Oman Telecom Sector Update Note May 29 th, 2018

Transcription

1 Oman Telecom Sector Update Note May 29 th, 2018 OTEL OM ORDS OM Current Market Price (OMR) TP (OMR) Upside/(Downside) 24.1% 7.9% Recommendation BUY HOLD Attractive multiples in the long run Sector has bottomed out; expect better performance going forward Data to dominate revenue sources in the coming period. Margins remain stable on cost control initiatives. Pressures from implementing IFRS 15 and IFRS 9 Oman Telecom Sector is facing various headwinds. Both operators saw reductions in their margins due to multiple factors such as higher taxes and royalties, stiff competition, regulations changes and change in overall consumer spending behavior. Moreover, Ooredoo Oman (ORDS OM) and OTEL group (OTEL OM) have their own inherent risks as well. However, we believe the worse is behind us happened and companies have accelerated efforts towards finding solutions. Our major arguments are based on: - Strong macros and increasing demand for data. - The implications of the current and coming cost saving initiatives - Attractive yields at current prices. - Sound balance sheets and cash flow Overall, we recommend BUY on OTEL and HOLD on ORDS. We assign Omantel Co. with a target price of OMR OMR 0.953/share while Ooredoo Oman at OMR 0.550/share. The TP of OTEL is 35% lower than earlier target of TP OMR 1.463/share. The revised TP reflects concerns including drop of dividends, ambiguity regrading synergies timings, high cost of funding and our belief that investment in Zain was pricy as we valued the premium given at OMR 276mn. However, considering the significant decline on YTD basis, it provides good long run value taking into account 1) expected better performance by Zain Group in the coming years as we see gradual improvement in revenue over the forecasted years supported by better performance by key markets, 2) sound balance sheet of Zain group and ability to maintain good dividends level, 3) better revenue mix for Omantel thus ability to post gradual improvements in margins and 4) OTEL to continue paying dividends in all scenarios. On the other hand, our view on ORDS remains largely unchanged as we believe factors such as stability in the forecasted dividends, promising growth of home broadband, possibility of any reduction in branding and management fees (combined form 4.5% of total revenue) and good cash position remain active. Risks to be considered cover but not limited to: higher interest expenses might occur on the probability of acquiring new loan to fund the renewal of Mobile License and 4G (LTE) licenses in 2020, pressures on ARPUs and limited overall market growth. Hettish Karmani Head of Research h.karmani@u capital.net Tel: Ammar Salim Senior Research Analyst ammar.salim@u-capital.net Tel: Key Valuation Metrics, 2018 OTEL OM ORDS OM EBITDA Margin 33.3% 39.0% Net Profit Margin* 13.5% 12.2% EV/EBITDA (x)** ROAA 1.9% 8.4% ROAE 5.0% 13.7% Dividned Yield 6.5% 8.2% Debt / Equity (x) P/E Ratio (x)** P/BV Ratio (x)** *OTEL Group ** market price for 2018 and subsequent years based on closing price of May 29, 2018 P.O.BOX 1137, PC 111 CPO, Sultanate of Oman l CR No l Tel: l Fax: l info@u-capital.net l Web:

2 49.7% 46.7% 46.9% 48.5% 49.0% 47.9% 44.9% 41.9% 41.5% 43.4% Prepaid 47.1% 44.8% 41.6% 40.2% 41.4% 41.0% 41.7% 41.4% 42.0% 42.0% Telecom Industry Outlook Slower growth of subscribers: fixed segment to increase its share During , total telecom subscribers (Fixed and Mobile) posted a CAGR of 7.2% and stood at 7.44mn as of Mobile subscribers formed on average 94% of total subscribers but we expect this mix to change in favor of fixed subscribers supported by increasing demand for high-speed internet services. On yearly basis, the sector saw slower growth in recent years to reach its lowest in 2017 with an annual growth of 2.1%. We believe this level to sustain in coming years considering the high level of penetration and limited growth in population Fixed Tel. Subscribers (mn) Mobile Subscribers (mn) Source: TRA 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 14.5% 10.1% 9.5% 7.8% 6.9% 4.3% 2.9% 2.1% Telecom Subs. Growth, YoY Dominant prepaid mobile subscribers; lesser role for Resellers On average, prepaid mobile subscribers form 91% of total mobile subscribers. Out of this, the two key operators i.e. Omantel and Ooredoo Oman represent 79%. The data revealed that reseller s market share is getting lesser recently from its peak. For instance, in 1Q 18, resellers market share stood at 14.6% compared with 17.1% in We believe this is mainly due to the increased competition and the unique services offered by each provider. Omantel Mobile (including related mobile resellers) dominates the market share with 57.5%. On standalone basis, Omantel Mobile share stood at 41.5% in 2017 against 42% for Ooredoo Oman. Generally is it difficult to sustain customers within prepaid segment due to the simplicity of shifting between operators. Companies must increase the postpaid pie with lesser penalties on breaking contracts Source: TRA Q'18 Post Paid (mn) Operators (mn) Resellers (mn) It is worth stating that service providers based on the given services are as follow: 0.99 Oman Telecom Market Share 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Source: TRA 3.2% 8.6% 11.5% 11.3% 9.7% 11.1% 13.5% 16.4% 16.4% 14.6% Q'18 Oman Mobile Ooredoo Resellers Fixed Telephony Services (not fixed internet): Omantel, Ooredoo, Teo and Connect Arabia International. Fixed Internet Service: Omantel, Ooredoo and Awasr Mobile Service: Oman Mobile, Ooredoo, Friendi, Renna and Teo. P.O.BOX 1137, PC 111 CPO, Sultanate of Oman l CR No l Tel: l Fax: l info@u-capital.net l Web:

