Telkom: Time to bet on its Dream Team; always had great assets, but now being well managed for first time

I’ve been warming to Telkom lately. During research into the saga around the suspension of its CFO Jacques Schindehutte it became apparent that new chairman Jabu Mabuza has used his considerable influence to gather around him a board and management that’s as close to a Dream Team as SA can deliver. Today’s announcement that Vodacom’s Enzo Scarcella has joined as head of marketing, emphasises this process. Telkom has never possessed anything like as much talent at the top. But the question for potential investors is whether its the case of a bad company that’s eventually going to get the better of good management – or is this a good business that’s just been poorly managed. I’m betting on the latter. If so, are there signs in today’s interims that the turnaround has started? We posed those questions and more to First Avenue’s independent minded telecoms analyst Nadim Mohamed, author of those excellent reports on growing competition in the mobile market. – AH     

Nadim Mohammed - First AvenueTo watch this interview on CNBC’s Power Lunch click here

ALEC HOGG:  Telkom reported a slight increase – 0.3 percent – to R16.2 billion in its interim turnovers driven by growth in mobile data and its IT business services revenue.  Nadim Mohammed from First Avenue Investment Management is with us.  Without unpacking these layers and layers of numbers, which of course is what you do, the big question has to be ‘is the turnaround on?  Can we get any insight from these numbers?’

NADIM MOHAMMED:  I think it’s still too early to say whether it’s going to happen or if it’s going to be successful, but this management team is definitely the best team that we’ve seen at Telkom.  They’re more disciplined in terms of capital allocation and I would say they have a good chance of executing.  It’s not going to be easy and I don’t think it’s going to be a one-year turnaround story, but I think they have a good chance of doing it.  What is worrying is the pressure on the top line.  You see it in voice, it continues to decline in mobile substitution.  Data revenue in total grew about 3.3% and the data subscribers if you look at broadband subscribers was up about 6.7 percent.  It’s not growing at the same level as Vodacom and MTN, which is round about 16 to 20 percent and that is a concern.

GUGULETHU MFUPHI:  Given the fact that we’re seeing strong increases from the mobile division, isn’t that indicative of where they should be driving their focus?

NADIM MOHAMMED:  Definitely, but right now that mobile network in my opinion is still sub-scale, so they need to get it to a point where it can generate decent profits for Telkom.  If you look at the mobile data growth, it grew at roughly 50 percent, but it’s still about R300 million off the R16 billion revenue base that we spoke about earlier.  It’s still quite small and it needs to grow quite significantly from here.

ALEC HOGG:  They’re doing the right thing as far as management is concerned – and I think that was the discussion Sasha and I were having a moment ago.  If you have a fundamentally good business – and that’s the big question.  Is Telkom a fundamentally good business?  If you put good management in place, great things can happen, but that’s the question.  Is the business going to be too bad that the good management can’t fix it?


NADIM MOHAMMED:  Well, I think it has the best assets in the industry.  If you think about it, it has the best spectrum for LTE.  Vodacom always talks about self-providing to reduce costs.  Telkom is 100 percent self-providing, so they have all the assets, they have the in house skills, but it’s really about cultural changes that are needed to monetise those assets, and to date we haven’t seen that happen.  But I think they are saying the right things and they are articulating the right strategy. Personally having watched this company for so many years, it’s going to be very tough to break the culture in the organisation and change that into a company that’s much more efficient and that is able to drive change much faster.

ALEC HOGG:  Yes, but turnarounds are like that.  Turnarounds are never easy. But if you have a look at the Board of Directors that they’ve put together, if you have a look at the management team they have…  Today, they’ve announced yet another top class appointment: Head of Marketing.  You have to believe that the Dream Team that has been assembled there is going to have a better chance of succeeding than anyone ever before.

Telkom's share price has recovered strongly this year, but it's still far off the 2010 levels.
Telkom’s share price has recovered strongly this year, but it’s still far off the 2010 levels. More details in our data section.

NADIM MOHAMMED:  I completely agree.  I think this is their watershed moment.  I think this can be a very fundamentally different company in five years’ time.  It’s just that from our perspective, when we look at investment case like this we try to minimise the risk of capital impairment for our shareholders and with Telkom, we just haven’t seen enough of the strategy.  We haven’t seen enough of the turnaround yet, to say that it’s something that we’d be willing to invest in right now.

GUGULETHU MFUPHI:  Nadim, to pick up on Alec’s point; he mentions that a solid management team has been put in place, but usually we also hear of (Government) shareholder interference in the past in interfering with management’s decisions and there are issues with rolling out the strategy.  Could that still be concern going forward?

NADIM MOHAMMED:   It could be a concern, although I must say that the CEO and the Board have navigated it much better than the previous Board.  The key short-term benefit for Telkom will be about operational efficiency.  They have somewhere around 19 000 employees.  That’s much more than any of their peers for this size network.  You could potentially even reduce that by half.  Will government allow them to do that with its voting power in this company?  I’m not sure.

ALEC HOGG:   As you heard earlier, Gugu is going off to Telkom Towers.  Is that what they call it?

GUGULETHU MFUPHI:  Yes, that’s correct.

ALEC HOGG:   She’ll be having some interesting discussions later today.  What is the one big question you’d be asking the CEO (Sipho Maseko)?

NADIM MOHAMMED:  I would want to understand this next generation network.  What does it really mean?  What are the products?  What are the services?  How does this transform the organisation?  This is where all the Capex is going. I really want to understand in detail what exactly does this mean for Telkom in the offerings to its customer base.

ALEC HOGG:   If it does work – that’s transformative?

NADIM MOHAMMED:  If you look at the Vodafone strategy globally, this is the strategy.  It’s about quad play services, it’s about unified communications, and those seem to be based on a very sound strategy.  If you look at all the fixed line operators, moving to broadband and convergence has been very good so far.  Telkom looks like they want to go down this route, but what does it mean in terms of our national broadband plan?  What does it mean and how profitable can that be?

GUGULETHU MFUPHI:  Just on that, I’d also like to draw attention to the fact that the Chief Financial Officer Jacques Schindler was suspended two weeks ago.  Not much insight has been given into the investigations that are currently underway, but what the company did make mention of Nadim, is that they did offer him a loan of around six million rand to purchase shares in the company.  Is that normal practice?  It sounds a bit surprising to me.  Alec, I’m not sure?

ALEC HOGG:   I don’t think…it’s not totally untoward.

NADIM MOHAMMED:  It’s hard to comment.  I wouldn’t say it’s untoward, but you would rather see that money allocated elsewhere.  We don’t like to see that kind of thing happening in the company.

ALEC HOGG:   No sure, and we don’t like to see excessive executive remuneration but on the other hand, quite a lot of executives are encouraged to buy shares in their companies, and given loans interest-free.  They have to pay tax on the interest on loan, but it just assists them in maybe having a bigger stake in the business – the point being: I don’t think either agree that it’s a good thing, but it’s not unusual.

NADIM MOHAMMED:  I wouldn’t say it’s unusual, but the fact that those shares were bought fairly close to the earnings update: that is what’s concerning for me.  I think the JSE are looking at this from an insider-trading perspective.

ALEC HOGG:   I have one final questions.  I’ve been told that our time is up for this segment of the discussion, but would you be buying the shares at the current level?

NADIM MOHAMMED:  I would wait and see.  I think it’s too early right now to go in, in a big way.  This is more for those who are willing to take a bet on a turnaround story and I think from a professional investor’s perspective it’s probably too early right now.  Let’s see the full year results.  Give it another year.

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