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Megafon: Benefiting from Data Growth in Russia 08 January 2013 EEMEA/Russia Equity Research Wireless Telecommunication Services (Emerging EMEA (Europe)) MegaFon (MFONq.L) Rating OUTPERFORM* [V] Price (04 Jan 13, US$) 23.80 INITIATION Target price (US$) 30.00¹ Market cap. (US$ m) 14,782.85 Enterprise value (US$ m) 18,598.2 Benefiting from mobile data growth in Russia *Stock ratings are relative to the relevant country benchmark. ¹Target price is for 12 months. We initiate coverage of MegaFon with an Outperform rating and a US$30 [V] = Stock considered volatile (see Disclosure Appendix). TP per GDR. MegaFon is one of our key top picks in the EEMEA and Russia Research Analysts telecom space, together with MTS and Mobily. MegaFon is a #2 mobile operator Olga Bystrova, CFA and a leading mobile data services provider in Russia with, in our view, a 44 20 7883 0293 network advantage in Russia currently. The company’s shares are listed on LSE [email protected] and MICEX after its IPO on 28 November 2012. Richard Barker 27 11 012 8051 Network advantage and strong execution in the market with above- [email protected] average growth rates: The company continues to benefit from early strategic network investment in conjunction with strong execution, which resulted in its #1 position in the fastest growing and still underpenetrated mobile data segment, and a one notch move to a #2 position in the Russian mobile market two years ago. We currently favour concentrated exposure to Russia with its relatively benign macro, competitive and regulatory environment in the context of the telecom sector, which also result in revenue growth rates at the high end relative to the sector on our estimates. Catalysts: 1) 4Q 2012 results most likely in March 2013; 2) dividend announcement in 2Q 2013 or earlier. Premium valuations could be justified if outperformance continues. On 2013E multiples, MegaFon is currently trading at 4.8x EV/EBITDA, 10.3x PE, 7.7% DY and 9.1% FCF yield. This is broadly in line with MTS (the key comp, at 4.6x EV/EBITDA, 10.2x PE, 7.3% DY and 8% FCFY) and is a discount to EEMEA telcos on 2013E PE and EV/EBITDA. The notable exceptions are FCF yields, on which MegaFon looks more attractive than MTS and more in line with the EEMEA sector mainly for 2014E. We use DCF as our main TP method, which yields US$30 per GDR with 26% upside potential, and implies premium valuations to the sector. Share price performance Financial and valuation metrics Year 12/11A 12/12E 12/13E 12/14E 24 Revenue (Rbl m) 242,608.0 271,260.4 287,714.9 304,564.7 23 EBITDA (Rbl m) 100,822.00 114,007.74 121,080.49 127,001.32 22 Pre-tax Profit Adjusted (Rbl m) 55,905.0 45,766.6 54,489.2 59,999.3 CS adj. EPS (Rbl) 70.49 67.44 70.11 77.25 21 Dec-12 Prev. EPS (Rbl) — — — — Price Price relative ROIC (%) 17.79 20.17 20.70 22.07 P/E (adj., x) 10.24 10.70 10.29 9.34 The price relative chart measures performance against the P/E rel. (%) 94.0 91.1 93.8 93.4 FTSE 100 IDX which closed at 6073.59 on 04/01/13 EV/EBITDA 4.0 5.0 4.8 4.4 On 04/01/13 the spot exchange rate was US$1.3/Eu 1. - Eu .77/US$1 Dividend (12/12E, Rbl) — IC (12/12E, Rbl m) 230,425.12 Performance Over 1M 3M 12M Dividend yield (%) — EV/IC 2.5 Absolute (%) 8.5 — — Net debt (12/12E, Rbl m) 116,647.3 Current WACC 11.0 Relative (%) 5.8 — — Net debt/equity (12/12E, %) 102.5 Free float (%) 15.0 BV/share (12/12E, Rbl) 183.5 Number of shares (m) 620.00 Source: Company data, Thomson Reuters, Credit Suisse estimates. DISCLOSURE APPENDIX CONTAINS ANALYST CERTIFICATIONS AND THE STATUS OF NON US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. CREDIT SUISSE SECURITIES RESEARCH & ANALYTICS BEYOND INFORMATION® Client-Driven Solutions, Insights, and Access 08 January 2013 MegaFon MFONq.L Price (04 Jan 13): US$23.80, Rating: OUTPERFORM [V], Target Price: US$30.00 Income statement (Rbl m) 12/11A 12/12E 12/13E 12/14E Per share data 12/11A 12/12E 12/13E 12/14E Sales revenue 242,608 271,260 287,715 304,565 No. of shares (wtd avg) 620 620 620 620 EBITDA 100,822 114,008 121,080 127,001 CS adj. EPS (Rbl) 70.49 67.44 70.11 77.25 Depr. & amort. (47,676) (54,160) (56,178) (57,892) Prev. EPS (Rbl) — — — — EBIT (CS) 53,146 59,847 64,902 69,109 Dividend (Rbl) — 245.00 55.58 46.95 Net interest exp. 2,885 (6,070) (10,413) (9,110) Dividend payout ratio — 363.26 79.27 60.77 Associates — — — — Free cash flow per share 38.65 75.76 65.93 77.69 Other adj, (126) (8,011) — — (Rbl) PBT (CS) 55,905 45,767 54,489 59,999 Key ratios and 12/11A 12/12E 12/13E 12/14E Income taxes (12,320) (10,229) (10,898) (12,000) valuation Profit after tax 43,585 35,538 43,591 47,999 Growth(%) Minorities (6) (123) (121) (107) Sales 12.6 11.8 6.1 5.9 Preferred dividends — — — — EBIT (9.8) 12.6 8.4 6.5 Associates & other 125 6,401 — — Net profit (12.4) (4.3) 4.0 10.2 Net profit (CS) 43,704 41,816 43,470 47,893 EPS (12.4) (4.3) 4.0 10.2 Other NPAT adjustments (125) (6,401) — — Margins (%) Reported net income 43,579 35,414 43,470 47,893 EBITDA margin 41.6 42.0 42.1 41.7 EBIT margin 21.9 22.1 22.6 22.7 Cash flow (Rbl) 12/11A 12/12E 12/13E 12/14E Pretax margin 23.0 16.9 18.9 19.7 EBIT 53,146 59,847 64,902 69,109 Net margin 18.0 15.4 15.1 15.7 Net interest 2,885 (6,070) (10,413) (9,110) Valuation metrics (x) Cash taxes paid — — — — EV/sales 1.7 2.1 2.0 1.8 Change in working capital 5,890 1,196 (571) 474 EV/EBITDA 4.0 4.9 4.8 4.4 Other cash & non-cash items 35,374 42,179 46,960 47,693 EV/EBIT 7.6 9.4 8.9 8.1 Cash flow from operations 97,295 97,152 100,879 108,166 P/E 10.2 10.7 10.3 9.3 CAPEX (73,332) (50,183) (60,000) (60,000) P/B 1.6 3.9 3.6 3.2 Free cash flow to the firm 23,963 46,968 40,879 48,166 Asset turnover 0.63 0.78 0.87 0.91 Acquisitions (10,825) (8,439) (17,768) — ROE analysis (%) Divestments — — — — ROE stated-return on 17.1 18.1 36.7 36.2 Other investment/(outflows) (18,499) 84,502 — — equityROIC 17.8 20.2 20.7 22.1 Cash flow from investments (102,656) 25,880 (77,768) (60,000) Interest burden 1.1 0.8 0.8 0.9 Net share issue/(repurchase) — (46,406) — — Tax rate 22.0 22.3 20.0 20.0 Dividends paid — (151,863) (34,451) (29,100) Financial leverage 0.2 1.4 1.1 0.8 Issuance (retirement) of debt 7,121 121,121 (29,025) (17,250) Credit ratios (%) Other (11,964) (123,575) 