3 Telecom penetration: mature for non-broadband, promising for broadband services As can be seen from below charts, mobile penetration kept its upward path over the years expanding by 1428 basis points to % in 2017 resulting in tougher competition and maturity status. Similarly, the significant improvement was seen in broadband penetration in Oman (out of total telecom subscribers) as it went up from 29.7% in 2009 to over 63% by % 60% 50% 40% 30% 29.7% 38.9% 22.7% 31.5% 43.5% 46.7% 49.2% 57.7% 63.2% 62.9% 200% 160% 120% 80% % % % % % % % % % 20% 10% 40% 9.30% 10.46% 10.36% 10.98% 9.70% 9.40% 10.10% 9.30% 10.91% 0% Q'18 0% Broadband Penetration as a % of total subscribers Fixed Line Penetration/100 Inhabitant Mobile Penetration/100 Inhabitant Source: TRA Oman remains behind its neighbors in terms of internet usage penetration as of total population. Data compiled from Internet World Stats website, shows that Oman internet usage penetration stands at 68.5% compared to GCC penetration of 90.9% but higher than both Middle East and the World as they posted internet penetration of 64.5% and 54.5% respectively. In our view, broadband service is getting momentum in Oman considering investments in fiber optics and the burst of video services such as Netflix and IPTV besides digitalizing government services and the introduction of internet of things. Mn Population Internet Usage Population ( 2018 Est. ) 2017 (Penetration) Bahrian % Kuwait % Oman % Qatar % Saudi Arabia % UAE % Total GCC % Middle East % World 7, , % Source: Internet World Stats ARPUs to remain under pressures Stiff competition and regulatory changes have keep pushing ARPUs down. Most impacted category is the postpaid, as in one year time the average of the monthly ARPUs fell from OMR 20.4 to OMR We expect pressures to continue considering the possibility of the 3 rd operator entry and more liberty within the sector. We expect a negative CAGR of 1.1% over in blended mobile monthly ARPUs. Overall we expect Omantel to see more pressures in postpaid segment considering its market share OTEL & ORDS ARPUs Averages ARPUs/ (OMR) Q'17 2Q'17 3Q'17 4Q'17 1Q'18 Postpaid Prepaid Blended Fixed Line (Internet) P.O.BOX 1137, PC 111 CPO, Sultanate of Oman l CR No l Tel: l Fax: l info@u-capital.net l Web:

4 CEPEX to drop giving better opportunity for distribution dividends Historically, Oman telecom operators CAPEX to revenue ratio is among the highest in world as per international reports, at up to over 30% of revenues. Over , CAPEX registered a CAGR of 8.3% and stood at OMR 207mn in Main increase in CAPEX came from Omantel due to the company strategy of expanding its network as well as submarine investments. We expect the sector CAPEX to be reduced over the forecasted years considering the recent acquisition of Zain. We expect a negative CAGR of 3% over CAPEX (Mn) e 2019e 2020e 2021e 2022e ORDS OTEL Source: Companies Financials Continuing pressures from the OTT (over-the-top) players Even though growth in data consumption increases demand for broadband services is supporting revenues, the free services provided by global content players who enjoy the ability to leverage their customer base while being subjected to limited regulation add pressures on local players not to mention the expensive required infrastructure to support demand for data thus pressures on CAPEX. Omantel Group, in order to defend its position, has implemented what is called Omantel 3.0 strategy focusing on beyond the core business such as ICT solutions and Carrier of Carriers strategy. Moreover, the company acquired a partial stake in Zain Group Kuwait to support its revenue diversification and benefit from integration between the two companies. Ooredoo Oman on the other hand focuses more on its fixed broadband services as well as other initiatives like enriching the customer services experiences. Implementing of IFRS 15 and IFRS 9 Omantel Group (Including Zain Group) said that the group has applied IFRS 15 Revenue from Contracts with Customers and IFRS 9 Financial Instruments which are effective from 1st January Differences in the carrying amounts of assets and liabilities resulting from the adoption of IFRS 9 and IFRS 15 are recognized in opening retained earnings as at 1st January ORDS said that implementing IFRS 15 has resulted in an increase in the opening retained earnings and a recognition of a Contract Cost Asset. However, the company stated that the adoption of IFRS 9 has not had a significant effect on the Group s accounting policies. Access and Interconnection Regulation impact The ACT allows complete availability of an operator s infrastructure to competitors at cost-plus basis. The goal is to ease the entry barriers to the market. For instance, a third mobile operator will be able to use the existing operators network without the actual need to build its own network thus increasing competitiveness in favor of customers and at the expense of the existing operators. Pressures are expected on the operators revenues, margins and de-incentivize them from continuing capital investments, a worry that is already addressed by existing operators. However, both OTEL and ORDS are negotiating with the TRA over the commercial terms of using their network. The possible entry of the 3rd mobile operator High penetration rate, stiff competition and overall reduction in spending behavior led us to believe that the commencement of the 3rd operator will be delayed at least to On the other hand, the opportunity of utilizing the existing operators network at minimal cost, thus less required CAPEX, might result in attractive entry point for the new player. The entry of the 3rd mobile operator will led to lower ARPUs and loss of market share. We expect, within the 3rd year of the entry of the new operator, its market share will be at around 15%. P.O.BOX 1137, PC 111 CPO, Sultanate of Oman l CR No l Tel: l Fax: l info@u-capital.net l Web:

5 May-17 Jul-17 Aug-17 Oct-17 Nov-17 Jan-18 Feb-18 Mar-18 May-18 Omantel Group TP: OMR 0.953/ share Recommendation BUY Bloomberg Ticker Ammar Salim Senior Research Analyst Tel: Otel OM Equity Current Market Price (OMR) wk High / Low (OMR) 1.41/ m Average Vol. (000) Mkt. Cap. (USD/OMR mn) 1496/576 Shares Outstanding (mn) 750 Free Float (%) 49% 3m Avg Daily Turnover (000) 430 6m Avg Daily Turnover (000) 256 PE 2018e (x) 6.9 PBv 2018e (x) 1.0 Dividend Yield '18e (%) 6.5% Price Perf. (1m/3m) (%) -9.43/ Price Performance: 1 month (%) month (%) month (%) Price Volmue Chart 3,000 2,500 2,000 1,500 1, Source: Bloomberg Volume (000) - LHS OTEL OM (OMR) - RHS We upgrade our earlier recommendation from HOLD to BUY on Omantel despite our revision of the target price from OMR 1.463/share to OMR 0.953/share considering that the current market price has already priced in the fears regarding the company ability to generate reasonable cash flow after the expensive Zain Kuwait acquisition deal. The revised TP reflects, in our view, concerns including estimated drop of dividends, ambiguity regrading synergies timings, high burden of cost of funding and our estimates that investments in Zain was pricy deal as we valued the premium given at OMR 276mn. Our target price represents an upside of 24.1% to the latest closing price of OMR 0.768/share. The stock is currently trading at PE 18e of 6.9x and PB 18e of 1x and offers dividend yield of 6.5% The stock is down 36.27% on YTD basis thus providing good long run value considering our estimates. However, we believe that OTEL is a good pick over the medium to long term run taking into account: 1) expected better performance by Zain Group in the coming years as we see gradual improvement in revenue over the forecasted years supported by better performance in key markets, 2) sound balance sheet of Zain group and ability to maintain good dividend levels, 3) Better revenue mix for Omantel thus ability to post gradual improvements over the coming years and 4) OTEL to continue paying dividends in all scenarios. Risks to our valuation include: Continuation of hyperinflation situation in Sudan and thus forex losses. Higher than the estimated impact of implementing the IFRS 15 and IFRS 9 standards. Lower distributed dividends by Zain group Synergy benefits getting delayed Rising of geopolitical tensions in any one of the key markets such as Iraq. Failing to enhance Zain Saudi performance. Omantel is generally taken as proxy of government, so whenever there is a rating downgrade of Oman, sentiment wise it affects the company s share performance e 2019e 2020e 2021e 2022e Key Ratios EBITDA Margin 44.3% 38.7% 33.3% 35.5% 35.9% 36.4% 36.9% EBIT Margin 24.5% 18.5% 16.9% 19.3% 19.9% 20.5% 21.2% NP Margin 22.5% 14.2% 13.5% 15.7% 16.5% 17.4% 18.2% ROAA 14.1% 3.0% 1.9% 2.4% 2.7% 3.0% 3.2% ROAE 21.3% 7.4% 5.0% 6.1% 6.4% 6.6% 6.7% Price OMR Debt / Equity (x) 1.5% EV/EBITDA (x)* Dividend Yield 7.3% 5.8% 6.5% 6.5% 7.8% 9.1% 10.4% P/E Ratio (x)* P/BV Ratio (x)* Source: U Capital Research, Company Financials *Market price for 2018 and subsequent years based on closing price of May 29, 2018 P.O.BOX 1137, PC 111 CPO, Sultanate of Oman l CR No l Tel: l Fax: l info@u-capital.net l Web:

6 Valuation Methodology We have used DCF and EV/EBITDA Multiples. In DCF we have implemented SOTP Free Cash Flow as we valued Omantel stake in Zain through valuating Zain Kuwait and then we valued OTEL standalone basis excluding the impact of Zain dividends. As a result, OTEL group stock fair value stood at OMR implementing the following assumptions: Discounted Cash Flow Method DCF Key assumptions for both companies as follow: Oman Terminal Growth Rate: 2% Risk Free Rate (Oman Government 10yr bond yield): 6% Risk Premium (US): 7.3% Cost of Equity: 15.8% Cost of Debt: 6.5% Beta 1.3 Kuwait Terminal Growth Rate: 2% Risk Free Rate (Kuwait Government 10yr bond yield): 4% Risk Premium (US): 7.3% Cost of Equity: 10.8% Cost of Debt: 4.2% Beta 0.94 DISCOUNTED CASH FLOW (OMR 000) 2018e 2019e 2020e 2021e 2022e 12/31/ /31/ /31/ /31/ /31/2022 Free Cash Flow 40,279 61,532 63,509 95, ,318 Dicount Factor Discounted Cash Flow 37,962 52,468 48,994 66,747 69,662 WACC 10.53% Terminal Value 1,319,114 Terminal Growth Rate 2.0% PV of discounted FCF 275,833 PV of terminal value 832,973 OTEL Enterprise Value 1,108,806 Cash 84,704 Debt 867,047 OTEl QV 326,463 + Share in Zain QV 688,360 Total Equity Value 1,014,823 Shares Outstanding ('000) 750,000 Per Share Value (OMR) Sensitivity Analysis WAAC (%) Growth Rate (%) Cost of Equity (%) % 1.5% 2.0% 2.5% 3.0% % 15.0% 15.5% 16.0% 16.5% 8.5% % % % % % % % % % Cost of Debt (%) 6

7 Peer Valuation We have used relative valuation based on the GCC Telecom Sector EV/12M EBITDA multiple. The sector EV/12Mn EBITDA mean stood at 5.7x for Implementing this, OTEL Group stock fair value on relative valuation will come at OMR Name EV/12M EBITDA, x YTD, % ROA, % ROE, % Dividend Yield, % P/B, x P/E, x Oman OMAN TELECOMMUNI % 1.9% 5% 6.5% OOREDOO % 8.4% 14% 8.3% Saudi Arabia SAUDI TELECOM CO 7.9% 27.7% 9.3% 16.4% 4.6% 2.8% 17.2% ETIHAD ETISALAT % -1.6% -4.4% NA 1.1% NA MOBILE TELECOMMU % -0.4% -3.1% NA 1.04 NA UAE ETISALAT % 6.7% 19.3% 5.0% EMIRATES INTEGRA % 10.0% 24.6% 7.3% QATAR OOREDOO QSC % 2.1% 8.4% 5.0% VODAFONE QATAR % -2.3% -3.3% NA 1.56 NA KUWAIT VIVA KUWAIT TELE % 15.3% 29.9% 4.3% MOBILE TELECOMMU % 5.4% 13.7% 9.2% Mean % 5.0% 10.9% 6.3% Median % 5.4% 13.7% 5.8% High % 15.3% 29.9% 9.2% Low % -2.3% -4.4% 4.3% Source: Bloomberg, the companies' Financials Blended TP offers an upside of 24.1% to OMR 0.953/share We assigned 60% to DCF and 40% to EV/12M EBITDA multiple. Accordingly, TP comes out to be OMR 0.953/share offers an upside of 24.1% to the latest closing price of OMR 0.768/share. 7

