Millicom International Cellular Rating: Buy

Transcription

1 SATELLITE, CABLE & BROADCASTING David B. Kestenbaum Heather Hou Company Update October 7, 2008 Key Metrics MICC - NASDAQ $58.45 Pricing Date 10/06/2008 Price Target $ Week Range $ $53.70 Shares Outstanding (mm) Market Capitalization ($mm) $6, Mo Average Daily Volume 1,109,318 Institutional Ownership 24% Debt/Total Capital 32.9% ROE 50.9% Book Value/Share $15.99 Price/Book 3.7x Dividend Yield NM LTM EBITDA Margin NM Revenue($mm) Prior Curr. Prior Curr. 2006A 2007A 2007A 2008E 2008E 1Q-Mar A 2Q-Jun A 3Q-Sep E 4Q-Dec E FY 1, , ,483.2E EBITDA Prior Curr. Prior Curr. 2006A 2007A 2007A 2008E 2008E 1Q-Mar A 2Q-Jun A 3Q-Sep E 4Q-Dec E FY , ,458.6E 1 Year Price History for MICC Q3 Q1 Q2 Q Created by BlueMatrix Company Description: Millicom International Cellular SA ( is an operating company that invests in a range of cellular telecommunications operations in Asia, Latin America, and Africa. Today, the company has cellular operations and licenses in 16 countries. Millicom's cellular telecommunications operations have a combined population under license of approximately 278 million people Millicom International Cellular Rating: Buy Fixed Broadband Acquisition Designed to Complement Core Business; Buy Investment Highlights: MICC's Amnet subsidiary can economically provide fixed broadband. Amnet is the largest independent cable company in Central America providing broadband and cable television (mostly analog) services in Costa Rica, Honduras, and El Salvador. Millicom purchased the cable operator at a favorable, in our view, multiple of 7.1x 1H08 annualized EBITDA. Amnet had enjoyed 33.4% CAGR revenue growth from and 37.1% EBITDA growth from at a 46% EBITDA margin. This margin exceeds Millicom's historic margins. Revenue and EBITDA in 1H08 was $79mm and $36mm, respectively. We believe the business could grow rapidly over the next few years since only 350k cable subscribers are currently utilizing an expanding network that covers 1.1mm homes. Broadband penetration is even lower at only a quarter of pay-tv penetration. Amnet's churn is lower than that of MICC and ARPU continues to rise, which we view positively. Amnet is relatively small in comparison to MICC's overall Central American business in that it contributes less than 5% to MICC's overall revenue and EBITDA. Capex is expected to be 15% of total revenue in 2008 versus 12% in Growth should accelerate now that the acquisition has been completed and the company should restore cap ex to historical 15% levels, which is not very high for a cable operator. Liberty Global (LBTYA - $ NASDAQ; Buy) intends to spend 21% on capital expenditures compared to revenues. However, the business has suffered as annual growth has declined to 15.9% compared to the 30+% levels achieved during Synergies should be achieved in areas such as sales, distribution, and network maintenance. Tigo's existing IP network across Central America provides synergies in terms of network and capex savings. However, absent synergies, the deal is expected to generate an ROI exceeding 20%. Central America is moving closer to full cellular penetration; new strategy is in place. We believe the recent decline in subscriber growth suggests the market is moving closer to full penetration. However, we do expect stronger subscriber growth in 2H08 though the growth rate should moderate thereafter. Therefore, Millicom's new Amnet property position's the company with a new avenue of growth for the region. We believe continued technology advancement, value-added service rollout, and increased broadband penetration should be the key drivers of Central American growth. The Disclosure section may be found on pages 5-7 of this report. The Valuation section may be found on page 5 of this report.

