2023-10-04 07:51:13 ET
Summary
- TIM S.A. is a leading telecommunications company in Brazil, known for its advancements in 4G and 5G technology.
- While TIM is the third-largest telecom company in Brazil, it focuses on maximizing the value from its existing customer base rather than aggressive customer expansion.
- The acquisition of Oi's assets has significantly impacted TIM's financial results, with expectations of improved operational efficiency and growth.
- TIM is viewed as a cash cow due to its robust cash generation capacity and commitment to rewarding shareholders with dividends.
- However, valuation analysis suggests that TIM may be overvalued, prompting a neutral recommendation for potential investors.
TIM S.A. (TIMB) is a subsidiary of TIM Brasil Serviços, and it has garnered recognition for spearheading significant advancements in the telecommunications sector since its inception. Starting in 2015, the company became the leader in 4G technology in Brazil, and it was among the first companies in the country to activate 5G networks.
Today, TIM is the third-largest telecommunications company in Brazil, trailing behind Vivo and Claro in terms of customer base and revenue. The company's primary areas of operation encompass mobile voice and data services, broadband Internet access, value-added services, and a range of other telecommunications offerings on a smaller scale.
TIM boasts a robust financial position. In light of the telecommunications sector's mature oligopoly and its provision of services that have become indispensable to society, we anticipate predictability and limited volatility in future financial performance.
Moreover, the future of TIM's mobile telephony business holds promise. The acquisition of a portion of Oi S.A. (OIBZQ), a company that was once a major player in Brazil's telecom industry but later filed for bankruptcy, has significantly impacted TIM's financial results. As a result, there are optimistic expectations that the company will achieve greater operational efficiency and has already experienced substantial growth in revenue, EBITDA, and operating profit.
The substantial value we see in TIM lies in its operational efficiency and robust cash generation capabilities, which are likely to result in satisfactory returns for its shareholders over the long term. TIM is not burdened by exposure to outdated technologies that erode value, such as fixed telephony, which sets it apart from other prominent telecom companies grappling with such challenges.
Hence, it is reasonable to view Tim as a genuine cash cow, characterized by the ability and demonstrated commitment to reward its shareholders with appealing dividends in the coming years. Given its relatively predictable and stable nature, the company is well-positioned to create enduring shareholder value.
TIM's Top Line
The company's primary source of revenue is mobile telephony services, contributing to just over 90% of its total turnover. The remaining revenue is divided almost evenly between fixed services, primarily fixed broadband services, and product sales.
Revenues have demonstrated stability over the past few years, primarily due to a consistently maintained customer base and challenges in adjusting service prices.
The company's strategy revolves around maximizing the value derived from its existing customer base rather than aggressively pursuing customer expansion. Its goal is to nurture customer loyalty and enhance the value generated by its current customer base, ultimately increasing the Average Revenue Per User (ARPU). This strategy has yielded positive results, with a notable 18.7% YoY growth in postpaid ARPU and a 13.1% YoY growth in prepaid ARPU in Q2 2023.
In 2022, TIM S.A. introduced pricing adjustments to its plans and was confident about sustaining these adjustments in line with inflation starting from 2023. The primary target for these adjustments is customers with less elastic demand to reduce the risk of customer churn.
Given the strategies implemented by the company and the current conditions in the mobile telephony sector, it is expected that revenue will experience minimal real growth over the next few years. There is no clear catalyst for significant short to medium-term growth, and the sector's challenge is to keep up with inflation.
TIM's EBITDA and Net Profit
Like net revenue, EBITDA and net profit have shown limited growth in recent years. In the case of EBITDA, there has been significant growth in value and margins since 2019. However, it's important to note that this effect is primarily a result of the impact of IFRS 16 , a new accounting standard that altered the treatment of leasing. Consequently, EBITDA and its margin have been artificially inflated compared to figures before 2019.
I anticipate that EBITDA will exhibit higher growth than revenue, accompanied by a margin increase expected to reach approximately 50% between 2024 and 2025. TIM will also likely incur certain one-off costs associated with the Oi transaction, which will be excluded from the financial statements. Additionally, a substantial portion of the acquired infrastructure will be decommissioned, significantly reducing network expenses.
Moreover, in addition to the savings achieved by operating the acquired towers, there will also be cost savings from lease expenses, some of which will be reflected in depreciation and the rest in the financial results. To provide some context, during the fourth quarter of 2022 alone, the incremental expense related to leases for Oi's infrastructure amounted to R$93.1 million.
These factors directly impact the company's net income, which has again exhibited stability in recent years, as depicted in the chart below. Eliminating one-off costs and integrating Oi's infrastructure are expected to contribute to an increase in net income. However, substantial growth in net income is not anticipated in the coming years.
