The Wireless National industry is poised to benefit from the favorable macroeconomic environment and solid sector dynamics as leading carriers seek to deploy 5G technology in select cities across the country by the end of 2018. In addition, President Trump's pro-growth policy changes, namely, significant cut in corporate tax and deregulation are further likely to spur overall industry growth.
5G is billed as the technology of the future with faster download speed and seamless transfer of data. This revolutionary technology brings to the table three new aspects for the overall improvement of the sector, namely, greater speed (to move more data), lower latency (to be more responsive) and the ability to connect a lot more devices at once (for sensors and smart devices).
Leveraging state-of-the-art communication network architectures, 5G is touted to be the primary catalyst for next-generation Internet of Things (IoT) services. These include connected cars coupled with augmented reality and virtual reality platform, smart cities and connected devices that revolutionize key industry verticals.
Moreover, 5G technology is likely to augment the scalability, security and universal mobility of the telecommunications industry, which is expected to propel the wide proliferation of IoT. With the emergence of smart cities, connected vehicles and connected homes, near-term growth prospects appear promising for the telecom carriers.
According to a research study by global management consulting firm Accenture, the wireless industry currently contributes $475 billion to the U.S. GDP, generating $1 trillion in economic output and supporting 4.7 million jobs. With favorable growth dynamics, the industry is anticipated to invest $275 billion over the next few years, creating up to 3 million jobs and boosting the GDP tally by $500 billion.
Furthermore, reduction in corporate tax rate from 35% to 20% has mostly been accretive to cash flow and has resulted in a huge windfall for telecom operators. The carriers have largely utilized this money for 5G network R&D and its deployment. Moreover, the telecom industry is highly capital-intensive in nature. Therefore, the immediate expensing of investment in all tangible, intangible and real property (other than land) has significantly benefited the telecom carriers.
Industry Comparison With S&P 500, Sector
Looking at shareholder returns over the past year, it appears that solid 5G push amid healthy economic fundamentals wasn’t enough for enhancing investors’ confidence in the industry’s prospects. In addition, geopolitical tensions, continued trade war and consequent fallouts on grounds of national security have hurt the stability of the market and put the sector in a spot of bother.
The Zacks Wireless National Industry within the broader Zacks Computer and Technology Sector has underperformed both the S&P 500 and its own sector over the past year.
While the stocks in this industry have collectively declined 0.5%, the Zacks S&P 500 Composite and Zacks Computer and Technology Sector have rallied 13.8% and 13.4%, respectively.
One-Year Price Performance
Sector Stocks Trading Cheap
Due to a highly volatile geopolitical scenario and underperformance of the industry on average over the past year, the valuation looks really cheap now. One might get a good sense of the industry’s relative valuation by looking at its enterprise value-to EBITDA ratio (EV/EBITDA), which is the most appropriate multiple for valuing telecom stocks.
Telecom is a capital-intensive industry with high fixed costs, bulk of which is funded through debt. Moreover, the companies have high depreciation expenses due to a large fixed asset base. The EV/EBITDA ratio essentially measures the value of a telecom company, inclusive of debt and other liabilities, to the actual cash earnings exclusive of the non-cash expenses.
The industry currently has a trailing 12-month EV/EBITDA ratio of 11.28, which is near the higher level over the past year. When compared with the highest level of 11.34 and median level of 9.70 over that period, there is not much upside left.
The space also looks inexpensive when compared with the market at large, as the trailing 12-month EV/EBITDA ratio for the S&P 500 is 11.99 and the median level is 11.57.
Enterprise Value/EBITDA Ratio (TTM)
Comparing the group’s EV/EBITDA ratio with that of its border sector also shows that the group is marginally trading at a discount. The Zacks Computer and Technology Sector’s trailing 12-month EV/EBITDA ratio of 11.34 is slightly above the Zacks Communication Infrastructure Industry’s ratio.
Enterprise Value/EBITDA Ratio (TTM)
Underperformance May Not Continue Due to Solid Earnings Outlook
Expectations of weak profit margins with intensive infrastructure investments for 5G push and uncertainty due to geopolitical reasons will likely lead telecom infrastructure stocks to generate modest shareholder returns in the near future.
