A balanced combination of growth and yield
We like TELUS for its well-balanced combination of growth and yield. The company
has long maintained an attractive and transparent dividend growth profile, with management providing three-year guidance on dividend growth (presently guiding to 7-10% for the 2019-2022 period). This, coupled with its 5% dividend yield, rounds
out a sector-leading shareholder returns profile. On the earnings growth front, we
see a multiplicity of drivers in both its core Telecom operations and its higher growth segments (TELUS International, TELUS Health, TAG) that can translate to high single- digit EBITDA growth in 2022. We also believe that as its high-growth entities represent more and more of its EV over time, through organic growth and M&A, there is room for continued multiple expansion, as we have been seeing in recent times. We note TELUS had a solid 2021 with the stock up 15% YTD (20% total return).
Strong recent quarterly results corroborate wireless outlook: TELUS’ wireless performance has been strong in recent quarters, with Q3 posting 3.7% service revenue growth y/y. It should be mentioned that TELUS had a far shallower trough on account of the pandemic, with wireless service revenues falling only 2.9% in Q3/20 (vs 4.3% for BCE and 9% for RCI.b). Against that backdrop, TELUS wireless returns are particularly attractive. Importantly, management noted that roaming is still just under 50% of pre- pandemic levels (2019), which suggests meaningful upside to service revenues in the upcoming quarters as travel moves toward normality. Sub trends, aided by robust gross loading and continued churn reduction, have also been a tailwind.
TTECH margin upside is a central component of thesis: We have consistently stated that there is upside to TTECH segment margins, particularly going into 2022.
The more than 100bp extension in margins in Q3 itself, in our view, ratifies this thesis, with a number of drivers ahead of us. In particular, we note incremental upside from likely improvement to wireless margins as roaming returns; recall, this is a high-margin stream. Furthermore, equipment margins are also extending, supported by increased takeup of BYOD plans. On the wireline front, TELUS continues to deliver elevated sub growth (particularly in internet) which, coupled with the prospect of strengthening ARPA due to the manageable competitive/pricing backdrop in the West, can deliver strong returns. Additionally, management remains positive on B2B trends. Finally, we believe that over time there can be meaningful upside to margins from Health and Ag-Tech
as well, as growth components move toward a degree of maturity. To account for this, our forecasts indicate a 140bp extension to 2022 margins, which translates to 7.9% EBITDA growth for TTECH in that year. Post 2022, copper decommissioning could also be a driver.
DLCX (TELUS International) outlook remains solid: TELUS International adds another dimension to the growth story, having performed strongly since the IPO. Recent results indicated organic revenue growth (ex F/X) of 14% and EBITDA growth of over 20%.
Valuation not inexpensive but justified by growth: Although TELUS now trades at 10.7x EV/EBITDA 2021E and 9.9x 2022E, by no means cheap for a Telco, we would argue that on account of the aforementioned drivers there is enough growth to justify the multiple. Our 2022 estimates suggest high single-digit EBITDA growth yet again, with FCF expected to tick up towards the $1.80/sh level post 2022, as capex steps down. We value the stock using 9.6x 2022E EV/EBITDA for TTECH. This is based on a blend of 9.25x for wireless, 8x for wireline (including Ag-Tech) and $1.9B for TELUS Health (~17.5x). We value TELUS’ interest in TI based on fair market value, which currently translates to 17.0x EV/EBITDA 2022E.