Bakrie Telecom (BTEL IJ, Rp300 SELL) Business as usual - Danareksa Sekuritas

SELL, downgrade from HOLD
We downgrade our call on Bakrie Telecom to SELL. This reflects: 1) the overhanging merger which looks increasingly unlikely to take place, suggesting a return to “business as usual” and 2) the rich valuation following the recent movements of the share price. The merger would offer plenty of synergy gains. Yet it now appears that the merger has reached an impasse since neither party has made any comments indicating that the merger would go ahead. We therefore assume that the merger will not go through. As a consequence, Bakrie Telecom will revert to its original course: facing competition from Flexi and needing to develop its own network for the non Greater Jakarta - West Java area (JBJB). Our Target Price is set at Rp280.

Increasing effective tariffs
Bakrie Telecom has introduced a new voice tariff scheme of Rp1 per second. This enhances the company’s business model since Bakrie Telecom’s original scheme only offered a Rp1 tariff for SMS and data. Under the new scheme, tariffs are effectively increased by 20% from Rp50 per minute to Rp60 per minute. Moreover, the time blocks are smaller under the new tariff scheme which is based on seconds except for the first minute. In contrast, the old tariff was based on a minute time block. We assume a 15% increase in the tariff because of the time block change. Additionally, we also assume that minutes of usage are inelastic, falling by only 10%. We have altered our forecast to reflect this new tariff scheme which came into effect in November 2010.

US$140mn of capex earmarked for FY11
Bakrie Telecom has allocated US$180mn for FY11 capex. Some US$140mn is for the existing network with the rest earmarked for broadband development under the subsidiary Bakrie Connectivity. To finance the capex, Bakrie Telecom has issued US$130mn of US dollar denominated bonds with tenors up to 2015 and an interest cost of 11.5%. This should be sufficient to support the capex beyond FY11. We assume no additional finance in the next five years.

Data subscribers still low
BTEL introduced an internet data service through its subsidiary Bakrie Connectivity last year. Total data subscribers reached 100,000 in February 2011, or up from 80,000 in December 2010 and just 43,000 in September 2010. Subscribers can choose from three monthly packages which have different connection speeds. The most popular package is priced at Rp110,000 per month and has a connection speed of 600kbps, while the most expensive one is priced at Rp200,000 and offers a speed of 3.1mbps. These connection speeds are pretty fast and match - if not outperform - its GSM rivals. Nonetheless, there is still plenty of capacity in the network as the number of subscribers is still quite low. But if subscribers grow exponentially then concerns are the network may struggle to cope.

Non JBJB still loss making
About 85-87% of the total subscribers of 13.0mn come from the JBJB area. It has only been in the last 4 years that Bakrie Telecom has begun to penetrate non JBJB areas. Now, Bakrie Telecom has coverage in 82 cities nationwide utilizing about 3,900 BTS as of September 2010. But with such a skewed customer base, Bakrie Telecom is not making money in the non JBJB areas which made losses of Rp231.4bn in 9M10. As for the profitable JBJB area, the EBITDA margin reached 53.8% - or pretty much inline with the other GSM operators. By turning around the non JBJB areas, Bakrie Telecom would be able to boost its profitability. With this goal in mind, Bakrie Telecom has slowed down expansion and is concentrating on boosting revenues in the newly open areas.

Seeking a full mobility license
Bakrie Telecom is in the process of acquiring a full mobility license so that it can cater for higher-end customers. Possessing such a license will allow Bakrie Telecom to move away from its current business model of acting as a low priced provider. In the current business climate, price has become less relevant since the price gap between full mobility and fixed wireless has closed significantly as a result of the price war a couple of years back. In regard to its strategy, Bakrie Telecom appears confident that its customer base will not face “cannibalism” (i.e. moving from a low base segment to a higher segment will not jeopardize the current cash generation of the low base segment). Hence, Bakrie Telecom is hopeful its strategy will help boost revenues. Nonetheless, the competitive pricing offered by full mobility GSM operators will pose a stiff challenge. The risk is that Bakrie Telecom spends a lot on capex but this does not lead to sufficient cash generation down the road.