8 1Q 18 Review Group revenue stood at OMR mn of which 30.7% was contributed by Oman market i.e. OMR 144.5mn. Key other contributors include Kuwait Market (25.7%) and Iraq Market (22.1%). Following chart shows both customer and revenue contribution as of 1Q 18. Customer Contribution, %, total - as of 1Q'18 Revenue Contribution as of 1Q'18 South Sudan,, 0.55mn Saudi Arabia, 16.9%, 8.4mn Bahrain, 1.3%, 0.65mn Lebanon - TOUCH, 4.8% Oman (Not Including mobile resellers), 5.7%, 2.84mn Kuwait, 5.6%, 2.8mn Iraq, 22.1% Others, 1.5% Bahrain, 3.6% Oman, 30.7% Jordan, 7.6%, 3.8mn Sudan, 6.8% Iraq, 29.2%, 14.58mn Republic of Sudan, 27.7%, 13.8mn Jordan, 9.6% Kuwait, 25.7% Source: Company Financials, presentations and U Capital Net profit attributed to the shareholders of the company (Omantel parent) at consolidated level stood at OMR 15.97mn in 1Q 18 down by 32.9%. What impacted 1Q 18 performance at both group and domestic level? o Zain Group: - implementing of IFRS 15 and IFRS 9: According to Zain management, implementation of IFRS 15 and IFRS 9 has resulted in a negative impact of KD 39.1mm (USD 129mn) in the opening retained earnings balance and that total group revenue of 1Q 18 was negatively impacted by KD 4.6mn (USD 15.2mn), EBITDA (KD 4.9m) and net income impacted by KD 2mn (USD 6.6mn). - Currency issues in Sudan. According to Zain, currency translation impact cost the company USD 38mn on revenues, USD 16mn on EBITDA and USD 7mn on net income. This was due to 38% currency devaluation in Sudan from an average of 15.5 in Q1-17 to 24.9 in Q1-18 (SDG / USD). However, in local currency i.e. SDG, the operator did well as revenue went up by 26% Y-o-Y to reach SDG 2.1bn (USD 85mn) but down 20% in USD terms. - Saudi unit performance: In Saudi which saw net losses, the company said that revenue would have remained stable when compared to 4Q 17 if it had it not been for the impact of SAR 31mn mainly due to change in mobile wholesale local voice call termination rates on mobile networks (MTR) rates from 10 halala to 5 halala. Moreover, Zain Saudi continues to witness reduction in customers base due to the CITC regulations related to bio-metric measures and a two-sim policy for expats and the other being the mass exodus of the expat 8

9 community in KSA. Further the company said that New spectrum fees amortization and increase in interest rates also impacted the results for the period (SAR 18mn). Also, there is a VAT impact of SAR 8.2mn. o Omantel - Implementing IFRS 15 and IFRS 9 standards resulted in a negative impact of OMR 2m as per the company. The company expects to continue to have negative impacts over the year. - The revenue mix for 1Q 18 has played role in providing lower profit margin. i.e. Wholesale revenue and selling handsets, although helped revenue to grow but their profit margin is lower than other line of business. - Bond issuance cost of OMR 2.6mn. The company expects similar cost in 2Q 18. What we know about the domestic performance? Domestic revenue stood at OMR 144.5mn, up by 9.8% mainly supported by better performance of all segments especially wholesale due to higher submarine capacity (IRU revenue) and hubbing revenues and mobile segment on handset sales. Fixed revenue formed 24%, Mobile (51%), Wholesale (24%) and others 1% EBITDA margin (post Royalty) stood at 32.2% in 1Q 18 compared with 41.2% for 1Q 17. OPEX mix: Total OPEX came at OMR 123mn, up by 16.2% mainly on higher cost of sales of 87% which as per the company are driven by increase in revenues of hubbing and handset device sales. Those two have low profit margins. However, the company saw a reduction in Royalty to revenue % to 8% in 1Q 18. It was also 6% in 4Q 17. The group achieved an after tax net profit of OMR 57.4mn compared to OMR 23.7mn in Group net profit includes OMR 52.8 mn contributed by Zain Group. Hence Profit of Omantel Parent alone comes out to be OMR 4.6mn. Omantel paid on average 11% royalty on revenues. However, during 4Q17 and 1Q18 it paid only 6% and 8% respectively as per the parent company data and comment in a conference call. If the royalty paid would have been at the level of first three quarters of 2017, the reported profit of Omantel would have been much lesser. However, the company did say that it will continue to accrue it at a rate of 10% in its financials going forward. The company believes that if Royalty fees will go down to 7% then the hubbing business will generate a gross profit. Zain Acquisition In Aug 17 Omantel announced a share purchase agreement ( SPA ) whereby Omantel will purchased 425.7mn of (Zain) treasury shares in a cash transaction at an offer price of KWD 0.60 per share. This equal to stake of 9.84% in Zain. The cost stood at OMR 325.6mn. The premium paid was almost 33% higher than 9th August, 2017 closing price. In Oct 17, Omantel signed a non-binding letter of intent with Al Khair, a company registered in State of Kuwait regarding the purchase of all of its shares and the shares of its subsidiaries/affiliates in the share capital of Zain, i.e. about 12% of total Zain shares. In Nov 17, Omantel won the bid to buy 521.9mn shares, 12.1% stake in Zain, the offer price was KWD per share, total cash was USD 1.35bn (OMR 520mn). The offer price was 74% above the listed price on that day. However, the company said that blended purchase price is KWD or (KWD after including synergies), represents a 24% premium to Zain s 12 month average share price of KWD

