Consolidation to increase confidence in Italy stabilisation;
* Source of opportunity
We expect TI to show continued progressive improvement in domestic
trends towards EBITDA stabilization in 2016, supported by potential mobile
consolidation in Italy (Hutchison and VimpelCom have now confirmed
merger discussions). TI is focusing on bundling, as it looks to protect its
wireline voice base from wireless substitution, with price changes taking
effect in May. We expect new partnerships with Sky Italia (IPTV product
launched April) and potentially Mediaset to help drive fibre broadband / TV
growth. Ongoing refinancing remains a tailwind, supporting higher capex,
with government subsidies reducing the cost of rural fibre deployment.
* Catalyst
Other catalysts include the imminent demerger of Telco Spa, with Vivendi
becoming TI’s largest shareholder (Vivendi may increase its voting stake
above 8.3%), removing overhang. We see changes to management
compensation and governance as positive. Consolidation in Brazil remains a
longer-term opportunity, but near-term visibility is low, in our view.
* Valuation
TI is one of the least expensive stocks in the sector (16x 2016E EV/NOPAT),
although the FCF yield is currently depressed (6.6% 2016E) by trough earnings
and peak capex; on our reduced capex to normalised levels in 2018, the yield
is >11%. Our status quo scenario (i.e. no consolidation) valuation for the ords.
is €1.20/share. If the Italian mobile market consolidates, valuation would be
€1.55 on our expectation of passive benefits of lower churn, higher margins
and potentially higher revenue growth (on more rational pricing). We lower
our revenue / EBITDA forecasts modestly, mainly for recent BRL depreciation.
Our new scenario-weighted (ROIC-based) 12-month price targets are €1.45
ords. / €1.15 savings (from €1.50/1.05), assuming a 60% weighting for Italy
consolidation and a 10% weighting for pan-European M&A. Reiterate CL-Buy.
* Key risks
Adverse regulatory changes and a more competitive environment.