China Telecom:Earning miss

Mobile business still under pressure

China Tel’s 1Q was weak. Net earnings came in at Rmb5.05bn, down 9%YoY and 6.4% below expectation. The mobile business remains under pressure. While user growth rebounded, mobile ARPU missed expectation due to intense 4G competition. The stock is trading on speculation about a potential merger with Unicom. This decision lies with senior politicians and the telcos denied knowledge of the deal. The probability of a merger is 50:50. We raise our target to HK$6 assuming 50% chance that the merger will come through which could reduce mobile capex by half.Competitive pressure from CM remains high post-merger. Maintain U-PF.

Mobile revenue still under pressure

Mobile service revenue declined 2%YoY in 1Q despite a rebound in subscriber growth. CT added on average 2.1mn 3G/4G subscribers per month in 1Q’15, compared to 0.3mn in 1Q’14. But mobile ARPU missed expectation and declined 3.7%YoY to Rmb53.5 in 1Q’15 despite the favourable change in user mix. 3G/4G ARPU dropped to Rmb66 in 1Q from Rmb67.5 in FY14.

Healthy broadband growth but pricing pressure remains

The growth in broadband revenue remained healthy at 2.8%YoY in 1Q. CT added 1.35mn new broadband subscribers in 1Q and ARPU stayed resilient at Rmb59, stable vs. FY14. However, the company is still guiding for 5%YoY decline in broadband ARPU in FY15 due to increasing government scrutiny on pricing and rising competition from China Mobile and other regional players.

Margin miss despite control on handset subsidies

The EBITDA margin declined 60bps YoY to 33.7% in 1Q’15. Selling and marketing expenses declined 34.4%YoY to Rmb12.1bn in 1Q as the company continued to tighten up on cost control. But personnel expenses surprised and increased 16.7%YoY to Rmb15.2bn, due to the surge in the performancelinked compensation for frontline staff resulting from the higher mobile subscriber growth.

Maintain U-PF

China Tel is experiencing better subscriber growth than China Unicom. But it is still difficult for it to compete with China Mobile which has built up a huge lead in 4G. The news flow on tower sharing and speculation on merger between the 2 smaller operators could provide short-term trading opportunities. But China Tel’s fundamentals remain weak and its valuation is unattractive at 17x 16CL PER with a 1.7% dividend yield. Maintain U-PF.