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Deutsche Telekom - US still posting strong growth

Sophie Lund-Yates, Lead Equity Analyst | 24 February 2022 | A A A
Deutsche Telekom - US still posting strong growth

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Deutsche Telekom AG NPV

Sell: 18.76 | Buy: 18.82 | Change 0.03 (0.17%)
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Net revenue rose 7.7% to €108.8bn for the full year, on an organic basis, which ignores the effect of exchange rates, net revenue was up 4.5%. Growth was strongest in the US.

Operating profit rose 2% to €13.1bn.

The group announced a dividend of 0.64 cents per share.

The shares fell 5.6% following the announcement.

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Our view

As a telecoms giant, Deutsche Telekom's biggest attraction is its stability. It's not an industry renowned for heady growth, but does get thanked by shareholders for its more reliable revenue streams. People will always need a phone network, and their office - at home or otherwise - needs internet.

Despite being a German company, Deutsche Telekom (DTE) makes most of its revenue and profits in the US through subsidiary T-Mobile.

The recently complete Sprint deal, which increased DTE's US exposure, has much to recommend it. While Sprint had been struggling, it owns a large chunk of valuable mid-band spectrum and DTE estimates that cost savings will outweigh integration costs after three years.

The combined group should have both the bandwidth and scale needed to take on Verizon and AT&T in the US 5G market, but mergers always come with risks, especially one of this size. Either way any material benefits are unlikely to be realised before 2023, though management is enthusiastic about progress.

The tie up has led Standard & Poor's, a credit ratings agency, to downgrade the group from a "BBB+" rating to "BBB". Integrating Sprint will be costly and complicated, and Standard & Poor's expects it'll reduce free cash flow in the near term - increasing the burden of the group's substantial debt pile.

It doesn't help that telecoms is a difficult industry to do well in.

Firstly, building and maintaining modern communications infrastructure, like towers, cables and data centres, costs a fortune. Add the ever-increasing payments to governments for spectrum rights, and the capital requirements of the business become truly eye watering. In 2020 alone Deutsche Telekom spent €26.4bn in cash on investments and spectrum. Spectrum investment varies considerably year to year and are long term investments, so telcos typically report free cash flow excluding these payments. But they're a real cost, and investors should keep a close eye on them.

Secondly, the industry lacks pricing power. Telcos compete primarily on price, which leads to pretty feeble margins and meagre returns on the massive amounts of capital employed. This is why companies bundle broadband and mobile data with entertainment services and other perks, and in DTE's case Magenta TV is a big part of the offering. The idea is to offer something meaningfully different that justifies higher pricing. Unfortunately, it's led to something akin to an arms race as each provider hunts for unique content to bolster its offer.

Debt has mounted as a result, especially since the merger, and efforts to keep it in hand recently led management to trim the dividend. We doubt investors will see much if any dividend growth until Sprint has been properly embedded, and that's conditional on the integration going smoothly.

Deutsche Telekom key facts

  • Price/Earnings ratio: 12.4
  • 10 year average Price/Earnings ratio: 15.4
  • Prospective dividend yield (next 12 months): 4.2%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Full year results

Revenue in the United States was helped by increased demand for broadband, brought on by the pandemic. Net revenue rose 11.7% to €68.4bn. Service and equipment revenues both posted increases. Underlying cash profits (EBITDA) rose 9% to €27.4bn.

Total revenue in Germany rose 1.6% to €24.2bn, driven by a 1.5% climb in Service revenue, largely thanks to Consumers products. Underlying EBITDA of €9.6bn was a 3.5% improvement.

Europe revenue rose more slowly, reaching €11.4bn - a 0.4% increase. Ignoring the effect of the sale of Telekom Romania Communications and the effect of exchange rates, revenue was up 2.4%. Underlying cash profits rose 0.9% to €4.4bn.

System Solutions and Group Development saw revenue fall 3.4% and rise 9.8%, respectively.

Total group cash capital expenditure, ignoring Spectrum investments, increased €1.0bn to €18.0bn, including Spectrum this was €26.4bn. Underlying free cash flow, which excludes Spectrum investment and dividend payments rose to €8.8bn, up €2.5bn. Net debt rose almost €12.0bn to €132.1bn, largely because of the Spectrum acquisition.

The group has agreed the sale of T-Mobile Netherlands and this is still expected to complete in the first quarter of 2022.

Find out more about Deutsche Telekom shares including how to invest

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.

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