A Telecom That Moves to a Latin Beat

03/17/2009 11:29 am EST

Focus: STOCKS

Nikhil Hutheesing, editor of Forbes Wireless Stock Watch, says Spanish telecom company Telefonica has good management and exposure to growing Latin America.

Telefónica (NYSE: TEF), one of the largest telecom companies in the world, offers service in 25 countries and has more than 252 million customers altogether [in] mobile phone, fixed telephony, Internet and data, and television programming.

While Spain's economy has been one of the most aggressively hit in Europe, the company has grown over the past few years through acquisitions. More than 60% of Telefónica's income comes from outside Spain.

Telefónica entered the Latin American market in the 1990s, and now provides services there to more than 150 million customers. Many of Telefónica's Latin American subsidiaries operate in countries where there continues to be strong secular growth that should dampen much of the impact from the macroeconomic slowdown.

In fact, Latin America is still relatively small as a regional telecom service market, accounting for only about 10 percent of total global revenues. But a combination of large size and population, economic resources and growth, and growing telecom liberalization and investment are moving the market forward.

On February 26th, the company announced that in the fourth quarter, its net profit rose to two billion euros ($2.54 billion), from 1.06 billion euros in the same period one year ago. Revenue also increased by 2.6% to 14.8 billion euros, mostly due to growth in Latin America. It expects earnings to rise by just 2% [this year]—much lower than the approximate 8% the company had anticipated earlier.

Telefónica has traditionally traded at an enterprise-value-to-EBITDA (earnings before interest, taxes, depreciation, and amortization) premium to other European telecom companies. Recently, however, that premium has disappeared due to the weak Spanish economy, investor sentiment toward emerging market telecom assets, and the strength of the euro relative to various Latin American currencies and sterling.

[But] in many respects, Telefónica is fundamentally much better off than many other companies. Net debt [is] 1.7x expected EBITDA for 2009, compared to about two times for the industry average. Because Telefónica is not as highly leveraged as its competitors, the company can increase shareholder returns should it wish to. [Also,] Telefónica's management team has significant holdings in the company.

Shares of Telefónica currently trade at eight times expected earnings per share for 2009. That compares to Verizon at 12.6x, AT&T at 11.2x, and Deutsche Telekom at 63.1x.

Telecom could be a driver of economic recovery and if it is, Telefónica is well positioned. The company has good financials [and strong stakes] in emerging markets that are expected to outperform developed markets. Plus, it is moving aggressively to beef up its product offerings and grow its subscribers organically.
 
Given [all that] and its good financial position, I think it’s fair to value the company at an expected P/E of 11x, giving us a 12-month price target of $77 per share. (It closed Monday at around $58—Editor.)

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