29,025 17,250 Net debt/equity (15.8) 102.5 104.2 76.9 Cash flow from financing (4,843) (200,723) (34,451) (29,100) Net debt/EBITDA (0.4) 1.0 1.1 0.9 activitiesEffect of exchange rates (364) (347) — — Interest coverage ratio (18.4) 9.9 6.2 7.6 Changes in Net Cash/Debt 10,387 (160,334) (11,340) 19,067 . Net debt at start (33,300) (43,687) 116,647 127,987 Source: Company data, Thomson Reuters, Credit Suisse estimates. Change in net debt (10,387) 160,334 11,340 (19,067) Net debt at end (43,687) 116,647 127,987 108,921 Balance sheet (Rbl m) 12/11A 12/12E 12/13E 12/14E Assets 24 Cash and cash equivalents 87,396 48,183 7,818 9,634 Accounts receivable 11,430 12,193 12,528 13,084 23 Inventory 4,551 4,766 4,941 5,137 Other current assets 16,916 16,916 16,916 16,916 22 Total current assets 120,293 82,057 42,202 44,772 21 Total fixed assets 258,783 263,245 284,835 286,942 Intangible assets and goodwill — — — — Dec-12 Investment securities 2,002 2 2 2 Price Price relative Other assets 2,390 2,390 2,390 2,390 Total assets 383,468 347,694 329,429 334,106 Liabilities The price relative chart measures performance against the FTSE 100 IDX which Accounts payable 8,034 8,034 8,034 8,034 closed at 6089.84 on 04/01/13 On 04/01/13 the spot exchange rate was US$1.3/Eu 1. - Eu .77/US$1 Short-term debt 7,415 57,194 41,494 70,394 Other short term liabilities 34,524 40,483 42,224 45,358 Total current liabilities 49,973 105,711 91,752 123,786 Long-term debt 36,294 107,636 94,311 48,161 Other liabilities 20,569 20,569 20,569 20,569 Total liabilities 106,836 233,916 206,632 192,516 Shareholders' equity 276,632 113,778 122,798 141,591 Minority interest — — — — Total equity & liabilities 383,468 347,694 329,429 334,106 Net debt (Rbl m) (43,687) 116,647 127,987 108,921 MegaFon (MFONq.L) 2 08 January 2013 Key charts Figure 1: MegaFon mobile and data revenue shares Figure 2: Mobile revenue growth rates in GEM mobile and Europe 40% 20% 36.0% 35% 15% 30.9% 10% 30% 29.2% 5% 27.3% 27.3% 25% 0% 19.7% 20% -5% 15% -10% 1Q 3Q 1Q 3Q 1Q 3Q 1Q 3Q 1Q 3Q 1Q 3Q India Brazil 2007 2007 2008 2008 2009 2009 2010 2010 2011 2011 2012 2012 China Czech Russia Turkey Poland Mexico Hungary Malaysia MegaFon Indonesia Mobile revenue share Mobile data revenue share Area Euro South Africa South Mobile subscriber share CAGR 2009-2011 9M 2012 Source: AC&M, Credit Suisse research Source: Company data, Credit Suisse estimates Figure 3: Smartphone penetration for selected countries Figure 4: Current data pricing in Russia In US$ per GB 100% 22 20.9 90% 20 80% 18 70% 16 60% 14 12.5 50% 12 11.1 40% 10 8.2 30% 7.4 8 6.5 6.4 20% 6 4.7 4.5 4.9 10% 4 3.7 0% 2 US UK Italy India Brazil Egypt Spain China 0 Russia Turkey France Mexico Thiland Germany Indonesia FY2010 1H 2011 FY2011 1H 2012 9M 2012 Philippines 2011 2015E MegaFon MTS Long-term network cost Source: Credit Suisse Telecom equipment team estimates Source: Company data for MegaFon and MTS, Credit Suisse estimates Figure 5: Network quality comparison, 3Q 2012 Figure 6: Telecom valuations: 3 year EBITDA growth vs # of 3G/4G base stations* Spectrum/Subscribers
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