2 With Amnet, we believe MICC can provide fixed broadband services in the most economic way. Amnet was the largest independent cable company in Central America providing broadband and cable television (mostly analog) services in Costa Rica, Honduras, and El Salvador. It has a network of 4,900km of fiber-optic cable and 11,500km of co-axial cable covering a total of 1.1mm homes. In addition, approximately 68% of the network is already two-way. The vast majority of the network is built to provide service at MHz. Strong local cable TV cash flow is expected to fund broadband expansion and open up the possibility of using MICC's marketing skills to sell broadband to the existing cable subscriber base. Apart from a favorable, in our view, transaction multiple of 7.1x 1H08 EBITDA annualized, management maintains that Amnet fulfills full investment criteria, namely high growth and strong margins. Amnet enjoyed 33.4% CAGR revenue growth from and 37.1% EBITDA growth from with EBITDA margin of 46%. In 1H08, Amnet's growth rate slowed to 16%, but we believe a reduction in capex and a focus on the corporate sales process negatively impacted results. Therefore, we think growth is likely to accelerate now that the merger is complete and more capital is budgeted for the network. The Amnet capex/sales ratio was 12% ($17.3mm in 2007, excluding installation costs) last year when the company recorded revenues of $143mm and adjusted EBITDA of $66.5mm. However, we expect it to rise to 15% in the future. The deal should allow Millicom to provide broadband and fixed lines to several countries in Central America including Costa Rica, El Salvador, and Honduras. We believe the business could grow rapidly over the next few years since only 350k cable subscribers are currently utilizing an expanding network that covers 1.1mm homes. Moreover, broadband penetration at Amnet is much lower at only a quarter of the pay-tv service penetration level. Amnet's broadband growth rate could trend higher when MICC sells bundled services to the existing customers at a marginal cost. Further, churn is much lower at Amnet than at Millicom and ARPU continues to rise. Revenue is driven by getting incremental income from existing pay-tv subscribers, i.e. by upselling broadband and telephony services to existing cable users. Capex is expected to be 15% of total revenue in 2008 versus 12% in We remain cautious of this new strategy of getting into cable TV services, which entail higher marketing costs and maintenance capital expenditures. However Amnet should be able to keep its capex at a reasonable level since its cable can be deployed overhead on poles rather than under the ground, which requires lower capex (overhead solution means less than 25% of cost) and less complicated and easier-to-obtain municipal permits to hang the cable on the poles than digging up the streets. The 15% level is lower than such international players such as Liberty Global and in-line with Virgin Media despite a larger program of extending its network than the other operators. Management expects upside synergies in areas such as sales, distribution, and network maintenance. Amnet has a network of 4,900km of fiber-optic cable. On the other hand, the substantial fiber-optics network already owned by both Tigo and Navega joins the same 9,500km points to potential upsides in the form of synergies in capex. In addition, Tigo's existing and substantial IP network across Central America provides synergies in terms of network and capex savings. Moreover, the 3G network is expected to be up and running by the end of the year in all six countries within MICC's footprint. The company specifies that there would be no integration costs as the company is buying an existing business and expects to continue working with the people at Amnet. However we recognize that the Amnet business is different from Millicom's post-paid cellular business model and the cellular operator lacks experience managing a video product, though the focus is clearly on developing the broadband side of the business. We will watch closely on how the post-merger integration is working out for MICC. Costa Rica is one of the two countries in Central America (Nicaragua) in which MICC would like to build a mobile business. In Costa Rica, the government now passed law to allow competition in the 2 MORGAN JOSEPH & CO. INC.

3 telecommunications industry. MICC has already spent time and energy in exploring a Costa Rica license. We expect this combination with a local cable operator to present an opportunity for MICC to enter the market leveraging its existing leading mobile operator position. We also note that Costa Rica is the only country in Central America where one cannot get a cellular telephone. Understandably, Costa Ricans complain that the lack of availability is a huge impediment to business and efficiency. Central America is moving closer to full cellular penetration; new strategy is in place. The recent announcement of lower than expected sub growth suggests to us that the market is getting close to full penetration. However, we expect stronger subscriber growth in 3Q08. Therefore, Millicom is seeking more affluent customers in Central America who are seeking a wide range of non-voice services and independent research suggests that subscriptions for fixed broadband in Central America should grow by a CAGR of above 24% and mobile data by over 18% from With Tigo's launch of 3G in late August, customers are starting to use mobile broadband as new VAS services. But as they use a greater number of services, they look for higher speeds and quality, and therefore, broadband in the home becomes an important complimentary service to 3G. The reality is that today's wireless broadband cannot deliver the same capacity and performance as fixed broadband given the capacity in the wireless system is always shared between all users in a cell. Interference with wireless is greater and for indoor coverage, wireless suffers degradation from the walls. Although wireless systems should improve with HSBA and LTE, the reality is that once installed, the marginal costs of ascending traffic will always be lower on the fixed network. The recognition of this fact has led European wireless operators to buy fixed infrastructure and the same dynamics are at play in Central America. Millicom has recognized this change in customer aspirations and the need to be in the home as well out on the street. Millicom launched its 3G network during August in Guatemala, Honduras, and Bolivia and the launches in Paraguay, El Salvador, and Colombia should occur before the end of this year, completing the roll-out of 3G across all six of its markets in Latin America. Millicom is expected to provide the full portfolio of 3G services including high speed mobile broadband, Internet access for mobile customers via laptop, TV on mobile handsets, music and video downloads, and video calling. Further, though Central America is clearly maturing for traditional cellular voice service, we believe growth in South America, Africa, and Asia should allow Millicom to continue to expand rapidly. In sum, we believe continued technology advancement, value-added service rollout, and increased broadband penetration should be key drivers of Central American growth going forward by providing access to content using an open platform with the mix of 3G, Amnet, and IP networks. 3 MORGAN JOSEPH & CO. INC.

