Starhub launches pre-marketing

A growth story in a mature market?

Pre-marketing began yesterday (September 6) for a Singapore Stock Exchange listing of the country's third and smallest cellular operator, Starhub. The deal is currently slated to raise up to S$750 million ($440 million) and has the standard schedule of two weeks pre-marketing followed by two weeks roadshows.

Pricing is scheduled for the week beginning October 4 and is likely to come early in the week, a couple of days ahead of IPO's for Hutchison Telecommunications International (HTI) and China Power. Alongside lead managers Credit Suisse First Boston and UBS, Nomura will run a POWL (Public Offer Without Listing) in Japan, while CLSA and UOB will be co-leads. The syndicate is rounded off by co-managers: DBS, HSBC and OCBC.

A maximum of 10% will be allocated to retail investors, while the POWL will account for about 5% to 10%. Unlike rival cellular operator M1, which listed in November 2002, Starhub will not be offering retail investors a discount to subscribe to the offering. This is possibly because the entire deal is composed of secondary shares, none of which are being issued by the company's majority shareholder, Singapore Technologies Telemedia (STT), which owns 50.4%.

Instead, the IPO being driven by the divestments of four key strategic investors which are much more likely to try and extract as much value from the IPO as they can. Specialists say the deal will have a minimum freefloat of 25%, but is likely to be come in around the 30% level.

The four existing shareholders will divest their shares, "pretty much on a pro-rata basis." Pre deal, Britain's BT Group owned 11.87%, NTT 14.51%, Singapore government-owned Media Corp 14.07% and Singapore Press Holdings 9.08%.

Some commentators believe the strategic investors' divestment schedule is forcing an IPO ahead of its time. As of June 2004, Starhub was still loss making, reporting a 1H loss of S$45.5 million ($26.6 million). Furthermore, its pay TV operations, which should theoretically command a premium to wireless, have not yet had much of a chance to establish their credentials.

As of June, cable TV accounted for 16.4% of Starhub's turnover compared to 51.9% for its wireless operations, 8.6% wireless for broadband and 17.9% fixed lines services. This means Starhub will be predominantly valued as a wireless operator, with its "blue sky" pay-TV services viewed as a more of a sweetener.

The syndicate has assigned an extremely wide DCF valuation spanning S$2.3 billion to S$3.3 billion. However, specialists suggest a DCF level around S$2.75 billion is being realistically targeted. Based on net debt of S$200 million, 2005 EBITDA forecasts of about S$400 million and a 10% IPO discount, this implies a 2005 EV/EBITDA multiple of about 6.5 to 7 times.

Both of Singapore's other listed telcos trade above the regional average. SingTel is currently trading at 8 to 11 times depending on which analyst you speak to, while M1 is trading around 5.5 to 7 times. Analysts say the former's high multiple results from its emerging markets businesses, which are providing most of the company's growth. The latter is being valued at a premium because of its high dividend yield (6.38%).

Key will be whether Starhub can secure a premium above M1. Despite the fact they both compete in Singapore, the two operate different business models.

In most countries, the smallest operator would automatically be valued at a discount to its larger rivals. But Starhub is being touted as no ordinary small scale, no frills telco. Its ARPU is higher than M1 and company's cellular operations are registering strong growth.

Yet above all else, Starhub is branding itself as a multimedia play, offering bundled services. As such, the leads are likely to argue for a blended valuation, according some value to Starhub's pay-TV operations, which may push its valuation above M1.

In this respect, the most obvious comparable is Malaysia's pay-TV operator Astro, which typically trades at a 50% premium to cellular operator and sister company Maxis. Astro is currently trading on an EV/EBITDA multiple of about 18 to 18.5 times 2005 earnings. However, whereas Astro is running an EBITDA margin of 17.2%, Starhub only managed 3% in FY03, well below the 30% global average.

Analysts say Starhub's pay TV operations face a number of challenges, which have yet to be resolved. In particular, Singapore's multicultural society means customers require programmes in a variety of languages, which increases operating costs.

Since Starhub acquired Singapore Cable Vision in 2002, the merged company has largely targeted the high-end, expatriate, English-speaking population. With the introduction of digital television this summer and increased channel capacity, it is moving into the mass market, and next year is forecasting that 25% of its EBITDA will derive from pay-TV.

So far the company has no other competitors, although analysts wonder about SingTel's long strategy and its ability to leverage its broadband platform should it so wish.

Where wireless is concerned, Starbub and M1 share similar levels of EBITDA earnings. However, M1 is now an ex-growth story, with its valuation driven by its dividend yield and share buy back scheme. Given that Singapore's cellular penetration rate stands at 87.4%, it would be natural to assume that Starhub shares the same profile.

However, Starhub has seen strong EBITDA growth thanks to its short operating history and successful inroads into both SingTel and M1's market share, which has not as yet fuelled any kind of price war. The company was established in 1998 to bring some competition to the domestic telcom sector. As of June, it had a 28% market share compared to 30.8% for M1.

At the end of the 1H, EBITDA stood at S$144 million, up 56% year-on-year. Analysts are forecasting that EBITDA will rise to S$315 million by the end of 2004, S$400 million by the end of 2005 and S$450 million in 2006.

Starhub is also expected to record its first net profit next year. Whether it will be able to start paying a dividend, however, remains open to question. Indeed, one of the question marks hanging over the Singaporean telecom sector is the impact of 3G.

Under the terms of their licensing agreements, the three operators have to start rolling out their services by December this year. Having failed to persuade the regulator to postpone its introduction, all three must now forge ahead. In Hong Kong, Hutchison Whampoa has seen operating profit turn negative this year thanks to roll out costs.

Starhub's success will, therefore, hinge on how readily investors believe the syndicate's rosy growth forecasts.

"This company does faces threats," says one specialist, "but it also has a number of tremendous opportunities. The IPO is probably coming about a year ahead of when it should, but as long as the selling shareholders don't push the valuation too much this deal should offer investors an attractive entry point at an interesting juncture in the company's history."

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