How much higher can Telstra go?

Co-founder of the Switzer Report
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Last Friday, Telstra (TLS) closed at $4.03. A couple of months back’, it was languishing at $3.40.

Telstra (TLS) – 8/23 to 8/24 

An 18% return for a boring, relatively low risk stock like Telstra over a few months is pretty darn good! So, what has changed?

The answer is…not that much. Maybe the market misinterpreted Telstra’s decision to scrap the automatic price indexation of mobile plans, ignoring the fact that in an oligopoly of three and as the market leader, they may be able to pass on to consumers even bigger increases. And certainly, the banks have got more expensive…and Telstra’s dividend yield of 4.7% looks quite attractive compared to CBA’s prospective yield of just 3.4%.

But I think it’s more down to rotation and just a “bit of love”. As I wrote back in May (see  https://switzerreport.com.au/why-is-telstra-so-unloved/), the market can be very fickle and  irrational in its interpretation of company announcements.

Telstra’s full year profit result announced the other week of underlying EBITDA of $8.2 billion and full year dividend of 18 cents per share was bang on expectations. Let’s take a closer look and see what the brokers have to say and formulate a view on whether Telstra can go much higher.

Telstra’s full year result

The highlight of Telstra’s full year profit result was that it marginally tightened its profit guidance for FY25 (implying a very small upgrade) of underlying EBITDA of between $8.5bn and $8.7bn. The midpoint of $8.6bn (up from $8.55bn in late May) implies an increase of almost 5% on FY24.

The FY24 result of $8.2bn was up 3.7% on FY23. Growth of 9.2% growth for the mobiles division (which now accounts for 61% of Telstra’s earnings) offset a 67% decline in the ‘Fixed Enterprise’ product – the division of Telstra that services enterprise and corporate customers and provides fixed call, network application services, professional services and cloud.

Half on half, second half EBITDA of $4,227 million was up 5.2% on the first half’s $4,007 million. This was almost exclusively due to a fall in operating costs.

In the key mobiles division, Telstra added a net 116,000 postpaid customers over the year (43,000 in the second half) and average revenue per user (ARPU) increased by 3.3%.

For FY25, Telstra has guided to:

  • Underlying EBITDA of $8.5bn to $8.7bn ($8.2bn in FY24)
  • Business- as-usual capex of $3.2bn to $3.4bn ($3.4bn in FY24)
  • Strategic investment (inter-city fibre network and ViaSat projects) of $0.3bn to $0.5bn ($0.3bn in FY24)
  • Free cash flow before strategic investment of $3.0bn to $3.4bn ($3.2bn in FY24)

What do the brokers say?

With the exception of Morgans, the major brokers are positive on Telstra. Five out of the six have “buy” recommendations. As the table below shows, target prices are now fairly close to the last ASX price. According to FN Arena, the consensus target price is $4.18, about 4% higher than the last ASX price.

The range is a low of $3.20 from Morgans through to a high of $4.50 from Ord Minnett.

Commenting on the result, Morgan Stanley says: “Morgan Stanley views the in-line FY24 results and a raised FY25 outlook as supportive of its positive thesis.

The Mobile and InfraCo units are performing strongly, driving free cash flow growth and underpinning a rising trajectory for absolute dividends, making Telstra the broker’s preferred yield stock.

Over the last three years Telstra’s cost of debt has risen from 3.7% to 5.0%, which all else equal could otherwise be available for higher dividends. Hence Morgan Stanley sees the company as a beneficiary of rate cuts.”

Bell Potter says: “In an interesting comparison, the broker suggests Telstra’s dividend should grow at a greater rate than what is expected for Australian banks.”

On the other hand, Morgans says: “Morgans retains Reduce, as mathematically the broker sees more downside than upside risk as Telstra trades on a PE multiple materially above its ten-year average and that of international incumbent peers.”

On multiples, the brokers have Telstra trading on a multiple of 20.7x forecast FY25 earnings, falling to 19.3x forecast FY26 earnings. Full year dividends of 19c and 20c are forecast for FY25 and FY26.

What’s the bottom line?

The ‘weight of money’ will send Telstra higher.  It is a low risk, relatively low volatile stock paying an attractive fully franked dividend. Moderate earnings growth (and dividend growth) will prove to be attractive, particularly for retail (and institutional investors) looking for an alternative to the major banks.

If interest rates fall, I think we could see it back to the $4.40 to $4.50 level.

 

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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