Upgrade to Buy: Step Aside "Speculation", It's "Fundamentals" Turn
--> We've been happy to stand by as low-visibility externalities have driven the TI
share price upwards from distressed levels over the past 12-18 months. This has
now changed. We have sufficient conviction on an orderly "secular catch-up"
story in Italy to argue that the multiple is too low. We upgrade TI to Buy.
address chronic churn in the single-play fixed voice segment. Billing simplicity and pricing
visibility will drive a shift in the value-perception of fixed voice while we see back-book repricing
risk as low. This troublesome segment will see lower churn and contribute to TI's
wider secular catch-up opportunity in fixed.
Secular catch-up: TI's fibre investment should kick-start a secular catch-up in fixed services
in Italy. Zero-premium promotional pricing for fibre along with the de facto bundling of Sky
for free in the first year should drive broadband market growth and see Italy close the gap
on peers. OTT product launches should only add to momentum.
Competition: There is clear evidence of an intensification in retail competition, especially
from Vodafone, and increasingly on the back of owned-infrastructure, exacerbating the risk.
We look at the revenue impact of winning / losing / migrating existing retail and wholesale
subscribers for TI. We note that where revenue risk is largest, it is typically mitigated by the
limited number of homes in which that event could occur. This is before we consider market
growth too, where TI can monetise fibre through retail gains (obviously) and "favourable"
wholesale fibre pricing.
Cost-cutting provides comfort: TI's track record to date suggests it will deliver its
ambitious target of €1bn in opex saving (equal to 12% of the FY14 domestic cost base).
Notwithstanding, our forecasts imply only ~€450m in domestic opex reduction, giving
scope for TI to accommodate any increase in competition as it (and others) ramps
convergence. If none should emerge, there is obviously upside to our €1.35 price target
(€1.60).
Valuation/Risks
TI's discount has contracted meaningfully over the past year (2015 EV / EBITDA of 6.0x,
sector on 7.3x) as TIM Brazil bid speculation and other externalities have served to reduce a
high leverage / chronic earnings risk story. We believe it is now time for TI's fundamentals
to take over the re-rating. Our price target for TI is based on a DCF-based SoTP analysis. Key
risks are BRLEUR weakness and domestic competition.