CFA Institute Research Challenge Hosted by CFA Society Sydney Abercrombie & Co

The CFA Institute Research Challenge is a global competition that tests the equity research and valuation, investment report writing, and presentation skills of university students. The following report was submitted by a team of university students as part of this annual educational initiative and should not be considered a professional report.

Disclosures: Ownership and material conflicts of interest The author(s), or a member of their household, of this report holds a financial interest in the securities of this company. The author(s), or a member of their household, of this report knows of the existence of any conflicts of interest that might bias the content or publication of this report. The conflict of interest is that one of the authors, or a member of their household, of this report holds stock in the company. Receipt of compensation Compensation of the author(s) of this report is not based on investment banking revenue. Position as an officer or a director The author(s), or a member of their household, does not serve as an officer, director, or advisory board member of the subject company. Market making The author(s) does not act as a market maker in the subject company’s securities. Disclaimer The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with CFA Society Sydney, CFA Institute, or the CFA Institute Research Challenge with regard to this company’s stock.

Abercrombie & Company Abercrombie Has the Golden Child Telecommunications Operators & Company Lost Its Shine? Australia | Australian Securities Exchange (ASX) Company: Telstra (“TLS”)

Date: 19-Sep-2018 Closing Price: AU$3.21 Sell (-20.2% Total Return) Ticker: TLS-ASX Target Price: $2.67 Executive Summary TLS-AU Overview We initiate coverage on Telstra (TLS-ASX) with a SELL recommendation based on a 12-month price Target Price [A$] 2.67 target of $2.67, representing a -20.2% downside from the last close of $3.21 on 18 September 2018. Telstra’s (TLS-ASX) substantial competitive moat as the nation’s wholesaler has been eroded via the Last Closing [A$] 3.21 18/09/18 introduction of the National Broadband Network (NBN). The reduction in barriers to resell broadband opened the competitive landscape for nimbler players to enter and grow market share. TLS is hanging Market Cap [A$m] 38,140 its hat on its ability to generate long-term value from the 5G rollout and recoup losses incurred due to Shares Out m 11,878.9 fierce competition in the mobile and NBN space. But this bet is not likely to yield sizeable returns amidst a hypercompetitive environment. Without this growth potential, other strategies like Telstra2022 cost cuts 52 Wk High [A$] 3.79 to improve margins will not sufficiently compensate for low mobile and NBN returns to drive up EPS. 52 Wk Low [A$] 2.60 1. Rising Mobile Competition | Prepare for the Game of Phones

Table 1: Price History (Rebased) With 44% of TLS’s revenue derived from its mobile segment and the less attractive economic profile of ASX200 - Rebased TLS NBN, increased reliance is placed on their ability to capture market share in the mobile space. i) Tightening Competitive Landscape: The market believes the proposed merger of TPG (TPM) $8 and Vodafone (VHA) will lessen competition and concentrate the industry. Our analysis suggests that the merged entity will have the bundling benefits and intent to be a stronger challenger to TLS and will be able to compete for more than their 20% mobile market share. $6 The resulting competitive pricing in the mobile space could erode Average Revenue Per User (ARPU) and increase subscriber churn for the incumbent, triggering an earnings downgrade. $4 ii) Customer Flight: Reduced customer satisfaction from recent network outages has left TLS near all-time low Net Promoter Scores (NPS). This lays the foundation for customer flight in the run up to the NBN’s churn event, which could see TLS struggle to retain mobile market share. $2 2. All in on 5G | Hold the Door for Rivals to Enter 5G 2013 2014 2015 2016 2017 2018 Source: Abercrombie & Co Analysis Historically, the rollout of new mobile networks (e.g. 3G and 4G) marked TLS’s opportunity to boost mobile margins by commanding increased ARPUs as the first-mover of the superior network. This Graph 2: Returns Analysis expectation will not be met for the upcoming 5G rollout in a hyper competitive market as the telcos, Optus 8% and a potential TPM-VHA, will be as ready as TLS for 5G. WACC: 6.6% iii) Optus and TPM ready to go: TLS’s historically high mobile ARPU will subdue to 1% growth at 6% the commercial launch of 5G. Optus is committed to launch alongside TLS with sufficient spectrum and 5G trials, and the TPM-VHA merger could guarantee maximum spectrum since 4% without the merger, the individual entities were limited by their debt capacities. iv) Differentiation is King: The upcoming 5G release and NBN migration underscores a major 2% churn event. We believe TLS will lose 4% market share, as they struggle against Optus’ product differentiation (content-driven strategy) and TPM-VHA’s cost differentiation (product bundling). 0% 16 17 18 19 20 21 22 23 3. Commoditised NBN | Winter is Still Coming

ROIC ROE The NBN rollout has triggered the migration of TLS copper customers to the new network. However, we Source: Abercrombie & Co Analysis expect more earnings pressure as competitors improve the quality of connections. Combating these rivals may compromise cost cuts that TLS relies upon to stave off a significant dividend reduction. TLS-AU Key Financial Data FY18 i) Incumbent’s Curse: Despite competition pushing down ARPU, TLS has always at least D/E 46.8% maintained their network quality advantage. New changes to the Connectivity Virtual Circuit (CVC) cost that telcos must pay to support bandwidth speeds will finally catalyse unprecedented Net Debt/Equity 1.6x quality convergence between competitors. The $2.5bn cost savings program is also unlikely to Dividend Yield 7.1% yield EBITDA relief amidst an unreliable record and accelerating cost of sales. ii) Indebted to the Dividend: TLS has always been viewed as a high dividend yield firm for an 1 EV/EBITDA 5.4x enormous retail investor base. But earnings headwinds from NBN, mobile and capex needs P/E(LTM) 10.6x mean a major dividend cut is imminent to retain an A credit rating.

(1) EV/EBITDA (exc. NBN one-offs 6.3x) Financial Analysis

FY18A FY19E FY20 2021 2022 2023 CAGR Revenue [A$m] 26,904.0 25,462.3 25,237.1 25,457.3 26,242.2 27,217.9 0.2% EBITDA [A$m] 9,656.0 9,372.1 9,264.0 9,319.4 9,580.5 9,909.5 0.4% EBITDA Margin [%] 0.4 36.8% 36.7% 36.6% 36.5% 36.4% 0.2% EBITDA Growth [%] (6.8)% (2.9)% (1.2)% 0.6% 2.8% 3.4% NPAT [A$m] 3,008.0 2,548.7 2,427.6 2,394.2 2,278.6 2,392.2 -3.7% NPAT Growth [%] (5.5)% (15.3)% (4.8)% (1.4)% (4.8)% 5.0% Postpaid Mobile ARPU [A$m] 58.05 55.73 54.62 53.53 53.53 53.53 -1.3% Postpaid Mobile ARPU [%] (4.4)% (4.0)% (2.0)% (2.0)% - - Growth

1

Diagram 1: Revenue Business Description Breakdown in FY18

Other (inc. General Overview Media) 6% Having transformed from its former status as a government owned natural monopoly, TLS is one of Global Connectivity Australia’s darling telecommunications companies. With dominant market positions in mobile and fixed- 6% line spaces, TLS boasts a 16.7m mobile customer base and provides access to 11m fixed-line services. These two segments collectively comprise 62% of TLS’s total revenue (TR) (See: Diagram 1). It has NAS recently come under a change in focus and structure in both areas. From 2014, it began disconnecting 14% fixed customers and moving them onto NBN representing a move from a wholesaler of broadband to a Mobile retailer. TLS also has footholds in more peripheral telco services. Whilst Data & IP (10% of TR), NAS 40% (14% of TR) and Global Connectivity (6% of TR) have promising, albeit historically volatile, growth, they represent a small proportion of TLS’s TR. Despite the proliferation of its products in Australian homes Data & Fixed IP (Exc. One- and enterprises, TLS’s historical performance over the last five years reflects that of a company forced 10% offs) to adapt rather than one undergoing a smooth transition. EBITDA margins have declined from 42.4% to Recurring 22% 35.9% between FY13 and FY18. The declining EBITDA figures are a result of (1) TR growth of 1.91% NBN DA over the same period on a CAGR basis, and (2) Increasing operating costs of 5% p.a (See: Diagram 3). 2% Source: Abercrombie & Co Analysis Business Model TLS’s business model follows a matrix configuration; six broad products that run laterally across three Diagram 2: Mobile Revenue Breakdown in FY18 ($m) end consumer groups: Personal, Small Business, and Enterprise (See: Diagrams 2 and 4). $8,000 165 14 890 Mobile: Comprises 40% of TLS’s FY18 annual revenue. Over the previous 5 years, mobile revenue has $7,000 958 grown at a CAGR of 1.97%. Revenue is generated via three channels: (1) through 20 simplified mass market pre-paid contracts that offer a range of phone, data and text/call combinations; (2) mobile $6,000 7401 broadband solutions with three price points (See: Appendix 23); and (3) wholesale of mobile network $5,000 facilities to wireless communications providers such as Boost Mobile, Aldi Mobile and Lyca Mobile.

$4,000 5374 Fixed: The combined services (voice, data and other) comprise 22% of TLS’s FY18 total revenue. $3,000 Revenue is generated through: (1) fixed voiced plans across 4 price points, (2) fixed data from 100GB to Unlimited with a which can be bundled up with additional entertainment additions included from the $2,000 ‘unlimited data’ plans which includes a $100 Foxtel standard installation fee. Fixed voice and data plans $1,000 come with a $99 connection charge for new customers and (3) wholesale of broadband or NBN network $0 facilities follows the same Telstra Wholesale Agreement. Data & Internet Protocol: Provides solutions for fast and scalable Virtual Private Networks (VPN) M2M Total PostpaidPrepaid Satellite between a firm’s offices through ethernet connections. TLS is able to effectively cross-sell Cloud Broadband Products, Security Services and Application Networking which contributed 10% to total revenue in FY18. Source: Abercrombie & Co Analysis Competitors like Evotec and other data network providers in higher ARPU Area Network connections Diagram 3: EBITDA Breakdown in have reduced revenue recently. FY18 Network Application Services (NAS): Represents TLS’s IT services segment providing Cloud solutions Recurring and other integrated services. NAS revenue increased 8.6% in FY18 with integrated service revenue NBN DA 5% driving this growth (39.5%) followed by Cloud services (14.4%), which has grown with TLS’s service of Data/IP 14% connecting users to the public or private cloud data centre partners. NAS has a steady EBITDA margin Mobile NAS 3% 38% of 10% and contributes 14% to TLS’s TR. Media: Entertainment packages can be purchased standalone, or in mobile bundles. TLS’s entertainment segment includes (1) Foxtel which operates on a per-month subscription model starting the most basic ‘Entertainment’ package for $26 per month to the ‘Platinum HD’ package for $111 per month, (2) TLS TV which can be bought for $192 outright; and (3) BigPond Movies including a library of movies and TV shows to rent as opposed to a subscription. In FY18 this segment has seen -1.2% revenue growth fuelled Global Fixed Connectivity Exc. partly by the mass migration of 18,000 subscribers. 8% Net One-Off One Off NBN DA NBN 17% C2C Other: Income growth in ‘other’ was largely due to increased NBN disconnection fees (and associated 18% Source: Company Filings one-offs) in line with the NBN network rollout. This category also includes Technology, Innovation and Strategy (including TLS Ventures and Ooyala), New Businesses (including TLS Health), and Media & Diagram 4: Heatmap of Relative Marketing. With FY18 revenue growing by 38.3%, this segment has been the fastest growing, albeit due Intensity of TLS’s Key Segments to NBN one-offs. This segment contributed 6% to total revenue in FY18.

Small Personal Business Enterprise Industry Overview & Competitive Overview

Industry Overview: Market Dynamics Mobile NBN Disruption: The government rollout of NBN has replaced the monopoly fixed-line internet network

Fixed that TLS formerly commanded. The loss of this wholesaler position will cost TLS $3bn annually once the NBN completes. In contrast, the lower relative charges for retailers of NBN and negligible capex required

NAS for competitors to resell NBN services has led to intense competition, with over 180 Retail Service Providers (RSP) now competing for NBN market share. RSPs are guaranteed uniform price and quality

Data/IP by NBN Co, unlike when TLS, a competitor, was a wholesaler. Since consumers have wide access to comparable NBN providers, this has given rise to a period of intense churn. Despite this, NBN Co wholesale prices have not declined consistently. NBN Co recently reduced most wholesale prices to $45 Media but are still optimistic of achieving a $52 target by 2021. NBN ARPU remains sluggish (growing from $43

to $44 between FY15-18), so industry analysts expect higher access charges to remain unsustainable. Other With nearly 3m households and businesses currently connected, there is an activation rate of 45,000/week. By 2021, it is expected 75% of Australia will connect to NBN. Leader Neutral Competitive

Source: Abercrombie & Co Analysis 2

Mobile Competitors are Rising: Increasing competition between mobile service providers has fuelled Diagram 5: Data Allowances by downward pressure on TLS’s mobile ARPU, which is now $57.67. Industry mobile ARPU continued to Year decline 3.1% over the past year. Over the past 4 years, the mean annual ARPU decline has been 7.1%. 100% Whilst the 3 main players (TLS, Optus and VHA) have maintained fairly stable market share over the past 5 years, the rise of Mobile Virtual Network Operators (MVNOs) has contributed to price pressures. These 80% smaller players resell mobile services by leasing capacity from the big 3, and often provide prepaid plans at a cheaper price point with larger data inclusions (eg. Amaysim $40 15GB data for 28 days; also see 60% Appendix 23). The growth of data capacity has contributed to the popularity of affordable MVNOs, with 40% the total market share of Amaysim, Vaya and other MVNOs increasing whilst TLS market share has declined by 2% over FY17. 20% Lessons from Overseas: Globally, incumbent telcos have faced analogous pressures to TLS from rising 0% competition, technological disruption, and limited organic growth prospects. This highlights the difficulty Prior to FY14 FY16 FY18 for TLS to navigate beyond a low Average Margin Per User (AMPU) post-NBN world and retain mobile 2013 market share. For instance, consistent declines in mobile ARPU in the US, driven by competition and data usage spikes, drove: (1) merger frenzies to consolidate and seek higher growth and AMPU <1GB 1-3GB 3-5GB strategies. This included the T-Mobile/Sprint merger agreement, and AT&T’s purchase of Verizon 5-10GB 10-20GB >20GB Wireless territories. This trend was also seen in the UK, when BT acquired EE in 2016 to create a 35m customer base. (2) Other incumbent telcos have opted to expand into adjacent operations or create Source: Abercrombie & Co Analysis bundled offerings to boost AMPU, such as AT&T’s merger with entertainment conglomerate Time Warner and Swisscom’s expansion into hospitality and cloud infrastructure. (3) Other telcos have faced further Diagram 6: Complaints to AMPU constraints and ARPU declines from aggressive competitors, which take advantage of a higher Ombudsman by Issue churn environment by undercutting. French telco Illiad disrupted the industry and claimed 5.4% market share in their first 6 months. Orange, the incumbent, failed to achieve positive growth for the next 7 years. Industry Overview: Consumer Dynamics Landline Phone Rising Demand for Data: Over the past 5 years, data consumption has increased significantly for mobile Internet 27% 40% users and households (See: Diagram 5). Average monthly household data downloads over fixed-line connections have grown from under 10GB/month in 2010 to 95GB/month in 2016. This demand is projected to grow to 420GB/month by 2026 with technological advancements. Mobile trends follow a similar pattern, with 61% of mobile data plans comprising at least 3GB in 2017, compared to only 36% in 2013. Demand has been fuelled by the rapid uptake of subscription video on demand (SVOD) apps which Mobile Phone consume significant data. Netflix in particular, has demonstrated substantial growth in the Australian 33% market, averaging 100,000 new subscribers/month immediately following its launch. With mobile penetration reaching saturation levels ~96% and over 70% of 18-34 year olds regularly streaming videos Source: Telecommunications Industry Ombudsman on mobiles, telcos have upgraded their 4G networks to accommodate faster download speeds. Major investments in 5G technology are likewise expected as data demand grows.

Diagram 7: Complaints against Over the Top (OTT) Disruption: OTT refers to applications and services provided to consumers over Telcos the internet without needing to be accessed via the telco providers. The growing popularity of OTT apps, 140,000 particularly messaging services like WhatsApp and Skype, have successfully deprived traditional revenues telcos received from their voice products. According to the Communications Department, 120,000 Facebook’s messaging apps now outnumber global SMS volumes 3:1. Our analysis suggests many OTT 100,000 apps are now seen as a cheaper alternative for traditional text and calls and have driven sharp declines in mobile voice revenues across major Australian telcos. The growth of OTT services has forced telcos 80,000 to invest in mobile data plans, though these have lower margins than voice. We believe this market trend 60,000 will continue, especially as telcos invest in data-centric products amidst diminishing mobile voice revenue 40,000 (TPM planned to enter mobile with data-only plans; TLS eliminated excess data charges).

20,000 Falling Trust in Telcos: Continual disruptions to coverage have contributed to falling trust levels between consumers and telcos. TLS in particular has the worst NPS score of all major telcos after 0 FY14 FY15 FY16 FY17 numerous NBN and mobile coverage issues (See: Diagram 12). The level of Australians who trust telcos has fallen to 53% in 2018. NBN problems relating to connectivity led to 23,000+ complaints to the Industry Telstra Optus Vodafone Ombudsman over 6 months in 2016, prompting a regulatory review. Complaints also rose 31.2% to iiNet TPG Primus Optus, 32.1% to Primus, 37.5% to VHA and 44.9% to TPM (See: Diagrams 6 and 7). Similar complaints spurred NBN Co to delay the NBN HFC rollout. In April 2018 TLS suffered major coverage outages of Source: Telecommunications Industry Ombudsman emergency hotlines. Optus also was forced into public apologies and free World Cup streaming after allocating insufficient bandwidth to subscribers.