A Robust Cash Generator
In contrast to the figures presented in the income statements, the company's free cash flow has shown significant growth in recent years. This evolution is substantial because the capacity to generate cash is the primary driver of shareholder returns. In this context, I define free cash flow as the operating cash flow discounted by CapEx and lease expenses.
It's worth noting that in 2022, lease expenses increased by approximately R$1 billion, primarily due to the acquisition of 7,200 sites from Oi. This figure will decrease as the decommissioning process proceeds, benefiting TIM's free cash flow generation.
Additionally, due to the absence of an immediate need for investment in additional infrastructure or spectrum in the short and medium term, we expect significant CapEx savings, which will continue to impact the company's free cash flow generation positively.
With the operational and CapEx synergies arising from the acquisition of Oi mobile, the free cash flow from 2023 onwards is anticipated to align with the company's proposed annual dividend distribution of approximately R$2.3 billion.
TIM's low level of financial indebtedness, indicated by net financial debt to EBITDA of just 0.4x, should not significantly influence the company's ability to generate cash.
A High-Quality Income Stock
TIM's management has emphasized its intention to become a significant dividend payer, aligning with the practices of other major telecommunications companies worldwide.
According to the company's guidance, it anticipates distributing approximately R$2.3 billion in dividends in 2023 and intends to maintain this distribution level. At the current share price of $14.42, this dividend represents a yield of around 6%, which is considered attractive. The consensus for the next two years suggests yields of 6.83% and 7.52%, respectively.
As previously discussed, the company is a substantial cash generator, implying that it should have no difficulties raising sufficient funds to sustain its shareholders' remuneration at this level in the future.
Furthermore, TIM has an additional R$7.5 billion in distributable reserves, which accounts for slightly over 20% of its current market capitalization.
This reserve provides significant flexibility concerning how it manages its cash resources. In the event of adverse impacts on its results or the need to allocate these resources for other purposes, TIM possesses a safety cushion that enables it to maintain its earnings distribution level without issues.
Valuation
Cash cow companies are rarely inexpensive, and TIM S.A. is no exception.
To calculate the intrinsic value of TIM S.A. using the Discounted Free Cash Flow ((DCF)) model, I employed the following assumptions and inputs:
- Risk-free rate equivalent to the 5-year average of the US long-term Government bond Rate: 2.2%
- Brazil's equity risk premium: 9.6%
- Telecom Services unlevered Beta: 0.47
- TIM's debt-to-equity ratio: 70.64%
- TIM's effective tax rate, 5-year average: 17% (average of the last ten years)
Considering that TIM S.A. trades at a leveraged Beta of 0.76 and has a cost of equity of $9.304 billion, I calculated the present value of discounted free cash flows for ten years. I used the 2023 FCF estimates from Market Screener , assuming that FCF will grow at a stable rate of 4.6%.
Calculating the terminal value of the free cash flows over ten years with a stable growth rate into perpetuity of 2% and a discount rate of 12%, I arrived at a terminal value of $58,905.60 billion. Discounting this terminal value to the present, the value came to $18,963.90 billion.
Finally, by adding up the final results, we arrive at a Total Equity Value (TEV) of $28,267.90 billion, which, when divided by the 2,409,000 shares outstanding, results in an intrinsic value of $11.74. This is approximately 22.6% downside compared to the current market price of $14.42 on October 4th.
When comparing TIM S.A. with its primary telecom Latin American peers, most trade at similar forward P/E and EV/EBITDA multiples. TIM S.A. appears slightly overvalued compared to América Móvil ( AMX ), which operates Claro in Brazil. Still, it is undervalued compared to Telefonica Brasil ( VIV ), which operates Vivo in Brazil. When we expand the comparison to include other Latin American peers, it seems TIM S.A. is overvalued compared to Millicom International ( TIGO ) and undervalued compared to Liberty Latin America ( LILA ).
The Bottom Line
TIM is a robust company operating within the mature Brazilian telephony oligopoly. While the segment may not offer significant avenues for growth, we believe the company's business model is resilient and enduring, given its essential role in society.
The critical value I identify in TIM lies in its operational efficiency and cash generation capacity, which are likely to deliver satisfactory returns for shareholders over the long term. TIM has no exposure to legacy technologies that erode value, unlike some larger telecoms, such as fixed telephony. Consequently, it avoids challenges that negatively impact other telecom companies' results.
In essence, TIM can be considered a cash cow with the demonstrated ability and interest in rewarding its shareholders with attractive dividends in the years to come. Given its relatively predictable and stable nature, we have confidence in the company's capability to create long-term shareholder value.
However, considering my valuation analysis indicating that the company is currently overvalued, I would prefer to exercise caution and set a price target below $12 per share before considering it a comfortable buy. Therefore, my current recommendation for TIM S.A. is neutral.
For further details see:
TIM S.A.: Dividend-Friendly Cash Cow, But Overvalued