Mobile TeleSystems Is the Most Compelling Investment Case in Russian Telecom
Despite economic headwinds, MTS' narrow moat and network/distribution advantages give it a clear edge over VimpelCom.
Despite economic headwinds and recent share-price pressure, we believe the Russian telecom sector still offers a long-term opportunity to invest in relatively undervalued, well-run companies with solid free cash flow and impressive returns on invested capital. Mobile TeleSystems (MBT), known as MTS, and VimpelCom (VIP) continue to expand their respective mobile subscriber bases in Russia by leveraging their economic moats to drive customer loyalty and boost minutes of use, or MOU. Better yet, some of the key economic indicators have begun to stabilize, and the regulatory landscape is benign. Ultimately, we believe Mobile TeleSystems is best positioned to further leverage its brand strength and network infrastructure advantages throughout Russia and the Commonwealth of Independent States. Our view is supported by MTS’ superior top-line prospects, stronger free cash flow yield, and higher returns on invested capital.
Russian Economy Looks to Be a Near-Term Headwind
With GDP growth decelerating in Russia and inflation running higher than the target range, the economy seems to be a near-term headwind for the telecommunications sector. Economic growth has slowed for six straight quarters in part because of a secular decline in OECD oil demand. In fact, the International Monetary Fund recently cut its 2013 and 2014 growth projections for Russia by 100 basis points and 80 basis points, to 1.5% and 3%, respectively. While the Bank of Russia is targeting an inflation range of 5%-6%, the actual rate has been at more than 6% for the past year. The combination of slower growth and higher prices has weighed on consumer confidence, which has been negative for more than four years. It has also weighed on real disposable income, which is now 33% lower than the OECD average. Unemployment nationwide is also up slightly (10 basis points to 5.3%) from the year-ago period, though this number in isolation can be deceiving. For example, unemployment rates in Moscow and St. Petersburg have been reported to be less than 2%, while in some of the outer regions, it’s been as high as 45%. The key interest rate has held steady at 5.5% for the past year, a trend we expect to continue given the heightened inflation, limited gross domestic product growth, and lackluster employment gains.
Imari Love does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.