Diagram 8: NBN Wholesale Competitive Positioning: National Broadband Network Market Share TLS continues to lead with 48% NBN market share, compared to its closest rivals: TPM (26%), Optus Others Vocus 6% (14%) and Vocus (6%) (See: Diagram 8). However, our analysis indicates that relative to the pre-NBN 6% period, the rollout of the technology has noticeably increased competition and reduced market share, particularly in regional areas where TLS holds 55% market share compared to its traditional share near 70%. The setting of wholesale prices by NBN Co, instead of TLS, has created a $3bn earnings hole for TLS once the rollout is complete. As a result, bandwidth quality has generally been standardised, with Optus the exception of telcos who have not afforded purchasing CVC capacity to manage bandwidth during 14% Telstra 48% peak periods. We conducted a price survey (See: Appendix 23) across major telcos and identified that TLS charges substantially higher prices for their NBN50 services ($89 per month), compared to rivals like TPM VHA ($69) and TPM ($70). NBN churn rates have steadily increased over the past 5 years, and will 26% continue during the rollout, labelled a ‘once in a generation churn event’ by NBN Co. Competitive Positioning: Mobile Our telco price survey reveals that TLS’s basic SIM plan is substantially more expensive at $49 for Source: Abercrombie & Co Analysis 20GB/month compared to rivals like Optus ($36 for 30GB/month) (See: Appendix 23). This reflects TLS’s traditional focus on higher value consumers willing to trade cost for greater network coverage and TLS’s

3

Diagram 9: Postpaid Mobile superior brand equity. However, significant capex by competitors on improving network coverage ARPU Using BT/EE Acquisition including Optus’ $1bn upgrade of its regional network and TPM’s expected merger with VHA may further 62 increase competitive intensity and reduce mobile ARPU (See: Diagram 9). Whilst TLS has been the market leader in mobile, with 37.9% of total market share (postpaid and prepaid), this has fallen from 60 39.9% the year prior. Cheaper and higher data plans offered by smaller players like VHA and Amaysim 58 helped capture market share away from TLS and Optus. TLS’s prepaid market share declined from 41.5% 56 in FY17 to 34.8% in FY18, as lower cost prepaid plans have become more attractive during high churn 54 periods. Almost 50% of consumers switched providers in the past 3 years. TLS’s strategy has angled 52 towards investing in cloud services and upcoming 5G mobile networks to fill the $3bn NBN earnings hole. 50 If successful, demand for such networks could bypass fixed broadband connections, leading to a growth FY17 FY18 FY19 FY20 option for TLS earnings. However, we believe there are technological limitations and execution risks that

Source: Abercrombie & Co Analysis; NB: see Appendix may hinder the expectation of filling the $3bn hole with these sources. 21 for further background regarding the case study Competitive Positioning: Telstra 2022 The Telstra2022 (T22) strategy was unveiled to improve competitiveness. It has 4 pillars: (1) simplifying Diagram 10: Comparing Equity products from 1800 to 20 plans, following efforts that have already been made by competitors like Optus and Debt of TPM, VHA and SPV to reduce redundant packages. The removal of excess data charges may have limited upside to improve

TPG VHA 1 VHA 2 SPV TLS’s position since it primarily appeases existing customers facing unpopular charges. It may also $9 further reduce TLS mobile ARPU. (2) TLS aims to offset earnings loss by optimising operations with an ambitious $2.5bn cost reduction strategy. This represents a 35% cut on the underlying cost base of $7bn. 7.6 We hold concerns that the cost out will not be met, considering management’s record belying costs and $6 0 TLS’s hefty cost of sales growth. Even if the cost out is achieved, it will require reductions in customer- facing services. This will increase churn amidst a turbulent period of competition and depress ARPU 4.8 beyond any marginal gains in AMPU. (3) TLS will establish InfraCo as a standalone infrastructure $3 5.4 5.5 business InfraCo meanwhile, we believe is geared to either be set up to bid for NBN Co post 2021 or provide transparency of TLS’s infrastructure-related earnings. (4) T22 will also aim to streamline the 1.9 1.7 organisational structure of the firm and focus on product leadership with new roles to build capabilities. $0 Investment Summary -0.8 -$3 Net Debt Equity 1. Rising Mobile Competition | Prepare for the Game of Phones Source: Abercrombie & Co Analysis; NB: See Merger Model; VHA 1 is the standalone VHA; VHA 2 is the The $15bn TPM-VHA merger could threaten TLS’s mobile earnings. We believe the market has reacted merged entity positively to the announcement and expect a consolidated TPM-VHA may alleviate ARPU pressure. But against the backdrop of higher competition and data demand, TLS is likely to lose customers to TPM- VHA with incentive and capacity to be aggressive, and to other competitors with better customer service. Every Person Has Their Price | Quality Premium < Price Premium Diagram 11: Debt Trends of TPM- VHA Entity vs TLS Bundling Exposes an Overrated Quality Premium: TLS’s mobile advantage relied on its actual and 5,000 2.50x perceived network superiority. Despite cheaper plans in the market, TLS maintained market share with high ARPUs because of customer preferences for quality networks. But the pace of VHA investments 4,000 2.00x into infrastructure (like investing $2bn in FY17 on mobile coverage) has spurred rapid improvements in network quality. VHA call success rate for instance has quickly caught up, improving 610 basis points to 98.9% compared to TLS’s call success rate of 99.20%. VHA has a credible network with the opportunity 3,000 1.50x to pierce TLS’s customer base on quality and price. We developed a quality-price divergence matrix by comparing network metrics of VHA and TLS as proxies for quality (e.g. active cell towers; See: Appendix 2,000 1.00x 15). Whilst TLS has superior quality metrics, our calculations reveal that the price that existing TLS customers were willing to pay for this quality advantage over VHA is only $23. However, the TLS plans 1,000 0.50x are $29 more expensive than comparable VHA plans (See: Table 7 and Appendix 15). This crossed the matrix point where TLS customers would migrate to VHA. We posit that this switching decision has not - 0.00x been triggered for many TLS customers because there are 3.1m customers on bundles, locked in with 20192020202120222023 lengthy broadband contracts, and switching to VHA does not fill a needed broadband replacement. The EBITDA TPM-VHA merger provides bundling of broadband and mobile and activates the gateway to capture these Net Debt customers. It exposes TLS’s overvalued quality premium and offers bundled broadband to trigger Net Debt / EBITDA migration. This is similar to the bundling impact after UK telco BT acquired mobile player EE. Postpaid TLS' Net Debt / EBITDA mobile ARPU declined from £25.9 to £23.4 from FY16-18 and the incumbent telco’s market share

Source: Abercrombie & Co Analysis dropped 25% to 21% (Appendix 21). Further, whilst TLS has coverage over 99% of Australians, since 85% of the population stays within urban areas, which VHA already covers, TLS’s coverage premium is less compelling. Consumers spending most time in urban areas may be less likely to accept a $29 price Diagram 12: Comparison of NPS premium for negligibly different network quality within urban areas. This boosts the incentive to switch to across Telcos TPM-VHA. We project TLS market share will fall by up to 5% in FY19. We expect industry ARPU to fall, 25 as TLS and Optus fight on price to close the gap between the quality and price premiums. Rather than having 4 main telco players prior to the merger, our view is that there were only two main bundle 20 providers. With TPM-VHA, there are three quality bundle providers, enabling the price war to go on.

15 Clinging to Price Relief: We expect TPM-VHA to be aggressive in pricing as a merged entity contrary to beliefs that TPM-VHA would abandon an undercutting strategy. We believe TLS’s ARPU will decrease 10 to $55.73 in FY19, and TLS would miss EBITDA guidance of $8.7-9.4bn by 4%. We view VHA’s decision to create a Special Purpose Vehicle (SPV) (which involves VHA moving $4.8bn of debt and paying it 5 down with their half of the dividends from the TPM-VHA) as a means to ensure capex can be sustained 0 without hiking mobile prices (See: Diagrams 10 and 11). This is because in the absence of the merger, FY15 FY16 FY17 FY18 network investments placed TPM at risk of breaching their 3.5x Net Debt/EBITDA covenant and VHA’s -5 $7.57bn debt (at August 2018) inhibited its ability to raise more debt to fund mobile capex. Instead, TPM- VHA will have a combined leverage of 2.2x Net Debt/EBIDTA (See: Diagram 11). Our merger model also -10 Source: Company filings affirms that TPM-VHA will be deleveraged with greater debt capacity from the merger, as Net Telstra Optus Debt/EBITDA declines across our model forecast (See: Appendix 22). This enables a sustainable annual Vodafone

4

outlay of $898m in capex for mobile network and 5G upgrades, whilst allowing TPM-VHA to keep their Diagram 13: Average Customer prices low to capture market share. The prospect of TPM-VHA choosing an aggressive strategy is also Wait Times (hrs) supported by Mr Teoh’s claim after announcement that TPM-VHA will be a “leading challenger” and VHA’s motivation to reclaim the migration of customers from Vodafail. 1.3 1.3 Customer Flight | Unprecedented Attrition Rates 1 1 0.8 Customer Dissatisfaction: In a low trust environment, TLS customers may have reached peak dissatisfaction. A comparison of NPS reveals TLS is reaching an all-time low in customer satisfaction, 0.5 from a score of 13 to 7 in FY18 (see: Diagram 12). Rivals like VHA have a score of 20. Against more reliable alternative providers, we believe dissatisfied TLS customers could flee, contributing to the projected 6.7% fall in FY19 earnings. Our analysis reveals the causes are: (1) outages; with 174 reported outages since January 1; and (2) longer wait times than competitors (See: Diagram 13). On our testing, it took on average 1hr 31min to reach a human on TLS’s hotline, exceeding the industry median of 1hr. Virgin Belong Optus Telstra Amaysim Vodafone Vodafail – the sequel? The previous two factors parallel the start of the ‘Vodafail’ saga in 2010, where Source: Australian Communications Consumer Action Network VHA’s customers experienced outages and poor response rates. This reduced NPS by 250% from 2010 to 2012. VHA experienced churn of 8.4% in half a year and of 33% over the entire period. Given the Diagram 14: TLS’s Capex and current period of high churn and similarities with VHA in Dec 2010, we appropriate the abnormal impacts Gearing of ‘Vodafail’ churn in the 1st year (at a 50% discount) to arrive at our FY19 churn estimate at 16%. 55% $7,000 2. All in on 5G | Hold the Door for Rivals to Enter 5G $6,000 50% 5G is the next generation of mobile internet connectivity (e.g. 3G and 4G), which is becoming a driving $5,000 factor of mobile uptake. TLS relied heavily on commercial 5G launch in 2020 reviving earnings. Historically, TLS enjoyed the premiums available as a first-mover during 3G and 4G rollouts. We $4,000 45% challenge management’s guidance that TLS will be the first to market and forecast subdued ARPU growth $3,000 [A$m] of 1% in FY20 and declining growth afterwards. We premise this on a hyper-competitive landscape that will not subdue at commercial launch of 5G as Optus and TPM-VHA will be as ready as TLS. $2,000 40% 5G Rollout | Telstra No Longer First $1,000 ARPUs skydive against main Rival Optus: TLS may be forced to introduce expected plan prices for 35% $0 5G that will be unable to meet the premium investors expect. TLS increased capex with network upgrades FY11 FY13 FY15 during from FY11 and FY15 for 4G and 4GX (Diagram 14). These were offset by charging a premium for the new network with ARPU growth of 7.05% in FY11 and 5.51% in FY15 (Diagram 15). Having a Capex Gearing monopoly over 4G for a year before Optus turned on their networks and 4 years before allowing access Source: TLS Annual Reports to resellers (e.g. Woolworths Mobile, Boost) ensured TLS achieved perceived market leadership and could receive ARPU premiums before competitors caught up. However, as 5G rollout intensifies in FY19, our analysis affirms TLS will come to market at a similar time to Optus, eroding historical premium Diagram 15: TLS and Optus expectations. We modelled a -5% ARPU in FY19 and a subdued increase of +1% in FY20. These ARPU Growth Trends forecasts are premised on: (1) TLS’s plans to rush the “early 5G” stage by launching 200 5G-compatible sites this year has limited benefit as commercial 5G compatible devices only become available in 2020. FY11 FY13 FY15 FY17 FY19 Therefore, Optus’ plan to rollout out an identical 5G network in early 2019 will make them as ready as 11% TLS (See: Appendix 25) (2) Optus holds the most bandwidth in 5G spectrum at a population weighted average of 33.1% in major cities (See: Diagram 16). This allows trialling in capital cities where mobile 6% usage is most concentrated; (3) Thus, Optus has been able to accelerate successful 5G trials in July 2018 and matched similar TLS trials run in April 2018. We predict TLS will merely be equally placed with 1% competitors to rollout 5G. They would lose the ARPU premiums historically relied upon to recoup capex. -4% TPM-VHA together ensures guaranteed spectrum: The upcoming spectrum auction provides TPM- VHA the opportunity to acquire the resources needed to continue initial 5G trials. We believe TLS -9% investors will revise ARPU and subscriber growth downwards as a result. With TLS’s debt financing -14% capacity, we hypothesised that it could acquire all 60MHz of their spectrum allocation. Without a merger, TPM and VHA would be in fierce price competition to attain as much of the remaining 60MHz available -19% but would still be expected to stay below its debt covenant of 3.5x. However, the TPM-VHA partnership eliminates a bidding war and accelerates 5G rollout as it ensures the maximum spectrum of 60MHz will Telstra Optus be available to the combined entity and we estimate potential cost savings to be around $30m (Appendix

Source: TLS and Optus Annual Reports; USR 28). We also forecast subscribers migrating from TLS. Though the rushed VHA Three partnership in 2011 Analysis could not manage mass migrating customers, TPM-VHA has better network and resource capacity to succeed since: (1) TPM-VHA has already started deploying small cells in Sydney which are 5G Diagram 16: 5G Spectrum infrastructure alternatives to macro sites of traditional mobile base stations. This reduces overall costs Ownership in FY18 for the combined entity as it expands on TPM’s 21,000km fibre networks, (2) the combined entity will extract learning economies of Mr Teoh’s experience in cost-cutting market entrance and Iñaki Berroeta’s 100% experience in mobile strategy; and (3) they have upgraded their towers to use 4.9G in preparation for 5G, allowing Western Sydney customers to use and be familiarised with VHA developments. 80% Aggressive Entrant | Three is Not the Magic Number Differentiation is King in the Face of Data Commoditisation: Intensified 5G rollout coinciding with 60% imminent NBN completion could trigger a major churn event for TLS. Consumers who are upgrading existing plans onto the new broadband and cellular network will become incentivised to join a new 40% provider with targeted offerings. Investors may infer an imminent rollout would lead to TLS ceding 4% market share to its competitors in FY20, contributing to a 6.7% decline in mobile revenue. Historically, churn rates increase with each new network generation. The 4G rollout in FY11 caused a deviation from 20% mean industry churn by 200bp (Diagram 17). With similar expected 5G rollout dates and data commoditisation (see Industry Overview), we expect product differentiation will drive market share 0% growth. We believe TPM-VHA’s merger allows for differentiation via cost leadership. By bundling mobile Sydney Melbourne Brisbane and broadband, we expect to see reduction in prices greater than if consumers purchased mobile and Available Optus NBN Co Telstra broadband separately. Further, we believe that Optus’ monopoly on international football streaming is an Source: Abercrombie & Co Analysis 5

Diagram 17: Industry Churn in enticing point of differentiation. Optus’ $63m exclusive license of the English Premier League proved to 19% the Postpaid Mobile Space be an effective acquisition strategy as these streamers were more likely to be Optus customers by ~290bp. We view the recent World Cup streaming failure as merely short term because football 16% subscribers increased after the failure and Optus has significant quality and quantity over previous providers of World Cup streaming. In contrast, TLS uses a sublicensing strategy where non-TLS 13% customers can access content, eliminating the differentiation benefit. For instance, their AFL, NRL and Netball streaming lack the same growth popularity and compete directly with free-to-air . 10% 3. Commoditised NBN | Winter is Still Coming The NBN has diminished AMPU for TLS over time. Wholesale access and CVC costs remain high, and 7% FY11 FY12 FY13 FY14 FY15 FY16 NBN rollout has enabled smaller, efficient competitors to offer parallel broadband to TLS. ARPU has Industry Average remained low at $44, sluggishly growing $1 since FY15. We believe impacts of NBN commoditisation are fully priced in by a pessimistic market. In FY19, catalysts relate to the difficulty of the incumbent to keep Source: Abercrombie & Co Analysis any remnant of quality advantage and meet their cost target, and an impending dividend cut.

