EXCL by Danareksa

XL Axiata Strong Headwinds

Downgrade to Neutral

With tight competition and limited market growth in the offing, we downgrade our recommendation to HOLD with a new Target Price of Rp5,200, translating to PER FY12-13 of 12.1-11.2x and EV/EBITDA FY12-13 of 5.3-4.7x. XL Axiata remains the most innovative company in cost control - especially with its network managed service - reflecting its defensive strategy in the face of limited growth opportunities. Data remains the main source of growth going forward.

Data defined strategy

XL Axiata has decided to concentrate on data with billing based on usage which is more profitable. Billing based on usage avoids potential abuse of the network which is usually the case for unlimited package offerings. With relatively moderate usage of the network, XL will be able to offer fair pricing at reasonable quality. For 2012, XL has earmarked about Rp7-8tn for capex of which 60% will be used to improve 3G capacity and coverage. XL sees an investment cost of US$2-3bn to get a decent 3G/data network across Indonesia. As such, we don't expect any slowdown in capex for the next 2-3 years at least.

Cost savings with network managed service

XL was among the first operators to implement a network managed service by Huawei in an effort to raise operating efficiency. Under this agreement, Huawei is responsible for network operations and network field operations which include, among others, elements of network operations, field service and fault maintenance as well as power expenses. Furthermore, Huawei will also be responsible for power and fuel expenses for future roll-out. As such, XL is protected against future cost increases arising from higher fuel and power costs. All in all, this is expected to give XL combined opex and capex savings of about USD150 million and progressively improve margins over the 7 years of the agreement. The arrangement takes effect in April 2012 and will see a transfer of about 1,200 XL employees to Huawei. XL settled payment in 4Q11.

No immediate tower sales

XL does not have any immediate plans to spin off its towers. The company claims to have about 12,000 towers of which one-third are leased and the remained owned by XL. On average, the tenancy ratio is around 1.7-1.8x, whereas maximum capacity should be around 3.5x. As such, XL's towers still offer good potential upside for any new investor. However, XL does not see any immediate need to spin off its towers even though this would increase efficiency. Any future investment by XL will be done on a lease basis. Essentially, we think that XL's reluctance to spin off its towers is because it has yet to find the right buyer willing to pay a high enough price.