Swiss Sunrise Has 25% Upside and a 3% Yield
Sunrise Communications Group, which went public only last month, could herald a bright dawn for investors. Shares of Switzerland’s No. 2 telecom company (ticker: SRCG.Switzerland) have risen almost 20% since their debut on the SIX Swiss Exchange on Feb. 6. They could climb another 20% over the next 12 months as the company’s prospects for 2016 become clearer and investors re-rate the stock.
At Friday’s closing price of 81.75 Swiss francs ($83.78), Sunrise has a market value of CHF3.68 billion and trades at a price/earnings ratio of almost 30 times next year’s earnings. It doesn’t look cheap, especially next to Swisscom (SCMN.Switzerland), the Swiss market leader, which trades at a more reasonable multiple of 17 times.
But P/E isn’t the best way to value Sunrise because it doesn’t account for current high levels of capital expenditures while the company completes the build-out of its 4G network. Depreciated cash flow, which allows for Switzerland’s favorable tax environment, is the best way to go.
On that basis, Zurich-based Sunrise shares could be worth 100 Swiss francs, according to Berenberg, a German investment bank and asset manager. That suggests upside approaching 25%.
Analysts’ consensus price target is CHF92.80.
What’s creating buzz around the stock is the lucrative dividend policy. Sunrise has pledged a dividend of CHF135 million, even though it expects to post a per-share loss this year. That’s a payout of CHF3 a share for a yield of 3.8%.
In the next few years, it could get even better. Sunrise is committed to a dividend payout ratio of at least 65% of free cash flow, or earnings before interest, tax, depreciation, and amortization (Ebitda). The yield could be 6% by 2017, based on the current price.
If that isn’t enough, after Sunrise reaches its medium-term target of net debt to Ebitda of 2.5 times, the company plans to return excess cash to shareholders. It had a ratio of 2.7 after its initial public offering, which was the second largest in Europe this year after airports operator Aena (Aena.Spain).
Sunrise’s dividend yield could reach 11% by 2018, and by 2019 it could return as much as one-third of its market value to shareholders. No wonder analysts draw comparisons to the returns made in leveraged buyouts.
Sunrise, which traces its roots to 1996, has come a long way in a short time. It is Switzerland’s only full-service alternative to Swisscom, with a 27% share of mobile, 9% of broadband, and 2% of TV subscriptions. And the Swiss market is growing, unlike most of the rest of Europe. Swiss consumers generally are more affluent, and they favor reliability over price.
Mobile accounts for about 63% of Sunrise’s revenues, which are estimated at over CHF2 billion in 2014. The company reports full-year earnings March 26.
Free cash flow is estimated at a negative CHF20 million for 2014, but it is likely to turn positive in this year, at CHF199 million, and rising to CHF313 million in 2016.
Sunrise has made a good recovery from a damaging attempt to merge with No. 3 player Orange Switzerland in 2010. It put investments on hold while regulators scrutinized the deal. Ultimately, the tie-up was blocked, and Sunrise was forced to play catch-up in a fast-moving industry.
That required a splurge on investment. Capital expenditure peaked last year at about CHF355 million, or about 18% of sales, and should normalize to about 11% of sales in 2016.
That heavy spending has helped Sunrise transform itself from a price leader to a premium challenger, competing on the quality of its network, customer service, and flexible tariffs rather than on price. An endorsement agreement with Swiss tennis star Roger Federer is helping, as well.
Revenues are forecast to grow at a steady 2% to 3% clip annually, just above the level of GDP growth.
SUNRISE ALSO COULD BENEFIT from a pilot network-sharing deal with Orange Switzerland, which would generate synergies for both companies. The savings are difficult to estimate but could amount to as much as CHF40 million for Sunrise.
The cooperation also has fueled suggestions that the two companies could attempt to rekindle their merger. Orange Switzerland is under new ownership, having been acquired last year by the investment vehicle of Xavier Niel, who also controls Iliad (ILD.France). Switzerland’s regulator may welcome a stronger competitor to Swisscom.
Throw in some M&A appeal, and Sunrise could put rivals in the shade.