Diversified Communication Services industry appears to be mired in demand volatility as consumers tend to switch to low-priced alternatives to offset the economic adversities stemming from the coronavirus pandemic. Moreover, high capital expenditures for infrastructure upgrade and margin erosion due to price wars have dented the industry’s profitability. Nevertheless, Chunghwa Telecom Co., Ltd. ( CHT Quick Quote CHT - Free Report) , Swisscom AG ( SCMWY Quick Quote SCMWY - Free Report) and Telenor ASA ( TELNY Quick Quote TELNY - Free Report) are likely to benefit in the long run from higher demand for scalable infrastructure for seamless connectivity amid wide proliferation of IoT, driven by faster pace of 5G deployment.
The Zacks Diversified Communication Services industry comprises firms that provide a wide array of communication services, including wireless, wireline and Internet (broadband, dial-up and entertainment) to business enterprises and consumers. These companies offer mobile and wireline telephone services along with high-speed Internet, direct-to-home satellite television, Voice over Internet Protocol (VoIP) and other value-added services. In addition to providing integrated information and communications technology services to businesses and governments, some of these companies operate as local exchange carrier or full-service provider of data center colocation and related managed services in state-of-the-art data center facilities. Some industry participants also provide IP networks, private lines, network management and hosting services along with the sale, installation and maintenance of major branded IT and telephony equipment.
What’s Shaping the Future of Diversified Communication Services Industry Video and other bandwidth-intensive applications have witnessed exponential growth owing to the wide proliferation of smartphones and increased deployment of the superfast 5G technology. This has forced the industry participants to invest considerably in LTE, broadband and fiber to provide additional capacity and ramp up the Internet and wireless networks. These companies are rapidly transforming themselves from legacy copper-based telecommunications firms to technology powerhouses, with capabilities to meet the growing demand for flexible data, video, voice and IP solutions. At the same time, the industry participants continue to focus on leveraging wireline momentum, expanding media coverage, improving customer service and achieving a competitive cost structure to generate higher average revenue per user while attracting new customers. Also, these firms are offering the flexibility to better manage data traffic by leveraging indigenous software-defined networks to enable low-latency, high-bandwidth applications for faster access to data processing. Utilizing machine learning techniques and artificial intelligence capabilities, these networks are likely to transform the way data-intensive images and videos are transferred across the industry on a real-time basis. All these efforts have particularly helped firms in the industry to cater to the upsurge in data demand, with digital sustainability becoming the norm of the day as majority of the population is forced to work from home to avert being exposed to the deadly virus. Evolution from Legacy Networks to Technology Powerhouses: Efforts to offset substantial capital expenditure for upgrading network infrastructure by raising fees have led to reduced demand, as customers tend to switch to lower-priced alternatives. Moreover, the local-line access for traditional telephony service continues to face a decline among large customers due to higher wireless substitution and migration to IP-based services. This is reflected in the persistent erosion in overall network access services on a year-over-year basis, hurting revenues of local and long-distance operations. With Digital Subscriber Line and cable modems gaining widespread acceptance, customers are deactivating extra phone lines that were earlier used to access the Internet via dial-up modem. In addition, a shift toward wireless services and the aggressive rollout of VoIP and long-distance services by Tier-1 competitors have resulted in access line erosion. These negative impacts have become more pronounced as the coronavirus pandemic have hurt global economic growth, triggering large-scale unemployment. Demand Erosion as Users Shift to Low-Priced Alternatives: In order to improve profitability, the companies are increasingly focusing on providing support services to various small and mid-sized businesses (SMBs) with an integrated portfolio of voice, data and technology services. The firms are tailoring their services to suit individual business needs and are facilitating SMBs to better adapt themselves to necessary technology advancements. At the same time, the industry is battling hard to mitigate operating risks, stemming from volatility in demand, unpredictable business environment led by the virus outbreak and challenging geopolitical scenario by offering free services to low-income families and seamless wireless connectivity to the masses. Integrated Customized Offering to Mitigate Risks:
Zacks Industry Rank Indicates Bearish Trends
The Zacks Diversified Communication Services industry is housed within the broader Zacks
Utilities sector. It carries a Zacks Industry Rank #201, which places it at the bottom 21% of more than 250 Zacks industries. The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bleak near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1. The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of a negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are losing confidence in this group’s earnings growth potential. In the past year, the industry’s earnings estimates for the current fiscal and the next fiscal have declined 30.9% and 25.3%, respectively. Before we present a few diversified communication stocks that are well positioned to outperform the market based on a relatively modest earnings outlook, let’s take a look at the industry’s recent stock market performance and valuation picture.
