TLTZF - Tele2: Expect Growth To Accelerate As Headwinds Turn Into Tailwinds

2023-04-24 12:24:59 ET

Summary

• I believe TLTZF's ability to control expenses and potential tailwinds emerging from current headwinds make it well-positioned to weather the inflationary climate.
• The investment case for TLTZF centers on mid-single-digit earnings growth and a healthy dividend yield.
• Management has maintained its guidance for FY23 and the mid-term, suggesting a stable outlook for the company.

Thesis

The majority of Tele2 ( TLTZF ) revenue comes from its operations in Sweden (78%), with the Baltic region accounting for the remaining 22%. The company provides telecommunications, data networking, content delivery, and mobile services. TLTZF's investment case centers on two main tenets. First, TLTZF should maintain mid-single-digit earnings growth thanks to an acceleration in revenue as inflation peaks and the SEK reverts to average and improved margins. Second, TLTZF should keep rewarding shareholders with a healthy dividend yield (6.5 indicated yield as of writing).

Looking back at 1Q23 , I see a mixed bag of results: revenues were in line with expectations, but EBITDA fell slightly short of consensus; this was expected and likely reflects a weaker quarter brought on by cost pressures. This raises the question of how far the Swedish recovery and the year-long acceleration of Group EBITDA can be pushed by the management. In my opinion, the broad and material price increases in Sweden in 1Q23, including larger broadband price increases and earlier mobile price increases than in 2022, will drive EBITDA acceleration throughout FY23, and the management commentary supports my optimism for growth. Swedish inflation is still quite high , so I expect that the recent TLTZF price increase will be easily absorbed by consumers and cause less concern about customer defection.

Despite some lukewarm results in the first quarter of FY23, I remain confident that TLTZF's proven ability to control expenses will see it through the current inflationary climate unscathed and better positioned than ever.

1Q23 results

Consistent with the 3.2% growth seen in 4Q22, 1Q23 end-user service revenue grew by 3.6%. The Baltics grew by 12.4%, while Sweden grew by 1.5%. This 0.4% drop in EBITDA represents a slowdown compared to the 3% growth in 4Q22. In Sweden specifically, end-user service revenue grew by 1.5%, but EBITDA fell by 4% due to the fact that higher end-user service revenue and the ongoing execution of the Business Transformation Program were more than offset by general inflation pressures, among which the weak SEK played a role as well. Also contributing to the decline was the ongoing margin pressure from product mix changes due to the decline in legacy services. While I acknowledge that headwinds were present in 1Q23, I believe we will eventually experience a reversion to the norm in which the headwinds we experienced will become tailwinds. The Swedish krona is trading at a spot price of $10, which is close to its highest level since 2003. A mean reversion to around $8+ should have positive impact on TLTZF. Also, as inflation starts to fade off, cost pressure will be less felt, allowing top-line to flow through to EBITDA. Lastly, the mix impact from legacy service product mix will be less felt as TLTZF continues to grow. All in all, we could possibly see some level of growth acceleration as all these headwinds become tailwinds.

While sales in Sweden were lackluster, sales in the Baltics increased strongly. In the fourth quarter of 2022, organic revenue growth accelerated from 11.1% to 12.4% despite facing price pressures from inflation. The Baltics' EBITDA grew by an impressive 13% year over year because faster revenue growth more than compensated for the impact of higher energy prices and inflation.

Group-wide, I anticipate content cost headwinds to begin easing in Q2, completely dissipate in Q3, and TLTZF to see an increase in EBITDA. Management maintained FY23 capex guidance of SEK2.8 to 3.3bn, despite higher-than-anticipated group capex. Nonetheless, management remains committed to guiding towards the top of this range. This also suggests that the problem with 1Q23 capex is related to phasing and not due to structural increase.

Guidance

The forecast for FY23 was basically unaltered. Growth in both end-user service revenue and underlying EBITDAaL is anticipated to be in the low single digits. The range of SEK2.8–3.3 billion for capital expenditures excluding spectrum and leases has not changed. The same holds true for management's outlook for the mid-term. End-user service revenue growth is expected to be in the low single digits over the next few years, and underlying EBITDAaL growth is expected to be in the mid-single digits, as previously forecast by management. Capex associated with implementing 5G and Remote-PHY are estimated to fall within the range of SEK2.8bn-SEK3.3bn (excluding spectrum and leases).

Conclusion

TLTZF mixed 1Q23 results and ongoing inflationary pressures may have presented some challenges, but I remain confident in the company's ability to weather the current climate and emerge stronger. The company's investment case of mid-single-digit earnings growth and a healthy dividend yield remains intact, and I expect to see tailwinds emerge as current headwinds dissipate. The Baltics continue to show strong revenue growth, and while Sweden faced some headwinds in 1Q23, I anticipate a reversion to the norm in which these headwinds become tailwinds. Management has maintained its guidance for FY23 and the mid-term, which suggests a stable outlook for the company. Overall, I remain optimistic about TLTZF growth potential and long-term prospects.

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