Telecom Corporation of New Zealand (TEL) is New Zealand’s largest company (by market capitalisation). TEL is facing a range of challenges in the New Zealand market as it begins to operate in a more open regulatory environment. We decided to have a look at the company using the Valuecruncher interactive tool.
Our assumptions of revenues for the next three years are NZ$5.625 billion in 2008 decreasing to NZ$5.575 billion in 2010. We have projected EBITDA margins decreasing from 33.5% in 2008 to 31.5% in 2010.
We have used a terminal growth rate of 1%. Our view is that TEL will start to see modest growth post 2010 and 1% is a reasonable estimate. This assumption has a significant impact on the valuation. If you believe TEL has better future prospects – this will positively impact the valuation.
We have used a WACC (discount rate) of 10 %. The WACC (discount rate) has a material impact on a discounted cash flow valuation (as does the terminal growth rate). PricewaterhouseCoopers December 2007 cost of capital report gives TEL a calculated WACC of 11.3%. In our opinion this is too high. In 2004 PricewaterhouseCoopers calculated a TEL WACC between 9.8% and 10.5% (with 10.1% as the point estimate). In our opinion this 2004 analysis appears more reasonable. The December 2007 cost of capital report gives a New Zealand market WACC of 10.3% – TEL having a WACC 1% higher seems wrong.
We used a terminal capital expenditure number of NZ$750 million. In our opinion capital expenditure should stabilise around this number.
Our analysis incorporates the cash and debt on the TEL balance sheet – Valuecruncher calculates a net debt number.
Our analysis gives a valuation of NZ$3.40 which is 8.85% below the current share price of NZ$3.73.
Based on our analysis, TEL shares look expensive. Our key assumptions are around terminal growth and WACC (discount rate). Play with our assumptions – what does your analysis say?