4 Millicom International Cellular S.A. - Quarterly and Annual Income Statements ($ in millions) December 1Q07 2Q07 3Q07 4Q Q08 2Q08 3Q08E 4Q08E 2008E 2009E Total Revenues $562.7 $613.4 $686.4 $768.2 $2,630.6 $800.7 $842.5 $892.4 $947.6 $3,483.2 $4,259.0 Yr/Yr Change in Revenue 74.6% 69.6% 70.5% 41.3% 61.4% 42.3% 37.4% 30.0% 23.4% 32.4% 22.3% Qtr/Qtr Change in Revenue 3.5% 9.0% 11.9% 11.9% NA 4.2% 5.2% 5.9% 6.2% NA NA Cost of Sales (150.7) (164.3) (173.4) (201.2) (689.6) (202.6) (207.2) (225.8) (241.6) (877.2) (1,132.9) Gross Profit , , ,126.1 Gross Margin 73.2% 73.2% 74.7% 73.8% 73.8% 74.7% 75.4% 74.7% 74.5% 74.8% 73.4% Sales and marketing (92.9) (106.0) (131.1) (159.3) (489.3) (165.5) (175.3) (183.8) (195.2) (719.9) (724.0) % of Sales 16.5% 17.3% 19.1% 20.7% 18.6% 20.7% 20.8% 20.6% 20.6% 20.7% 17.0% General and administrative (71.1) (80.5) (85.9) (100.4) (337.8) (96.2) (107.9) (109.8) (113.7) (427.6) (545.1) % of Sales 12.6% 13.1% 12.5% 13.1% 12.8% 12.0% 12.8% 12.3% 12.0% 12.3% 12.8% Total SG&A Expenses (314.6) (350.8) (390.4) (460.9) (1,516.8) (464.3) (490.4) (519.4) (550.6) (2,024.6) (2,402.1) Other operating income EBITDA $248.1 $262.5 $296.0 $307.3 $1,113.9 $336.4 $352.1 $373.0 $397.1 $1,458.6 $1,856.9 % of Revenues 44.1% 42.8% 43.1% 40.0% 42.3% 42.0% 41.8% 41.8% 41.9% 41.9% 43.6% Change in EBITDA Yr./Yr. NE 67.6% 65.6% 34.1% 57.6% 35.6% 34.1% 26.0% 29.2% 30.9% 27.3% Corporate Costs Stock Comp Expenses Depreciation and Amortization Gain on sale of operating assets 0.0 (0.5) (0.5) 0.0 (1.3) (1.3) 0.0 Other Income, net (0.1) 0.0 (0.1) (26.5) (26.7) (0.9) (0.9) 0.0 Operating Income (expense) $154.9 $160.0 $194.1 $153.9 $662.9 $207.3 $205.7 $226.5 $246.6 $886.0 $1,186.4 Operating Margin 27.5% 26.1% 28.3% 20.0% 25.2% 25.9% 24.4% 25.4% 26.0% 25.4% 27.9% Valuation movement on investment in securities Fair value result on financial instruments 0.0 Interest (Expense) (39.1) (40.3) (42.5) (72.5) (194.4) (43.9) (42.2) (45.0) (45.0) (176.1) (200.0) Interest and other income Other Income (expense) Pretax Income $385.6 $136.5 $169.2 $107.0 $798.3 $186.9 $172.3 $194.9 $215.4 $769.5 $1,035.1 Income Tax (47.7) (39.9) (34.6) 35.2 (87.1) (41.9) (64.7) (58.5) (64.6) (229.7) (310.5) Net Income $337.8 $96.6 $134.5 $142.2 $711.2 $145.1 $107.5 $136.4 $150.7 $539.8 $724.5 Minority Interest (29.5) (14.1) Net income(loss) $345.2 $101.6 $137.6 $112.7 $697.1 $158.1 $131.9 $146.4 $160.7 $597.2 $764.5 EPS (weighted average) $3.43 $1.01 $1.36 $1.11 $6.90 $1.48 $1.22 $1.35 $1.48 $5.53 $7.02 EPS (fully diluted) ($) $3.24 $0.98 $1.27 $1.08 $6.58 $1.46 $1.22 $1.35 $1.48 $5.50 $6.98 EPS Growth 877.0% 192.7% 145.9% 120.5% 292.7% -55.0% 24.3% 5.8% 36.6% -16.3% 26.8% Shares (weighted average) Shares (fully diluted) Source: Company reports and Morgan Joseph & Co. Inc. estimates 4 MORGAN JOSEPH & CO. INC.