Diagram 18: CVC per User Incumbent’s Curse | Competition and Costs Catching Up 4 Projects (mbps) The churn will go on: In 2018, NBN Co began the progressive rollout of new wholesale NBN bundles. It encourages uptake of sufficient CVC, which enables telcos to support NBN peak speeds amidst 3 congestion. Bundles represent savings of 27% for 50mbps and 10% for 100mbps NBN. TLS’s prior NBN 2 competitive advantage was their investment in CVC above industry norms, which allowed them to achieve 85% of maximum service speeds during peak time. However, our analysis indicates these bundles will 1 spur improved competitor network quality as cheaper CVC bridges a previously unaffordable divide for smaller telcos. By modelling the resulting abnormal CVC uptake following other discount programs (See: 0 Diagram 18), we determined the new bundle prices almost double industry average CVC/user by the end 3/1/2017 3/1/2018 3/1/2019 of 2019 to 2.93mbps. At these levels, quality convergence of bandwidth across telcos reduces ARPU and Source: Abercrombie & Co Analysis keeps churn high as consumers benefit from choice. TLS’s connection quality advantage will decelerate quicker than expected, thus we forecast TLS fixed data revenue to fall 5%, and net income to fall $440m. Diagram 19: Cost Increases Outstripping Savings T22 Cost program – dubious at best: With competition set to rise further in FY19, we do not believe 2500 TLS’s $2.5bn productivity savings program will meaningfully increase margins. We hold concerns over executing the remaining $1.8bn in fixed cost savings that the market expects. Under CEO Andrew Penn, 1500 costs ballooned $3bn since 2015 whilst EBITDA shrunk 4%. In contrast, mature telcos like VHA cut costs 500 by $600m over the past decade. Overseas, BT Group has cut costs by $2bn. TLS has problems executing cost efficiency programs. Plans to cut 30% of labour could impact customer satisfaction as NBN support -500 FY17 FY18 FY19 FY20 personnel reduce. In a high churn setting from NBN rollout, this compounds market share loss. Even if Cumulative TLS NBN the $2.5bn fixed cost target is reached, we think the market has overlooked the rapid increase in cost of Network Cost Increases sales in FY18, growing $1bn (13.6%), faster than the cost out which only progressed $480m. Greater Cost Savings Achieved (m) than expected payments to NBN made up $494m of this rise in cost of sales. The record 6.9m users Source: Abercrombie & Co Analysis connecting to NBN in FY19 and temptation to purchase more CVC to combat rivals could trigger cumulative cost of sales increases of $2.4bn by FY20, eviscerating the productivity savings (See: Diagram 20: Projected Ordinary Diagram 19). We project NBN cost of sales to increase by $773m, reducing EBITDA by 2.9% in FY19. and Special Dividends (c) 25 High Dividends to End | Not Enough Cash for Capex 20 Other concerns will take priority: Our analysis suggests a major dividend cut, beyond expectations, is 15 coming. In FY18 TLS paid 22c in dividends, 30% lower than the 5-year average. We believe the market 10 currently implies a 18c ordinary dividend/share in FY19, on a bare bottom 70% payout on lower end of TLS earnings guidance. This is still too optimistic. With capex and competition pressures posing 5 existential threats to TLS’s market leadership, we believe TLS will prioritise an A band credit rating (See: 0 Financial Analysis). In light of a recent A- downgrade, cofounding events in FY19 risk depriving NPAT. FY18 FY19 FY20 FY21 FY22 The looming $1.2bn capex outlay for their network program will lead to negative cash balances without Ordinary Special additional financing. Raising debt to cover this will breach the target debt servicing ceiling of 1.8x Net Source: Abercrombie & Co Analysis Debt/EBITDA. Other earnings pressures also strain TLS’s cash flow in FY19. Further NBN competition and aforementioned mobile declines both suppress ARPUs, losing $128m and $646m respectively. In Table 1: FY19 Upper and Lower our best-case scenario with zero premium for the 5G spectrum auction, TLS still commits $93m in capex Guidance with no recoupment until the 5G rollout. Thus, the dividend must give and we model that TLS will only have capacity to pay an ordinary dividend of 16c (See: Diagram 23), a 12.2% downside to expectations. FY19 FY19 Lower Upper With a 55% retail investor base, this retreat could spark a sell off. A bull case cut to 17c leads to a 4% Guidance Guidance fall in price from our base Discounted Cash Flow (DCF). A bear case cut of 13c triggers a 10% price fall. EBITDA 8800m 9500m Valuation NPAT off Historical Our price target of $2.67 was computed via three valuation methods: Consolidated Discounted Cash 2728m 2945m 31% Flow Model (DCF), Sum-of-parts (SoP) Maintainable EBITDA Model, and SoP relative valuation. The Ratio SoP approach rendered a more accurate valuation of TLS than on a consolidated basis, as it recognises Payout the dissimilar growth prospects and financial and operational risk profiles of each business. A Dividend Ratio off Discount Model (DDM) was also calculated, although not weighted in the overall valuation. 70% 70% Ordinary Div Consolidated Discounted Cash Flow Model [30% Weighting]

Total Our DCF model was calculated using a Two-Stage Free Cash Flow to Firm (FCFF) with a five-year 1909.60m 2061.50m Dividend forecast horizon and a terminal growth rate (TGR) of 3%. We computed an intrinsic valuation of $2.74 Total per share. The five-year horizon represents the optimal period within which TLS’s cash flows, growth and Dividend risk assumptions can be projected without compromising the forecast accuracy. $0.17 $0.19 per Share

Source: Abercrombie & Co Analysis 6

Table 2: Valuation Output Revenue: Since TLS’s business model operates on subscription contracts, revenue is a function of ARPU (contract price) × subscriptions: positively impacted by population growth and gross additions; negatively Share impacted by switching subscribers (churn rates). Method Weighting Price Mobile: [44%]: The primary driver of revenue is (73%) postpaid contracts. TLS’s postpaid ARPUs DCF $2.74 50% declined by a CAGR of 1.3% between FY11-18 with average churn rates of 10.88%. The current churn environment – further fuelled by ongoing NBN rollout – will see ARPUs further decline from $58.05-$53.53 MEM $2.72 20% (FY18-20) as competitors attract subscribers in the run-up to the next generation rollout. We forecast Multiples $2.44 30% increased net churn (gross churn less additions) of 4% in FY18 and 2% (FY19-20) given the same reasons, exacerbated by TLS’s low consumer satisfaction revealed by a 7 NPS score. Total mobile Target $2.67 Price revenue remains flat across the forecast: $9,468.7m (FY19) and $9,571m (FY23). The negative growth in postpaid is muted by moderate growth in the other 27% of mobile revenue (See: Appendix 14).

Source: Abercrombie & Co Analysis Fixed: [18%]: Fixed revenues derive primarily from data and voice products. Fixed data revenue grew at 4.1% CAGR since FY14, but this obscures recent struggles to grow (1.6% FY17, -0.4% FY18). This stems from intensified competition with NBN. TLS’s lost wholesaler status and equal quality broadband Diagram 21: TLS’s Sales and available for 180 RSPs keep ARPUs low at $44. We project increased competitor capability and high EBITDA Margins churn through NBN activations will amplify revenue decline: -5% (FY19-20). Fixed voice fell 9.5% on average over FY14-18 as growth of OTT and data alternatives usurped voice services. These revenues 28 44% continued to fall -15% each year into the forecast, with no signs of a return to popularity for legacy voice. 42% 27 NAS: [14%]: Annual revenue growth in NAS has been historically high yet volatile, with a mean of 20.2% 40% and standard deviation of 12.1%. NAS represents the ancillary growth engine of the company. Recent 26 38% growth may have been inflated, driven in part by the capture of clients transitioning from TLS’s own data 25 and IP networks, rather than capturing from rivals. Revenue is forecast to increase in line with reduction 36% in Data & IP, with additional 8% uplift in industry demand for cloud. 24 34% Data & IP: [10%]: Data & IP declined by a mean of 9% since FY16, due to cannibalisation by the NAS 23 32% segment, as legacy physical data networks have seen demand shift to replacement cloud networks. We FY13 FY15 FY17 project further discontinuance of legacy data VPNs with revenue declining 4.9% each year. Sales [A$b] Operating Expenses: Management forecasts the T22 $2.5bn cost cut regime by FY22. We expect a EBITDA Margin [%] disproportionate amount of costs to be reduced in the short-run as the company streamlines its 20 plan Source: Abercrombie & Co Analysis offerings and employee salaries reduced as per management’s guidance. Cost reductions may be unlikely to continue at this rate. Lack of NBN cost relief and capex for 5G rollout could also largely mitigate Table 3: Valuation Output any cost-reduction benefits. As such, we forecast moderate decline in OPEX as a percentage of revenue from FY19-FY20, which levels from FY21 across the rest of the horizon. Forecast WACC 6.60% Capex: Forecasted to increase on the assumption that TLS will bid for all its available spectrum Terminal WACC 7.01% allocations. The value of the spectrum auction with only two main telcos (TLS and TPM-VHA) may have a zero premium and should sum to ~$93m – contributing to the FY19 capex figure. The result is PV Forecast FCFFs 9,077.1 ($m) capex/sales ratio of 17.8%, the upper end of management’s 16-18% guidance. From FY20-23 we expect capex to increase from ~$5872m-$6633m with 5G infrastructure capex and new network towers. PV Terminal FCFFs 39,728.3 (Sm) Free Cash Flow to Firm (FCFF): FCFFs were discounted at the explicit WACC of 6.60%. Cost of equity Enterprise Value 48,805.4 of 8.39% was calculated via the CAPM, Fama-French Three Factor model and the DDM (Appendix 9). ($m) The cost of debt of 3.24% was computed via a triangulation of intrinsic and comparable methods Less: Debt ($m) (16,860) (Appendix 10). TLS’s terminal value, which stores 81% of the company’s DCF value, was discounted by a terminal WACC of 7.01%. This higher discount rate reflects greater risk associated with TLS’s terminal Add: Cash ($m) 629 cash flows against the backdrop of the firm restructuring, industry changes and intense competition. (Appendix 11). TLS’s terminal FCFFs are assumed to grow in line with our TGR of 3%. After summing Equity Value ($m) 32,574.4 FCFFs and subtracting net debt, we arrive at an equity valuation with an intrinsic price target of $2.74. Shares Outstanding 11,878.9 (m) SoP DCF Maintainable EBITDA Model [50% Weighting]

Value Per Share $2.74 Separating InfraCo offers the financial transparency needed to value core operations (CoreCo) separate to the infrastructure business. CoreCo was modelled with similar assumptions as the consolidated DCF. Current Share Price $3.21 Maintainable EBITDA: This represents the EBITDA attributed to the CoreCo (ex InfraCo). One-off receipts associated with the NBN transition process were stripped out as were recurring securitised Source: Abercrombie & Co Analysis payments. The result is EBITDA trending from $5,499.2m to $5,209.9m (FY19-23) consistent with margin erosion discussed in the DCF payments. Table 4: Cost of Capital Output InfraCo Value Drivers: InfraCo’s value is a function of NBN recurring securities payments that can be Forecast Terminal forecasted accurately. Their EBITDA contribution grows 2% p.a. from $593m to $623m (FY19-23) where they plateau. One-off payments were stripped from InfraCo as they are a non-recurring item distorting Re 8.39% 9.95% TLS’s intrinsic value. InfraCo’s overall EBITDA is forecast to fall from $3,125m to $2,418m (FY19-23). Rd 3.24% 4.09% Risk Profiles: InfraCo’s value can be compared to a fixed annuity stream. An appropriate discount rate Net Debt 16,653 16,653 was implied using the BBB rated as a risk proxy and implying a spread above the 10-year government ($m) bond rendering a lower explicit and forecast WACC than CoreCo. Similarly, with InfraCo detached, Equity CoreCo’s WACC was increased proportionately to reflect the riskier cash flow profile (See: Table 5). 36,591 36,591 ($m) FCFF Valuation: Two-stage FCFFs were calculated for each entity and discounted by the appropriate D/V 0.31 0.31 discount rates. The resulting SoP valuation is consistent with a $2.72 price target, $1.04 contributed by InfraCo (23%) and $1.68 by CoreCo (73%). The (Maintainable EBITDA Model) MEM results in some E/V 0.69 0.69 valuation uplift in the standalone unit caused by recognising its attractive risk profile. Tax Rate 30% 30%

WACC 6.60% 7.01%

Source: Abercrombie & Co Analysis 7

Sum-of-Parts Output EV/EBITDA Forecast EV (DCF) ($m) FY19 EBITDA ($m) (FY19F) WACC FCFF CAGR InfraCo 15,195.9 3,125.6 4.9x 5.2% (7.7)% CoreCo 36,892.4 5,499.2 6.7x 7.2% (4.5)% Total 52,088.3 8,624.8 6.0x Relative Valuation Trading Multiples [20% Weighting] Debt ($m) (16,653.0) Trading multiples were used on the separate units and a consolidated basis, allowing differing growth Implied Equity Value 35,435.3 and risk profiles to be assumed by the multiples. A merit of the valuation first depends on selecting robust ($m) comparables that reflect the growth, risk and cash flow profiles of TLS (See: Appendix 7). We computed Shares on issue 11,893.3 a $2.44 target price comprised of SoP EV/EBITDA, EV/Sales, EV/EBIT and consolidated P/E. NTM Target price $2.44 multiples were used to reduce historical accounting biases, rendering a more forward-looking valuation. Current Trading Price $3.21 Lower quartile multiples were applied to CoreCo whilst upper quartile multiples were applied to InfraCo Implied Premium – recognising its more attractive risk and cash flow profile relative to the core (See: Appendix 8). (31.6)% (Discount) SoP EV/Sales: weighted 9% given that the ability to generate revenue, particularly in mobile, is a key Table 5: WACC Outputs driver of value for telcos in light of competition. Further, it allows for comparison across international CoreCo WACC companies with minimal distortions (besides revenue recognition criteria) arising from other line items. The upper quartile multiple for InfraCo and lower quartile multiple for CoreCo rendered a summated Forecast 7.16% share price of $2.09. TLS trades at a 2.1x EV/Sales ratio, representing a ~15.3% and ~31.7% premium Terminal 7.58% to its comparable median and lower quartile multiples (respectively). One drawback is it is an imperfect proxy for value as it fails to consider operating efficiency discrepancies between TLS and its peer group. InfraCo WACC SoP EV/EBITDA: We ascribed 50% weight as it is a capital structure neutral metric that encompasses Forecast 5.22% the operational efficiencies of each unit. InfraCo’s implied share price is $0.99 whilst CoreCo’s is $1.63, rendering a $2.62 price target on a consolidated basis. TLS’s current price implied a 6.41x EV/EBITDA Terminal 5.60% multiple (summated basis) which reflects a marginal discount of ~5.9% to comparable peers, yet a 20.5% Source: Abercrombie & Co Analysis premium to its lower quartile. Its attractive EV/EBITDA margin is due to InfraCo’s strong EBITDA margin.

Table 6: Summary Output of SoP EV/EBIT: We ascribed this multiple a 20% weighting as it provides a proxy for comparison of asset-rich companies with high D&A expenses. InfraCo’s implied price using this multiple is $0.95 whereas OpCo’s price is $1.50 yielding a total share price of $2.45, a 31% discount to the current share price of $3.21.

Mult- TLS Infra Op Weight- P/E: Was moderately weighted at 20%. As a multiple it lacks predictive value due to its reliance on the iples SP Co Co ing current share price as a metric of value and is most exposed to the distortions that can arise from differing accounting treatments and capital structures. Also, it was used on a consolidated basis which implicitly bundles InfraCo and CoreCo’s risk and growth profiles into the one multiple. The peer-implied share price

EV/ is $2.51. The current share price implies a 14.85x P/E ratio – a 18% premium to the comparable multiple. $2.09 $0.45 $1.64 30% Sales Financial Analysis

EV/ EBIT $2.62 $0.99 $1.63 50% Profitability | Competitive Landscape Supressing Profit Margins DA Mobile Revenue: Postpaid mobile ARPUs declined from $64.46 to $58.05 (FY12-18) due to increasing competition. The negative effect on revenue growth is muted by the overall subscriber growth profile: P/E $2.51 20% averaging 4% from (FY13-18) albeit at a decelerating rate (8.6% FY13 to 1.7% FY18). In determining the quantitative impact on future ARPUs we constructed a Quality Factor Model (QFM) that aimed to understand network quality gained per marginal contract price in the Australian market. Comparing TLS, Value/ Share: $2.44 VHA and Optus, ‘network quality’ was proxied using five-factors (See: Appendix 15). Our analysis Source: Abercrombie & Co Analysis indicates that TLS’s average contract is over-priced by $5.1 (7.98%) whilst Optus and VHA are fairly priced with <2% margin of error. This quality-factor divergence shows that TLS’s quality advantage is Table 7: Marginal Propensity to overpriced relative to VHA’s products. TLS has comparatively lower churn (10.88% p.a. compared to Pay Quality Premium above VHA 13.4% p.a. peer median) due to sticky customers, historical premium offerings, and its bundled packages. If TPM-VHA offer a cheaper bundling product, customers may be more inclined to switch from TLS. Factor Telstra Optus NAS Growth: TLS’s strategy also orients to new digital platforms (NAS), targeted at mid-corporate to Asset $14.80 $12.81 enterprise customers. It leverages existing networks to provide innovative solutions, e.g. cloud services. Call $4.85 $3.47 Whilst this is a growth lever (20.2% p.a. FY13-18) it has minimal effect on the bottom-line given its 9% NPAT margin. This growth masks the cannibalisation of its Data & IP segment, as clients are shifted from Web $3.10 $1.95 legacy data networks to new cloud services. Holding DCF model assumptions constant, the current price Video $5.58 $3.10 of $3.20 implies unrealistic 26% p.a. growth in NAS between FY18-23 to offset falling mobile revenues.

Speed ($4.43) ($9.51) Declining Profitability and Investor Returns: TLS’s book ROE declined from 29.93% to 20.03%, whilst market ROE declined from 6.2% to 5.8% (FY13-18). Analysing TLS’s DuPont composition reveals that Value of 54.4% of this historical decline was the result of compressing NPAT which decreases from 15.74% in Quality $23.90 $11.82 Premium FY13 to 11.18% in FY18 as well as increasing leverage. The declining profitability is also a function of TLS’s cumbersome overheads and accelerating D&A charges seeing D&A/EBITDA increase from 39% Implied $63.90 $51.82 to 46% (FY13-18). Operating costs have outgrown revenue by 2.7% (annualised) since FY14. SG&A has Price notably increased by 64.2% since FY13, with 34.2% of that increase incurred over the last financial year Charged due to NBN migration. Moreover, historical ROIC (ranging from 5.1% to 4.4%) are markedly lower than Price of $69.00 $51.82 TLS’s WACC, suggesting shareholder value has consistently been destroyed. We question the Offering1 company’s ability to earn above its cost of capital in the lead up to ramping capex requirements. Premium -$5.10 $11.82 Financing Profile | Financing, Investment & Dividend Decision (Discount) Financing and Investment: The company has a strong, albeit declining, financial profile exhibited by Source: TLS, Optus and VHA websites; NB re 1, the comparable offering is the generic plan with 40 GB of historic Net Debt/EBITDA ratios climbing from 0.8x to 1.6x (FY13-18). S&P’s downgrade of TLS’s senior data and unlimited mobile 8

Diagram 22: Cash with 18c FY19 debt (A-) was due to muted earnings and increased competition. The profile is less attractive when Dividend applying Net Debt/EBITDA less Capex (1.2x – 3.4x) across the same horizon. We expect this to continue FY19 FY20 FY21 FY22 FY23 its decline as TLS rolls out the remainder of its $3bn commitment to 5G infrastructure investments, 2500 18.4 excluding expenditure related to spectrum auction which we forecast as ~$93m. We believe capex will continue to rise as adjusted Net Debt/EBITDA increases from 4.0x to 4.8x. 2000 18 Finance-Dividend-Investment Trade-off: TLS faces a three-way trade-off scenario between its 1500 17.6 obligations (dividends and debt) and its goal to aggressively expand into 5G. Cash has rapidly decreased 1000 from ~$5.2bn in FY14 to ~$600m FY18. It has committed to two goals: (1) maintaining an A band credit 17.2 rating; and (2) implement the $1.2bn of growth capex to invest in network and digital intangibles for FY19. 500 With ~$600m of cash on the balance sheet, stagnant profit, and $825m of debt maturing in late 2018, 0 16.8 TLS will struggle to meet its twin aims whilst also satisfying its dividend hungry investors. Using historical yields on TLS’s stock we can impute that the market expects an ordinary dividend of 18c for FY19. -500 16.4 Funding the $1.2bn outlay (assuming no additional debt) leaves FY19 cash reserves at $600m, but by Cash Dividend FY22 cash reserves deplete to -$300m. With this projection, FY19 marks a decision point for TLS to avert Source: Abercrombie & Co Analysis negative cash balance. TLS has 3 options: (1) raise debt to fully fund the $1.2bn growth capex; but whilst we expect TLS to have no issues refinancing the $825m maturing loans in FY19, raising a further $1.2bn in debt brings TLS past its own upper 1.8x Net Debt/EBITDA target (1.86x) which may risk another credit Diagram 23: Cash with 16c FY19 Dividend rating downgrade (2) reducing capex; but this would compromise TLS’s ability to be competitive. Also, 2500 16.4 reducing growth capex to $1bn still leads to -$157m cash in FY21, (3) reducing their dividend payout to offset the debt required. We sensitised annual dividend against cash reserves over the forecast, implying 2000 16 that the minimum dividend cut from 18c required to avert negative cash was $0.02. We believe a base 1500 15.6 cut to $0.16 is warranted, with a bear case dividend cut to $0.12 emerging if competition is worse than expected or one-off NBN receipts are subdued impacting the special dividend. 1000 15.2 Investment Risks 500 14.8 Valuation Risk Analysis | Sensitivity, Scenario and Risk Analyses 0 14.4 FY19 FY20 FY21 FY22 FY23 Sensitivity: Three sensitivity analyses were conducted on the key drivers of TLS’s valuation (Explicit Cash Dividend WACC, Forecast WACC and TGR). These inputs were sensitised as they encompass growth and risk Source: Abercrombie & Co Analysis assumptions. Given 81% of TLS’s DCF valuation is stored in the terminal value, the share price is extremely sensitive to its terminal WACC and TGR assumptions (See: Appendix 11). Scenario: We conceived bull and bear scenarios that varied our valuation inputs based on the TPM-VHA merger Diagram 24: Monte Carlo Output outcome and success, TLS’s competitive positioning in the mobile/5G space, and the disruptive impacts of the NBN. The analysis reveals that our bear scenario renders a share price of $1.98, a 38% discount to the current price, whilst our bull case renders a share price of $3.53 (10% premium to market) (See: Appendix 17). Monte Carlo Simulation: The 10,000 simulations presented a probability-weighted depiction of bull and bear scenarios conceived above. By altering churn, ARPU and growth rate assumptions, we found a price target range of $2.10 - $3.55 with 90% certainty. The simulation reveals 72% of the potential outcomes are less than the current share price, resulting in a sell recommendation. Firm Specific Risks [F1] TLS Successfully Defends Its Market Share (Low Likelihood, Moderate Impact) Source: Abercrombie & Co Analysis Optus downside represents upside risk to our sell recommendation. Given subscriber growth is a key Diagram 25: Impact of Risk on driver of TLS’s mobile revenue, the upside risk will be material if it minimises growing attrition rates. While Optus appears confident that it can continue to increase subscription for its exclusive football streaming $4.00 Base DCF Value service, its World Cup streaming failure meant it could recoup little of its exclusive license for the World $3.00 Cup and the negative publicity would disincentivise TLS customers to switch.

