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Chandan Dubey
Chandan Dubey
Articles (150) 

FTE: a dividend cut is likely in 2013

March 11, 2012 | About:

Business discussion

The decline in revenue has almost stabilized. There has been good growth in subscribers. The total subscribers grew by 8%, mainly in the middle-east and Africa. Some of the details are lifted from the press release here and show that FTE has been expanding and upgrading its network. Given the capital intensive business that it is in, this is hardly surprising and we were well aware of this when we covered the company before (France Telecom: Upsides and Risks)

The year was negatively affected by the partial pass-through of the VAT increase that took place on 1 January 2011 in France (-0.2 point) and by the situation in Egypt and Côte d’Ivoire (-0.1 point). Restated EBITDA also included the impact of regulatory measures estimated at -227 million euros in 2011.

Investment in networks, representing 55% of the Group’s CAPEX, rose 2%, in particular due to:

- increased investment in mobile networks by most European countries as the equipment upgrade programme to improve service quality and reduce costs was implemented;

- accelerated deployment of 3G mobile networks in Africa;

- investment in submarine cables in Africa (ACE) and in the Indian Ocean (LION2);

- growth of fibre optics (FTTH) in France.

In view of the continuing review of its portfolio FTE is planning to make the following changes
  • On 23 December 2011 it announced that it had signed an agreement to sell 100% of Orange Switzerland based on an EV of 1.6 billion euros, corresponding to 6.5 times the subsidiary’s estimated EBITDA in 2011.
  • On 3 February 2012, the group announced to sell its 35% interest in Orange Austria for around 70 million euros.

The Swiss market (as well as Europe) has been very competitive with almost no pricing power. The number of new customers are shrinking, while the regulations are tightening. Last year, Orange tried to merge with Sunrise to compete better with Swisscom, the incumbent operator in Switzerland. This was blocked by the regulatory authorities on the grounds of loss of competitiveness in the mobile market.

With increasingly stringent regulations, a higher tax burden, more intensive competitive pressure in its home turf by the arrival of fourth mobile operator and deteriorating macro-economic indicators, the group expects the EBITDA-CAPEX to drop to 8 billion euros from 9 billion euros this year. The group aims to preserve the net debt/EBITDA ratio of around 2 in the medium term.

The group will propose an interim dividend of 0.6 euros for the fiscal year 2012 in september 2012.


FTE reaffirmed a dividend of Euro 1.4 for 2011. A balance of Euro 0.8 will be paid on 13 June 2012.

The group has decided to align its shareholder remuneration policy with operating cash flow generation. The group expects a OCF of 8 billion euro in 2012 and plans to pay 40-45% of that as dividend. Assuming that FTE is spot on the target with its OCF, investors will likely see Euro 1.2 dividend for 2013, which is a 17% hair-cut on the dividend.

In numbers

Let us discuss the numbers now. We will look at the income statement, the balance sheet and a valuation update to see if the current under-performance of FTE is a buying opportunity.

Income statement

Item (in mEuro )201120102009
Op Income7,9487,5627,650
Cost of debt2,0662,1172,232
Income from continuing operations382838073202
EPS continuing op1.461.431.06

The income statement does not seem out of ordinary. The revenue has decreased a bit but was according to the forecast. The EPS from continuing operations improved and so did the income. Let us now look at the balance sheet.

Item (in mEuro)201120102009
Cash and equivalents8,0444,4283,805
Total Current Assets18,53515,13013,452
Total non-current assets75,53179,14669,194
Employee benefits1,6881,8261,223
LT financial liabilities34,19233,79231,116
Total liabilities39,27939,13636,060
Total current liabilities26,17223,59122,093

The group targets to have (Net financial debt)/EBITDA of about 2 in the medium term. This metric is 2.09 at the moment and was 1.95 last year. The indebtness of the group has increased from 31,840 mEuros to 32,331 mEuros in 2011. This is not a significant increase and will only be worrying if it continues. As I discussed in my previous article on FTE, the indebtness of the company is manageable and given the large stake of the French, it will not have much trouble getting finances. The only thing we need to make sure is that it remains a good FCF generator so that it can cover the interest expenses. From the income statement we see that that the cost of debt (or interest expense) is around 2 billion euros. With a net income of 3.8 billion euros, the interest coverage ratio is less than 2 now. This is a bit low and a doubling of the interest rate will severely effect the profitability of the company.

Valuation update

# shares2,6482,6482,648
FCF (mEuro)7,2376,4869,198

To be safe, let us do an EV like calculation with total liability instead of just the debt. We see that this is 62.8 billion Euro. For a consistent FCF generator like FTE, the DCF calculation is a good valuation tool. Using it, we see that the EV is less than 8.67xFCF.

Share price (Euro)11.14
Cap (mEuro)+29,525
Total Liability+39,279
Minority interest+2,019

If you are comfortable with the debt and an interest coverage ratio of 2, FTE is undervalued on several metrics to its counterparts like Telefonica (TEF), Telecom Italia (TI), Deutsch Telekom (DTEGY) and AT&T (T). A price below euro 11 is a very good price to pay for this monsterous dividend yielder and a very good FCF generator.

