Africa Telconomics

Looking Ahead to African Telecoms 2009: All About Cash

Download full Research Note: Download 010609RN 2009 Outlook

At the onset of 2009, we submit to tradition and examine a number of key questions African telecoms investors will face in the New Year. All major questions for 2009 are underpinned by one common thread: cash. The ability to raise, generate and preserve cash will be arguably the most important determinant of what survives, what struggles and what disappears. We see the key questions as follows:

1.       Can mobile networks withstand the surge in data traffic?

2.       Is the African wholesale business really this great – can all the capacity projects survive?

3.       Will African mobile remain a great fundamentals business?

4.       Can African mobile valuations survive the economic downturn?

5.       Will the market see more consolidation?

A summary of our 2009 outlook: mobile networks will struggle with data traffic but hold steady, African submarine cable projects surely can’t all survive; the fundamentals of mobile are still great but increasingly brutal at the edges; valuations are high and surely can’t keep this up, and we believe the best value-creating acquisitions will be horizontal.

Broadband: Africa’s Most Significant Opportunity for Returns since the Mobile Voice Boom

Download africa_broadband_extract.pdf

African broadband business models have long been so dispiritingly brutal that it is hardly surprising that few private service providers have ever created any meaningful value out of them. The similarities with the African mobile voice market of the mid-nineties are uncanny. The expensive services and devices and the cream-skimming business models. The frustrating, persistent and maddeningly self-defeating regulatory roadblocks.

This, in our view, is about to change. We have reviewed Internet and broadband dynamics in 33 African markets and our conclusion is inescapable. We believe broadband services and applications are 12 to 24 months removed from a tipping point, a commercial inflexion point that would lead to a drastic increase in adoption and revenue generation. In essence, we argue that broadband, in its various forms–and other than perhaps, pay-TV- is the most significant opportunity for investment returns in the African TMT sector since the mobile voice boom.

In our new report -3G, WiMAX, ADSL and the Future of African Broadband: Projections, Economics and Best Practices- we argue, among other points:

•  That the future of African broadband will be primarily HSPA and EVDO-based
•  That the death of wireline broadband has been overstated;
• That mobile players will dominate the African Internet space with the same acumen they brought to voice;
• That for all their upside, mobile data models carry worse margins that voice models
• And that contrary to oft-quoted conventional wisdom, the business case for African 3G is as solid as it’s ever been.

 

Download our 16-page Excerpt (including Executive Summary, Table of Contents and more..) - Download africa_broadband_extract.pdf

Starcomms: Nigeria's Other Mobile Opportunity

During the second quarter of 2008, Nigerian CDMA operator Starcomms became the first Nigerian mobile operator to be listed on the Nigerian Stock Exchange (NSE). The company’s listing came after a private placement exercise that raised in excess of NGN64.5bn (~$550m) from high net worth and institutional investors. The shares have since lost around 40% of their value (as of August 22, 2008), declining from around NGN13 to NGN8 as the company reported a loss for the first half of 2008.

Investor jitters notwithstanding, we believe the Starcomms business carries substantial long term upside and at current price levels, represents a relatively cheap entry point into the growing Nigerian mobile market. 

It is difficult to refrain from using superlatives when discussing Nigerian mobile market growth. Thanks to a mix of intense competition, sensible regulation, scantiness of alternatives and strong demand, Nigerian mobile subscriber market has grown by a compound average of about 70% over the past three years. This is Africa’s largest mobile market in subscriber terms, one that adds 10m-12m new subscriptions annually. 

Starcomms share of the Nigerian active line subscriber market was around 2.4% at the end of June 2008. Such a share would be too small anywhere else, but is relatively solid in a market that generates $6bn-$7bn in revenue each year. The company is the also largest of the non-GSM service providers, with a 34% share of that segment. Starcomms should benefit from persistent medium term growth. The company’s revenue line is already benefiting from this dynamic; first half 2008 revenue rose by more than 100% to NGN17.5bn (US$145m).

 

Beyond the above, we believe the underlying upside for Starcomms is in the company’s leadership position in the mobile Internet access provision segment. Other than mobile voice, broadband access, in our view, is the single most significant Nigerian telecoms opportunity of the next five years.

 

The full Investor Research Note is available upon request to all purchasers of AfricaNext Research reports.

Rwanda's Third License Opportunity: We Like it – at the Right Price

At the end of June, the Rwandan telecoms regulator, the Rwanda Utilities Regulatory Agency (RURA) invited bids for the country’s third unified telecommunications license. The third license follows the sale of an 80% stake in state-owned operator Rwandatel to Libya’s Lap Green Networks for $100m in November 2007. The market’s other player is MTN Rwanda, which controls around 95% of Rwanda’s mobile subscriber and revenue bases.

The Government of Rwanda (GoR) can hardly be blamed for putting another license in the market. In the Rwandatel transaction (and we suspect, much to the GoR’s happy surprise), the state-owned operation was valued $100m+ higher than in a previous transaction a mere five months earlier. This was largely because of the inclusion of a mobile license as part of the company’s assets. We like this opportunity - as long as the price is right:

• Despite an      already low marginal ARPU, the nearly $100m (2008F) Rwandan mobile market      will generate more incremental cumulative revenue over the next five years      than it has over the past five.
• The overall cost      environment is among the most attractive in Africa for a mobile operation.       
• The challenge      lies with competition. Market leader MTN is entrenched and profitable, Lap           Green/Rwandatel is somewhat unpredictable and      presumably cash rich.