$2.00 Impact on Valuation: In this bull-case scenario, our analysis suggests that TLS’s churn in the mobile segment could decrease from 10.9% to 9.5% (FY18-19). Further, this will keep subscriber growth from $1.00 declining and TLS’s subscription will hold at 4% in FY19. This poses 2.4% upside to our base case DCF. $0.00 Mitigant: We believe Optus’ monopoly over international soccer in Australia, and better quality and quantity of viewing times (over SBS), will differentiate it from other phone/broadband bundling products. F1 F2 C1 C2 M1 M2 [F2] Growth Risk - Telstra Enterprise (Medium Likelihood, High Impact) Base DCF Source: Abercrombie & Co Analysis Any accelerated performance in TLS Enterprise will force upward share price revision. All telcos have been trying to pivot away from a ‘pure’ telco and avoid the fate of becoming ‘old pipe’ networks with

Diagram 26: Investment Risk negligible other revenue streams. Success of business-related applications, 5G related business Matrix innovations and uptake of TLS’s Programmable Network which links all corporate solutions inside/outside of Australia serves as a risk with high impact. It derives value as an ‘optionality’ for underlying network

capabilities and offers potential for TLS to adopt the trading multiple of an evolving tech company. Impact on Valuation: The growth of enterprise solutions could drag TLS out of a competitive commercial M1 F2 environment. We forecast Data and IP and NAS segment EBITDA growth to sustain revenue growth of NextYear 10% and 30% respectively from FY20-23. This poses 35.7% upside to our DCF value. Taking EV/EBITDA multiples of enterprise focused firms gives a valuation at 96% premium to the relative valuation. C1 High ImpactTLS on in the High Mitigant: We hold that TLS’s offerings in Enterprise will remain secondary to its core business as (1) the 10% margins are lower than the 40% earned in mobile and (2) the bureaucratic structure and multitude F1 of offerings limits its manoeuvring ability relative to smaller start-ups. M2 Competitor-Based Risks

C2 [C1] Merger Falls Short (Moderate Likelihood, Moderate Impact) If TPM-VHA accepts price stability, it reduces pressure on TLS’s mobile revenue, raising ARPU with an equilibrium state of 3 main telcos. This would greatly impact our valuation, as it quells the anticipated High Likelihood of Realising price war that TPM’s entrance into mobile with $0 unlimited data plans ($10 after 6 months) was expected in the Next Year 9 Source: Abercrombie & Co Analysis

Diagram 27: Change (%) in to trigger. TPM-VHA may stabilise or raise prices to prevent cannibalisation of existing higher priced VHA Mobile Market Share customers (relative to TPM level). It may also raise revenues per user to increase speed of receipts to repay debt held in their securitised SPV. Another reason may be TPM-VHA’s anticipation of the 5G rollout Sep-15 Sep-16 Sep-17 and desire to raise revenues from their combined 20% market share to partially offset capex investments. 1.50% Impact on Valuation: This may raise ARPU 3%, compared to our projected 4% fall. Averting a price war stabilises churn (raising postpaid subscribers to 8.1m), so it could pose 4.2% upside to our DCF value. 0.00% Mitigant: A relatively small combined 20% of mobile market share may not be sufficient against rising MVNOs that could capture customers if TPM-VHA pursues higher ARPUs. MVNO market share rose -1.50% from 6.4% to 7.5% in a year with growing popularity of cheaper providers and more data offerings (See: Diagram 27). TPM-VHA might have to compete on price (see: Appendix 23) to maintain market share. -3.00% [C2] The Aftermath of the Huawei Decision (High Likelihood, Low Impact):

MVNOs VHA The Government blocked Huawei and ZTE from building the nation’s 5G networks on national interest grounds. TLS is the only major telco who have not previously relied on Chinese firms for manufacturing Other or supplying equipment for network rollouts. As reversal of the decision is unlikely, TLS still remains on

Source: Abercrombie & Co Analysis track to have equipment supplied by Ericsson, whilst competitors may have issues negotiating with alternative providers. If delays are substantial, it may increase chances TLS arrives first to market. Our 5G thesis is premised on the readiness of Optus, TPM and VHA in being able to rollout their 5G networks at effectively similar times, eroding any first mover advantage that TLS could historically achieve. Impact on Valuation: Low, with negligible delays; we expect it will not sizably affect revenues post 2020. Diagram 28: NBN Co NPAT ($m) Mitigant: Ericsson does not have an exclusive agreement with TLS, and we expect delays in negotiating 2013 2014 2015 2016 2017 or exploitative premiums they charge telcos will be negligible relative to the $1bn+ capex outlay all telcos 0 are investing annually in 5G. The block also did not affect Huawei equipment used in 4G networks. Telcos have the opportunity to extend legacy 4G networks into 5G if negotiations are prolonged.

-1000 Market-Oriented Risks

[M1] NBN Better than Expected (Low Likelihood, High Impact): -2000 If NBN wholesale prices fall further, possibly enabled if NBN ROI is written down from 6-7%, this reduces TLS’s cost of sales and improves AMPU. Some market commentary suggests the ROI is barring needed cost relief since NBN Co itself has been sustaining massive losses (See: Diagram 28). The ROI is under -3000 the auspices of the Government. There have been calls for relief since high-profile delays in FY18. Impact on Valuation: If a write down occurs, it could lead to further price relief of $12-$18 per user, Source: Abercrombie & Co Analysis raising AMPU by the equivalent amount. EBIT could boost by 16%, raising our DCF from $2.67 to $2.94. Mitigant: We expect it would be fatal for the Coalition to write down ROI and incur a major budgetary hit so close to the Federal Election. The Coalition maintains the NBN is still viable to turn a profit. Any new Government is also likely averse to a write off in the first year, especially with a budget surplus in FY21. [M2] Untapped 5G Potential (Moderate Likelihood, Moderate Impact): Table 8: Leadership Team If consumer demand for 5G exceeds expectations, it could normalise NBN bypass, providing better margins than NBN broadband. 5G could replace demand for fixed broadband, with its superior download Position as of 18 Sep 2018 (see: speeds. If consumers continue to favour mobile data usage, TLS could benefit as it reduces the NBN Appendix 24) margin burden that afflicts TLS and raises AMPU to higher 5G levels. TLS could also benefit if the IoT Andrew market takes off, which Bain predicts has 30.3% CAGR. Upside risk relies on commercial viability of CEO Penn technologies, e.g. autonomous cars, which propel growth of IoT, creating new revenue streams. Impact on Valuation: If realised, we predict mobile revenue growth past FY20 towards 9% growth in Warwick CFO FY22, consistent with growth rates achieved after rollout of 4G LTE. This improves our DCF value by 6%. Bray Mitigant: Limitations in maximum bandwidth capacity with portable and mobile 5G make it less attractive for consumers to completely bypass fixed NBN broadband for 5G. In 2016, fixed average household Group Executive, Alexandra downloads were 240GB/month whilst higher band mobile plans only provide 20GB/month. At higher HR Badenoch amounts, 5G reportedly has issues maintaining connection capacity, which limits prospects of NBN bypass. Further, these benefits are mitigated by the intense competition expected in the space if 5G takes Robyn off, given lucrative margins available if consumer demand is there to justify the capex. COO Denholm Corporate Governance Group Executive, Will Irving TLS’s corporate governance efforts are evidenced by their compliance with the ASX recommendations Wholesale and their consistent review of governance arrangements. Despite this, we identify two shortfalls:

Group General Carmel Data Breaches: TLS has experienced several information breaches, with the latest breach (Jul 2018) Counsel Mulhern involving the unauthorised disclosure of 18 customers’ personal information. These events are underpinned by agency issues; management is generally not incentivised to invest in data security, as Group Executive, Brendon they yield no financial benefit if the risk is not realised, with pay is linked to immediate earnings. Even if Enterprise Riley risks eventuate, management is indirectly impacted, whilst customers experience privacy breaches and shareholders are subject to damaged firm reputation and legal costs. Failing to recognise the importance of cyber security exposes TLS to long term value destruction in pursuit of short-term profits. Group Executive, Consumer and Vicki Brady Compensation Schemes that Don’t Address Customer Satisfaction: In FY18, the failure of TLS’s Small Business management to hit its strategic NPS target resulted in management not receiving 20% of their executive variable remuneration plan (See: Appendix 24). This is unsurprising given that NPS is at an all-time low Group Executive, (See: Graph 4). What is concerning is management’s decision to ‘focus’ on other areas which have Global Business David Burns minimal quantifiable results (See: Appendix 24) and remove the link between their compensation and Services customer satisfaction, which increases divergence between shareholder and management goals.

Source: Telstra’s Website

10

APPENDICES

FINANCIALS VALUATION MISCELLANEOUS 1. Share Price History 6. Valuation Summary 11. Cost of Capital 18. Industry Analysis 25. 5G Rollout 2. Income Statement 7. Relative Valuation 12. Firm Free Cash Flow 19. Landscape Analysis 26. Timeline of 3G and 3. Cash Flow Statement 8. SoP Maintainable 13. Financial Analysis 20. PESTLE 4G; NBN Timeline EBITDA Model 14. Quality Factor Model 21. Case Studies 27. Spectrum Auction 4. Capital Management 9. Dividend Discount 15. Mobile Revenue 22. TPM-VHA Merger Process 5. Balance Sheet Model Derivation 23. Survey Data 28. Prediction of Auction 10. Terminal Value & 16. Sensitivity Analysis 24. Executive Team Spectrum and Price Forecast Period 17. Scenario Analysis Summary 29. NPS Scores 30. References

APPENDIX 1: Share Price History

11

APPENDIX 2: Income Statement

Income Statement FY2016 FY2017 FY2018 FY2019 FY2020 FY2021 FY2022 FY2023 Revenue Mobile 10,438.0 10,102.0 10,145.0 9,468.7 9,436.6 9,357.5 9,534.2 9,571.6 Fixed Data 2,513.0 2,553.0 2,544.0 2,416.8 2,296.0 2,066.4 1,863.9 1,684.9 Fixed Voice 3,437.0 3,125.0 2,642.0 2,245.7 1,908.8 1,622.5 1,379.1 1,172.3 Fixed Other 1,079.0 729.0 626.0 604.9 584.5 564.7 545.7 527.2 Data and IP 2,829.0 2,695.0 2,557.0 2,431.0 2,311.2 2,197.3 2,089.0 1,986.0 NAS 2,581.0 3,370.0 3,646.0 4,352.6 5,196.1 6,203.1 7,405.2 8,840.4 Media 864.0 935.0 993.0 1,054.6 1,120.0 1,189.5 1,263.3 1,341.6 Global Connectivity 1,452.0 1,435.0 1,513.0 1,545.3 1,578.2 1,611.9 1,646.2 1,681.3 Other 1,307.0 2,399.0 2,238.0 1,342.8 805.7 644.5 515.6 412.5 Total Revenue 26,500.0 27,343.0 26,904.0 25,462.3 25,237.1 25,457.3 26,242.2 27,217.9 Cogs (12,122.0) (12,739.0) (13,748.0) (12,173.8) (12,091.4) (12,222.3) (12,625.4) (13,122.1) Gross Profit 14,378.0 14,604.0 13,156.0 13,288.5 13,145.7 13,235.0 13,616.8 14,095.9 SG&A (961.0) (1,054.0) (1,415.0) (1,081.3) (1,071.8) (1,081.1) (1,114.5) (1,155.9) Other Operating Expenses (Income) (2,874.0) (3,191.0) (2,929.0) (2,835.0) (2,809.9) (2,834.5) (2,921.8) (3,030.5) EBITDA 10,543.0 10,359.0 9,656.0 9,372.1 9,264.0 9,319.4 9,580.5 9,909.5 Depreciation (3,143.0) (3,429.0) (3,005.0) (3,126.6) (3,248.5) (3,351.8) (3,742.7) (3,847.7) Amortisation (1,198.0) (1,383.0) (1,465.0) (1,836.7) (1,779.6) (1,779.4) (1,814.7) (1,876.5) EBIT 6,202.0 5,547.0 5,186.0 4,408.9 4,235.9 4,188.2 4,023.1 4,185.2 Interest Income 86.0 138.0 78.0 - - - - - Interest Expense (796.0) (729.0) (683.0) (767.8) (767.8) (767.8) (767.8) (767.8) Pre-Tax Profit 5,492.0 4,956.0 4,581.0 3,641.1 3,468.1 3,420.3 3,255.2 3,417.4 Tax Expense (1,768.0) (1,773.0) (1,573.0) (1,092.3) (1,040.4) (1,026.1) (976.6) (1,025.2) Net Income 3,724.0 3,183.0 3,008.0 2,548.7 2,427.6 2,394.2 2,278.6 2,392.2

Basic Weighted Average Shares Outstanding 12,216.0 11,979.0 11,884.0 11,878.90 11,878.90 11,878.90 11,878.90 11,878.90 Basic Earnings per Share (EPS) $ 0.47 $ 0.33 $ 0.30 0.21 0.20 0.20 0.19 0.20 Dividend $ 3,664.80 $ 3,713.49 $ 2,614.48 1,900.62 1,900.62 1,900.62 1,900.62 1,900.62 Dividends per share $ 0.30 $ 0.31 $ 0.22 0.16 0.16 0.16 0.16 0.16 APPENDIX 3: Cash Flow Statement

Cash Flow Statement FY2019 FY2020 FY2021 FY2022 FY2023 Operating Cash Flows Net Income 2,548.74 2,427.64 2,394.24 2,278.65 2,392.18 D&A 4,963.24 5,028.11 5,131.21 5,557.45 5,724.25 Change in Working Capital 746.10 (14.91) 12.21 46.51 58.02 Accounts Receivable Long-Term 16.14 4.45 (4.35) (15.50) (19.27) Deferred Tax Assets, LT 6.01 0.42 (0.42) (1.48) (1.84) Deferred Charges, LT 109.84 10.16 (9.93) (35.39) (44.00) Unearned Revenue, Non-Current (70.31) (10.98) 10.74 38.28 47.58 Pension & Other Post-Retire. Benefits (8.79) (1.37) 1.34 4.78 5.95 Def. Tax Liability, Non-Curr. (87.03) (13.59) 13.29 47.38 58.89 Other Non-Current Liabilities (18.76) (2.93) 2.87 10.21 12.69 Cash Flow From Operations 8,205.19 7,426.99 7,551.21 7,930.88 8,234.45 Investing Cash Flows Capital Expenditure (6,124.74) (5,953.11) (6,022.71) (6,418.95) (6,585.75) Long-term Investments 347.14 12.04 (11.77) (41.95) (52.15) Goodwill - - - - - Loan Receivables Long-Term 269.15 (2.38) 2.33 8.30 10.31 Other Long-Term Assets 615.09 14.23 (13.92) (49.60) (61.65) Capital Leases (14.68) (2.29) 2.24 7.99 9.94 Cash From Investing Activities (4,908.05) (5,931.52) (6,043.83) (6,494.20) (6,679.29) Financing Cash Flows Dividend Paid (1,900.62) (1,900.62) (1,900.62) (1,900.62) (1,900.62) Short-term Borrowings (36.76) (5.74) 5.62 20.01 24.88 Curr. Port. of LT Debt - - - - - Long-Term Debt - - - - - Common Stock - - - - - Comprehensive Inc. and Other 212.00 - - - - Minority Interest - - - - - Cash From Financing Activites (1,725.38) (1,906.37) (1,895.01) (1,880.61) (1,875.75) Net Cash Increase (Decrease) in Cash 1,571.76 (410.90) (387.63) (443.93) (320.59) Cash at Beginning of Period 629.00 2,200.76 1,789.86 1,402.23 958.30 Cash at End of Period 2,200.76 1,789.86 1,402.23 958.30 637.71

