SINGAPORE (Dec 20): DBS has an “overweight” rating on Singapore’s Telco stocks as TPG’s abysmal capex so far implies room for positive surprise in 2019.

TPG has so far spent A$66.7 million ($65.7 million) in cumulative capex on its Singapore roll-out, about 22-32% of its planned S$200-300 million of capex.

In a market focus report, analyst Sachin Mittal says, “At the current level of capex spend, we think TPG’s network at commercial launch in 2Q19 is unlikely to pose a major threat to the incumbents due to potential network quality issues.”

Mittal estimates that StarHub, the second largest operator in Singapore, is likely to have spent over $600 million on its 4G network since 2013, almost 10 times of the current capex spend of TPG on its 4G network.

Netlink NBN Trust (NLT) is DBS’ top “buy” pick with a target price of 87 cents. The trust is trading at about 6.5% FY19F yield, similar to large-cap industrial S-REIT’s average yield.

“We argue that NLT should trade at a tighter spread than S-REITs as NLT’s distributions, due to the regulated nature of its business, are largely independent on the economic cycle, NLT’s gearing is less than half of S-REITs’ with ample debt-headroom to fund future growth,” says Mittal.

NLT has hedged its interest rates till Mar 2021 and its one unique advantage over REITs and Business Trusts is that potential rise in the cost of capital might lead to higher regulated returns from 2022 onwards, translating into higher distributions.

One catalyst for the trust would be StarHub’s accelerated migration to fibre networks. StarHub plans to migrate all of its subscribers to fibre by July 2019, compared to the earlier expectations of 2020.

At this point, the analyst estimates an annual contraction of 5% for the mobile sector next year, with mobile service revenues expected to decline about 4.5% over 9M18, driven by postpaid ARPU due to SIM-Only plans and contractions in legacy usage.

The commercial launch of TPG’s services in 2Q19 is also expected to have an effect on the mobile sector, but if TPG faces serious network quality issues, incumbents may not hesitate from raising the pricing, implying room for positive surprise.

The research house also finds StarHub attractive for its -2SD valuation and potential upside to street FY19/20 earnings.

The street’s FY19 earnings are likely to be raised by at least $10 million on the absence of $10- 15 million amortisation cost for 700MHz spectrum. Consensus is also ignoring the approximately $30 million savings on operating lease expenses in FY20 with the shutdown of StarHub’s co-axial cable network.

“The street’s FY19F earnings are edging up and we expect to see more upward revisions going forward,” says Mittal.

Meanwhile, Singtel is also attractive for its -1SD valuation and rebound in its associate contributions from FY20 onwards, led by Telkonsel, AIS and Globe despite delay in Bharti’s recovery

Some of the risks to the analyst’s rating on the local telco sector includes significant capex outlay by TPG in 1H19 and less-than-expected cost-cutting from the local telcos.