But what really matters to investors is whether this group has the potential to perform better than the broader market in the quarters ahead. While the above ratio analysis shows that there is a healthy value-oriented path ahead, one should not really consider the current price levels as good entry points unless there are convincing reasons to predict a rebound in the near term.
One reliable measure that can help investors understand the industry’s prospects for a solid price performance is the earnings outlook for its member companies. Empirical research shows that a company’s earnings outlook significantly influences the performance of its stock.
One could get a good sense of a company’s earnings outlook by comparing the consensus earnings expectation for the current financial year with last year’s reported number, but an effective measure could be the magnitude and direction of the recent change in earnings estimates.
The consensus estimate for the Zacks Wireless National Industry of $2.59 implies a year-over-year improvement of 14.1% as the trend in earnings estimate revisions continues to remain favorable.
Price and Consensus: Zacks Wireless National Industry
Looking at the aggregate earnings estimate revisions, it appears that analysts have mostly remained bullish in this group’s earnings potential.
The consensus EPS estimate for the current fiscal has been revised 2.8% upward since May 31, 2018.
Current Fiscal Year EPS Estimate Revisions
Zacks Industry Rank Indicates Healthy Prospects
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates steady performance in the near term.
Currently, with a Zacks Industry Rank #62, the Zacks Wireless National industry is at the top 24% of more than 250 Zacks industries. 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.
Our proprietary Heat Map shows that the industry’s rank has slightly deteriorated over the past five weeks, although hovering mostly in the positive territory.
Industry Portrays Tempered Long-Term Growth
While near-term prospects look fairly stable for investors, the long-term (3-5 years) EPS growth estimates for the Zacks Communication Components industry appear a tad unconvincing. Although the group’s mean estimate of long-term EPS growth rate has remained relatively flat since February 2018 to reach the current level of 4.9%, it compares unfavorably with 9.8% for the Zacks S&P 500 Composite.
Mean Estimate of Long-Term EPS Growth Rate
In fact, the basis of a tempered long-term EPS growth could be the overall volatility in revenues.
Another important indication of improving long-term prospects is the downtrend in the group’s gross margin due to high operating costs and investments for 5G push.
While the sector has evolved from predominantly a provider of voice services into a diverse, competitive and interconnected industry using terrestrial, satellite and wireless transmission systems, high operating costs and significant investments that contract margins remain potent challenges. Furthermore, a highly volatile geopolitical scenario has put pressure on the stability of the business and adversely affected the operating model.
Although there remain certain impediments to long-term growth, the industry looks poised to benefit in the near term from solid growth dynamics. So, it might be a good idea to bet on this space right now. Investors could be better off if they select a few wireless equipment stocks that have a strong earnings outlook despite premium valuation metrics.
Below are four stocks within the Wireless National universe that have been witnessing positive earnings estimate revisions and carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
CenturyLink, Inc. (CTL - Free Report) : Shares of this Monroe, LA-based wireless national company have gained 8.8% in the past year. The Zacks Consensus Estimate for the current-year EPS has been revised 14.7% upward over the past 90 days.
Price and Consensus: CTL
T-Mobile US, Inc. (TMUS - Free Report) : The consensus EPS estimate for this Bellevue, WA-based wireless national stock has moved 19.9% higher for the current fiscal, in the past year. The stock has gained 11.4% over the past year.
Price and Consensus: TMUS
Telenav, Inc. (TNAV - Free Report) : The stock of this Santa Clara, CA-based wireless national company has rallied 1.3% in the past six months. The consensus EPS estimate for the current year has been revised 3.9% upward over the past 90 days.
Price and Consensus: TNAV
Windstream Holdings, Inc. (WIN - Free Report) : The consensus EPS estimate for this Little Rock, AR-based wireless national stock has moved 10.4% higher for the current fiscal, in the past 90 days. The stock has gained 15.7% over the past month.
Price and Consensus: WIN
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