12

APPENDIX 4: Capital Management

Long and Short-Term Capital Management FY2019 FY2020 FY2021 FY2022 FY2023 Long-Term Debt Facilities Opening Balance 16,174.0 16,174.0 16,174.0 16,174.0 16,174.0 Scheduled Repayment of Existing Facilities - - - - - Additional Debt Drawn 0 0 0 0 0 Prepayment of Debt 0 0 0 0 0 Total Debt 16,174.0 16,174.0 16,174.0 16,174.0 16,174.0 Net Issuance (Repayment) of Debt

Revolving Credit Facility ($2,373.5m) Year-end Cash Balance Pre-Dividends without Revolver Drawn 5,673.1 3,279.6 2,915.2 2,415.0 2,217.7 Minimum Cash Balance Required for Operations 509.2 504.7 509.1 524.8 544.4 Cash Needed to Fund Dividends 1,900.6 1,900.6 1,900.6 1,900.6 1,900.6

Opening Balance (154.6) - - - 10.5 Drawdown (Repayment of) Revolving Debt Facility 154.6 - - 10.5 227.2 Closing Balance - - - 10.5 237.7 APPENDIX 5: Balance Sheet Balance Sheet FY2016 FY2017 FY2018 FY2019 FY2020 FY2021 FY2022 FY2023 Current Assets Cash and Cash Equivalents 3,550.0 938.0 629.0 2,200.8 1,789.9 1,402.2 958.3 637.7 Trading Asset Securities 49.0 4.0 3.0 2.8 2.8 2.8 2.9 3.0 Accounts Receivable 4,644.0 5,296.0 4,961.0 4,695.2 4,653.6 4,694.2 4,839.0 5,018.9 Other Receivables 101.0 183.0 63.0 59.6 59.1 59.6 61.5 63.7 Inventory 557.0 893.0 801.0 572.5 568.6 574.7 593.7 617.0 Prepaid Expenses 426.0 531.0 548.0 518.6 514.0 518.5 534.5 554.4 Other current assets 13.0 17.0 72.0 72.0 72.0 72.0 72.0 72.0 Total Current Assets 9,340.0 7,862.0 7,077.0 8,121.5 7,660.0 7,324.2 7,061.9 6,966.8 Non-Current Assets Gross Property, Plant & Equipment 64,960.0 64,312.0 64,949.0 69,075.6 73,087.6 77,169.3 81,612.1 86,159.8 Accumulated Depreciation (44,379.0) (42,962.0) (42,841.0) (45,967.6) (49,216.1) (52,567.8) (56,310.6) (60,158.3) Net Property, Plant & Equipment 20,581.0 21,350.0 22,108.0 23,108.0 23,871.5 24,601.5 25,301.5 26,001.5 Long-term Investments 1,486.0 1,115.0 1,708.0 1,360.9 1,348.8 1,360.6 1,402.5 1,454.7 Goodwill 1,346.0 1,269.0 1,049.0 1,049.0 1,049.0 1,049.0 1,049.0 1,049.0 Intangibles ex. Goodwill 6,740.0 7,048.0 6,873.0 6,514.7 6,457.0 6,513.4 6,714.2 6,963.8 Accounts Receivable Long-Term 709.0 361.0 519.0 502.9 498.4 502.8 518.3 537.5 Loan Receivables Long-Term 411.0 443.0 - 269.1 266.8 269.1 277.4 287.7 Deferred Tax Assets, LT 54.0 44.0 54.0 48.0 47.6 48.0 49.5 51.3 Deferred Charges, LT 1,143.0 1,241.0 1,258.0 1,148.2 1,138.0 1,147.9 1,183.3 1,227.3 Other Long-Term Assets 1,476.0 1,400.0 2,224.0 1,608.9 1,594.7 1,608.6 1,658.2 1,719.8 Total Non-Current Assets 33,946.0 34,271.0 35,793.0 35,609.6 36,271.8 37,100.9 38,153.9 39,292.7 Total Assets 43,286.0 42,133.0 42,870.0 43,731.1 43,931.8 44,425.0 45,215.8 46,259.6 Current Liabilities Revolving Credit Facility - - (154.6) Accounts Payable 1,465.0 1,185.0 1,588.0 1,502.9 1,489.6 1,502.6 1,548.9 1,606.5 Accrued Exp. 2,483.0 2,854.0 3,023.0 2,861.0 2,835.7 2,860.4 2,948.6 3,058.3 Short-term Borrowings 648.0 1,459.0 686.0 649.2 643.5 649.1 669.1 694.0 Curr. Port. of LT Debt Curr. Port. of Cap. Leases 118.0 107.0 91.0 91.0 91.0 91.0 91.0 91.0 Curr. Income Taxes Payable 176.0 161.0 132.0 648.1 642.4 648.0 667.9 692.8 Unearned Revenue, Current 1,118.0 1,236.0 1,227.0 1,241.7 1,230.7 1,241.5 1,279.7 1,327.3 Other Current Liabilities 1,235.0 1,247.0 1,211.0 1,146.1 1,136.0 1,145.9 1,181.2 1,225.1 Total Current Liabilities 7,243.0 8,249.0 7,958.0 8,140.0 8,068.8 8,138.5 8,386.6 8,695.0 Non-Current Liabilities Long-Term Debt 14,959.0 14,993.0 16,174.0 16,174.0 16,174.0 16,174.0 16,174.0 16,174.0 Capital Leases 269.0 234.0 274.0 259.3 257.0 259.3 267.3 277.2 Unearned Revenue, Non-Current 1,022.0 1,161.0 1,312.0 1,241.7 1,230.7 1,241.5 1,279.7 1,327.3 Pension & Other Post-Retire. Benefits 173.0 166.0 164.0 155.2 153.8 155.2 160.0 165.9 Def. Tax Liability, Non-Curr. 1,493.0 1,539.0 1,624.0 1,537.0 1,523.4 1,536.7 1,584.1 1,642.9 Other Non-Current Liabilities 275.0 321.0 350.0 331.2 328.3 331.2 341.4 354.1 Total Non-Current Liabilities 18,191.0 18,414.0 19,898.0 19,698.4 19,667.3 19,697.8 19,806.4 19,941.5 Total Liabilities 27,379.0 27,573.0 27,856.0 27,838.5 27,736.1 27,836.2 28,193.0 28,636.5 Shareholders' Equity 18.5 (205.4) (305.9) (250.0) (141.2) Common Stock 5,284.0 4,530.0 4,530.0 4,530.0 4,530.0 4,530.0 4,530.0 4,530.0 Additional Paid In Capital ------Retained Earnings 10,640.0 10,221.0 10,709.0 11,357.1 11,884.1 12,377.7 12,755.8 13,247.3 Treasury Stock ------Comprehensive Inc. and Other (53.0) (210.0) (212.0) - - - - - Total Common Equity 15,871.0 14,541.0 15,027.0 15,887.1 16,414.1 16,907.7 17,285.8 17,777.3 Minority Interest 36.0 19.0 (13.0) (13.0) (13.0) (13.0) (13.0) (13.0) Total Shareholders' Equity 15,907.0 14,560.0 15,014.0 15,874.1 16,401.1 16,894.7 17,272.8 17,764.3

13

APPENDIX 6: Valuation Summary

Our target share price of $2.68 was calculated by triangulating our DCF, relative and SoP valuation methodologies. Our SoP valuation yielded a share price of $2.72 and commanded the largest weighting of 50%. This valuation approach allows us to accurately dissect both InfraCo and CoreCo’s value drivers and growth prospects, whilst also allowing us to discount their cash flows at different discount rates to account for the different risk profile of each unit. Moreover, this methodology afforded us added optionality in the methodology used to determine InfraCo’s terminal value. An exit multiple approach was calculated and could be employed in the case of an InfraCo spin-off. However, given the unpredictability of this eventuation, a TGR of 3% was calculated and used. Moreover, the DCF yielded a share price of $2.74 and was weighted at 30% as it allows for explicit modelling of key variables for the company as a whole. Our relative valuation method included both a SoP relative valuation and a firm-wide valuation. Our comparable universe for InfraCo was benchmarked to give added weight to fixed asset-rich telecommunication companies whilst our standard universe was used for CoreCo. InfraCo and CoreCo were valued on a one-year forward basis using EV/EBITDA and EV/Sales (weighted 50% and 30% respectively). A firm-wide P/E ratio was also used and weighted at 20%. Our relative valuation yielded a share price of $2.44 and was weighted given a cumulative weight of 20%.

Football Field Q1 Median Q3 Trading Multiples $2.13 $2.44 $3.28 DCF $2.62 $2.74 $2.88 SoP DCF $2.37 $2.72 $3.33

Triangulation Methodology Price Weighting Sum-of-Parts DCF $ 2.72 50% Relative Valuation $ 2.44 20% Firm-level DCF $ 2.74 30% Value Per Share $ 2.67

APPENDIX 7: Relative Valuation

In addition to our DCF and MEM, we conducted a SoP relative valuation using NTM trading multiples. The forward multiples are more indicative of future expectations and appropriately infer TLS’s valuation in comparison to static historical book metrics. Our relative valuation was conducted on the separated entity: CoreCo and InfraCo. The reasoning is that the two units have disparate risk, growth and cash flow profiles which are assumed in the multiples. The multiples ultimately used to generate our triangulated valuation were: SoP EV/EBITDA, SoP EV/Sales and P/E. In inferring TLS’s values, the merit of the multiples is dependent on the selection of a robust comparable company set. Our screening process was conducted in an attempt to winnow a small set of companies that would reflect the value characteristics of TLS.

Business Characteristics: We began with a universe of 50 global telecommunications companies in Europe, USA and Asia. We applied a broad geographical screen to eliminate telcos that operated in countries with dissimilar consumer preferences and macroeconomic risk factors. Whilst TLS predominately operates in Australia, the transitions and composition of telecommunications companies globally subject TLS to similar operational risks. For example, the consolidation in USA, UK, France, NZ and Singapore which reflect a similar industry dynamics. We then applied a broad Market Capitalisation screen of >$1bn, given the fact that dominate telco players with larger firm size would be subject to similar growth and risks, whereas smaller players (like Superfloo) would fail to give an accurate indication of those profiles.

Financial Characteristics: Beyond product mix and geography, we also applied financial screens to generate a set of companies indicative of similar growth and financial risk profiles. We vetted for company gearing metric (ND/EBITDA) between 1.5x and 4x (with TLS currently at ~ 1.6x). This eliminated Japanese Telcos Nippon (0.86x) and Softbank (4.08x). The logic is that higher and lower gearing ratios would reflect differing financial risk and would poorly infer TLS’s value. Given TLS’s diversified composition of telecommunications assets, we vetted for similar companies that also reflected this conglomerate style. We vetted for revenue composition – with companies that had a large proportion of mobile generated revenue. Given the increasing reliance placed on mobile (representing 44% of TLS’s revenue).

Multiples TLS SP InfraCo OpCo Weighting SoP EV / Sales $ 2.09 $ 0.45 $ 1.64 9% SoP EV / EBIT $ 2.33 $ 1.14 $ 1.18 20% SoP EV / EBITDA $ 2.62 $ 0.99 $ 1.63 50% P/E $ 2.51 20% Value / Share $2.46

LTM 1-Year Forwards (NTM) Company Name Ticker EV / Revenue EV / EBITDA EV / EBIT EV / Revenue EV / EBITDA EV / EBIT P/E Verizon Communications Inc VZ US 2.76x 7.51x 13.78x 2.57x 6.95x 10.98x 11.30x Nippon Telegraph & Telephone 9432 JP 1.47x 5.45x 10.28x 1.37x 5.10x 9.47x 10.04x Vodafone Group Plc VOD LN 1.80x 5.86x 19.48x 1.75x 5.55x 16.48x 14.54x T-Mobile Us Inc TMUS US 2.17x 8.16x 17.55x 1.93x 6.79x 15.10x 15.12x Sprint Corp S US 1.86x 4.90x 25.23x 1.74x 4.65x 20.35x -154.39x Tpg Telecom Ltd TPM AU 2.33x 8.64x 12.16x 2.68x 9.10x 14.29x 28.90x Vocus Group Ltd VOC AU 0.84x 6.91x -1.89x 1.31x 6.94x 13.15x NA Superloop Ltd SLC AU 4.35x 20.33x 84.60x 4.32x 16.02x 37.28x 24.75x Singapore Telecommunications ST SP 3.50x 11.98x 12.98x 3.36x 11.65x 21.89x 13.24x Spark Infrastructure Group SKI AU 47.74x NA 74.57x 8.22x 14.98x 16.78x 37.93x

Comp Upper Quartile 2.65x 8.16x 19.48x 2.66x 6.95x 20.73x 26.83x Median 2.02x 7.21x 15.67x 1.84x 6.79x 14.29x 12.92x Lower Quartile 1.55x 5.55x 10.75x 1.46x 5.10x 11.52x 10.04x Average 2.20x 8.47x 22.65x 2.21x 7.64x 17.14x -7.11x 14

LTM 1-Year Forwards (NTM) Metric EV / Revenue EV / EBITDA EV / EBIT EV / Revenue EV / EBITDA EV / EBIT

Upper Quartile 2.65x 8.16x 19.48x 2.66x 6.95x 20.73x Median 2.02x 7.21x 15.67x 1.84x 6.79x 14.29x Lower Quartile 1.55x 5.55x 10.75x 1.46x 5.10x 11.52x Comps OpCo Enterprise Value $ 31,001.79 $ 36,918.33 $ 22,738.81 $ 28,136.91 $ 28,048.03 $ 10,290.24 Net Debt $ (8,653.00) $ (8,653.00) $ (8,653.00) $ (8,653.00) $ (8,653.00) $ (8,653.00) Equity Value $ 22,348.79 $ 28,265.33 $ 14,085.81 $ 19,483.91 $ 19,395.03 $ 1,637.24 Shares Outstanding 11,893.3 11,893.3 11,893.3 11,893.3 11,893.3 11,893.3 $ 1.88 $ 2.38 $ 1.18 $ 1.64 $ 1.63 $ 0.14 Benchmarked Compms InfraCo Enterprise Value $ 14,536.81 $ 27,790.66 $ 16,252.20 $ 13,481.09 $ 21,903.18 $ 17,413.01 Net Debt $ (8,000.00) $ (8,000.00) $ (8,000.00) $ (8,000.00) $ (8,000.00) $ (8,000.00) Equity Value $ 6,536.81 $ 19,790.66 $ 8,252.20 $ 5,481.09 $ 13,903.18 $ 9,413.01 Shares Outstanding 11,893.3 11,893.3 11,893.3 11,893.3 13,893.3 11,893.3 $ 0.55 $ 1.66 $ 0.69 $ 0.46 $ 1.00 $ 0.79

Benchmarking: Our comparable universe for InfraCo was benchmarked to give added weight to fixed asset-rich telecommunication companies whilst our standard universe was used for CoreCo. Since asset heavy infrastructure companies naturally possess differing growth and risk profile, we thought it to be a more precise reflection of the company’s unified value. APPENDIX 8: Sum of Parts Maintainable EBITDA

Whilst the reasoning behind TLS’s InfraCo spin-off is unclear it results in a separate unit with steady and consistent bond-proxy cash flows which indeed leads to some valuation uplift. In order to discern this valuation uplift, we have constructed a sum-of-parts DCF model. CoreCo had all one-offs stripped out (including NBN DA receipts) in order to calculate a maintainable earnings profile. This maintainable earnings profile theoretically represents the ‘true’ sources of lasting value for TLS and thus allows us to arrive at a fair value for the operating company. All NBN-related receipts do however add some valuation uplift and were thus recorded in the InfraCo. The operating company contributes ~62% ($1.68) of value to the total TLS share price whilst the InfraCo contributes $1.04 (or 38%) of the total valuation. Given the lower risk profile of InfraCo a forecast WACC of 5.22% was calculated. As the NBN-related one-offs dry up, the inherent risk of InfraCo would most likely increase which necessitated a higher terminal WACC of 5.60%. Maintainable EBITDA CoreCo Valuation FY2017 FY2018 FY2019 FY2020 FY2021 FY2022 FY2023 Income Statement and FCFF Schedule Maintainable Core Revenue Mobile 10,102.0 10,145.0 9,468.7 9,436.6 9,357.5 9,534.2 9,571.6 (InfraCo Port.) (303.7) (302.0) (284.7) (283.7) (281.4) (286.7) (287.8) Fixed Exc. NBN 6,491.0 5,797.0 5,034.0 4,370.0 3,980.0 3,967.0 4,018.0 (InfraCo Port.) (1,339.2) (1,196.0) (1,038.6) (901.6) (821.1) (818.4) (829.0) Data & IP 2,695.0 2,513.0 2,302.0 2,113.0 1,937.0 1,771.0 1,616.0 (InfraCo Port.) (995.2) (928.0) (850.1) (780.3) (715.3) (654.0) (596.8) NAS 3,370.0 3,699.0 3,938.0 3,978.0 3,942.0 3,930.0 4,247.0 Global Connectivity 1,445.0 1,465.0 1,454.0 1,522.0 1,567.0 1,615.0 1,663.0 (InfraCo Port.) (139.1) (141.0) (139.9) (146.5) (150.8) (155.4) (160.1) Other Core 1,620.0 1,673.0 1,616.0 1,513.0 1,408.0 1,341.0 1,268.0 (InfraCo Port.) (250.8) (259.0) (250.2) (234.2) (218.0) (207.6) (196.3) Recurring NBN Revenue 466.0 626.0 751.0 864.0 951.0 970.0 989.0 (InfraCo Port.) (432.5) (581.0) (697.0) (801.9) (882.6) (900.3) (917.9) Maintainable Revenue (Divorced from InfraCo) 22,728.5 22,511.0 21,303.2 20,648.4 20,073.2 20,105.8 20,384.8 Less: One-off NBN Revenue 1,767.0 (2,524.0) (2,050.0) (790.0) (365.0) (267.0) (143.0) Maintainable Core Revenue (less NBN and InfraCo) 24,495.5 19,987.0 19,253.2 19,858.4 19,708.2 19,838.8 20,241.8 Maintainable Core EBITDA (Exc. NBN Exc. InfraCo) Mobile 4,164.3 3,976.6 3,581.8 3,533.0 3,412.6 3,449.3 3,462.9 Fixed 2,349.2 1,536.7 1,038.8 891.4 729.7 516.4 334.8 NBN Recurring 32.8 44.1 52.9 60.9 67.0 68.3 69.7 Data & IP 1,001.2 930.4 823.2 729.0 643.8 566.3 496.4 NAS 114.9 94.0 111.7 174.7 212.4 218.9 225.4 Global Connectivity 248.1 196.0 262.8 288.9 311.6 335.7 360.7 Other Core 207.0 (131.0) (372.0) (57.0) (47.0) 243.0 259.0 Free Cash Flow Schedule 1.0 2.0 3.0 4.0 5.0 Recurring Maintainable EBITDA 8,117.5 6,646.8 5,499.2 5,620.8 5,330.1 5,398.0 5,208.9 Depreciation & Amortisation (4,441.0) (4,532.0) (4,606.0) (4,512.0) (4,340.0) (4,185.0) (4,055.0) EBIT 3,676.5 2,114.8 893.2 1,108.8 990.1 1,213.0 1,153.9 EBIT(1-t) 2,573.6 1,480.3 625.3 776.2 693.1 849.1 807.7 Less: CAPEX (4,360.2) (3,597.7) (3,850.6) (3,971.7) (3,941.6) (3,967.8) (3,704.3) Add: D&A 4,441.0 4,532.0 4,606.0 4,512.0 4,340.0 4,185.0 4,055.0 Less: Change in WC (3,350.2) (1,354.2) (249.3) 134.4 (427.8) (702.4) (706.0) Maintainable FCFF 2,980.7 3,175.2 2,024.5 2,559.7 1,653.8 1,576.9 1,606.4 PV of FCFF 1,889.3 2,229.1 1,343.9 1,195.9 1,136.8