About the author:

Chandan Dubey
I invest because I want to be free by the time I reach 40 years of age i.e., 2025. My investment style is to find a small number of bets with large margins of safety. I pay a lot of attention to management and their incentive. Ideally, I like to buy owner operator businesses. I am fortunate to have a strong inclination towards studying. I aid my financial understanding by extensive reading in psychology, economic, social sciences etc.

Rating: 4.8/5 (12 votes)


Cornelius Chan
Cornelius Chan - 5 years ago    Report SPAM
Solid analysis as usual. The stock is coming very close to my $10 preset buy price for the ADR. Even if the dividend is cut, there will still be a dividend and the cost on yield will be very good.
Cdubey - 5 years ago    Report SPAM
$10 will be a great price ... I have already started making a small position at $15. Even a 5% yield after tax is a good deal. If the prices keep falling, I will consider making a large position.
Batbeer2 premium member - 5 years ago
>> A price below euro 11 is a very good price to pay for this monsterous dividend yielder and a very good FCF generator.

Thanks for an article worth reading. I think FTE is cheap. Presumably at 11 there's a margin of safety, say... 30% ?

A thought:

If an analyst is capable of finding companies with a 30% margin of safety, that analyst should be able to find stocks with a 60% margin of safety. It's just a bit more work.

You look at 100 stocks and you find 10 that are trading at a 25% discount. You look at 100 of those and find one or two that are trading at a 50% discount. etc. etc.

Cdubey - 5 years ago    Report SPAM
@Batbeer2: You are right. Sadly, time is of the essence here. Juggling a PhD with this is not really easy :) Going over an universe of 100 stocks is not possible. Do you have a few stock ideas I can look into ?
Batbeer2 premium member - 5 years ago
>> Juggling a PhD with this is not really easy :)

Buffett: The more you learn the more you'll earn.

Since Europe doesn't seem to scare you, take a peek at Investor AB, Sweden's answer to Berkshire Hathaway. Add up the value of the investments....

NAV of +/- 220 Krona per share; price of 145. Well managed. NAV grows at a decent clip. Add back the dividends ....
Rgosalia - 5 years ago    Report SPAM
I'll add my 2c to Batbeer's comment above:

I find myself pressed for time too (and I wouldn't be surprised if 99% of the board members would say the same thing).

Here is what has worked for me. Don't feel compelled to run screens or search for new ideas all the time. I have a list of 50 or so businesses that I think I have some idea about that I have built over the years. I just patiently wait for these businesses to be available to buy at a sizable discount. During times like these (when nothing seems to be cheap), I will venture out and try to learn about a new business or two and add to my list (independent of current valuations).

If someone pitches something outside this list, I'll look at it from the point of view of whether I want to add to my list, not from the view point of whether I can act on it now. This works a lot better than constantly searching for the best bargain to put my idle cash in for multiple reasons (a) most of them are 30c on the dollar (b) the constant hurry to find the next bargain means the work I do is marginal.

Hope it helps. Any thoughts?

- Rishi

Cornelius Chan
Cornelius Chan - 5 years ago    Report SPAM
Rishi, good points. Those of us who have a full-time job or are students cannot research stocks all day long - unfortunately.

My own system is pretty simple. I have a list of 300+ blue chip stocks (my definition) with the price I feel comfortable buying them at. The 300 stocks comprise the best of the best stocks from around the world so I feel like I have a margin of safety and stock analysis is almost superfluous as these companies are never going out of style (statistically speaking).

The only problem is I have to invest in companies like Nokia at $4.96 a share when everyone else hates them and won't touch it because they think it is finished due to their late entry into the smartphone market. Blah, blah blah. Those are the same people who were afraid to invest in BP at $30 a share after the Gulf oil spill crisis.

Anyways, we each have our own flavor of value investing and time will tell who had the "best" personal investing system.
Batbeer2 premium member - 5 years ago
Hi all,

Being more selective doesn't necessarily mean you need to spend more time. Saying "no" doesn't take a lot of time. You may find just one per year that does meet the higher standards. That could be enough no ?

In any case, you'll be confident about the ones you own when the going gets tough.

Cdubey - 5 years ago    Report SPAM
Some excellent tips here. Thank you rishi, Batbeer2 and C.W.R. !

@Batbeer2 In theory, you are right. Finding one good investment is enough for a year. On the other hand there should be a margin of safety in the number of businesses you own too. I would be very uncomfortable getting into just one business for a year worth of investment. A number between 5 and 10 is more suitable for me.

At the moment, I am adding to following companies

  • Alcoa (< $10) - the margin of safety here is > 40%
  • MT (< $20) - the margin of safety > 40%
  • FTE (< $15 for the ADR) - margin of safety > 25%
  • Tesco (< $15 for the ADR) - margin of safety > 30%
Seattle Ethan
Seattle Ethan - 5 years ago    Report SPAM
I get what you are saying about financing probably being available, but interest cov ratio is going the wrong way and how effective can mgmt be with socialists telling them what to do? I'm looking at a Chinese company in a similar situation, but at least the government won't tell them not to cut costs.

"With a net income of 3.8 billion euros, the interest coverage ratio is less than 2 now." FYI, int cvg ratio should be calculated with operating profits (EBIT)/interest exp. Net income is what you get after you've already subtracted interest exp.

Appreciate the write up. Saved me some time.

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