Using a mix of comparable transaction and discounted cash flow analysis, we estimate fair value around $5m-$12m, with a maximum value of $15m-$20m including a “goodwill premium”. Anything above $20m, in our view, is silly money.

Is Globacom’s Sixth Mobile License Economically viable?

On June 20, Ghana’s National Communications Authority (NCA) announced it had awarded the country’s sixth mobile communications license to Nigerian operator Globacom Communications. Some investors may find it doubly puzzling, first that Ghana would auction a sixth mobile license in a market with a population of 22m, and second that some players would bid as much as USD50m for it. We do not.

From the standpoint of the NCA, we find the transaction highly justifiable. For Globacom, we believe the economics of the deal are questionable, at least on the surface, but there is a “bigger picture” factor that may make it worthwhile. Our analysis makes four main points:

• It has been suggested that it is somewhat excessive of Ghana’s telecoms regulator to award a sixth mobile license. We do not believe it is. 

• Ghana’s mobile market is unusually deep. Market shares have a top-heavy slant, there are few signs of growth softness and existing margins are high.

• In our view, the license fee is a relatively minor issue; the challenge in making the investment viable lies with the Capex requirements of the venture. For this reason, announced investment plans do strike us as mildly excessive.

• Globacom may be enigmatic, but its moves are always underpinned by ruthless business logic; this one is no exception.

Full analysis:Download arn_globacom_ghana.pdf

How oil prices impact African Mobile Operator Profitability – Part II

The price pressures of the first quarter 2008 have primarily been the result of so-called cost-push inflation – in other words, price increases are primarily driven by a rise in the cost of productive inputs (oil, power, commodities, etc.). From a mobile operator’s standpoint, cost-push inflation is a double-whammy; it has a negative impact on real incomes and it puts additional strain on the cost side.

It should be noted that the relationship between the price of the barrel of crude and the price of gasoline (wholesale or at the pump) is difficult to establish with mathematical precision, but does exist. We expect average operating expenses per base station to increase sharply, as fuel, power and other maintenance costs increase. Review part II of our analysis here: Download 0608oilfoodpart_ii.pdf

Foodstuff Inflation and the Mobile Services Elasticity Test

Global food prices have been rising inexorably over the past two years, with a sharp uptick in the first quarter of 2008. The numbers are bleak. According to the World Bank, global wheat prices have risen by 181% over the 36 months to February 2008; overall global food prices have increased by 83% over that same period. In January 2008, a ton of Thai rice, an industry benchmark, cost $365. By the end of April, it had broken the $1,000 barrier before stabilizing around $900.

At country level, food inflation has manifested itself through sharp increases in the prices of basic foodstuff. Examples abound. In Cameroon, the price of a kilogram of fish has nearly doubled in a few months; as of the end of March 2008, the price of meat was up 18% from end 2007 and the price of bread 33%. Even beer has been up, by about 10%. Ugandan diesel is up 25%, as is the price of bread. In April, Kenya’s headline inflation was 26.6% relative to April 2007, according to the Kenya Bureau of Statistics, with the food index rising by nearly 37%.

How do such demand side inflationary pressures impact the mobile service business? In essence, incomes are declining (1) and mobile prices are rising in real terms, assuming no action by service providers. We believe there is reason for MNO concern, for a number of reasons:

• Mobile services are highly elastic in the segment primarily affected by foodstuff inflation. Various studies have estimated the usage to price elasticity of mobile services in Africa at anywhere between 0.75 and 1. In other words, a 1% increase in price would result in a decline in usage lower than 1%, which would make mobile service a virtual necessity in the economic sense of the term.
  

• Nonetheless, we believe mobile service usage is not a necessity at the low end, it is a luxury. Price sensitivity is not the same across the demand curve; price elasticity will be higher than 1.0 in lower income groups. It is perhaps more adequate to describe usage as a necessary luxury, a service that serves a fundamental need but is not so critical that it cannot be dispensed with. This matters because access has become largely free, and revenue is generated primarily from usage. Another way of putting this is that subscriber growth patterns are unlikely to be fundamentally affected. Usage patterns on the other hand will change.

• The elasticity argument is strengthened by the fact that there are some cheaper substitutes; arguably not service substitutes –fixed telephony will not do-, but certainly usage substitutes. If prices increase in real terms, customers will go to the next best thing for outgoing calls; airtime resellers (also known as umbrella resellers, call-box or cabins), who reduce the affordability threshold. Subscriptions will be used mostly for incoming calls. This is not the worst of outcomes for MNOs (at least traffic is still generated), but the net effect is negative.
  

•  The impact on MNOs is also a function of the proportion of income spent on mobile services. By our estimates, anywhere from 15% to 30% of consumer expenditure at the low-end goes to mobile services (the ratios are lower in higher-end segments). With more income needed to be allocated to food (a necessity the price of which is rising faster than the price of airtime), households are bound to slash their mobile spend.
  

•  Retailers and wholesalers that are part of the food value chain bear the brunt of the inflationary pressures, but are under government pressure or mandate not to pass it on to the customer. In Gabon, the government capped retailer and wholesaler margins between 6% and 10%. In Cameroon, the government has been imposing prices with limited regard for business margins, essentially forcing the middlemen to take the hit. In some instances, it has encouraged the bypassing of retailers, setting up caravans selling goods at wholesale prices around popular neighborhoods. In turn, some small traders are feeling pinched and many are closing shop, putting additional strain on mobile service demand.

 

(1) We do anticipate some upward pressure on wages as governments seek to reduce the impact of inflation, but for now, we assume stable nominal incomes.