15

TLS InfraCo Valuation FY2018 FY2019 FY2020 FY2021 FY2022 FY2023 Assumptions EBITDA Assumptions Recurring nbn DA growth rate 2.0% 2.0% 1.5% 1.0% 0.5% Mobile growth rate (4.0)% (2.0)% (2.0)% (2.0)% (2.0)% Fixed excluding nbn C2C (9.0)% (9.0)% (9.0)% (9.0)% (9.0)% Data & IP and NAS (4.9)% (4.9)% (4.9)% (4.9)% (4.9)% Global Connectivity 2.1% 2.1% 2.1% 2.1% 2.1% Other Core (40.0)% (40.0)% (40.0)% (40.0)% (40.0)% Revenue Growth Assumptions [%] 0.3% (10.0)% (10.0)% (10.0)% 3.0% EBITDA Margin 62.1% 62.1% 62.1% 62.1% 62.1% D&A [% of PP&E] 15.0% 15.0% 15.0% 15.0% 15.0% PP&E 10,942.0 10,469.0 10,044.0 9,682.0 9,397.0 Tax 30.0% 30.0% 30.0% 30.0% 30.0% Model Revenue 5,485.0 5,077.0 4,764.1 4,504.7 4,281.1 4,082.1 EBITDA Breakdown NBN receipts 581 592.62 604.47 613.54 619.67 622.77 Mobile 302 289.92 284.12 278.44 272.87 267.41 Fixed excluding nbn C2C 1196 1088.36 990.41 901.27 820.16 746.34 Data & IP and NAS 928 882.53 839.28 798.16 759.05 721.86 Global Connectivity 141 143.96 146.98 150.07 153.22 156.44 Other core 259 155.40 93.24 55.94 33.57 20.14 Total EBITDA 3,407.0 3,152.8 2,958.5 2,797.4 2,658.5 2,535.0 Depreciation & Amortisation (1,641.3) (1,570.4) (1,506.6) (1,452.3) (1,409.6) EBIT 1,511.5 1,388.2 1,290.8 1,206.2 1,125.4 Interest Expense (320.0) (310.0) (290.0) (272.0) (256.0) Profit Before Tax 1,191.5 1,078.2 1,000.8 934.2 869.4 Tax (357.4) (323.4) (300.2) (280.3) (260.8) Profit After Tax 834.04 754.71 700.58 653.97 608.59

Free Cash Flow Schedule 1.0 2.0 3.0 4.0 5.0 EBIT 1,511.5 1,388.2 1,290.8 1,206.2 1,125.4 EBIT*(1-T) 1,058.0 971.7 903.6 844.4 787.8 Less: CAPEX (1,462.0) (1,169.0) (1,145.0) (1,145.0) (1,167.0) Add: D&A 1,641.3 1,570.4 1,506.6 1,452.3 1,409.6 Less: Change in WC (49.4) (195.6) (184.2) (174.2) (166.4) InfraCo FCFF 1,188.0 1,177.5 1,080.9 977.5 864.0 PV of FCFF 1,129.0 1,063.5 927.9 797.5 669.9

APPENDIX 9: Dividend Discount Model

The DDM yielded an intrinsic value of per share of $1.64, a ~ 51% discount to the current market price of $3.24. TLS is forecasted to reduce its total dividend (special plus ordinary) in line with its guided 70-90% payout ratio. Given the declining earnings profile of the company in our forecast combined with the increased competition and capex burden of 5G rollout, we expect the total dividend to decline across our forecast horizon. We used a multi-stage DDM, embedding our forecast of TLS’s performance into the dividend projections and discounting them discretely. Following our horizon, we assumed a terminal dividend to grow in line with our TGR. We applied a 0% weighting to this method in our target price, as the model’s basic assumption that growth will be constant into perpetuity and is an indication of the company’s value going forward are not as defensible. The TGR assumption required to infer TLS’s current share price is 7.29%, which is an unnaturally high growth rate into perpetuity. 1 2 3 4 5 FY19 FY20 FY21 FY22 FY23 Total Dividend 0.16 0.16 0.16 0.16 0.16 Core Dividend Per Share $0.11 $0.11 $0.13 $0.15 $0.16 Core Dividend $1,271.04 $1,354.19 $1,484.86 $1,734.32 $1,888.75 PV Core Dividend $1,170.76 $1,148.95 $1,160.42 $1,248.44 $1,252.34 Special Dividend Per Share $0.05 $0.05 $0.04 $0.01 $0.00 Special Dividend $629.58 $546.43 $415.76 $166.30 $11.88 PV Special Dividend $579.91 $463.61 $324.92 $119.71 $7.88

Valuation Output Equity Value 19,537.5 Forecast Re 8.57% Weighted Average 11,878.9 TGR 3.00% Value Per Share $ 1.64 Forecast Re 9.89% Forecast Dividends $7,476.94 Terminal Dividend $12,060.52 16

APPENDIX 10: Terminal Value & Forecast Period

Terminal Value: A terminal growth metric was calculated to account for all cash flows to TLS post-2023. The present value of these cash flows amounted to $34,095.10, representing ~73% of the TLS’s total enterprise value. Terminal growth rates should broadly be lower than GDP growth, but larger than inflation. Thus, Australian historical average GDP growth was calculated (inclusive of a NTM forecast) and weighted at 30%. Similarly, a company growing lower than inflation would suggest it is not a going concern. TLS is therefore assumed to grow at a higher rate than inflation of 1.9%. Population growth drives subscription growth which drives ARPU growth and thus a 2% population growth rate was factored into our TGR and weighted at 18.1%. Historical subscription growth for TLS is also a good proxy for terminal growth and was thus factored in with a 24% weighting. The weights yielded a TGR or 3%.

Explicit Forecast Horizon: A forecast horizon of 5-years was used as it allows cash flows to stabilise to a sustainable growth rate whilst allowing for all relevant factors that could affect growth to be incorporated into the valuation. Although TLS is a mature company with a return on capital well below the WACC, a longer forecast horizon was necessary as it allows us to dissect the impacts of TLS’s restructuring following the T22 plan. Moreover, by 2022, the full effects of this plan should be realised with FCFF thus stabilising.

FCFF Growth TGR Metrics Rate Weighting Australian Annual GDP Growth 2.9% 30.0% Australian Inflation 1.9% 18.2% Australian Population Growth 2.0% 18.1% TLS's Historical Subs Growth 6.0% 24.0%

Triangulated TGR 3.0%

APPENDIX 11: Cost of Capital

The Weighted Average Cost of Capital (WACC) was used to determine TLS’s cost of capital (COC). TLS’s gearing ratio was held at 31% as per its current capital structure for the explicit period, and 41% for the terminal period (aligned with industry medians). Market values of debt and equity were used. � � ���� = � � � + � (� − � ) � � � � � � �

11.1 Cost of Equity

The cost of equity was calculated using three methods. Ultimately, the Capital Asset Pricing Model (CAPM) was weighted 100% in both the explicit and terminal period. Other methods used were Fama-French Three Factor Model (FF3) and the Dividend Discount Model (DDM). The FF3 generated an extremely low R2 value suggesting the method had low explanatory value for the volatility of the stock’s return. Similarly, the DDM was not used given the subjective nature of the growth assumptions.

17

CAPM:

Risk-free Rate: The proxy used was the 10-year Australian Government Bond given its negligible default and reinvestment risk. Moreover, the longer maturity mimics the forecast horizon which mitigates interest rate risk. A weighted average of the 10-year average and current spot rate was applied. The spot rate was given a higher weighting given it is more indicative of the current low yield environment that we expect to persist. The terminal WACC was triangulated using a forward rate and a 10-year average, as the spot rate is less indicative of the yield environment beyond the five-year horizon.

Beta: Beta was calculated via 3 methods:

1. An historical regression of TLS’s returns in excess returns of the stock against the market was calculated. The assumptions included: A 2 years of weekly data were. The combination produces a statistically significant data set and invokes Central Limit Theorem. Moreover, the 2 years recognises the fact that the company has undergone significant structural change, making distant stock volatility less indicative of current conditions. The 10Y government bond returns were utilised as the risk-free proxy as per the reasons mentioned above. The All Ords Accumulation Index was used as the market proxy as it extensively covers the Australian market and accounts for adjusted stock returns. 2. Comparable company betas of global telecommunications companies were used. Betas were sought for comparable telecommunications companies in Australia and globally. The beta parameters were identical to those above. The betas were unlevered by the specific capital structures and tax rates of each company, before re-levering to TLS’s capital structure and tax rate. 3. Bloomberg’s beta was used to proxy the company’s cost of equity. The adjusted beta was weighted in the terminal period given the assumption that it will converge to the market average of 1 in the long term.

EMRP: The historic geometric mean, credit default swap method and the Fernandez’ market survey were triangulated equally. In the Terminal period 100% weighting was given to the geometric mean.

FF3: Given limitations of the assumption that market risk is the sole determinant of equity returns, the FF3 model also calculated given it adjusts returns based the impact of size and value factors, using the Formula:

�� = �� + ���(�����) + ����(���) + ����(����)

The regression was conducted using the Asia Pacific risk coefficients and identical temporal parameters of the CAPM in order to ensure consistency. Whilst the model has merit in explaining risk, The R2 value of 0.08 and adjusted R2 of 0.06 suggest that the model has low predictive merit in explaining the historical variability of returns. This is likely a function of the inability to access Australian market information and use of the Asia pacific market data as a proxy.

DDM: The DDM was used to calculate the cost of equity also. However, it was not given weighting in the overall valuation as it presumes a consistent dividend that grows into perpetuity. Given TLS’s current transition, and the availability of more accurate measures, we deemed the model an inappropriate measure of the company’s cost of equity.

11.2 Cost of Debt

The cost of debt was calculated by weighting a range of methods as summarised below.

• Weighted Yields: TLS’s cost of debt was primarily determined through calculating the weighted average yield to maturity on their public debt. The cost of debt for TLS’s foreign debt was determined through swapping the principal into AUD to remove foreign exchange risk. This method yielded a cost of debt of 2.98%, reflecting a spread of 103 bps over 3 month bbsw. • Comparable Yields: TLS’s credit comparables (Scentre Group, Wesfarmers and Spark NZ) have an average cost of debt of 3.05% (bbsw + 110 bps) based on the weighted average YTM of their public instruments. Each of these peers are rated either A or A- which is consistent with TLS’s A band credit target. They are also geared between 0.30 and 0.45 ND/EBITDA. Whilst not all are in the telecommunications space, they have similar operating and market risk profiles. • Historical Credit Rating Spread: The historical A- credit rating above the bbsw was taken. The average spread of the last 5-years for was 184bps rendering a cost of debt of 3.79%. • Altman Z-score: Involves apply coefficients to the balance sheet to predict default risk calculating an implied credit rating of BB+ using the method.

11.3 InfraCo and CoreCo Weighted Average Cost of Capital

Given InfraCo and CoreCo have different risk profiles, to use the same discount rate on the separate units would render an inaccurate valuation. Unable to apportion the equity value of the company and distinguish the various sources of debt, a proxy for InfraCo’s cost of capital was assumed to be likened to a BB bond. The company primarily generates value from the recurring NBN payments, which can be likened to a consistent annuity stream. TLS’s cost of debt was not used as that would underestimate the risk profile of the cash flows. This rendered an explicit WACC of 5.22% and a terminal WACC of 5.60%. The spread was applied above the BBSW spot rate and forward rate. CoreCo, with the infrastructure division stripped out, has a riskier profile than the consolidated TLS. As such, the WACCs previously calculated were adjusted to account for the lower risk profile unit being stripped from the core company. This rendered an explicit WACC of 7.16% and a terminal WACC of 7.58%.

18

APPENDIX 12: Firm Free Cash Flow

Free Cash Flow Schedule FY2019 FY2020 FY2021 FY2022 FY2023 EBIT*(1-T) 3,086.2 2,965.1 2,931.7 2,816.1 2,929.7 Add: Depreciation & Amortisation 4,963.2 5,028.1 5,131.2 5,557.4 5,724.2 Less: Total Capital Expenditure (6,124.7) (5,953.1) (6,022.7) (6,418.9) (6,585.7) Less: Increase in Working Capital 746.1 (14.9) 12.2 46.5 58.0 Levered Free Cash Flow (FCFF) 2,670.8 2,025.2 2,052.4 2,001.1 2,126.2 FCFF Growth (%) (24.2)% 1.3% (2.5)% 6.2% PV of FCFF 2,505.5 1,782.3 1,694.5 1,549.9 1,544.8 APPENDIX 13: Financial Analysis

Financial Analysis FY2016 FY2017 FY2018 FY2019 FY2020 FY2021 FY2022 FY2023 Profitability EBITDA Margin 39.8% 37.9% 35.9% 36.8% 36.7% 36.6% 36.5% 36.4% Operating Margin 23.4% 20.3% 19.3% 17.3% 16.8% 16.5% 15.3% 15.4% Profit Margin 14.1% 11.6% 11.2% 10.0% 9.6% 9.4% 8.7% 8.8% Dividend Payout Ratio (on Net Income) 98.4% 116.7% 86.9% 74.6% 78.3% 79.4% 83.4% 79.5% Gross Profit Margin 54.3% 53.4% 48.9% 52.2% 52.1% 52.0% 51.9% 51.8% EBIT Margin 23.4% 20.3% 19.3% 17.3% 16.8% 16.5% 15.3% 15.4% Efficiency Return on Assets 8.6% 7.6% 7.0% 5.8% 5.5% 5.4% 5.0% 5.2% Return on Invested Capital 4.5% 4.8% 4.4% 3.8% 3.6% 3.5% 3.4% 3.5% Book Return on Equity 23.5% 21.9% 20.0% 16.0% 14.8% 14.2% 13.2% 13.5% Market Return on Equity 5.4% 6.2% 5.8% 5.0% 4.7% 4.7% 4.4% 4.7% Leverage and Gearing Net Debt / Adjusted EBITDA 1.1x 1.4x 1.6x 1.5x 1.6x 1.6x 1.6x 1.6x Net Debt / (EBITDA - CAPEX) 1.9x 3.1x 3.4x 4.3x 4.3x 4.5x 4.8x 4.7x Gearing (Debt to Value) 0.2x 0.2x 0.2x 0.2x 0.2x 0.2x 0.2x 0.2x Leverage (Debt to Equity) 21.9% 29.1% 31.4% 31.4% 31.4% 31.4% 31.4% 31.4% Interest Coverage Ratio 8.7x 9.4x 8.6x 5.7x 5.5x 5.5x 5.2x 5.5x Profit Margin 14.1% 11.6% 11.2% 10.0% 9.6% 9.4% 8.7% 8.8% Asset Turnover 61.2% 64.9% 62.8% 58.2% 57.4% 57.3% 58.0% 58.8% Equity Multiplier 0.6x 0.8x 0.8x 0.9x 0.9x 0.9x 0.9x 0.9x

APPENDIX 14: Factor Model (Quality-Price Matrix)

Using data on mobile network quality (as at 19 September 2017), we created a quality-price factor matrix as part of our analysis of the comparative network quality of TLS and the price of its mobile offerings. The purpose of this model was to ascribe a price per marginal improvement in network quality that existing TLS customers were willing to pay. We assumed that (1) the most popular TLS $69 mobile plan was a fair value that TLS customers were paying for; (2) existing TLS customers were on the whole not perfectly price inelastic; (3) mobile network quality could be assessed as a total of 5 key proxies.

Those proxies were asset, call, web, video and speed factors. Using these metric values, we could assess the absolute difference in quality for each proxy, using VHA as the base quality. We also divided the price of each telco’s plan with the quality metric, to find the value each provider’s customers held per metric unit. The product of this price/quality unit and the quality metric difference between TLS and VHA led us to the implied price for the quality divergence between TLS and VHA. Finally, we applied apportioned weights to each metric subcategory based on importance. To complete the 5 factor model the sum of the total prices for quality divergence provided the implied premium customers were willing to pay for TLS’s quality advantage above VHA. The same analysis was conducted between Optus and VHA for the same mobile plan to assess whether VHA could also take customers from Optus.

����� �� ��� ������ ���� �������� �����/ ������� ������ = ����� �� ��� ������� �����

Interpreted as, for example: ‘Existing TLS customers would pay $0.72 for each additional call success ratio percentage point on roads.

�������� ����� ����� ��� ������� ���������� ���� ��� = � � � (��� ������� ������ − ��� ������� ������) ������� ������

Interpreted as, for example: ‘Existing TLS customers would pay up to $6.06 for the total advantage TLS has over VHA with call success ratio on roads. Based on a TLS quality premium of $23.90, this means that TLS customers would only pay this amount above the price of the VHA plan to receive the network advantages.

This implies a maximum willingness to pay up to $63.90 (compared to the VHA base of $40). At a current price of $69, the TLS offerings would not prevent existing customers leaving for a relatively high quality alternative in VHA and the network advantages do not justify the price. This could be interpreted as ‘existing TLS customers are willing to pay $0.70 for every additional call success ratio percentage point in cities’.

