Mobile TeleSystems Public Joint Stock Company
Q1 2018 Earnings Call Transcript

Published: 24 May 2018

[Joshua Tulgan:]

Thank you. And welcome everyone to today's call to discuss the Company's First Quarter 2018 Financial and Operating Results. Thank you for joining us a bit earlier than usual, and we apologize for the technical difficulties and hope everybody has found their way into our call. Before we begin, as usual, I have to remind everybody that except for historical information, any comments made in this call could constitute forward-looking statements. Important factors could cause the actual results to differ materially from those contained in our projections or forward-looking statements. These, in turn, imply certain risks, a thorough discussion of which are available in our annual report and Form 20-F or the materials that we've distributed today. MTS disavows any obligation to update any previously made forward-looking statements spoken on this conference call or make any adjustments to previously made statements to reflect changes in risks. Copies of the presentation and materials used and referenced in this conference call are available on our company website. And now I have the pleasure of presenting MTS' President and Chief Executive Officer, Mr. Alexey Kornya.

[Alexey Kornya:]

Ladies and gentlemen, thank you for joining us today in the conference call to discuss the Company's financial and operating results for the first quarter 2018. Joining me to discuss our results are Kirill Dmitriev, Vice President, Sales and Customer Services; Vyacheslav Nikolaev, Vice President, Marketing; Andrei Smelkov, Vice President, Foreign Subsidiaries; and Andrey Kamensky, Vice President, Finance, Investments and M&A. Before we begin, let me remind everyone that MTS has adopted new IFRS standards from January 2018. New requirements govern the reporting of customer contracts, leases and financial instruments. Nevertheless, MTS will be presenting our results under these new standards, while for the sake of comparison, you will also see pro forma results without the effect of the new standards. The historical numbers remain unchanged. Today, we will reference both figures to support our conversation. Q1 proved to be another strong quarter for the group. Revenue increased 3.1% to RUB107.9 billion, including the effect of new IFRS standards. We witnessed strong underlying performance in all our markets of operation as increasing consumptions of virtually all products drove growth. Trends we have seen previously continued to drive usage of higher-margin products, which translated into sustained OIBDA growth of 24.6% to RUB52.1 billion. Obviously, this was aided by new IFRS standards. But on a like-for-like basis, we still saw representative OIBDA of RUB44.6 billion, which translates to 6.5% growth. Overall, our OIBDA margin has now reached 48.3% under new IFRS standards. Now I'll turn the call over to Vyacheslav and Kirill who will give comments on our business unit performance.

[Vyacheslav Nikolaev:]

Thank you. Thank you, Alexey. For the period, we saw strong top line performance in Russia as revenue increased 4% to RUB101.1 billion. As Alexey mentioned, we continue to see positive trends, which continue to sustain business and consumer sentiment. On the back of an improved pricing environment, we saw growth in usage among existing customers while new customers are showing higher ARPUs than previously. Fixed-line revenue in Russia declined slightly year-over-year to RUB15.1 billion. In Moscow, the B2C home Internet and pay TV segments remained strong as our market share for broadband Internet and pay TV in Moscow reached 35% and 40%, respectively. Approximately 1.9 million Moscow households now use our GPON services. We realized our first revenues from our entry into two prospective segments, e-gaming and e-ticketing. We acquired Gambit, our e-gaming platform in December, while Ponominalu and Ticketland were acquired in January and December and February, sorry. So far, the contribution is small, but we are actively working to enhance our customer services and leverage full synergies throughout the market. In Ukraine, we realized modest growth of 2.1% as in Q1 as revenues reached UAH 2.9 billion. Organically, we continue to see strong take up in our 3G data products, which bodes well as we are already deploying LTE in the market. However, for technical reasons, we were unable at times to provide service in parts of Eastern Ukraine during the period, which negatively impacted our revenue performance. Now I'll turn to Kirill who will speak on handset sales.

