Telus ready for new competitors

Three new wireless providers (Globalive, DAVE Wireless and Public Mobile) will probably enter the Canadian market next year. This will undoubtedly put pressure on Canada’s three existing wireless carriers, including Telus.

However, Telus has dealt with strong competition from wireless and cable companies for years. For example, last year it launched Koodo, a new discount cellphone service, to attract younger users. The company has also upgraded its networks to handle a wider variety of cellphones, including Apple’s hugely popular iPhone. New TV services should also help Telus hang on to many of its traditional phone and wireless customers.

Moreover, Telus’s high dividend yield should attract more investors as income trusts convert to corporations, or cut their distributions once Ottawa starts taxing them in 2011.

TELUS CORP. (Toronto symbols T $34 and T.A $32; Conservative Growth Portfolio, Utilities sector; Shares outstanding: 318 million; Market cap: $10.5 billion; Price-to-sales ratio: 1.1; SI Rating: Above Average) is Canada’s second-largest telephone company after BCE Inc. (Toronto symbol BCE).

Telus has been expanding its wireless operations over the past few years. As a result, the company now gets 55% of its earnings from its 6.3 million wireless subscribers across Canada. Telus has 37% of the wireless market. Market leader Rogers Communications Inc. (Toronto symbol RCI.B) has 48%.

The remaining 45% of Telus’s earnings comes from its traditional phone business, which has 4.1 million customers in British Columbia, Alberta and eastern Quebec. It also has 1.2 million Internet subscribers.

Telus’s revenue climbed 27.3%, from $7.6 billion in 2004 to $9.7 billion in 2008, mainly on rising wireless demand. Earnings rose from $1.57 a share (or a total of $565.8 million) in 2004 to $3.76 a share (or $1.3 billion) in 2007.

In 2008, Telus’s earnings fell to $3.51 a share (or $1.1 billion). This was mainly because the 2007 figure included a $105-million gain related to a change in the way Telus accounts for stock options. As well, the company took on more debt to finance two purchases in 2008: it paid $882 million for new wireless frequencies, and $743 million for Emergis Inc., which sells computer services to hospitals and businesses. The extra interest from these borrowings weighed on Telus’s earnings.

Slow economy hurt cellphone demand

The recession has hurt growth at Telus’s wireless division. In the second quarter of 2009, it added 111,000 new subscribers (net of deactivations). That’s 36.8% fewer than the 175,600 it added a year earlier. However, the year-earlier quarter included the launch of Koodo, a low-priced cellphone service aimed at teens and young adults. Telus feels that Koodo users will likely stay with the company when they upgrade their phones and service plans.

Rising competition from smartphones, which let users send and receive email and access the Internet, has also hurt demand for Telus’s “Mike” two-way radio service. Using Mike, businesses can instantly communicate with employees in remote locations, such as truck drivers.

However, the long-term outlook for Telus’s wireless business remains strong. Only two-thirds of Canadians use cellphones, so there is lots of room for growth. As well, many users are upgrading from cellphones to smartphones. About 22% of Telus’s wireless customers now own a smartphone. That’s good news for the company, since Internet traffic is rising faster than regular phone calls.

Telus is aiming to slow the loss of its traditional phone customers to cable companies by offering new services. To this end, it has signed a new deal with BCE that lets Telus offer BCE’s satellite-TV service to its customers in western Canada. Telus is also expanding its own TV service (called Telus TV), which uses high-speed Internet technology to transmit signals over existing telephone wires.

Job cuts will lower costs in 2010

In response to slowing revenue, Telus plans to cut 1,500 jobs, or 4% of its workforce, by the end of this year. The company did not reveal how much these cuts would save it, but it expects to pay $150 million in severance and other costs.

Telus will probably spend $2.05 billion on capital expenditures this year, up 10% from $1.9 billion in 2008. The company will put a big part of this spending toward upgrading its networks with fibre-optic cable. This will greatly improve the speed of Internet downloads, and let it offer Telus TV in more markets.

Telus has also teamed up with BCE to upgrade both companies’ wireless networks to handle the global system for mobile communications (GSM) standard, which most of the world now uses. Starting in November, this will let both firms capture more roaming fees from foreign tourists and business travellers who use GSM phones (including the iPhone) while they are in Canada.

Telus can comfortably afford these investments. It will probably generate cash flow of around $2.9 billion, or $8.75 a share, in 2009. Its $6.1-billion long-term debt is a manageable 58% of its market cap, so it has room to borrow more if needs to.

Dividends just 21% of total cash flow

The company’s $1.90-a-share dividend, which has an annual yield of 5.6% (5.9% for the class “A” non-voting shares), seems safe. Dividend payments should total $600 million this year.

Telus will probably earn $3.40 a share this year, and the stock trades at a low 10.0 times that estimate (or 9.4 times for the class “A” shares). Savings from its restructuring plan should lift its 2010 earnings to $3.65 a share. That gives it a p/e ratio of just 9.3 (or 8.8 for the class “A” shares).

Telus is a buy. The cheaper class “A” non-voting shares are the better choice.