New Zealand Professional Investment Services Firm

Forsyth Barr

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Forsyth Barr is a foundation New Zealand Exchange firm (NZX) and accredited market participant. We have been confirmed by the Financial Markets Authority as a Qualifying Financial Entity (QFE).

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New Zealand Professional Investment Services Firm, Forsyth Barr

Equity Bottom-Up

<h2>Chorus</h2>

FY19 — Regulatory Waiting Room
As is typical, there was not much significant new information in Chorus’s (CNU) FY19 result. Earnings, including FY20 guidance, were modestly ahead of our expectations on opex savings, with the decline in revenue/ EBITDA reflecting CNU continuing to shed share with copper customers transitioning to fibre outside its regions. The key valuation driver for CNU remains the implementation of the new fibre pricing regulatory regime, with the Commerce Commission’s publication of its input methodologies draft decision in November the next key step. Maintain NEUTRAL.
What’s changed?
<ul>
<li>Earnings:&nbsp;Lower opex benefiting EBITDA FY20/21E +2%/+3%.</li>
<li>Target Price:&nbsp;DCF-based target price rolled forward and updated for Forbar WACC changes and lower risk-free yield curve to NZ$5.20.</li>
</ul>
Modest EBITDA and guidance outperformance on cost
Revenue fell -2% yoy as CNU continued to shed share outside its regions. EBITDA, down -3%, was slightly ahead of our expectations on network maintenance and IT operating cost savings. The key new information in the result announcement was FY20 guidance. CNU reiterated its objective to “return to modest EBITDA growth” in FY20. Guidance of NZ$625–645m, supported by “a continued reduction” in opex, was modestly ahead of our pre-result expectation.
Over the capex peak
CNU also reiterated FY19 represented peak capex. It expects debt/EBITDA to top during FY21, and decline thereafter with the strong free cash flow (FCF). CNU stated both ratings agencies are “comfortable” with the profile.
Dividend policy to be unchanged through to FY21
A key investor focus is the significant FCF CNU will generate, and implications for the dividend, once its fibre network is complete in 2022. CNU expects to maintain its current “modest dividend growth” policy until the Commerce Commission (CC) finalises its fibre maximum allowable revenue (MAR) in June 2021. At this time one policy consideration will be the unavailability of imputation credits. Due to depreciation tax shields CNU does not expect to pay tax through the medium-term. On our forecasts CNU will consume its current imputation balance in FY22.
All eyes on the Commerce Commission in November
The most material medium-term driver of CNU’s valuation remains the to-be-determined regulatory settings and maximum allowable revenue for its fibre network. In May the CC released its “emerging views” in which the low WACC inputs surprised us and the market. The next step in the process is the CC’s draft decision on input methodologies scheduled for 29 November. We believe there are areas where CNU could see an improvement from the emerging views; however, CNU’s high operating and financial leverage means the valuation sensitivity to the range of possible outcomes remains broad.&nbsp;
<div class="content-highlight">
Investment View
There is a broad potential range to any long-term assessment of CNU’s valuation given its substantial operating and financial leverage, and long-dated UFB network. We view current risks as balanced. NEUTRAL.
</div>
Matt Henry, CFA
matt.henry@forsythbarr.co.nz
+64 9 368 0115
Matt Dunn
matt.dunn@forsythbarr.co.nz
+64 9 368 0183

Chorus

FY19 — Regulatory Waiting Room
As is typical, there was not much significant new information in Chorus’s (CNU) FY19 result. Earnings, including FY20 guidance, were modestly ahead of our expectations on opex savings, with the decline in revenue/ EBITDA reflecting CNU continuing to shed share with copper customers transitioning to fibre outside its regions. The key valuation driver for CNU remains the implementation of the new fibre pricing regulatory regime, with the Commerce Commission’s publication of its input methodologies draft decision in November the next key step. Maintain NEUTRAL.
What’s changed?

Earnings:&nbsp;Lower opex benefiting EBITDA FY20/21E +2%/+3%.
Target Price:&nbsp;DCF-based target price rolled forward and updated for Forbar WACC changes and lower risk-free yield curve to NZ$5.20.

Modest EBITDA and guidance outperformance on cost
Revenue fell -2% yoy as CNU continued to shed share outside its regions. EBITDA, down -3%, was slightly ahead of our expectations on network maintenance and IT operating cost savings. The key new information in the result announcement was FY20 guidance. CNU reiterated its objective to “return to modest EBITDA growth” in FY20. Guidance of NZ$625–645m, supported by “a continued reduction” in opex, was modestly ahead of our pre-result expectation.
Over the capex peak
CNU also reiterated FY19 represented peak capex. It expects debt/EBITDA to top during FY21, and decline thereafter with the strong free cash flow (FCF). CNU stated both ratings agencies are “comfortable” with the profile.
Dividend policy to be unchanged through to FY21
A key investor focus is the significant FCF CNU will generate, and implications for the dividend, once its fibre network is complete in 2022. CNU expects to maintain its current “modest dividend growth” policy until the Commerce Commission (CC) finalises its fibre maximum allowable revenue (MAR) in June 2021. At this time one policy consideration will be the unavailability of imputation credits. Due to depreciation tax shields CNU does not expect to pay tax through the medium-term. On our forecasts CNU will consume its current imputation balance in FY22.
All eyes on the Commerce Commission in November
The most material medium-term driver of CNU’s valuation remains the to-be-determined regulatory settings and maximum allowable revenue for its fibre network. In May the CC released its “emerging views” in which the low WACC inputs surprised us and the market. The next step in the process is the CC’s draft decision on input methodologies scheduled for 29 November. We believe there are areas where CNU could see an improvement from the emerging views; however, CNU’s high operating and financial leverage means the valuation sensitivity to the range of possible outcomes remains broad.&nbsp;

Investment View
There is a broad potential range to any long-term assessment of CNU’s valuation given its substantial operating and financial leverage, and long-dated UFB network. We view current risks as balanced. NEUTRAL.

Matt Henry, CFA
matt.henry@forsythbarr.co.nz
+64 9 368 0115
Matt Dunn
matt.dunn@forsythbarr.co.nz
+64 9 368 0183

Chorus Ltd

Chorus: FY19 — Regulatory Waiting Room