[Kirill Dmitriev:]

Thank you, Vyacheslav. A stronger contributor to revenue growth in Russia has been handset sales, which increased steadily for the past three quarters. In Q1, we saw a 7.9% increase in revenue from handset sales. In fact, this is reflective of the greater market. In Q1, Russians bought roughly 6.9 million smartphones, spending nearly RUB 95 billion, an another 25% increase year-over-year. In contrast to previous years, the fastest-growing category over the past 12 to 15 months is the mid- to higher-priced smartphones, costing at least RUB 30,000 or roughly $500. Consumer confidence plays a part in this. Another factor that drives handset sales is availability of different options to finance a purchase. Customers can easily apply for online loan on our MTS shop website. In fact, it is quite popular. The repeat purchase in Q1 was made with the support of point-of-sales financing options. Customers can also choose an installment payment option. Plus, we are developing trading and cashback options for certain mobile devices, which allow customers to realize extra financial benefits. In addition to this, customers are keen to acquire better devices as traditional communications products become more entertainment driven. Last summer, we concluded an agreement with Apple to recommend the sale of iPhones in our stores. Coupled with our long-standing relationships to Samsung as well as the historical success of our MTS-branded devices, we can offer a comprehensive product portfolio to both model-conscious customers as well as those seeking the latest technical wizardry. This ongoing evolution is a key factor in determining our product strategy and the ways in which we have engaged our customer. My MTS application continues to rise in popularity, and we are focused more on the customer experience. We are actively using My MTS for mobile sales based on big data algorithms and offering our subscribers personalized device recommendations. We see good on the results. In Q1, our sales through My MTS tripled while total online sales reached RUB 1.1 billion for the period. Now Andrey Kamensky will discuss the group's financial position.

[Andrey Kamensky:]

Thank you, Kirill. The Russian market continues to deliver strong OIBDA performance. In the first quarter, our OIBDA grew by 25.6% to RUB 49.6 billion. On a like-for-like basis, Russia demonstrated a strong 7.8% growth, fueled by amplifying data consumption and our continuing cost discipline. In Ukraine, OIBDA increased by 17.6% up to UAH 1.5 billion. Without impact of new IFRS standards, OIBDA slightly declined by 0.4% as a result of network issues we experienced in certain territories in the East of Ukraine. In addition to this, we launched our proprietary retail in the middle of last year, which negatively impacted our OIBDA in the first quarter of this year. As for MTS foreign assets, we continue to see positive results supported by new IFRS standards. In Armenia, we realized the OIBDA of AMD 6.5 billion, which is a 22.5% growth year-over-year on a like-for-like basis. OIBDA in Armenia increased 10.8%. Belarus continues to enjoy double-digit growth. For the first quarter, OIBDA grew by 35.7% to BYN 107.9 million. On a like-for-like basis, OIBDA in Belarus rose 14.8%. Group net profit for the period increased by 23.6% to RUB 15.4 billion, mainly as a result of a strong OIBDA growth. Our CapEx and cash flow dynamics are currently in line with our expectations for the year. In March, MTS made a partial early repayment of the 10-year credit facility secured in 2009 and backed by Sweden's Export Credit Agency, EKN, in the amount of $224.7 million. Later in the same month, we issued two series of RUB 10 billion exchange-traded bonds, each with a semiannual coupon rate of 7.10% and 7.25% and a maturity of 3.5 and seven years, respectively, on MOEX. These efforts showcase our ongoing efforts to optimize our debt portfolio by seeking timely opportunities to finance our debt while mitigating risks such as currency exposure. Overall debt levels are consistent with previous periods, and we do not anticipate major changes to our balance sheet metrics. In April, the Board of Directors recommended to the Annual General Meeting that the company pay out dividend of RUB 23.4 per share or a total of RUB 46.76 billion based on the full year 2017 financial results. This is in line with our policy of providing up to RUB 26 per share return to the investors. Now I return back to Alexey. Thank you.

[Alexey Kornya:]