10 Deal Rationale Omantel said that the deal rationale was to mitigate the risk of operating in a single market, yield operational synergies of about USD 400mn over the next five years mainly on wholesale and stronger ability to negotiate and receive better rates on network equipment, income diversification, knowledge and experience sharing, cooperate with Zain commercial activities and through shared investments. Moreover, the company said that it was difficult to overcome limited domestic market growth, recent hike in royalty and taxes and the only option was go abroad. Financing the deal It was fully debt financed transaction of USD 2.25bn of which USD 800mn was syndicated loan. Cost of funding is as follow: 5.5 Year Bond valuing USD 600 mn maturing in 2023 paying an annual coupon of 5.625%. 10 Year Bond valuing USD 900mn maturing in 2028 paying an annual coupon of 6.625%. Syndicated loan valuing USD 800mn over 5 years with annual cost of 5.5% It is worth noting that the cost of the bond is not fluctuating its fixed, hence interest rate volatility will not impact the Company. According to the company, dividends from Zain will cover the cost of funding while loan principles will be covered through the generated cash flow. The estimated reduction in CAPEX and synergies will support the ability to settle the loans. However, assuming Zain Group to distribute KWD per year and applying the above rates, dividends from Zain which will be roughly OMR 42mn, will not be sufficient to cover cost of funding for 2018, 2019 and 2020, as our calculations shows that the annual cost of funding for those years will stand at around (2018: OMR 42.5mn, 2019: OMR 46.5mn, 2020: OMR 44.4mn). However, due to reduction of the long-term loan the company will be able to offset the cost of funding afterword and generate cash. On the other hand, paying the principles of bonds will not be a big issue in our view considering the continuing ability of generating positive cash flow, estimated reductions in dividends, lower CAPEX and strong cash retained earnings (currently stands at OMR 354mn). Synergies Despite the company expectations that it will take full effect starting 2019 with some of the synergies are taking shape during 2018, we believe that it will take longer time to utilize the full benefit of synergies taking into account the complexity of the procedures and process. The company targets USD 80mn annual synergies of which 50% is contributed by the wholesale business while others are Operations, Commercial activities and Knowledge sharing. Annual synergies seen by the company are as follow: (Source: Company). Synergies every year for five years Source: OTEL 10

11 Zain Group Company Profile Zain or Mobile Telecommunications Company (Zain KK) is a Kuwaiti Shareholding Company incorporated in The company and its subsidiaries as well as its associates provide mainly mobile telecommunication services in Kuwait and eight other countries. It serves about 46.9mn customers and it is a market leader in five out of its total markets. Customer Contribution, %, total as of 2017 Revenue Contribution as of 2017 South Sudan, 1.2%, 0.545mn Saudi Arabia, 17.9%, 8.4mn Bahrain, 1.4%, 0.65mn Jordan, 8.1%, 3.8mn Lebanon - TOUCH,, 2.4mn Republic of Sudan, 29.4%, 13.8mn Kuwait, 6.0%, 2.8mn Iraq, 30.9%, 14.5mn Jordan, 14.6% Sudan, 12.3% Bahrain, 5.8% Others, 2.6% Iraq, 32.4% Kuwait, 32.2% Shareholders Kuwait Investment Authority 24.6% Oman Telecommunications 21.9% Nohoudh Development Trading & Contracting co. 5.1% Public 48.5% Subsidiary companies Country Zain International B.V. ZIBV The Netherlands 100% Pella Investment Company Pella Jordan 96.5% Zain Bahrain B.S.C - MTCB Bahrain 54.8% Mobile Telecommunications Company Lebanon (MTC) S.A.R.L. - MTCL Lebanon 100% Sudanese Mobile Telephone (Zain) Company Limited Zain Sudan Sudan 100% Kuwaiti Sudanese Holding Company Sudan 100% South Sudanese Mobile Telephone (Zain) Company Limited - Zain South Sudan South Sudan 100% Al Khatem Telecoms Company Al Khatem Iraq 76% Atheer Telecom Iraq Limited Atheer Cayman Islands 76% Al Mouakhaa Lil Kadamat Al-Logistya Wal Al-Itisalat Jordan 99% Nexgen Advisory Group FZ LLC- Nexgen UAE 84.7% Associate companies Country Mobile Telecommunications Company ( SMTC ) Saudi Arabia 37.0% Wana Corporate S.A (associate of a joint venture, Zain Al Ajial S.A) Morocco 15.5% Notes Pella owns 100% of Jordan Mobile Telecommunications Services Co. JSC JMTS. 11

12 2017 and 1Q 18 performance In 2017, group revenue stood at KWD 738.7mn, posting a decline of 5.4% mainly on lower revenue from Sudan market after the currency conversion impact due to the currency devaluation which costs the company USD 494mn in revenue. Segmental analysis showed that main contributors to the top level were Kuwait and Iraq which formed 64.6% of the total revenue. Key margins largely sustained their levels on yearly basis with net profit margin of the equity holders of the parent at 15.5% in 2017 compared to 14.4%. Net profit attributable to the parent company stood at KWD 159.8mn, up by 2% on yearly basis. The turning point during the year was that Zain KSA (an associate) reported its first ever net profit. Zain Kuwait also got CITRA approval for the sale and lease back of towers. In 1Q 18, Zain group revenue stood at KWD 258.9mn, up by 4.8% YoY supported mainly by the growth in Kuwait and Iraq markets. However, EBITDA saw a drop of 20% which was largely attributed to currency translation impact of KWD 4.9mn and implementing IFRS 15 and IFRS 9 accounting standards. For example, implementing IFRS 15 standard resulted in two main negative impact, 1) the Cost of Sales (COS) related to handsets that could no longer be amortized and 2) the company s investment in attracting Enterprise (B2B) customers. Thus, despite strong growth in the key markets, implementing those standards and the currency devaluation in Sudan impacted the overall performance. Moreover, the decline in customers and challenges faced by the company s associate in Saudi have also added pressures. The reported net profit in 1Q 18 stood at KWD 40.9mn, up by 9.4% YoY basically on net monetary gain of about KWD 34.2mn which is related to applying IAS 29 standard. We learnt that as the Republic of South Sudan economy had become hyperinflationary in 2016 and as Zain investments in the country have been expressed in terms of the measuring unit current at the reporting date, the company used the general price indices in adjusting the results. According to Zain 1Q 18 conference call, the liabilities are higher than the assets in South Sudan, thus applying IAS 29 will lead to an increase in the retained earnings. However, since retained earnings are losses actually, the company will book profits by applying IAS 29. Subscribers, mn 1Q'17 2Q'17 3Q'17 4Q'17 1Q'18 Kuwait Iraq Republic of Sudan Jordan Bahrain Saudi Arabia South Sudan Lebanon - TOUCH Other + fixed line Total Key Margins 1Q'17 2Q'17 3Q'17 4Q'17 1Q'18 GP Margin 73% 71% 73% 71% 65% EIBTDA Margin 45% 40% 41% 39% 34% OP Margin 23% 22% 23% 21% 18% PBT Margin 17% 19% 18% 14% 18% NP Margin 16% 17% 16% 15% 16% NP to the parent 15% 17% 15% 14% 16% Revenue Contribution, 1Q'18 Bahrain, Others, 2.1% 5.2% Republic of Sudan, 9.9% Jordan, 13.8% Iraq, 31.9% Kuwait, 37.1% 12

