You've seen the names before: China Mobile (NYSE: CHL), Telkom Indonesia (NYSE: TLK), America Movil (NYSE: AMX), Millicom International Cellular (Nasdaq: MICC), Vodafone (NYSE: VOD), etc., etc. Odds are, if you're looking to increase your exposure to fast-growing emerging and frontier markets, you've found yourself analyzing at least one of these global telecommunications stocks.
The reason for that is obvious. In small economies, the communications providers are often the only companies large enough to warrant and afford U.S. listings. Furthermore, it's smart to focus your emerging-markets exposure on more defensive industries. As Templeton's Mark Mobius noted in Passport to Profits, the farther you get out on the risk scale when it comes to markets, the more closely you want to play it to the vest when it comes to industries. In the frontier-est of frontier economies, for example, one should only look at utilities and telecoms -- two industries that check in near the bottom of Maslow's Hierarchy of Needs.
When it comes to analyzing these telecommunications companies, however, investors need to be careful. Fast-growing member growth can mask a significant long-term problem: declining prices. As mobile penetration rates increase around the world, these heretofore exciting emerging markets names could fast see rapid growth switch to negative growth -- a whipsaw effect that could punish the unsuspecting.
Buyer beware
Average revenue per user, or ARPU, is a common metric in the telecommunications industry that measures how much the average subscribers pays her provider each month. In other words, it's the average phone bill.
In the saturated and competitive U.S. market, carriers such as Verizon (NYSE: VZ) and AT&T (NYSE: T) boast ARPUs of approximately $50. Now, it's easy to look at that number and compare it to China Mobile's $10 ARPU or Telkom Indonesia's $5 ARPU and conclude that the cost of a mobile phone subscription in China and Indonesia has the potential to increase five times and 10 times, respectively.
That, of course, would be and inappropriate and irresponsible comparison, and yield a misguided conclusion. In fact, when one looks at Chinese or Indonesian ARPU as a percentage of individual spending power in those countries, it's clear that those numbers are more likely to fall than they are to rise.
This is not intimidating math
The metric we use at Motley Fool Global Gains to measure the potential for rising or falling ARPU in a given market is mobile spending as a percentage of GDP per capita (our proxy for personal income). We further adjust this ratio to account for the different levels of mobile saturation in different markets. And when we do that, we've found that emerging-markets telecoms are likely to see significant near-term pricing pressure, given the current global economic slowdown. Take a look:
|
Country |
Mobile Spending as a % of GDP per Capita (Adjusted) |
|---|---|
|
USA |
1.2% |
|
China |
2.1% |
|
India |
2.3% |
|
Indonesia |
2.2% |
|
Mexico |
1.8% |
|
Brazil |
1.6% |
|
Congo |
6.6% |
|
Ghana |
6.2% |
Source: Motley Fool Global Gains estimates.
The striking conclusion from this dataset is that the mobile markets investors are most excited about today -- China, India, and underpenetrated Africa -- are also the most ripe for meaningful price declines. This is because as markets develop, mobile spending declines to 1% to 2% of overall spending power.
Why we sold Millicom and bought China Mobile
Against this backdrop, we recently recommended that our Global Gains subscribers sell their shares of Millicom International Cellular at $90 per share, reaping a 129% gain. Although we continue to believe that Millicom is a high-quality company with a unique value proposition for shareholders, attractive markets in Africa and Latin America, and a commitment to rewarding shareholders, our models indicated that the stock was priced for either stable ARPU and sustained 15% annual income growth in Africa, or expanding ARPU. Given Africa's volatile history and competitive pressures in the telecommunications space, we don't believe either scenario is probable.
On the flip side, our models indicate that China Mobile is priced for significant ARPU declines. Although rural subscriber additions will put pressure on that metric in the near-term, we expect ARPU in China, given the global context described above, to prove far more stable.
You can neither run nor hide
Beyond these two opportunities, it's important to remember that telecoms are trying to mask falling ARPUs by rapidly growing value-added services (VAS) such as ringtones and downloads. Millicom, for example, has said that it plans to experiment with banking and insurance services, while in India, the government's recent 3G spectrum auction fetched an incredible $14.6 billion because the technology will enable providers such as Vodafone to offer more and better VAS. They hope this, in turn, will help them escape the price wars that continue to hamper growth and profitability in India's mobile market.
Although these services are fast-growing and high-margin, they will, in the end, be subject to the same deflationary pressures that ARPU is today. Thus, it's important to make sure when modeling telecoms -- again, an inevitability if you're looking to increase your emerging and frontier market exposure -- that you're making reasonable assumptions about pricing and subscriber growth. It's likely that many of these companies will end up growing at rates less than the GDP growth of the countries in which they operate.
This won't necessarily make them bad investments -- unless, of course, you overpay.
Get Tim Hanson's Global View column every Thursday on Fool.com, or by following him on Twitter.