19

Quality Factor Model Company Marginal Price / Value Metric Price for Value Divergence from VHA Factor Metric TLS Optus VHA TLS-VHA Optus-VHA Weighting TLS Optus VHA TLS Optus 4G Asset Towers 5962.00 6414.00 4750.00 1212.00 1664.00 0.90 0.01 0.01 0.01 14.03 12.97 3G Towers 7730.00 6844.00 5290.00 2440.00 1554.00 0.10 0.01 0.01 0.01 21.78 11.35 Call Success Ratio - Call Cities 98.90 99.20 98.90 0.00 0.30 0.20 0.70 0.50 0.40 0.00 0.15 Marginal Propensity to Pay Call Quality Premium Above Vodafone Success Factor TLS Optus Ratio - Asset 14.80 12.81 Roads 95.60 95.40 87.20 8.40 8.20 0.80 0.72 0.52 0.46 6.06 4.30 Web- Call 4.85 3.47 Page Web 3.10 1.95 Downloa Video 5.58 3.10 d Speed -4.43 -9.51 Success Premium $23.90 $11.82 Web Ratio 97.90 97.30 93.50 4.40 3.80 1.00 0.70 0.51 0.43 3.10 1.95 Success Implied Price $63.90 $51.82 YouTube Premium (Discount) -$5.10 $11.82 Video Downloa Video Download d - Metro 99.00 99.00 94.00 5.00 5.00 0.50 0.70 0.51 0.43 3.48 2.53 TLS Optus Vodafone Success ARPU $69.00 $50.00 $40.00 YoutTube Video Downloa d - Rural 99.00 95.00 88.00 11.00 7.00 0.50 0.70 0.53 0.45 7.67 3.68 Av. 4G download Network Speed Speed 37.56 33.58 39.97 -2.41 -6.39 1.00 1.84 1.49 1.00 -4.43 -9.51

bundling means that you buy both from the one provider. We know that broadband quality is constant (NBN). If it were based on mobile alone our analysis supports recent movements in market share because the value of the improved network does not mee Bundling catalyse the quality-price to shift to equilbirum

APPENDIX 15: Mobile Revenue Derivation

Revenue was forecasted through an analysis of each business segment taking into consideration both headwinds and opportunities facing these segments. Whilst each segment was deeply analysed to arrive at robust growth assumptions, the mobile segmented necessitated further analysis. We recognise that mobile revenue is driven primarily by TLS subscriber growth rates, ARPUs and the size of the Australian mobile market. Modelling out these drivers provided two main benefits for our valuation and overall thesis. Firstly, it allowed us to leverage quantitative analysis to support both our Mobile Competition and 5G thesis, and secondly, it allowed us to dissect the demand drivers of the separate mobile segments as we believe they are subject to varying competitive forces. For example, our thesis suggests the majority of competition will be experienced in the post-paid space, and modelling out this segment specifically allowed us to see the impact of such competition on TLS’s bottom line. Australia’s population growth rate was forecasted along with TLS’s Australian mobile market penetration allowing us to predict future subscriber growth rates. ARPUs were modelled in line with subscriber growth rates and drove revenue projections for this segment. This method was used for post-paid mobile, pre-paid mobile, mobile broadband, and mobile satellite and is illustrated in the accompanying table.

APPENDIX 16: Sensitivity Analysis

15.1 Sensitivity Analysis 1: Terminal WACC vs TGR

We conducted sensitivity analyses to flex the assumptions on our DCF valuation. Inherently, the main value drivers of our DCF are risk and growth, which are reflected in the WACC and TGR. We flexed TGR by 0.25% increments for two-intervals on either side of our base case valuation, such that the lower bound reflected long-term inflation whilst our upper-bound reflected annual average subscriber growth. We used the same method with 0.50% increments for our WACC. The significance of varying these assumptions is caused by the fact that ~ 81% of the DCF valuation is stored in the terminal value. When TGR is held constant varying across the sample causes the share price to range

20 from $2.07 - $3.86. Similarly, altering our TGR and holding WACC constant produces a share price range of $2.36-$3.24. Given the current share price is $3.24, 74% of the values in our matrix action a sell recommendation. 15.2 Sensitivity Analysis 2: Explicit WACC vs TGR

Our Explicit (forecast period) WACC was also flexed against the terminal growth rate, in order to analyse the sensitivity of our forecasted cash flows against our risk assumptions. We adopted the same range and intervals as the sensitivity above. Reducing our WACC by 0.5% and

TGR by 0.25% causes the share price to decrease from $.274 to $2.62 (a ~ 4.4% decline). 92% of the values in the matrix support a sell recommendation. 15.3 Sensitivity Analysis 3: Maintainable EBITDA Model Risk Sensitivity

Given the high weighting applied to the MEM in our over-all target price, it is appropriate to analyse the sensitivity of the share price to the risk assumptions made with respect to each unit. We sensitised the Terminal WACC of InfraCo against the Terminal WACC of CoreCo. The terminal value of each unit as a proportion enterprise value was 73% and 78% respectively, rendering sensitising both inputs of importance to testing the merit of our valuation. Reducing the risk profile of InfraCo by 0.25% (ceteris paribus) results in the share price increasing from $2.72 to $2.80 (~3% increase). Holding the CoreCo risk parameters constant and altering our InfraCo WACC constant results in a share price range of $2.51-$2.89. Vice versa, results in a sample range of $2.52-$3.26. 88% of the values in our matrix action a sell recommendation compared to the current share price of $3.24.

APPENDIX 17: Scenario Analysis

18.1 Bull-Bear Case

Bull Case: In our bull case, we assume the ACCC blocks the merger between TPG and VHA delaying entry of these firms into the 5G space and thus creating an opportunity for TLS to enter into the 5G market with less immediate competition. This leads to an increase in average subscribers which in turn increases our mobile revenue from $9,468m in FY19 to $11,160m. In our bull case, even if the merger is approved, TLS also could be more resilient from the threat of a combined TPG-VHA if TLS’s existing customers are more inelastic to network quality downgrades than we assess in our base case. Moreover, following the release of 5G, if TLS is able to maintain stable ARPUs (for example, due to an unexpected upswing in NBN bypass), then our valuation will also be positively affected. If ARPU remains at the projected FY19 level of $55.08 over the forecast period mobile revenue is enlarged to $11,506m in FY19 and gives our share price a 11% uplift to $3.04. Moreover, if the government does provide the much-anticipated cost relief to NBN Co, TLS will experience significant NBN-related cost relief increasing operating margins by a projected $10-$15 per user. Under this scenario, we anticipate a dividend cut of only 5c to 17c resulting in a less voluminous sell-off. Our bull scenario results in a valuation per share of $3.53.

Bear Case: We have also constructed a bear case scenario where TPM-VHA retains a Teoh-style aggressive cost leadership strategy more so than anticipated, resulting in a 2% decline in mobile revenue. This would be worse for TLS than our base case particularly if NBN activations trigger widespread churn in not only fixed broadband but also mobile plans as a bundle for households. Similarly, this scenario assumes commercial phones equipped for 5G networks aren’t released by 2020, which delays 5G uptake and gives more time for TPM/VHA to catch up in their network development. This creates added competition in the mobile space and puts downward pressure on FY19-20 mobile revenue. A further delay in the NBN rollout, especially with newer technologies in the network, will also lower fixed revenue by 3% resulting in a cumulative valuation downside of 28% to our base case, yielding a share valuation of $1.98. $6.00 $5.00

$4.00 $3.53 $3.00 $2.00 $1.98 $1.00 $0.00 2013 2014 2015 2016 2017 2018 2019 21

18.2 Monte Carlo

Share Price MC Simulation Trials 100,000.0 Base Case $ 6.79 Mean $ 2.77 Median $ 2.74 Standard Deviation 0.28 Variance 0.08 Skewness 0.6482 Kurtosis 3.88 Coefficient of Variation 0.1029 Minimum 1.88 Maximum 5.27 Mean Standard Error $ - Sell Buy

Whilst a series of sensitivity analyses were conducted, we noted that such analyses are inherently not probability weighted. As such, we supplemented this analysis with a Monte Carlo simulation whereby we tested both upside and downside variability in our DCF model. The three key drivers of our valuation were flexed along a normal distribution. These drivers were (1) EBITDA, (2) Post-Paid ARPU and (3) TGR. 100,000 simulations were run yielding a price range of $2.10-$3.55. Our bull-case scenario resulted in a high valuation of $3.56 with 12% of total simulations suggesting a buy recommendation for TLS. On the other hand, 87% of our simulations resulted in a share price lower than the $3.20 closing price on the 18th of September.

APPENDIX 18: Industry Analyses

18.1 SWOT Analysis

Strengths Weaknesses 1. Underpinned by its high-value brand name, Telstra is 1. Given its history as a government owned entity, Telstra has Australia’s oldest and largest telecommunication provider, high levels of operational inefficiencies, which is currently capturing a market share of 38.1% (c.f. SingTel Optus at attempting to address (e.g. making 8000 employees 16.4% and Vodafone Hutchinson Australia at 8.2%)1 redundant in June) 2. Afforded by its luxury position as an ex-government owned 2. Out of the three major telecommunications providers, entity, Telstra successfully differentiates itself on the basis Telstra currently has the lowest customer satisfaction of wide, reliable coverage, which enable it to charge a levels, evidenced by its NPS of 7 (c.f. Singtel Optus at 20 quality premium and Vodafone at 21); this has damaged their brand 3. Given existing capabilities, Telstra is well-positioned to reputation as Australia’s most reliable telecommunication 3 leverage emerging technological trends, e.g. ‘Internet of provider Things’ which is projected to grow at a CAGR of 30.3% 3. Telstra is priced substantially higher than its competitors, over the next 3 years2 where its generic mobile offering costs $69, relative to 4. Telstra is a market leader in the providing ‘network Optus at $50 and Vodafone at $40; further our analysis applications and services’ to larger businesses, shows that the quality premium from a Telstra product does experiencing a 5 year average growth of 20.2% p/a not justify its higher prices 5. Recent introduction of ‘Belong’ to capture the cost- 4. As of 2018, Vodafone has the highest 4G download speed conscious segment of the industry at 39.97Mbps, relative to Telstra at 37.56Mbps, where this suggests erosion of its competitive advantage Opportunities Threats 1. Opportunities lie in bundling across industries (e.g. telco 1. Telstra’s primary offering of voice is becoming obsolete as and utilities) more consumers demand data, facilitated by rise of 2. Telstra would be able to expand into adjacent markets, streaming on apps (e.g. Netflix) and new ways of such as media in the short term (consider AT&T and Time connection (e.g. Whatsapp) Warner merger in June) and M2M in the longer term once 2. Industry consolidation with smaller players engaging in 5G technology becomes more established, to generate mergers, alliances, joint ventrures and acquisitions new revenue streams for a step change in profit 3. General market downturn will lead to a reduction in 3. Given the increasing economic integration, Telstra could discretionary income, which will reduce the Telstra’s pursue further cross-border strategies to further develop profitability that is derived substantially from its more their ‘global connectivity’ segment which is currently expensive offerings experiencing 5 year average growth of 25.1% 4. Pricing competition especially in the saturated mobile 4. Supported by their T22 strategy, Telstra could renew focus space will continue to lead to subdued subscriber growth on the customer experience which would help prevent and lower ARPU; effect is accentuated by growing churn presence of MVNOs 5. New, complex regulations surrounding emerging technology and data privacy

Sources: (1) IBIS World, Industry Reports > Australian Telecommunication Industry; (2), Bain Consulting; (3) UBS Research

22

18.2. Porter’s 5 Forces

TLS’s competitive position remains robust in the telco industry, despite rising in competition from network providers and MVNO’s on both broadband and mobile. However, the overall landscape is anticipated to tighten as increasing customer power and cost focused competitors question the long-term sustainability of TLS’s competitive position.

Threat of new entrants (Low): The current network providers in Australia are TLS, Optus, VHA and TPG. The low threat of new network entrants is observed by its size and infrastructure network. Although there are many MVNO’s (e.g. Boost Mobile, Belong Mobile) which utilise these networks and observe low barriers to entry, have low economies of scale, market share, brand recognition and rely on the mobile/broadband network of main operators. This means new franchise model players will be delayed in becoming a threat to TLS.

Bargaining Power of Suppliers (Medium): In fixed broadband, NBN is the sole supplier to TLS, meaning costs are subject to monopolistic price hikes. However, the nbn has government stakeholders and unreasonable price hikes will be subject to extreme public scrutiny. In 4G and 5G, Telstra undertakes new infrastructure with partners and their relative size limits the power of these partners.

Threat of Substitutes (Medium): Historically, there has been no substitute for Broadband internet but with increasing capability of 5G, there is potential for wireless cellular technology to bypass the nbn, which TLS is a reseller. However, TLS is also key player in the 5G space and the threat remains moderate given uncertainty of tech and pace of other 5G players.

Existing Rivalry (High): The degree of competitive rivalry is high, due to entrance of a fourth telco network operator or a potential merger to make the third largest rival more competitive. Existing market of MVNO has added to this landscape by allowing smaller independent businesses to compete against the three or four big players.

Power of Customers (High): Given increasing data commoditisation and a need to grow market share to weather the next churn period of NBN and 5G rollout, telcos have been making large sacrifices to secure existing customers and gain new ones. APPENDIX 19: Landscape Analysis

We examined trends in TLS’s organisation, industry and market, all of which will impact its competitive positioning:

Increasing Mobile Low Interest Usage Rate Environment Adoption of Market Trends NBN

Commoditisation of Increasing Falling Trust Data in Telcos internet usage Developments in 5G

Push Industry Trends towards OTT Leaner Disruption Growing Mobile Business Competition

Organisational Trends

APPENDIX 20: PESTLE

Political Economic 1. Growing trend towards blocking international 5G suppliers, 1. Historic low interest rates of 1.5% will likely continue e.g. Huawei creating an attractive environment to invest 2. NBN has become an increasingly politicized matter, 2. Real household disposable income is rising, such that impacting on decisions whether to write down the NBN so customers can afford more comprehensive offerings near to the 2019 Federal Election 3. Urbanisation and place independent working has intensified reliance on data and ‘staying connected’ Social Technological

23

1. Rise of generation Y (1988-2000) with its distinctive set of 1. Increasing capacity and latency of networks has facilitated telco wants the feasibility of new offerings, e.g. streaming 4K, VR and 2. Shift from voice to data and Voice over Internet Protocol is M2M expected to continue over the next 5 years at CAGR of 2. Improvements in cloud technology is creating new 45% and 10% respectively adjacencies for telco to pivot into 3. Growing population has led to increased number of 3. Push for media-tech partnerships to evolve Telstra’s image households, raising demand for telco offerings especially and improve subscriber growth mobile and broadband Legal Environmental 1. Growing complexity surrounding new legislation for 1. Push towards incorporating ‘going green’ in corporate emerging technologies and data privacy strategy 2. Regulations surrounding the upcoming spectrum auction will alter the competitive position of Telstra

APPENDIX 21: Case Studies

22.1 Vodafail Sage

What happened? ‘Vodafail’ was a period between October 2010 to January 2011 characterised by major network problems for Vodafone customers. This included consumers losing phone or data reception in expected coverage areas and excessively long customer service wait times. Complaints to the industry Ombudsman against Vodafone spiked to 23,000 during the period, rising 96%. Many customers reported experiencing periods of no reception for hours at a time, and some suffered inability to call even while the phone displayed an ability. The diagram on the right marks areas where average reception for Vodafone users fell below 40% (‘two bars’) in Sydney.

In FY11, Vodafone lost 554,000 mobile consumers due to the debacle, and Vodafone’s parent company reported that earnings fell by $168m.

How did it happen? Telco experts agree that Vodafone’s mobile networks was not adequately invested into to have capacity matching demand for data and connectivity. In 2009, Vodafone merged networks with 3 Mobile. Engineering resources were being directed to merging these networks, at the same time that demand for data began to skyrocket. The increasing popularity of smart phones contributed to exponential data usage growth, which overloaded the network.

The Journey Since Vodafail: In the year following the network problems, Vodafone committed an extra 22% into capex to upgrade networks, and also built new networks by adding 500 new mobile tower sites in metropolitan and outer areas. This compares to only 300 mobile tower sites before Vodafail. We believe the investments Vodafone has made have brought it to a position where its network quality and coverage competes directly with TLS the market leader, as Vodafone commands 96% coverage of Australia with 4G. In 2016, Vodafone was able to connect 4G customers with a signal 76% of the time, compared to 77% for Telstra. With substantially similar network qualities, Vodafone’s mobile offerings could capture TLS customers. 21.1 BT Acquisition of EE

In 2016, the UK Competitions and Market Authority cleared the £12.5bn takeover of EE by BT. At the time, BT was the dominant provider of broadband services, and held operations in fixed phone and Pay-TV. EE was the UK’s largest mobile phone network with 27m customers, or 32% market share. In the UK at the time, there were 4 main mobile providers (Three, Vodafone and O2).

Mobile Subscriber UK Market Share by Operator BT (incl Talk iD Virgin Vodafo Sky Tesco Three O2 Source EE) Talk Mobile Mobile ne Year ended 31 32% 3% 4% 12% 25% 24% Dec 2015 FY AR BT Year ended 31 29% 1% 4% 6% 11% 22% 27% Dec 2016 FY AR BT

Year ended 31 Dec 28% 1% 1% 1% 4% 6% 12% 21% 26% FY18 Annual 2017 Report BT

For BT and EE, the combination of the two firms allowed for the practice of bundling broadband services with mobile plans. BT’s investments in Pay-TV including their BT Sport channels and English Premier League football licences also allowed them to bundle content into a triple- play. After the takeover, the number of triple-play bundles available in the UK market spiked from 240 to 398. With an additional large telco in the bundling space, the incumbent, Vodafone, had post-paid mobile ARPU fell from £25.9 in Q4FY16 to £23.4 in Q4 FY18. The takeover also prompted rivals like O2 to continue heavy investments in customer-facing services and programs like ‘More For You’ to keep hold of and grow market share amidst higher competition from the combined entity. The growth prospects of TLS in Australia could follow similar trends to the incumbent Vodafone in the UK, following the merger of TPM-VHA and the opportunity that bundling presents. 24

APPENDIX 22: TPM-VHA Merger Model

For the most part, the market has seen the merger of TPM and VHA as a ‘price stabilising’ transaction. However, by constructing a merger model we can see that the merged entity in fact has the capacity to be more competitive and aggressive in the mobile space. If the transaction eventuates, the combined entity has the ability to ‘offload’ debt from their balance sheet enabling sustained annual capital outlay whilst also allowing NewCo to keep their prices low to capture market share.

