Kazakhtelecom: results for 3Q2017 and rating upgrade to "BB+"

Andrey KozhokaruOctober 31, 2017

In 3Q2017 the Company increased its revenue by 3.2% y/y due to the compensation for the provision of services in rural areas. For the reporting period, Kazakhtelecom got the profit of KZT327mn from JV with Tele2. S&P raised the Company's rating to "BB+" with a "Stable" outlook.    

In 3Q2017 the total revenue was KZT55 856mn, which represents an increase of 3.2% y/y. While revenue from core activities amounted to KZT50 770mn (-3.3% y/y), the increase in total revenue was due to the Company's being compensated for the provision of services in rural areas, which amounted to KZT5 085mn in 3Q2017 against KZT1 606mln in 3Q2016. In connection with the changes introduced to the tender’s procedures for the determination of the operator of universal services in rural areas, the agreement on subsidization was concluded in 3Q2017. Taking into account fulfillment of Kazakhtelecom's obligations, corresponding subsidies were received.

In the reporting period, Kazakhtelecom significantly reduced the cost of sales to KZT33 480mn (-8.5% y/y). The main reduction was due to lower costs for the rent of base stations, which equaled to KZT1 578mn (-64.4% y/y). The Company's operating profit increased by 38% y/y to KZT18 160mn. For 3Q2017, Kazakhtelecom got a profit in a dependent organization (JV with Tele2) of KZT327mn against loss of KZT3 785mn a year earlier. The total loss for 9M2017 for the Joint Venture reached KZT5 380mn (the share of Kazakhtelecom is 51% or KZT2 744mn), but for 3Q2017 the joint venture generated KZT26 663mn in revenue (+ 15.7% y/y), with operating expenses of KZT23 220mn (-13.1% y/y) and non-operating expenses of KZT2 821mn (-17.7% y/y), which allowed to generate a KZT640mn profit. In 3Q2017 the net income of Kazakhtelecom was significantly influenced by net foreign exchange gains of KZT2 368mn against losses of T517mn in 3Q2016 and by the increase in other expenses to KZT1 167mn against KZT139mn a year earlier. The increase in other expenses was due to the write-off of certain fixed assets in connection with a technological obsolescence. As a result, the Company's net profit for the quarter increased almost 2.4 times y/y to KZT16 123mn.

 Considering Company’s financial results for 9M2017, a trend similar to the quarterly one can be spotted, but with less pronounced dynamics. For 9M2017 Kazakhtelecom’s revenue (excluding compensation for services in rural areas) was KZT151 212mn (+2.2% y/y), the cost of sales was KZT98 575mn (+1.2% y/y), operating profit reached KZT42 681mn (+6.75% y/y), and the Company's net profit from continuing operations increased by 50% y/y to KZT32 338mn. Considering the Company's revenue in the context of its sources, for 9M2017, revenue from data transmission services were KZT79 114mn (+4.4% y/y), revenue from provision of wireline phone services amounted to KZT36 607mn (-9.1% y/y), revenue from rent of channels equaled to KZT14 730mn (+24.5% y/y), revenue from interconnect equaled to KZT11 840mn (-16.4% y/y), and other revenue amounted to KZT8 922mn (+51.4% y/y). In the context of the Company's cost of sales, for 9M2017, changes were observed in depreciation and amortization expenses, which amounted to KZT26 668mn (+ 3.5% y/y), expenses on the rent of channels decreased to KZT5 470mn (-6.9% y/y), expenses on the rent of base stations amounted KZT5 047mn (+13.6% y/y) and interconnect expenses decreased to KZT4 695mn (-18.3% y/y). The cost of materials increased to KZT4 095mn (+14.5% y/y) and the cost of content increased to KZT3 786mn (+15.7% y/y). For 9M2017 a significant portion of the cost of sales, represented by staff costs (36.7%) increased correspondingly to the parent indicator by 1% y/y to KZT36 179mn.

On October 30, S&P upgraded Kazakhtelecom's rating from “BB” to “BB+”, changing the outlook from “Positive” to “Stable”. The Agency noted the improvement in Company's margins for 9M2017 and the continuation of stable financial and operating results, which will positively affect the Company’s debt/EBITDA ratio. Rating Agency highlighted improvements in the performance of the JV with Tele2, as one of the drivers for the rating upgrade. S&P also mentioned, as a positive factor, the full advance repurchase of indexed coupon bonds in October by Kazakhtelecom, which should contribute to the strengthening of the Company's financial profile.

Our opinion:

Looking at quarterly results, we note a significant variation in the Company's income and expense articles, which in part could be attributed to the business model and changes in market-based service offerings. The Company generates main portions of its revenue from data transmission services (52.3%) and from the provision of wireline phone services (24.2%) according to data for 9M2017. Given the current dynamics, the actual annual results for the two main revenue articles may be slightly below our expectations for 2017, while revenues from interconnect and rent of channels are likely to exceed our annual forecast. The important positive factor for Kazakhtelecom in 3Q2017 results is the profit from JV with Tele2. Given the above, as well as the current price of the Company's shares, we put our Hold recommendation and the 12M TP on review.