Investors have long asked about the impact of so-called Yarovaya law on our business and our outlook. On April 12, 2018, the Russian government finally adopted the law, which governs the data storage decree requirements. Telecom operators are now directed to store voice and SMS communications beginning from July 1, 2018, and data communications from October 1, 2018. Operators are required to store data for up to six months, all of which will require investments in storage capabilities. Our preliminary view is that compliance with the law could result in an additional investment of up to RUB 60 billion over the next five years. Recall that the scale and scope of MTS communications network differ from our primary competitors. Our increasing weights of GPON users in Moscow will likely require a significant portion of this investment. How this will impact our 2018/2019 CapEx guidance is yet to be fully determined. The procurement process for the additional investment has not yet concluded, so we believe it is prudent to revisit our CapEx forecast during our disclosure of second quarter financial and operating results in August. We also will for now hold off on revisiting our revenue and OIBDA guidance and prefer instead to wait until our next reporting period. Our performance in first quarter was ahead of our forecast, but this was expected. Many of the factors which could negatively impact either revenue or OIBDA have yet to be realized. These include changes in policies governing internal roaming in Russia, the elimination of reduction of which could be impact both on revenue and OIBDA; spectrum fees in Russia, which are scheduled to increase this year; and expected increase in salaries after holding off last year. Each of these factors would be expected to impact our performance as early as second quarter. Therefore, it made sense for us to hold off on any revision to our outlook. Overall, however, considering competitive factors, regulatory challenges and strategic decisions we will be taking, our underlying performance should be seen as quite strong.

[Joshua Tulgan:]

Okay. Operator, with that, we'd like to open the call to questions.

[Operator:]

[Operator Instructions] We can take our first question from Alex Kazbegi from Renaissance Capital. Please go ahead. Your line is open.

[Alex Kazbegi:]

Alex Kazbegi from Renaissance. A couple of questions from me, please. First one, I just wonder if you could comment on what is your outlook on, so to say, retail development given again that some of the legal decisions have been passed by your competitors. Plus, Euroset has been split. There's a new entity which is Svyaznoy. Does that alter the overall view and your expectation of what could happen with overall, so to say, point of sales in the retail over the next six to nine months? Related to that, maybe a question on the gross margins in your handsets and accessories. I saw that they were actually consistently going up but, again, declined now year-on-year and quarter-on-quarter. And I wanted just to get a feel, given again the higher purchasing average price for the handsets, which has happened there, why you would expect this margin to go further up and what was the reason behind it and whether this is something which we need to extrapolate. I guess you probably would not be ready to comment how much of Yarovaya is in your 160 billion and probably defer that to the next call. So then I would just ask a question about the 7.2 billion, which was a net impact on EBITDA from the IFRS, I see about 1 billion in your investment cash flows, which comes from basically the contract and about 3.2 billion in your financing activities from lease obligations being capitalized. Where is the other 3 billion then? Maybe I'm just missing something, but maybe you can clarify that. That's it.

[Alexey Kornya:]

Yes. Alex, thank you for your questions. A few words on retail development. We do not see any particular improvement on this field. Even though this fleet of newer handsets can be considered completed, we don't see a significant reduction in number of stores. We don't see that the capacity of retail is being scaled down. And for that reason, we think that the competition can intensify towards the second quarter, speaking about margin. And on the second, we do not plan any reduction of our retail network until the year-end, at least at this point of time, until we see real improvement in retail and in distribution. Very simple calculation gives an idea that Svyaznoy right now represents, after the split of Euroset, about 5,000 point of sales, between 4,000 and 5,000. And then we have maybe a [Indiscernible] network together with branches about 4,000. So altogether, that adds up to 8,000 point of touch with the customers, while our network is 5,500. So we think that in this sense, the competition holds much higher capacity in distributions than we'll do. And in certain sense, we see it is not very stable situation in the market until we'll see more direction towards parity in distribution. That's the few words on distribution. And on Yarovaya, I will -- no, we will not be we are not in the position to give the exact numbers of Yarovaya law, which are already commentated within our RUB 160 billion CapEx guidance. But it is a relatively small portion of the total CapEx requirements.

[Kirill Dmitriev:]

Second question. Alex, as regarding the first point Alexey has provided, I believe a profound comment on the current state of things. We definitely see that the process of divorce between the former co-owners of Euroset is coming to an end, but we don't see any obvious signs that the retail landscape is optimizing. So we will be keeping an eye on it and actually probably see any potential changes towards the end of the year, again, taking into consideration the state of things in the landscape of retail. Regarding the point two, your question about the gross margin, which has declined in Q1 quarter-over-quarter and year-over-year. First of all, it doesn't make much sense to my mind to compare Q1 and Q4 results since the Q4, we -- normally, all the retail in Russia normally enjoys the seasonal growth, especially those dates before the new year time. So this is a very natural thing. Regarding the year-over-year results, we simultaneously see the growth in revenues and slight decline in relative marginality. This is caused foremost by the change in our vendor structure in our sales last year. We didn't have Apple in such amounts as we currently have. So nowadays, Apple comprises quite a big chunk of our sales of handsets naturally, which drive some accessory sales and so on and so forth. But relatively, we see the slight decline in marginality, which is partly compensated by the accessories growth, which we see. Well, overall, it's partly caused also by the market dynamics since in Q1, the Russian market in revenue-wise, the handset market revenue-wise grew quite significantly, about 20%, as we mentioned before. So these are most conditional reasons we have the rebalanced portfolio. And again, I think towards the end of the year, we will see a more stable situation. Thanks.