13 Outlook Revenue to register a CAGR of 1.6% over We expect 2018 total revenue at KWD 1.036bn, slightly up by 0.6% YoY considering pressure from implementing the new accounting standards and challenges faced in some markets. However, we see gradual improvement in revenue over the forecasted years basically on 1) lesser currency devaluation impact as we see better monetary measures implemented by Sudan government to control the inflation, 2) the impact of applying IFRS 15 and IFRS 9 is already materialized, thus we do not expect much dilution going forward and 3) continue improvement of socio-economic conditions in Iraq. However, challenges remain in both Saudi and Jordan markets but we do expect lesser negative impact considering the company efforts in standardizing services, likely of increasing its stake in Zain Saudi through buying the upcoming right issue and thus the possibility of consolidating the accounts. Stability in key margins. We expect EBITDA, EBIT and NP margins to be on average at 35.3%, 19.5% and 18% respectively over , higher by 100 basis points than their 1Q 18 level but remain lower than the historical averages of about 3% (not for the net profit). Our theme stands for 1) better cost control and winning of some legal cases of about KWD 158mn, 2) lesser cost of funding due to the expected settlement of loans and lower depreciation due to both selling telecom towers and implementing of the new standards. We expect net profit to equity holders of the parent to stand at KWD 166.7mn in 2018, up by 4.3% YoY. Sound balance sheet and ability to maintain good dividends level. Despite pressures on the equity side due to foreign currency translation reserve and lesser retained earnings on applying IFRS 15 starting 2018, we estimate better performance in the coming years considering the higher net profits, improvement of currency devaluation, lower debt levels and lesser deprecation. Debt to equity is estimated to go down from 0.5x in 2018 to 0.33x in 2022 and dividend payout average of 86% resulting in hefty dividends to OTEL at an average of KWD 35mn (OMR 45mn). Key Charts 1,120 1,100 1,080 1,060 1,040 1,020 1,000 1,088 1,030 1,036 1,045 1,060 1,080 1, % 46.0% 42.0% 38.0% 34.0% e 2019e 2020e 2021e 2022e Revenue, KWD mn e 2019e 2020e 2021e 2022e Headline EBITDA, KWD mn EBITDA Margin 30.0% % 35.0% 30.0% 25.0% 20.0% 15.0% % 35.0% 30.0% 25.0% 20.0% 15.0% e 2019e 2020e 2021e 2022e Operating Income, KWD mn OP Margin 10.0% e 2019e 2020e 2021e 2022e NP to equity holders of the parent, KWD mn NP Margin 10.0% Source: The company financials, U Capital 13

14 Omantel: The Group good pick over the medium to long term run Recovery in the group revenue on favorable micro and macro factors Group revenue is expected to register a CAGR of 2.4% over Omantel share is estimated at 30% of the total group revenue on yearly basis. For 2018, we estimate group revenue at OMR 1.87bn and domestic revenue at OMR 547.8mn. Our positive outlook on both companies revenue is built on the following factors: - We see gradual improvement in revenue of Zain Group over the forecasted years basically on 1) lesser currency devaluation impact as we see better monetary measures implemented by Sudan government to control the inflation, 2) the impact of applying IFRS 15 and IFRS 9 is already materialized, thus we do not expect much dilution going forward and 3) continued improvement of socio-economic conditions in Iraq. - Better domestic revenue mix as Omantel will concentrate more on higher profit margins products. We expect domestic revenue to register a CAGR of 4.2% over mainly supported by data, better revenue mix, wholesale and better number of subscribers. Pressures to continue on ARPUs, but synergies and focusing on noncore business to mitigate. The Parent Co. revenue in 2018 is estimated at OMR 547.8m, up by 3.9% on yearly basis. Mobile revenue continues its domination as it forms on average 53% of total revenue. 2,500 2,000 1,500 1, % 1,877 1,914 1,959 2, % % 30.0% 30.6% e 2019e 2020e 2021e 80.0% 70.0% 60.0% 50.0% 40.0% 30.0% 20.0% 10.0% 0.0% 120% 100% 80% 60% 40% 20% 0% Omantel Domestic Revenue Mix 19.7% 20.0% 20.3% 20.7% 21.0% 55.0% 54.9% 53.7% 52.7% 51.7% 25.3% 25.1% 25.9% 26.7% 27.4% e 2019e 2020e 2021e Group Revenue (OMR Mn, LHS) OTEL Share, % Fixed Mobile Wholesale Source: Companeis Financials, U Capital Stability in operating margins We forecast stable margins over the forecasted years with group average EBITDA and EBIT margin of 35.6% and 19.5% during our forecasted period. At domestic level we see slight improvements over the forecasted period on mixed factors including cost control initiative, estimated lower CAPEX, depreciation of OTEL, reduction in cost of funding overtime and stability of Zain dividends. EBITDA margin locally is expected at 33.5% in We believe synergies will come into effect in % 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% 35.5% 35.9% 36.4% 33.3% 19.3% 19.9% 20.5% 16.9% 2018e 2019e 2020e 2021e Group EBITDA Margin Group EBITD Margin 14