Assumption 2019 2020 2021 2022 2023 TPG Revenue Growth [%] 0.3% 3.9% 4.2% 3.5% 2.9% VHA Revenue Growth [%] 2.8% 2.3% 2.1% 1.9% 1.8% TPG Opex / Sales [%] 68.4% 71.8% 74.2% 81.3% 75.1% VHA Opex / Sales [%] 71.9% 72.1% 72.2% 72.3% 72.5% TPG D&A / Sales [%] 12.1% 11.1% 10.1% 9.6% 9.0% VHA D&A / Sales [%] 23.3% 23.3% 23.3% 23.3% 23.3% Interest rate [%] 4.5% 4.5% 4.5% 4.5% 4.5% Corporate Tax Rate [%] 30.0% 30.0% 30.0% 39.6% 30.0% Combined Entity Profit & Loss Pro-forma 2019 2020 2021 2022 2023 Revenues TPG [A$m] 2,541.0 2,640.2 2,751.6 2,848.9 2,931.1 VHA [A$m] 3,675.4 3,759.9 3,837.9 3,909.3 3,980.7 Total Revenue [A$m] 6,216.4 6,400.1 6,589.5 6,758.2 6,911.8 Synergies [A$m] - 25.0 51.0 101.4 104.0 Eliminations [A$m] (100.0) (100.0) (100.0) (100.0) (100.0) Combined Revenues 6,116 6,325 6,541 6,760 6,916 OPEX TPG [A$m] (1,737.8) (1,895.6) (2,041.2) (2,315.7) (2,201.3) Vodafone [A$m] (2,643.3) (2,709.2) (2,770.6) (2,827.5) (2,884.6) Total OPEX [A$m] (4,381.1) (4,604.8) (4,811.8) (5,143.2) (5,085.9) Synergies [A$m] - 64.0 127.0 127.0 127.0 Eliminations [A$m] 100 100 100 100 100 Combined OPEX (4,281.1) (4,440.8) (4,584.8) (4,916.2) (4,858.9) EBITDA TPG [A$m] 803 745 710 533 730 VHA [A$m] 1,032.1 1,050.7 1,067.3 1,081.8 1,096.1 Synergies [A$m] - 89.0 177.9 228.6 230.9 Combined EBITDA 1,835 1,884 1,956 1,844 2,057 D&A TPG [A$m] (306.8) (292.8) (279.1) (273.1) (263.8) VHA [A$m] (857.9) (877.6) (895.8) (912.5) (929.2) Synergies [A$m] - 10.1 20.1 40.2 80.5 Combined D & A (1,165) (1,160) (1,155) (1,145) (1,113) EBIT TPG [A$m] 496.4 451.8 431.3 260.1 466.0 VHA [A$m] 174.2 173.1 171.5 169.3 166.9 Synergies [A$m] 0.00 99.00 198.00 268.80 311.40 Combined EBIT 670.6 723.9 800.8 698.2 944.3 Net Interest [A$m] (181.0) (183.5) (169.5) (135.4) (99.7) EBT 489.6 540.4 631.3 562.8 844.6 Income Tax Expense [A$m] (147.0) (162.1) (189.4) (222.8) (253.3) Net Profit After Tax 342.6 378.3 441.9 340.0 591.3 Share Count [m] 1,860.0 1,860.0 1,860.0 1,860.0 1,860.0 EPS [A$] 0.184 0.203 0.238 0.183 0.318 Capital Budgeting TPG Standalone Capex [A$m] (234.0) (235.0) (240.0) (243.0) (245.0) VHA Standalone Capex [A$m] (629.0) (644.0) (657.0) (669.0) (682.0) Total Capex [A$m] (863.0) (879.0) (897.0) (912.0) (927.0)

Cost of Equity (Bloomberg) [%] 10.0% Corporate Tax Rate [%] 30.0% 1 2 3 4 5 TV EBIT*(1-T) [A$m] 469.4 506.7 560.6 488.7 661.0 Add: D & A [A$m] 1,165 1,160 1,155 1,145 1,113 Less: CAPEX [A$m] (863) (879) (897) (912) (927) Add: NWC [A$m] (50) (50) (50) (50) (50) FCFF [A$m] 721.1 738.0 768.4 672.1 796.5 Equity FCF per share [A$] 3.9 3.2 49.4 54.1 57.0 44.3 Present Value of Equity FCF 3.5 2.6 37.1 37.0 35.4 13,470.0 Net Present Value [A$m] 13,585.6 Shares Outstanding 1,860.0 MergeCo Valuation per Share $ 7.30

Present Value of Synergies 1 2 3 4 5

Synergy Type 2019 2020 2021 2022 2023

Revenue Synergies [A$m] 0.0 25.0 51.0 101.4 104.0 Present Value (Discounted at Cost of Equ [A$m] 0.00 20.66 38.32 69.26 64.58 OPEX Synergies [A$m] 0.0 64.0 127.0 127.0 127.0 Present Value (Discounted at Cost of Equ [A$m] 0.00 52.89 95.42 86.74 78.86 D & A Synergies [A$m] 0.0 10.1 20.1 40.2 80.5 Present Value (Discounted at Cost of Equ [A$m] 0.00 8.35 15.10 27.46 49.98 APPENDIX 23: Survey Data

25

Basic Post-paid Moderate Post- Basic Unlimited plan paid Plan ADSL Broadband Mobile Broadband NBN 50 Unlimited TLS $49 (15+5GB) $69 (40GB) 99 $29 (10GB) 89 Optus $35 (6GB) $65 (40GB) 80 $40 (10GB) 65 Vodafone $35 (9G) $30 (10GB) 69 TPG $10 (4GB) 60 $0 (Unlimited) 70

APPENDIX 24: Executive Team Analysis and Track Record

25.1 New Management Team

Name, History with Telstra Background Outside of Telstra

Prior to Telstra, Mr Penn was a Group Chief Executive at AXA Asia May 2015 – Present: Chief Executive Officer Pacific Holdings. During that tenure, other roles included Chief Andrew R Penn; CEO; 6 Jan 2012 –May 2015: Chief Financial Officer Executive ANZ, Group CFO, Head of Transformation Programme and years 9 months and Group Managing Director, Finance and Chief Executive International. Mr Penn also has a MBA from Kingston Strategy University and is a fellow of the Chartered Association of Chartered Accountants.

Ms Brady worked at Optus for 4 years 3 months from Apr 2012 to June Vicki Brady; Consumer & Sep 2017 – Present: Group Executive, 2016, as the ‘Managing Director, Customer’ and ‘Manager Director, Small Business – Group Consumer & Small Business Marketing & Products’. She holds a B.Comm from ANU and a Master’s Executive; 2 years 4 Jun 2016 – Aug 2017: Group Managing Degree from Stanford University Graduate School of Business. She is months Director, Consumer also a Chartered Accountant and a graduate member of the Australian Institute of Company Directors.

Mr Ebeid’s current post is as CEO & MD of Special Broadcasting Service (SBS) Australia. He has had extensive industry experience, Michael Ebeid; Enterprise where he has worked at Australia Broadcasting Corporation (Director, – Group Executive; Incoming Corporate Strategy and Marketing), Westpac (Consultant – Strategy and incoming Business Development), Two Way TV (CEO), Optus (Director of Commercial Operations) and IBM (various roles in finance, sales and marketing). He also has a Bachelor of Business from Curtin University.

Mr Katinakis has had extensive experience in the telecommunication Nikos Katinakis; Networks sphere, most notably his performance at Reliance Jio in India (as & IT – Group Executive; Incoming networks Executive Vice President) which in less than 2 years had Incoming signed up 215 million subscribers. He also worked at Rogers Communications (Senior VP), and Ericsson (VP Sales and CTO).

Ms Denholm concurrently holds a ‘Board Member & Audit Committee Chair’ at Tesla Motors. Over her 35 year career, she has worked at ABB Robyn Denholm; Chief (Board Member, Finance &Audit Committee Member), Juniper Networks Financial Officer & Head Jan 2017 – Present: Chief Operating Officer (Executive VP, CFO), Sun Microsystems (Senior VP, Corporate of Strategy; ‘1 Year 9 Strategic Planning) and Toyota (National Manger of Finance). Ms Months’ Denholm has a B.Econ from the University of Sydney, and a Masters of Commerce from UNSW.

Alex Badenoch; Aug 2016 – Present: Group Executive Human Ms Badenoch has undertaken HR-related roles at Asciano Limited Transformation & People Resources (Director of HR), Coles Myer (GM of Organisational Effectiveness), – Group Executive; ‘7 2006 – 2011: ED HR Coles Group (GM HR) and North Limited (HR Manager). She also holds years 2 months’ 2009 – 2011: ED Organisational Development a degree from the University of Melbourne.

Sep 2017 – Present: Group General Counsel Prior to Telstra, Ms Mulhern has had extensive legal experience, Carmel Mulhern; Legal & and Group Executive Corporate Affairs working as a tutor/lecturer at Monash University for 11 years, being a Corporate Affairs – Group 2012 – Present: Group GC Senior Associate at Mallesons Stephen Jacques, and being associates Executive & General 2007 – 2011: Company Secretary to Gaudron J and Cummins J of the High Court of Australia and Counsel; ’17 years’ 2000 – 2007: General Counsel Finance & Supreme Court of Victoria respectively. Administration

Before coming to Telstra, Mr Riley worked at IBM holding several 2017 – Present: Group executive, Telstra positions over his 11 year tenure, including: General Manager (IBM Enterprise Europe), Chief Executive (IBM UK and Ireland), General Manager (IBM Brendon Riley; Telstra 2016-2017: Acting COO Central & Eastern Europe, Russia/CIS, Middle East, Africa, Austria, InfraCo – Chief Executive Officer; ‘7 years’ 2013-2016: Group Executive, Global Switzerland), General Manager & Chief Executive (IBM Global Services Enterprise Services – an IBM, Telstra & Lend Lease JV). Mr Riley also has a Bachelor’s 2011-2013: Group Executive, COO degree in Business Information Processing from Curtin University.

26

25.2. Strategic NPS in FY19

APPENDIX 25: 5G Rollout Progress

APPENDIX 26: Timeline of the 3G, 4G and NBN Rollout

1993, Telstra introduced the 2G digital network on the 900 MHz 2006, the Australian Labor Party led by Beazley committed to a and 1800 MHz super fast national broadband network

1999, CDMA network was created to replace 1G analog network 2010, after a few failed attempts, NBN Co was set up with to keep rural areas in coverage completion estimated in 2021

2003, 3G standard was introduced in major metropolitan and 2011, Telstra signed an agreement with NBN Co worth A$9 billion allowed for video call on 850 MHz and 2100 MHz post-tax NPV

2006, 3.5G (Next-G) standard was introduced in major 2014, Minister Turnbull stated that black spots would be a higher metropolitan and serviced 99% priority to focus on areas with limited broadband

2008, 2G mobile network was shutdown 2016, NBN Co reached 2m premises ready for service out of 10m

2011, 4G was made available in major cities, airports and 2017, NBN Co celebrated halfway milestone reaching of 5m selected regional areas in Australia on 900 MHz, 1800 MHz and ready for service 2600 MH

2015, launched 4GX on 700 MHz 2017, NBN Co made an announcement last week that it would cease selling services on its HFC network

2016, Telstra conducts the first live 5G trial in Australia with 2018, NBN Co restarts HFC rollout Ericsson

27

APPENDIX 27: Spectrum Auction Process

General Overview

The 3.6 GHz band spectrum auction is being conducted following the Enhanced Simultaneous Multi-Round Ascending (ESMRA) auction format. The process allocates lots to the applicants who value them most highly and bid accordingly to win those lots. Lots sold to a single bidder may be combined after the auction by the ACMA to form a spectrum licence, but not before or during the auction. The ESMRA format involves 3 stages:

1. Primary stage – a clock auction offering lots (not specific to frequency) to determine the quantity of spectrum won by each bidder. 2. Secondary stage – if required, for the sale of any single lot in a region that was unallocated in the primary stage. 3. Assignment stage – for assignment of specific frequencies to lots allocated in the primary and secondary stages.

Each region is auctioned as a ‘product’ (e.g. Sydney), and bidders bid for lots within each product. There are 25 lots (5 MHz bandwidth per lot) in each region, except Perth which is partitioned.

Restrictions: Allocation limits were set in July 2018, restricting the amount of spectrum a single bidder may acquire in the auction. As a result, NBN Co and Optus are excluded from bidding. For other bidders, they may not acquire spectrum licences in the 3.6 GHz band that results in their holdings in the band exceeding 60 MHz for metropolitan areas and 80 MHz for regional areas.

Primary Stage: This involves a simultaneous auction process where in each round, bidders may bid on all lots available in the auction, subject to allocation limits and eligibility. For example, TLS could bid up to the maximum of 12 lots per metropolitan region (60 MHz in metro areas is the limit) during each round. At the end of each round, the auction system processes all bids from all bidders. If demand exceeds supply, the auction continues to the next round and so on until demand meets supply at a posted price point.

Secondary Stage: The secondary stage only has effect if there are single lots that remain unallocated after the primary stage. All residual lots are offered concurrently within this stage but at specified prices for each lot. The bidding process is a simple ascending auction, so telcos can choose whether to increase bids at each round for each lot.

Assignment Stage: The assignment of specific frequency ranges to each winning bidder occurs after the primary and secondary stage. Each winning bidder from the previous stages is entitled, but not required to, bid to express preferences for particular frequency assignments for their lots. APPENDIX 28: Prediction of Spectrum Auction Prices and Spend

Assumes that the bidder claims all available spectrum in each region subject to the allocation limits with either (1) zero premium with only 2 major bidders in TLS and TPM-VHA or (2) historical premium consistent with TPG’s spectrum auction bid in April 2017 if there were 3 bidders in TLS, TPM and VHA.

APPENDIX 29: NPS Scores

The common factor between TLS, OPT and VHA is that there is an 25 increasing focus on customer service which changed dramatically from 21 20 20 21 20 17 historical low NPS scores. However major factors reducing NPS scores are 14 15 network issues such as outages. 15 10 10 6 7 In FY16, customer perceptions were down for Telstra’s network coverage 5 0 and customer service, but were steady on value for money and network 0 reliability. In FY17 Telstra refreshed its brand with a focus on developing an -5 TLS OPT VHA emotional connection with our customers. Telstra has since been -10 -6 recognised as Australia’s most valuable brand and among the world’s top 100 most valuable brands for the second year running. However NPS FY15 FY16 FY17 FY18

28 scores have dropped 8 points over the last six months due to network disruptions.

Optus has taken a cut to profits in order to focus on a culture of customer centricity e.g. setting a cap on domestic and global roaming which improved customer satisfaction and an investment of over $1bn in 2016 to expand coverage and data. All this allowed Optus to move from negative to positive NPV. Vodafone in FY16 went non-negative for the first time in five years and has been improving since then. This was a result of investment in network, customer service and products in recent years. APPENDIX 30: References

Telstra Corporation Limited 2018, Telstra Annual Report 2018, viewed 26 August 2018, https://www.telstra.com.au/content/dam/tcom/about-us/investors/pdf%20F/2018-Annual-Report.pdf.

Telstra Corporation Limited 2018, Telstra Annual Report 2017, viewed 26 August 2018, https://www.telstra.com.au/content/dam/tcom/about-us/investors/pdf%20F/Annual-Report-2017.PDF.

Telstra Corporation Limited 2018, Telstra Annual Report 2016, viewed 26 August 2018, https://www.telstra.com.au/content/dam/tcom/about-us/investors/pdf%20F/FY16-Annual-Report.pdf.

Telstra Corporation Limited 2018, Telstra Annual Report 2015, viewed 26 August 2018, https://www.telstra.com.au/content/dam/tcom/about-us/investors/pdf%20D/telstra-annual-report-2015.pdf.

Singtel Optus Pty Limited 2018, Transforming with You – Annual Report 2016, viewed 26 August 2018, https://www.optus.com.au/content/dam/optus/documents/about-us/media-centre/annual-reports/2016/06/Singtel-Annual-Report-2016.pdf.

Vodafone Group Service Limited 2018, Annual Report 2018, viewed 26 August 2018, https://www.vodafone.com/content/annualreport/annual_report18/index.html.

TPG Telecom Limited 2018, 2017 Annual Report, viewed 28 August 2018, https://www.tpg.com.au/about/pdfs/FY17%20Annual%20Report.pdf.

Australian Communications and Media Authority 2018, 3.6 GHz band auction November 2018 – Auction guide, viewed 4 September 2018, https://www.acma.gov.au/-/media/Spectrum-Licensing-Policy/Information/pdf/3-6-GHz-auction-2018-Auction-guide-pdf.pdf?la=en.

Deloitte 2018, Mobile Consumer Survey 2017, viewed 4 September 2018, https://www2.deloitte.com/au/mobile-consumer-survey.

Department of Communications and the Arts 2018, The communications sector: recent trends and developments – October 2016, viewed 4 September 2018, https://www.communications.gov.au/file/24111/download?token=I2mx8E0Y.

Australian Communications Consumer Action Network 2018, Can You Hear Me? Ranking the customer service of Australia’s phone and internet companies, viewed 4 September 2018, https://accan.org.au/hot-issues/1525-can-you-hear-me-ranking-the-customer-service-of- australia-s-phone-and-internet-companies.

Telecommunications Industry Ombudsman 2017, 2016-2017 Annual Report, viewed 4 September 2018, https://annualreport.tio.com.au/TIO_AnnualReport_2017.pdf

Smith, P 2018, ‘TPG bullish as Telstra touts $50 billion 5G opportunity’, Australian Financial Review¸ 19 September, viewed 21 September 2018, https://www.afr.com/technology/web/tpg-bullish-as-telstra-touts-50-billion-5g-opportunity-20180918-h15jeh

Mason, M 2018, ‘Telstra's Andy Penn eyes 5G profit bonanza’¸ Australian Financial Review¸ 16 August, viewed 4 September 2018, https://www.afr.com/business/telecommunications/telstras-andy-penn-eyes-5g-profit-bonanza-20180816-h141zr

Mason, M 2018, ‘Telstra butts heads with Optus and Vodafone over 5G rollout plans¸ Australian Financial Review¸ 10 September, viewed 12 September 2018, https://www.afr.com/business/telecommunications/telstra-butts-heads-with-optus-and-vodafone-over-5g-rollout-plans- 20180909-h155be

NBN Co 2018, Corporate Plan 2018-21, viewed 14 September, https://www.nbnco.com.au/content/dam/nbnco2/2018/documents/corporate- reports/corporate-plan-2018-2021.pdf

29