The telco sector is currently the largest thematic exposure we have across our portfolios. It’s a sector we like because it’s defensive and has been a key beneficiary from the Covid remote working environment. Every 5-10 years we also see a period where the industry goes through large rounds of consolidation, mergers and acquisitions that can last several years.
We have seen this begin recently. Think TPG merging with Vodafone, Uniti group acquiring Opticomm, Optus offering on amaysim’s mobile business and many other deals at the smaller end of the market.
Our top three picks in the sector are, in our opinion, undervalued and could even become one larger company one day
Uniti Group (UWL.ASX) is a fibre infrastructure play. UWL competes directly against the NBN and, following the acquisition with Opticomm (OPC), they now have 15% market share of Greenfield residential connections after the NBN.
Although UWL had to pay up for OPC following a bidding war against industry super fund, Aware, it does highlight the desired quality of an annuity, long life, cash generating fibre business. In addition, UWL recently received ACCC clearance for functional separation which means they can now sell internet services direct to consumers. This will allow UWL to capture more of the value chain margin and acquire more internet service providers (ISPs) in future.
We forecast UWL to deliver in excess of $100m of EBITDA in FY22 which places the stock on 11x EV/EBITDA. We also expect the stock to enter the ASX200 early next year. We value UWL at $2.00.
Aussie Broadband (ABB.ASX) is a pure play ISP provider which only listed a month ago and is already up 100% from its IPO price. Despite this, we believe it is still undervalued. ABB is the fastest growing (organic growth with no acquisitions) ISP brand in Australia with almost 90% year on year growth in residential connections, 310,000 during Q1 FY21.
ABB has taken 11% of all new NBN residential connections during Q1, a number which contrasts well to their current overall market share of 4%. This key metric is significant as it highlights that the company is taking share and is a good indicator of future growth.
Additionally, ABB is currently rolling out its own fibre infrastructure in the Australia’s main cities to connect directly to the NBN points of interconnections. This will allow ABB to save over $15m in costs and is all EBITDA margin by FY23. ABB can also sell add on services on this fibre to corporate customers.
We estimate that ABB will have over 500,000 residential connections by FY23 and EBITDA in excess of $55m. We value ABB at $3.00+ and believe it is a potential takeover target for UWL in the future.
Check out Ron Shamgar's recent appearance on Ausbiz: 'Ron's three telco superstars'
Spirit Technology Solutions (ST1.ASX) is a modern IT services and telco provider, mostly to SMEs and corporate/government clients. ST1 is fast acquiring smaller telco and IT businesses and has recently entered the cyber security sector via two acquisitions. ST1’s strategy is to become a one stop shop provider to its customers. Offering not just internet/data connectivity, but managed IT services, cloud software and cyber security solutions.
ST1 is currently annualising over $100m in revenues and EBITDA margins of about 15%. We believe more acquisitions will occur in 2H FY21 and, in our estimation, the company is well funded to complete one further deal. We estimate ST1 to exit FY21 on a revenue run rate of $150m+.
Part of our investment thesis in ST1 is backing its Managing Director, Sol Lukatsky, who has transformed this business over the last twelve months. We believe Lukatsky is focussed on crystallising shareholder value in the next 18-24 months through a merger or sale transaction. Once again, we see UWL as a potential acquirer as they have actually made a bid for ST1 in the past, almost two years ago. Watch this space. We value ST1 at 55 cents.
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TAMIM Asset Management provides general information to help you understand our investment approach. Any financial information we provide is not advice, has not considered your personal circumstances and may not be suitable for you.