15 OMR Mn OMR Mn Lower cost of funding and better margins to support the net profit Otel group to register a net profit CAGR of 10.3% over The group net profit in 2018 is expected at OMR 253mn of which 33% goes to the OTEL the parent company that is OMR 83.8mn. On standalone basis, net profit of the parent company excluding benefit of Zain dividends is seen at OMR 32mn for 2018 and CAGR of 30.1% over Lower cost of funding due to settlement of the term loan of USD 800mn over the five years, support further the bottom line of the parent co e 2019e 2020e 2021e 2022e e 2019e 2020e 2021e 2022e Group Net profit NP to equity holders of the parent Omantel NP (Sandalone Basis), OMR Lower DEBT to EQUITY to support in the long run As stated before, Zain acquisition which was fully leveraged has resulted in debt to equity in 2017 at 123.1%. We estimate this to go down to 61% by 2022 as the company intend to settle two major loans i.e. the syndicated loan of USD 800mn and 5.5 year bonds worth USD 600mn. This will also result in significant saving in cost of funding by about OMR 20mn on annual basis. As of now, we do not believe that Zain dividends will be sufficient enough to cover the cost of funding at the parent level for the % 120% 100% 80% 60% 40% 20% 0% 123% 100% 89% 79% 70% 61% e 2019e 2020e 2021e 2022e Debt to Equity Dividends from Zain to remain stable, dividends from the Parent to drop Zain Group: Despite pressures we estimate better performance in the coming years considering the higher net profits, improvement of currency devaluation, lower debt levels and lesser deprecation. Debt to equity is estimated to go down from 0.6x in 2018 to 0.43x in 2022 and dividend payout average of 86% resulting in hefty average dividends to OTEL OM of KWD 35mn (OMR 45mn). Omantel: Dividends are estimated to drop from their historical levels of 115Bz to 50Bz in 2018 but to improve later to 80Bz by The view is built on the company need to serve the cost of funding and save cash for other liabilities such as the upcoming renewal license. At current prices, this result in dividend yield of 6.4% 15

16 Financial Statements (OMR mn) e 2019e 2020e 2021e 2022e Income Statement Rev 519, ,725 1,876,843 1,914,210 1,959,453 2,008,910 2,060,391 COGS (136,778) (230,125) (656,895) (640,129) (648,882) (658,836) (669,234) GP 382, ,600 1,219,948 1,274,080 1,310,572 1,350,074 1,391,157 SGA (150,245) (218,941) (575,177) (577,903) (588,321) (599,828) (611,765) Depreciation and Amortization (102,768) (151,729) (308,013) (309,110) (313,365) (319,083) (324,417) Impairment + Expected credit loss (2,082) (11,805) (19,842) (17,589) (18,890) (18,650) (19,131) Operating Income 127, , , , , , ,843 Net Interest 1,696 (8,800) (51,377) (52,374) (50,546) (47,512) (44,356) Others 4,512 (14,214) 18,172 21,263 24,536 27,992 31,633 PBT 133, , , , , , ,119 Tax (16,174) (8,985) (30,253) (37,533) (40,717) (44,196) (47,813) NP from Continuing Operations 117, , , , , , ,307 Gain (loss) - Discontinued Operations (1,731) (347) Group NP 115, , , , , , ,307 Non-controlling interests (890) 27, , , , , ,864 NP to equity holders of the parent 116,671 79,717 83, , , , ,443 Balance Sheet Accounts receivable 97, , , , , , ,692 Inventory 9,340 52,400 57,608 63,900 61,925 62,464 61,897 Others 39,580 33,746 37,701 37,447 37,289 37,196 37,150 Cash 68, , , , , , ,627 Total current assets 214,517 1,160,762 1,031,666 1,147,820 1,161,746 1,254,063 1,352,367 PPE Cost 1,259,866 3,500,150 3,834,719 4,130,412 4,432,754 4,735,841 5,043,948 Accum Dep 743,187 2,031,919 2,364,133 2,673,243 2,986,608 3,305,691 3,630,108 Net PPE 516,679 1,468,231 1,470,586 1,457,169 1,446,146 1,430,150 1,413,840 Other long term Assets 94,907 1,848,849 2,016,320 1,991,507 2,013,678 1,988,817 1,964,653 Total non current assets 611,586 3,317,080 3,486,906 3,448,676 3,459,824 3,418,967 3,378,492 Total Assets 826,103 4,477,842 4,518,571 4,596,496 4,621,569 4,673,030 4,730,859 Accounts payable 202, , , , , , ,882 Current portion of debt 2, , , , , , ,520 Other current liabilities 59, Current liabilities 263,988 1,709,695 1,121,899 1,179,956 1,148,175 1,134,267 1,118,401 Debt LT 5,740 1,111,421 1,566,876 1,473,966 1,402,550 1,324,931 1,241,945 Other non current liabilities 9,674 58,899 59,849 59,800 59,773 59,769 59,790 Non current liabilities 15,414 1,170,320 1,626,724 1,533,766 1,462,323 1,384,700 1,301,735 Total Liability 279,402 2,880,015 2,748,623 2,713,722 2,610,498 2,518,967 2,420,136 Equity Parent 582, , , , , , ,785 Non controlling interest (35,996) 1,012,126 1,189,663 1,277,151 1,369,543 1,474,291 1,589,939 Total Equity 546,701 1,597,827 1,769,948 1,882,774 2,011,071 2,154,063 2,310,723 Total Liability and Equity 826,103 4,477,842 4,518,571 4,596,496 4,621,569 4,673,030 4,730,859 Cash Flow Net Income 115, , , , , , ,307 Dep 102, , , , , , ,417 Adjustments 0 5,834 (3,955) Change in WC 95,767 12,974 64,587 48,765 (20,791) (16,256) (1,754) CFO 314, , , , , , ,016 CAPEX (619,447) (1,103,281) (310,367) (295,694) (302,341) (303,087) (308,107) Others (65,438) (1,753,942) (167,471) 24,813 (22,171) 24,861 24,164 CFI (684,885) (2,857,223) (477,838) (270,881) (324,512) (278,226) (283,943) Net Debt and others 8,171 1,948,034 (188,623) (104,261) (77,949) (85,386) (91,779) Net Equity 505,920 1,011,847 (43,837) (150,508) (157,474) (160,805) (166,146) Dividends (75,000) (67,500) (37,500) (37,500) (37,500) (45,000) (52,500) CFF 439,091 2,892,381 (269,960) (292,269) (272,923) (291,192) (310,426) Cash End 68, , , , , , ,627 Source: U Capital Research, Company Financials 16

