Markets often take things too far, and an overreaction may have hit Belgium’s telecom sector, serving up a potential bargain for investors.
Shares in Proximus PROX, -0.19% , previously known as Belgacom, have slumped this summer on worries about stepped-up competition. The Brussels-based telecom’s stock, which traded above 23 euros ($27) in early June, briefly dropped near €19, as investors reacted to the Belgian government’s effort to attract a fourth mobile-network operator for a spectrum auction next year. Besides Proximus, the incumbents are Orange Belgium OBEL, -2.05% and Telenet Group Holding’s TNET, +0.23% Base.
Bears are worried about a repeat of wireless carrier Iliad’s ILD, -3.16% aggressive move into the French market in 2012, which forced competitors to cut prices. “The Street seems to be very concerned about what a fourth entrant could do to the market,” says Allan Nichols, a senior equity analyst at Morningstar.
Nichols, however, stresses that the situation isn’t the same, pointing out that Iliad’s push into France took place when prices there for wireless plans were relatively high. Belgium isn’t giving any newcomer as big of an opportunity to undercut existing offerings. Each nation’s size matters, too. “The idea of cutting prices is to build up scale, but if you don’t have the ability to build up scale because the country’s so small, it’s really hard to justify coming in, even with some advantages on prices for licenses and spectrum,” he say. Belgium has about 11 million people, about a sixth of France’s population.
Proximus Chief Financial Officer Sandrine Dufour made that same point on the company’s earnings call in July. “In the long run, I don’t believe that this market can support four operators,” she said.
Proximus has a “moat,” albeit a narrow one, say Morningstar’s analysts, using Warren Buffett’s term for a company’s sustainable competitive advantage. The Belgian telecom’s hefty market share allows it to spread out its extensive fixed costs, giving it an edge over rivals, they reckon. Its market share is 41% for wireless, 73% for fixed-line voice, 44% for broadband, and 33% for TV, according to the investment research firm.
The telecom deserves credit for its consistent cash flow and slow but stable growth, Nichols adds. Its dividend yield of 5% is another big plus. “They’re using a good chunk of their free cash flow to fund the dividend, so that also prevents them from making a stupid acquisition with the cash,” he says.
Morningstar gives the stock an upbeat rating of four out of five stars and sees a fair value of €28, implying a rally of 33% from its recent price around €21. Proximus shares, a component of the Stoxx Europe 600, trade at 13 times earnings, below the index’s multiple of 16.
‘They’re using a good chunk of their free cash flow to fund the dividend, so that also prevents them from making a stupid acquisition with the cash.’ —Allan Nichols, senior equity analyst at MorningstarThe consensus view on Proximus remains downbeat, which ought to encourage contrarians. Only 8% of the 24 analyst teams that cover the stock put a Buy rating on it, according to FactSet. Berenberg analysts, who have gone with a Sell rating and a price target of €22, warned in a recent note that the risk of a new Belgian mobile-network operator is a meaningful one. But they also said it “would take time to materialize.”
As the tug of war over the telecom’s stock plays out, it’s worth considering dialing in and hanging on. “It’s got a big dividend, so you’re paid to wait,” Nichols says.
This report also appears at barrons.com.
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