Industry Lags S&P 500 & Sector
The Zacks Diversified Communication Services industry has lagged the broader Zacks Utilities sector and the S&P 500 Index over the past year, largely due to the COVID-19 woes.
The industry has declined 11% over this period against the S&P 500’s gain of 15.1% and the sector’s loss of 6.9%. One Year Price Performance
Industry’s Current Valuation
On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA) ratio, which is the most appropriate multiple for valuing telecom stocks, the industry is currently trading at 14.7X compared with the S&P 500’s 16.34X. It is also below the sector’s trailing-12-month EV/EBITDA of 17.8X.
Over the past five years, the industry has traded as high as 14.85X and as low as 6.9X and at the median of 11.45X, as the chart below shows. Trailing 12-Month enterprise value-to EBITDA (EV/EBITDA) Ratio
3 Diversified Communication Services Stocks to Keep a Close Eye on Chunghwa Telecom Co., Ltd.: Headquartered in Taipei City, Taiwan, Chunghwa Telecom Co. is one of the largest telecommunications service providers in Asia in terms of revenues. The company secured the first 5G license of the country in June 2020 and has gained more than 300,000 subscribers to date since the commencement of its 5G services in July. The Zacks Consensus Estimate for current-year earnings has been revised 12.6% upward since January-end, while that for the next year is up 6.3% since April-end. The company plans to aggressively invest in 2021 to improve its mobile communication infrastructure in order to migrate customers to higher speed services to capture incremental ARPU. It has reportedly built more than 4,000 5G base stations in Taiwan to date. In addition, the company expects to leverage popular sports events, such as the upcoming Tokyo Olympic Games, to grow both subscriptions and revenues, including higher advertisement revenues. The stock carries a Zacks Rank #2 (Buy) and has gained 4.3% in the past year. You can see . the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here Price and Consensus: CHT Swisscom AG: Founded in 1998 and headquartered in Bern, Switzerland, Swisscom offers a comprehensive portfolio of voice and data communication services on fixed-line and mobile networks. The stock has gained 1.3% in the past year. The Zacks Consensus Estimate for current-year earnings has been revised 9.6% upward over the past year, while that for the next year is up 9.8% since April-end. The company continues to invest heavily in network infrastructure upgrade to extend its coverage and aims to double fiber-optic coverage by the end of 2025 compared to 2019. Swisscom also wants to make more convergent use of its network technologies and has reportedly achieved nationwide population coverage of 99% across its 4G/LTE network at the end of September 2020. The company has launched a comprehensive entertainment experience dubbed ‘blue’ with option to access it anywhere, which is rapidly gaining traction. The stock carries a Zacks Rank #3 (Hold) and has a VGM Score of A. Price and Consensus: SCMWY Telenor ASA: Founded in 1855 and headquartered in Fornebu, Norway, Telenor has emerged as one of the leading telecommunication services providers across the globe. The company has a dynamic and flexible business approach that enables it to explore new markets and invest in innovative technologies. The stock has long-term earnings growth expectation of 27.9%. The Zacks Consensus Estimate for current-year earnings has been revised 37% upward since March-end, while that for the next year is up 17.8% over the past year. Telenor’s Asian markets have seen an unprecedented rate of mobile data growth in the recent past. The company is strategically managing the transition from voice to data and is focusing on providing state-of-the-art telecommunications and digital services for monetization of mobile data. It is actively building efficient networks for high-speed connectivity and leveraging local partnerships for faster market penetration. The stock carries a Zacks Rank #2 and has a VGM Score of A. Price and Consensus: TELNY