17 May-17 Jul-17 Aug-17 Oct-17 Nov-17 Jan-18 Feb-18 Mar-18 May-18 Ooredoo Oman TP: OMR 0.550/ share We maintain our HOLD recommendation on Ooredoo Oman with a revised target price of OMR 0.550/share compared with earlier OMR (report date 26 November) which is due to the increased competition and limited local growth. Our target price represents an upside of 7.9% to the latest closing price of OMR 0.510/share. The stock is currently trading at PE 18e of 10x and PB 18e of 1.4x and offers dividend yield of 8.2% Our view on the company remains largely unchanged as we believe factors such as stability in the forecasted dividends, promising growth of home broadband, the possibility of any reduction in branding and management fees (combined form 4.5% of total revenue) and good cash position remain active. Risks include higher interest expenses might occur on the probability of acquiring new loan to fund the renewal of Mobile License and 4G (LTE) licenses in 2020, pressures on ARPUs and limited overall market growth. Price Volmue Chart 3,200 2,400 1, Source: Bloomberg Volume (000) - LHS Ammar Salim Senior Research Analyst ammar.salim@u-capital.net Tel: ORDS OM (OMR) - RHS Top level: slower growth but an eye on fixed broadband We expect slower annual average growth in total revenues over to 2% from 6% in the previous years. Despite the better estimated performance by fixed segment as the company benefits from running its own Superfast Fibre Home Broadband (we expect fixed revenue contribution to go from currently 16% to 23.5% by 2020), pressures on ARPUs and high mobile penetration to limit the overall revenue performance. We estimate total subscribers to reach 3.3mn by the end of the forecasted period compared to currently 3mn. Revenues to grow from OMR 273.6mn in 2017 to OMR 286mn in 2022, a CAGR of 1%. Prepaid segment continues to lead with an average revenue share of 58.6%. Healthy margins on better cost control Considering the notable increase in royalty and tax fees starting 2017 and that Ooredoo Oman is exposed also to services fees of 3% and branding fees of 1.5% of total revenue (also began in 2017), the company managed to cope with pressures posting reasonable improvement in margins towards end of 2017 and beginning of We do not see more notable drop in margins as most of the pressures are unsystematic. We expect adjusted EBITDA margin, i.e. EBITDA including Royalty, to stand at 39.7% over compared to its last two years average of 44%. Net profit margin average of same period stands at 13%, i.e. 420 basis points below the era of pre uncontrolled expenses hike (royalty, taxes and branding fees) but higher than 2017 level of 11.3%. We estimate 2018 net profit at OMR 33.3mn, a yearly increase of 12.2%. 17

18 Subscribers 2,640 2,732 2,738 2,765 2,793 2,820 2, % 62.4% 61.4% 59.9% 58.5% 57.2% 55.9% Sound financial position and dividends stability Balance sheet remains sound with good level of liquidity, lower debt levels compared to local and regional players (9.8% versus 66% GCC telecom average) and attractive multiples. CAPEX is expected to be 20% of the company total revenue over the forecasted period considering efforts to strength the fibre services coverage. However, by 1Q 20, the company will renew both Mobile License and 4G (LTE) licenses which might led to pressures on financing and cash. Yet, we think that the healthy cash flow and retained earnings level will support any further need for financing. We expect dividend payout to be on an average of 74% over providing a dividend yield of 8% to current market prices. TP offers an upside of 7.9% to CMP; implies PE 18e of 10x and PB 18e of 1.4x Our target price, which is based on blended methodology of Discounted cash flow method (80% weight) and a Peer-group EV/EBITDA valuation (20% weight), offers an upside of 7.9% compared to the current market price. ORDS in Charts 3,500 3,000 2,500 2,000 1,500 1, e 2019e 2020e 2021e 2022e 120.0% 100.0% 80.0% 60.0% 40.0% 20.0% 0.0% Revenue Breakup 12.4% 16.0% 16.8% 18.8% 20.4% 22.0% 23.5% 21.0% 19.8% 18.6% 18.5% 18.3% 18.2% 18.0% e 2019e 2020e 2021e 2022e Mobile Postpaid Mobile Prepaid Fixed Line Postpaid Prepaid Fixed 50.0% 40.0% 30.0% 20.0% 10.0% 0.0% 44.7% 38.8% 39.0% 39.3% 39.7% 40.0% 40.3% 27.2% 25.9% 26.9% 27.2% 27.8% 28.1% 28.4% 17.1% 11.3% 12.2% 12.5% 13.0% 13.2% 13.5% e 2019e 2020e 2021e 2022e e 2019e 2020e 2021e 2022e 25% 20% 15% 10% 5% 0% Adj. EBITDA Margin EBIT Margin Net Profit Margin EV/EBITDA, x ROAE ROAA Source: Company Reports, U Capital 18

19 Financial Statements (OMR mn) e 2019e 2020e 2021e 2022e Income Statement Revenue Operating expenses (76) (75) (72) (72) (73) (74) (74) General and administrative expenses (55) (60) (62) (62) (62) (62) (62) EBITDA Depreciation & Amortisation (66) (68) (66) (67) (67) (68) (68) Interest Expense (NET) (2) (2) (2) (2) (2) (2) (2) Other Expenses / income (net) Profit Before Royalty & Taxation Royalty and Taxation (25) (38) (39) (39) (40) (41) (41) Profit After Tax (Before Minority Interest) Minority Interest 0 (0) (0) (0) (0) (0) (0) Net Profit to equity shareholders Balance Statement Bank Balances and Cash Receivables and prepayments Inventories Current Assets Property and equipment Other intangible assets License fee Others Non-current assets Total Assets Payables and accruals ST Borrowings (Interest bearing borrowings) Others Current Liabilities LT Borrowings (Interest bearing borrowings) Site restoration provision Employee Benefits Def tax Liability + others Non Current Liabilities Total Liabilities Share capital Statutory and Hedging reserves Retained earnings Non controlling interests Total Equity Total Equity and Liability Cash Flow Statement Cash Flow from Operating Activities Cash Flow from Investing Activities Cash Flow from Financing Activities (47) (26) (12) (21) (70) (20) (20) Change in Cash (13) (31) 20 7 Net Cash at End Source: U Capital Research, Company Financials 19