T22 turnaround lays platform for Telstra to build on

Telstra’s 5G rollout has reached 75 per cent population coverage. Picture: NCA NewsWire/Naomi Jellicoe

After a three-year grind of implementing Telstra’s T22 strategy, most of which went rather unloved by the market, chief executive Andy Penn has the big telco starting to hum again. Telstra shares jumped almost 4 per cent on Thursday after a relaxed Penn confirmed an annual 16c dividend, a share buyback of up to $1.35bn, thanks to the $2.8bn Telstra towers deal. Net profit was up 3.4 per cent to $1.9bn with free cash flow sitting at $3.8bn and guidance at $3.5bn to $3.9bn. Big numbers.

Penn also announced a separate general meeting for shareholders to approve a new springboard for the telco: a major restructuring of Telstra’s fixed infrastructure business Infraco which would position the telco for any future sale of NBN Co.

It is the numbers on underlying earnings before interest, tax, depreciation and amortisation, ebitda, that demonstrate what Penn and chairman John Mullen call a turning point – a build in financial momentum evidenced by a slide from CFO Vicki Brady’s results presentation.

That showed two things: first, a comparison of the half to the prior year’s half saw ebitda decline from $551m in the first half comparison to $169m in the second; and secondly there was actually a return to ebitda growth between the first and second half of 2021 of $41m.

It is this turnaround that has allowed Penn to give full-year ebitda guidance for 2022 of $7bn-$7.3bn and an aspiration of $7.5bn-$8.5bn for 2023.

There numbers are important. One analyst on the call asked if cash flow generation might warrant a rethink on dividends to the upside which Penn deftly flicked to the board.

Underpinning the numbers is an impressive growth in the mobile business, despite Covid which hit international roaming. Telstra’s 5G rollout has reached 75 per cent population coverage, giving Penn a new confidence.

“The reason Optus is focusing on metro markets is that they are so far behind from an overall network perspective. And I think TPG are a long way back on 5G so we are going to continue to press our advantage on 5G,” he says.

There will be plenty of market action, some involving the regulator who this week sued the big three telcos for allegedly misleading on broadband speeds. But the regulator supports a review on fixed CVC and broadband prices charged by NBN Co that has hurt telcos. “I’m expecting some reasonably material changes to the structure of pricing and hopefully that will put us on a long term sustainable footing for everybody,” Penn says.

Telstra chief executive Andy Penn. Picture: Alan Barber

Mobiles is core business for Telstra and Penn is a vocal defender of the business. Responding to ACCC concerns of rising customer prices in recent months, Penn argues that until recently mobile services revenue had been in decline since 2016. Data allowances for customers have gone up dramatically and at the same time there has been huge investment in 5G and buying spectrum, investment that demands a return. Having lost the fight to stop the Vodafone/TPG merger, the ACCC’s Rod Sims is watching the big three closely.

Penn was frank in admitting that before T22 Telstra had not focused enough on changing the business to mitigate the $3.5bn per annum NBN hit to ebitda as Telstra customers migrated to the NBN. That migration is almost complete and the NBN headwinds are dropping.

Covid headwinds delivered a $380m hit to ebitda in 2021 but even with the dreary outlook on shutdowns, the coming year is not expected to be as harsh.

This year, Telstra shares have lifted a remarkable 32 per cent as growth opportunities become clearer to the market. The $2.8bn Towers deal delivered a whopping 28x ebitda multiple. In the health space, the recent acquisition of MedicalDirector is seen as a “crucial strategic asset”. Early results in health have been slowed by delays in contracts during Covid, but Penn says the post-pandemic world makes them more important than before. In another positive signal to the market, he flagged a deeper dive into the sector for analysts later in the year.

Penn was brief on Telstra’s role in a government-inspired takeover of Pacific telco Digicel, which he agreed would not ordinarily have been on the strategic agenda. Yet Telstra does seem well into negotiations with Canberra. Any deal would need to have protections and financial support put in place, Penn insists.

“Ultimately, we are Team Australia and if we can find a way to help the government and that would be in the interests of shareholders then we would do something. We have a very strong relationship and obviously many points of engagement and interdependency with the government.”

That interdependency between government and Telstra, a great national asset, is the key to the biggest potential opportunity for the telco: the fate of NBN Co. Spurred on both by the success and the learning experience of the Towers deal, Infraco chief Brendon Riley is driving the restructure of Telstra’s infrastructure business (fibre, ducts, data centre space, old exchanges). Riley says having done the base restructuring work on the towers enabled them to respond quickly to an offer from the Future Fund consortium, but the fixed assets business is six times as large with many complex arrangements in place including NBN Co as a major customer.

“We will take same approach as with Towers, where we can be ready,” he told analysts.

Ready for what though?

Penn’s response is instructive: “We set up Infraco to give optionality, particularly in a world where the NBN privatises. Because at that time, that is going to be a big deal for the industry. What does that mean? People say Telstra is going to buy the NBN. I honestly don’t know. If they are going to sell it to a consortium led by Macquarie Bank maybe we want to pay close attention, if it is Aussie Super or super funds, maybe we would feel differently.

“But the government made a policy decision and the regulator that there could not be a business combination between NBN and Telstra if we are a vertically integrated telco. We would at that point have to demerge the Infraco fixed part of it to enable it to do a business combination with the NBN. Whether we want that to happen I’ve got no idea, because it is a big event. We certainly want to have the option to be able to consider that in time.”

The scheme of arrangement to be approved by shareholders is a restructure not a demerger. Just how separate Infraco would need to be from Telstra to allow the telco to revisit the idea of securitising the billions of dollars in future NBN cash flows from the original deal is not clear.

“I’m saying if there was a business combination between Telstra’s infrastructure assets and NBN, we’d have to demerge,” Penn says.

“If we wanted to do another type of financial arrangement that is a different question.”

There will be much to update the market with on Telstra’s investor briefing day on September 16, oriented around growth.