[Operator:]

We can take our next question.

[Joshua Tulgan:]

I'm sorry.

[Operator:]

Sorry, go ahead, sir.

[Joshua Tulgan:]

Operator, hold. Operator, we have one more question to answer.

[Andrey Kamensky:]

Yes, there was a question about impact on EBITDA of the new IFRS standards. And there's a net, there was an impact of RUB 7.6 billion. And it's, the major part of it relates to the operational rent, which before, that was in OIBDA, and now it is capitalized. We actually recognize it as both assets and liabilities on the balance sheet. And that's the major process. That's the rental both for base stations and our stores. And then part of it relates to the IFRS 15, which relates to the revenue, which also have to do with the commissions that we are receiving from our dealers, that we are paying to our dealers, sorry. So that's the impact on EBITDA.

[Operator:]

We can now take our next question from Ivan Kim from VTB Capital. Please go ahead.

[Ivan Kim:]

Two small questions for me, one on interregional roaming. So that has been eliminated, right? So any update on that with the current state of things? And secondly, you mentioned before the third quarter your content revenue going up as a factor for 2018, which will negatively affect revenues and EBITDA, but you don't mention it anymore. So it's -- I just wanted to ask whether you reconsidered some things here.

[Alexey Kornya:]

Seems that those questions are two, for me and Vyacheslav. With, first of all, with interregional roaming, we're actually finishing changing all the tariff plans so that any person traveling within Russia would be able to communicate in the roaming region according to the tariffs that are similar to these home tariffs. The only thing that is being paid for is interregional call, which is perfectly legal and which is actually the perfect scheme that we see. Of course, we continue to discuss this matter with authorities, and we still think that we will come to an agreement at the end of the day. So on this area, that's, nothing else is happening. On the third-party content revenue, we actually doubt that negative impact. Without it, our results would be even better. And we will stop talking about it because the decision was made mid-last year, and now we are just absorbing this in our balance sheet. But yes, it continues to go down month-after-month.

[Operator:]

Thank you. We can take our next question from Alexander Vengranovich from Sova Capital. Please go ahead.

[Alexander Vengranovich:]

So I have a question regarding the current competitive situation on the market. So in the first quarter, I think some of your competitors launched basically some different tariff options, which provided an opportunity for the customers to make some amendments to the volume of the data included in the tariff and exchange of data into voice and vice versa. So can you please tell us whether it really affects the market situation anyhow? Do you feel that there is some pressure on the tariffs, which is happening currently? Or currently, this is not a concern, and the biggest concern to you falls into the development of the retail network?

[Vyacheslav Nikolaev:]

Actually, in Q1, we introduced a tariff plan that allows you to choose the amount of data and amount of minutes and SMS to comprise your own tariff. This is actually even more advanced than exchanging minutes to data and vice versa because in the latter case, you have to look after your tariff end of every month. But in general, I don't see the level of ARPUs in the market changing. And there are new tariff plans, there are new options, but you can see, as our revenues grow and subscriber base is going slightly down, you can see that ARPUs are going up. They're not going down. So we see this market -- we still see this market as a healthy market, and we are not anticipating any significant price floors.

[Operator:]

Thank you. We will take our next question from Herve Drouet from HSBC. Please go ahead.

[Herve Drouet:]

Two questions. So first one, on the CapEx, I mean, compared with last year, I mean, it looks like the seasonality is a bit higher. I was wondering, is it connected with CapEx in data storage you have started to put? Or it's something which is different, and you haven't really -- I mean, it's not yet included yet in your CapEx number as of Q1? So I was wondering why this year, we see a bit more intensity on the CapEx side compared with previous year. And the second one is on the share repurchase. I mean, you've done quite a lot of share repurchase during Q1 this year. Is there an attempt of the company, if we see some emerging market weakness globally, to accelerate potentially the share repurchase scheme you currently have over those three years period? Or do you think it's going to be something relatively linear around the -- your targeted period?

