Quickening Quantum
Spark New Zealand (ASX:SPK) has identified opportunities to accelerate its cost reduction effort dubbed the “Quantum Programme”. Although this will crimp profits in the short term, it is slated to boost long term profits and transform Spark into New Zealand’s lowest cost telecommunications operator. Paring the structural cost base is integral to Spark’s goal of boosting its EBITDA margin over the longer term, but we are also pleased with traction in bringing Spark into the digital age. Positively for yield hunters, the anticipated total dividend is unchanged.
There will be some short-term pain for long-term earnings gains though. This is not a total surprise, as Spark previously flagged it might bring forward the programme at the time of its interim results earlier this year.
The strategy was first outlined at Spark’s Investor Day on 30 June 2017, with Quantum intended to make Spark the lowest cost operator through “radically simplified and digitised processes, products and services.” It was originally pictured as providing progressive performance improvements, with costs linked to those, through to 2020.
Some changes earlier slated for being introduced during FY19 are being brought forward into FY18. Additional implementation costs of between $25 and $30 million will be felt in FY18 earnings. They include external reports, relocation and property lease costs, restructuring expenses and programme office functions. The acceleration is intended to further improve customer experience and strengthen earnings from FY19 onwards. The goal is to eventually hit EBITDA margins of 30% and improve customer experience scores, with the latter core to retaining and improving market share in an intense local competitive environment.
To recap, in 1H18 at the group level reported EBITDA slipped 1.7% year-on-year to $463 million as the EBITDA margin contracted 0.9 percentage points to 25.4%. Excluding the $13 million associated with the Quantum programme, EBITDA would have increased $5 million year-on-year to $476 million.
Source: Spark New Zealand (ASX:SPK)
Spark (ASX:SPK) set up three so-called frontrunner Agile “tribes” in February 2018 and Spark Managing Director Simon Moutter said that the flatter “Agile” management structure has seen these tribes already showing “impressive improvements in terms of deeply embedded customer centricity, dramatically increased speed to market; and empowered and engaged employees with greater productivity,” and added, “This has given us confidence to go faster in our Agile transformation.”
The acceleration of the Quantum programme is anticipated to trim an extra $30 million of annual labour costs, bringing annualised net labour costs to around $470 million during the first half of FY19. The additional $30 million in labour cost benefit will bring the total benefits from Quantum changes to a combined $90 million reduction in annualised net labour costs between the beginning of FY18 and the end 1H19.
Given the increase in costs linked to the Quantum programme to be released in FY18, Spark now expects to report EBITDA of $971 million to $991 million, marking a 0.5% to 2.5% decline year-on-year. Earnings per share are pinned at roughly 21 cents. The adjusted EBITDA forecast of $1,026 million to $1,041 million excludes $50 to $55 million in costs of change and represents an underlying 3.0% to 4.5% growth rate. Adjusted earnings per share are expected to be around 23 cents.
Source: Spark New Zealand (ASX:SPK)
Spark (ASX:SPK) will look through to benefits on the other side though and therefore said the company intends to pay a total FY18 dividend of 25.0 cents a share that is at least 75% imputed.
Moving on and in prior coverage of Spark, we reported that the company, in conjunction with state-owned Television New Zealand, had obtained the rights to broadcast the Rugby World Cup 2019 (RWC2019) to New Zealanders. The deal struck also encompassed other rugby tournaments. It was a win for Spark and will further strengthen Spark’s competitive position and brand in the video streaming space, which is already strong locally with the Lightbox-branded offering.
Spark’s Netflix-like offering, Lightbox, had reached 300,000 subscribers at the time of Spark’s interim report. Given Kiwi’s passion for rugby, the coup with regards to the rights is likely to see that number increase significantly, even if New Zealand viewers from other providers will be able to pay to watch matches.
While the cost of the successful bid was not disclosed and Spark would have had to stump up a significant amount to dislodge the incumbent provider of the Rugby World Cup, the Sky Network, Spark Managing Director Simon Moutter indicated the investment met the necessary internal hurdles.
Mr Moutter stated, “we’re disciplined when it comes to investments of this nature. Although sport is a powerful content genre, it is typically very expensive – something we’re mindful of. For this reason, we’re focused on making sure the business case for securing rights of this nature can stand on its own two feet – and these tournaments certainly do that.”
Mr Moutter also said, “The increasing diversity of New Zealand and rapid changes in technology mean many of us are watching sport in a very different way to in the past. By combining our technical expertise and capability with that of TVNZ, we believe we will not only deliver these tournaments in a way that long-time, loyal rugby fans will love, but we will also reach out and inspire new audiences to get behind our men and women in black – bringing the Rugby World Cup to a much wider audience.”
Alongside the RWC2019, the deal encompassed the rights to the Women’s Rugby World Cup 2021, the Rugby World Cup Sevens 2018, and World Rugby U20 Championships 2018 and 2019. Kiwis will be able to view all RWC2019 matches and related content live or on-demand over home broadband or mobile connections on a range of devices – including TVs, mobiles laptops and tablets. Both free and paid content from the event will be available to all Kiwis, not just Spark customers.
Spark (ASX:SPK) will have noted the drama across the pond, where Optus’ failure in providing adequate FIFA World Cup service created a furore and damaged the Optus brand.
Spark will be learning its lesson from that and ensuring its technology is up to scratch before the Rugby World Cup.
Turning to the daily chart, a zone of resistance has been breached between the $3.29 and $3.35 region. This is made up of the 200-day moving average (green line) and the 50% Fibonacci retracement respectively. A sustained break above this price range would swing medium-term momentum north. If this scenario was to evolve, then the stage is set for further gains to unwind over the longer time horizon. Resistance at the 78.6% Fibonacci retracement at $3.63 was backed away from recently. A bounce up from the 38.2% Fibonacci retracement at $3.36 would bolster the technical picture.
With reference to the monthly chart, the long-term uptrend line of $3.19 (upward sloping green dashed-line) was breached in February. The long-term technical outlook has since improved, with prices reclaiming above the aforementioned uptrend line. This now increases the probability of an eventual challenge of resistance situated between $3.64 and $3.84. This is made up of the January 2007 (horizontal dashed-red line) and August 2016 high respectively.
Summary
Although investors were, earlier in the year, somewhat underwhelmed with Spark’s interim results there were plenty of bright spots and the company is delivering on its strategic initiatives. The company is accelerating this with its ‘cost-out’ Quantum programme and a more “agile” management structure appears to be paying off regarding productivity and customer experience. Spark’s differentiated offerings in the Mobile and Broadband spaces support market share growth, as will its cloud offerings.
From a valuation perspective Spark (ASX:SPK) trades on a FY19 earnings multiple of around 17.1 times, while the projected dividend yield for the same time is approximately 6.7%.
We retain our Buy rating on Spark New Zealand (ASX:SPK) for Members with no exposure, and with a medium to long-term investment horizon.
Disclosure: Spark New Zealand (ASX:SPK) is held in the Fat Prophets Global Opportunities, Australian Share Income, Concentrated Australian Share and Small/Mid-Cap Models.
