4’20 ARPU was down 11%), and there are other measures that have been put in place to make MTN Group’s rivals more competitive (MTN Group has around 63% market share). My understanding is that the company is still pursuing legal challenges to these actions, and it doesn’t seem particularly rancorous, but it’s worth watching.
These are only some of the challenges. The Syrian operations are under legal guardianship as a dispute with the government plays out, there are ongoing international issues with Iran, and the macroeconomic picture for many African countries remains unstable – higher oil and commodity prices are a positive, but may not last.
The Outlook
MTN’s results were pretty close to my expectations for 2020 – revenue was about 3% better and EBITDA was about 2% better. I’ve adjusted my revenue assumptions a bit, but the end results don’t change my expected growth rates that much – 4% to 5% revenue growth over the next five and 10 years. This is basically in line with the trailing growth rate.
With increased data and mobile money service use, I’m looking for EBTIDA margins to improve from around 42% in ’19 and ’20 to 43% in ’21 and ’22 and 45% in ’25. Deferred capex in 2020 due to the pandemic boosted the adjusted FCF result for ’20, and I do expect lower FCF in ’21-’25 as the company reinvests in its network.
That said, that’s only “lower” relative to the inflated number of 2020 and the low double-digit FCF margins I expect are actually well above the long-term average in the high single-digits. Long term, I expect margin improvement to drive double-digit growth in FCF.
The Bottom Line
MTN Group looks exceptionally cheap by any valuation approach I use (30% or more upside); if my FCF estimates are in the right ballpark, the shares are substantially undervalued even with a mid-teens discount rate. Likewise, MTN looks cheap when I compare its margins and returns (ROIC, et al) to what the market will pay for mobile service providers (EV/EBITDA, price/book, et al) in other regions.
Clearly there is a heavy discount in place with these shares. To some point, that’s fair, as the company has had numerous regulatory and operational challenges over the years (including ongoing cash repatriation issues in Nigeria). The potential here is indeed significant, but before recommending the shares, I would at least caution investors to appreciate the risks and how they could delay value realization here.
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Analyst’s Disclosure: I am/we are long MTNOY. 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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