[Alexey Kornya:]

On CapEx, we -- our guidance implies certain growth in CapEx towards last year. And as we said, RUB 160 billion is the two-year CapEx guidance, and we expect the spend being a bit skewed towards the first year. So in this sense, we are moving fully in line with our expectations and, as we can see, with our guidance. And this is not related to Yarovaya law. As far as share repurchase is concerned, this could be considered. However, nothing on the table right now.

[Herve Drouet:]

All right, okay. And just if I have follow-up questions on the CapEx side. If it's not yet the Yarovaya law, which may expand your CapEx, I mean, could you give a bit more light in terms of where do you more investment coming in, either particular segments where the investments have accelerated on the investment side, on the CapEx side?

[Alexey Kornya:]

As traditionally, most of our investments go in radio, we do have certain CapEx which we invest in IT infrastructure and especially in the light of new product development, but this is relatively small. So the bulk of the investments goes into capacity, radio and LTE, among other things.

[Operator:]

[Operator Instructions] We can take our next question from Sergey Libin from Raiffeisen Bank. Please go ahead.

[Sergey Libin:]

I have a couple of questions as well. So first one is on accounting impact on the free cash flow. Is there any at all? Or all this RUB20 billion increase in OIBDA is fully noncash, and so there is no impact on free cash flow at all? Secondly, I just wanted to ask what's the reason behind the quite negative working capital dynamics in the first quarter because it seems that it was a bit worse than the regular seasonality. And also, a small one on dividend, just on timing. I was just curious, in the last couple of years, you made more or less equal payments in the first and second half of the year. But now you are going to pay almost the entire full year dividends based on the 2017 results. And I was just asking why or what's the -- again, what's the logic behind that inequal dividend payment?

[Andrey Kamensky:]

Yes. Okay, so I will start with the accounting impact on the free cash flow. So there is an impact. And actually, it has to do with the shift from operational cash flow to finance of the -- actually, that's the retail payments that before, that was in operational cash flow. Now it's reflected in the finance cost in the financial cash flow. That's actually the impact that we have from new accounting standards. In terms of the negative working capital, the answer is our retail, of course. And that's because of the inventories going up because as Kirill mentioned before, actually, we accelerated our sales, and the sales are going up. And to support that, of course, we're acquiring more.

[Alexey Kornya:]

Speaking about dividend distribution, this year, as you recall, we have very strong and particular strong last year. We generated record-high free cash flow. So we felt that early high return to -- in the form of dividends will be complementary towards our performance over the last year. And we expect that all our shareholders will appreciate this return, taking time worthy of money.

[Operator:]

We can take our next question from Madhi Singh from Morgan Stanley.

[Madhi Singh:]

Just a couple of questions from my side. Can you please, I mean, give some ideas about why the net income impact of the IFRS is positive? And...

[Joshua Tulgan:]

I'm sorry, Madhi, excuse me, can you repeat that, please? Can you repeat the question more slowly, please?

[Madhi Singh:]

Okay. Let me go a bit slowly. Can you please explain why the net income impact of IFRS standards is negative? Shouldn't it be more or less neutral on the net income level? And secondly, on the Yarovaya law, can you please explain where the CapEx is -- I mean, what are the areas where the CapEx will be required to do? And the issue around having locally sourced equipment and so on has been sorted out or whether you will have to actually import equipment related to this spend.

[Alexey Kornya:]

Let me start with the second one. On Yarovaya, I think it is pretty clear, there are increased requirements towards data storage capacities. And the bulk of those investments, majority of those investments will go into expanding our data storage capacities. If there is local equipment requirements not yet towards what is available right now, it does not mean that it cannot appear, but it -- currently, there is no such requirement.

[Andrey Kamensky:]

So with regard to the effect on the net income, the impact is -- overall is negative, although on the EBITDA, you see the positive factor, RUB7.6 billion, which is fully covered by depreciation of the related assets and also the interest expense on the retail, which also goes into the net income. Plus, some -- there are also some other factors, which in total give a negative impact of RUB1.1 billion.