5 Required Disclosures Rating and Price Target History for: Millicom International Cellular (MICC) as of /17/06 I:Buy:$90 02/15/07 Buy:$104 10/24/07 Buy:$130 07/23/08 Buy:$ Q3 Q1 Q2 Q3 Q1 Q2 Q3 Q1 Q2 Q Price Target Our price target is $105. Created by BlueMatrix Valuation Methodology Our Buy rating and $105 price target are based on both competitive multiple and free cash flow yield analysis. We currently forecast EBITDA growth of 30.9% in 2008, excluding the share of the company's Colombian partner. Based on our estimates, shares currently trade at a 2009E TEV/EDITA multiple of 5.3x. Our $105 price target reflects a 2009E TEV/EBITDA multiple of 7x, which we believe is reasonable given the clear, in our view, EBITDA growth outperformance for Millicom. Risk Factors The company operates in several countries that experience relative political instability. Widespread global operations expose Millicom to a significant amount of foreign currency risk. Emerging markets carry various economic risks. The environment for telecommunications services in Millicom's markets is intensely competitive. Millicom has significant outstanding debt. The company has a significant investor that effectively controls its management and strategic planning. Millicom's board of directors has several members who hold director or executive positions at Kinnevik and/or Tele2. 5 MORGAN JOSEPH & CO. INC.

6 Rating and Price Target History for: Liberty Global Inc. (LBTYA) as of /28/07 Buy:$35 05/10/07 Buy:$ Q3 Q1 Q2 Q3 Q1 Q2 Q3 Q1 Q2 Q Created by BlueMatrix I, David Kestenbaum, the author of this research report, certify that the views expressed in this report accurately reflect my personal views about the subject securities and issuers, and no part of my compensation was, is, or will be directly or indirectly tied to the specific recommendations or views contained in this research report. I, Heather Hou, the author of this research report, certify that the views expressed in this report accurately reflect my personal views about the subject securities and issuers, and no part of my compensation was, is, or will be directly or indirectly tied to the specific recommendations or views contained in this research report. Research analyst compensation is dependent, in part, upon investment banking revenues received by Morgan Joseph & Co. Inc. Morgan Joseph & Co. Inc. intends to seek or expects to receive compensation for investment banking services from the subject company within the next three months. Investment Banking Services/Past 12 Mos. Rating Percent Percent BUY [B] HOLD [H] SELL [S] Meaning of Ratings A) Buy means reasonable outperformance relative to the market over months. B) Hold means market-type risk adjusted performance; potential source of funds. C) Sell means expected to underperform the market. Other Disclosures The information contained herein is based upon sources believed to be reliable but is not guaranteed by us and is not considered to be all inclusive. It is not to be construed as an offer or the solicitation of an offer to sell or buy the securities mentioned herein. Morgan Joseph & Co. Inc., its affiliates, shareholders, officers, staff, and/or members of their families, may have a position in the securities mentioned herein, and, before or after your receipt of this report, may make or recommend purchases and/or sales for their own accounts or for the accounts of other customers of the Firm from time to time in the open market or otherwise. Opinions expressed are our present opinions only and are subject to change without notice. Morgan Joseph & Co. Inc. is under no obligation to provide updates to the opinions or information provided herein. Additional information is available upon request. 6 MORGAN JOSEPH & CO. INC.

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