[Madhi Singh:]

So shouldn't it be -- like, get compensated from their end then -- it is net negative on net income level, then should it be positive somewhere else?

[Andrey Kamensky:]

Well, it is positive on OIBDA level because before, there was...

[Madhi Singh:]

No, no, not -- sorry. I mean, if it is net negative on income statement, then should it be positive somewhere else, either on balance sheet or on the cash flow side?

[Alexey Kornya:]

If I may intervene here, the difference, the high impact on the net income comes from the fact that some of the future expenses we put is a method on the balance sheet. And now you start depreciating them. So you have higher depreciation expense, much higher, which negatively impact because you put something on the asset side. So you increase substantially your assets and start them depreciating, which exceeds the positive effect which you have on OIBDA from reducing those rent expenses because depreciation is higher than rent on net income.

[Operator:]

[Operator Instructions] We can take our next question from Igor Goncharov from BCS Global Markets. Please go ahead.

[Igor Goncharov:]

I just have a follow-up question on the data storage expenditures that you have outlined of RUB 60 billion over five years. If we take this number and spread it over this time horizon, how we should think about spreading this number? Is it -- do you think it should be evenly spread? Or do you think there's going to be some peak years, understanding some vendors payments may decline? And also, if you go -- if we go behind that horizon into year six, do, I mean, should we consider this scale -- this spending as a kind of one-off spending over a five year period or similar spending should continue behind that horizon?

[Alexey Kornya:]

Thank you for the question. One thing we can say for sure, that this year, it will be relatively small amount compared to the total spend. We will not give you the total distribution because it depends on the number of factors, which are not yet fully clear. And whether that spend continues or not beyond five-year horizon, it's too early to talk because we might see a lot of changes going over the technical requirements or some other elements of regulations. So I would not really go beyond five-year horizon.

[Operator:]

We can take our next question from Alexander Vengranovich from Sova Capital.

[Alexander Vengranovich:]

Probably a minor question, but it would be interesting to hear your opinion. So like over the last couple of months, you have increased your stake in Ozon twice, so you participated in the new share issue as far as I guess, and you also bought out some other shareholders. What are the reasons for this transaction? Do you think you might continue increasing your stake in Ozon? And what other, like, additional benefits you see for MTS coming from this transaction?

[Alexey Kornya:]

We believe in e-commerce. We think that Ozon is a good asset, especially taking recent development. As you know, the new CEO was appointed, the new team came. They demonstrate very good and strong dynamics. So we believe that this business has good prospects, and we are interested in increasing our interest in this asset because in the long run, we believe that e-commerce will play high role in our business. In telecom business as well, there will be growing synergies. Even though right now, the synergies are limited, but they will grow. And having exposure towards this business and being part of one of the key assets in the market will be beneficial for the company. So there were opportunities to increase our stake in Ozon. Some of the existing shareholders were selling their stakes. And we found both combination strategic, rational and variation on which we agreed compelling. That was about the same level that was used in the new recapitalization -- round of recapitalization. And for that reason, we increased our stake. We believe that the value of this asset is growing, and we think that this has a strategic sense for us as well.

[Alexander Vengranovich:]

But do you plan to remain minority shareholder in Ozon or you might also consider acquisition of the controlling stake at some point? Because I think it really makes sense, the eventual addition over there.

[Alexey Kornya:]

There is a shareholder agreement in Ozon, which prevents any of the shareholder to grow beyond certain level of shareholder interest or share. In that sense, we are right now not in position, at least for the foreseeable future, to get control in Ozon, and we don't have a short-term target of such. Whenever there is an opportunity, we will consider to increase our stake. But we see that in the foreseeable future, we will be staying as a minority shareholder.

[Operator:]

There are no further questions on the phone. At this time, I would now like to turn the call back to our hosts for any additional or closing remarks.

[Joshua Tulgan:]

Yes. Everybody, thank you very much for joining the call today. Obviously, we welcome you at any time to contact me or anyone in our Investor Relations department if you have any further questions. A webcast of this discussion will be available on our website if you wish to replay the call. In the meantime, we appreciate everybody's interest, thank those who took the time to dial in. And safe travels to anybody going to St. Petersburg.

[Operator:]

Thank you, ladies and gentlemen. That will conclude today's call. You may now disconnect.