Telecommunications Final Paper

8/4/2019 Telecommunications Final Paper

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Wireless Telecommunications Industry



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Table of Contents

Historical Overview 4

State of the Industry 4

Historical Growth 4

Key Players 5

Industry Drivers 6

Porter Five Forces 7

Short Term and Long Term Prospects 9

Challenges and Threats 10

Current Portfolio 11

Our Choices 11

AT&T 11

Vodafone 14

Verizon 16

Telefonica 18

Analysis of Profitability 22

Analysis of Revenue, Growth, and Dividends 24

Financial and Competitive Positions 27

Comparative Financial Statements 28

Best of the Breed 30

Our Investment Philosophy 30



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GARP Ratios 31

Justifiable Multiple 33

DFC Analysis 34

Other Valuation Considerations 37

Technical Considerations 38

Catalysts 38

Recommendations 38



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Industry Overview

Historical

On October 13, 1983, the first commercial cellular call took place in Chicago(S&P). Less than 30 years

since that call, a multi-billion dollar industry emerged. The wireless communication industry consistsalmost entirely of cellular phone companies. These companies evolved from regular landline phone

companies when they incorporated the technology used for handheld radios. The companies built

towers that are used to transmit the signals from one caller to another via air rights that are purchased

from a Federal Communications Commission (FCC) auction. A typical cellular company will enter into a

contract with a customer agreeing to provide service in exchange for a preset monthly payment, which

is the main source of revenue for the company. However, service is also available without a contract,

but only if the customer prepays for use of the air space.

State of the Industry

Recent growth in the wireless telecommunications industry is much slower than it has been in the past.

This is due to the number of people who now own a cell phone, in addition to the product cycle moving

from the growth stage into the maturity stage. Accordingly, the wireless penetration rate in the United

States hit 93% by the end of June 2010(S&P). Penetration is the number of cellular phone customers

versus the population. However, it is possible for the penetration rate to be higher than 100%, which is

achieved if customers have more than 1 device. Because, specialized, data only devices, such as tablet

PC’s are becoming more popular, a penetration rate over 100% is becoming more likely. In fact, data

only devices along with data specialized phones are changing the state of the industry tremendously.

Data is the transmission of anything other than phone calls over the airwaves via cellular towers;

internet, emails, pictures, and other transmissions are all part of a company’s data network. Data has

become so popular among users that phone service plans as well as technology are undergoing change

in order to support more customer data transmission. As a result, cell phones now have many more

features that incorporate the data network than they do for regular phone call communication. Tablet

PC’s, like the famous Apple Ipad, are also changing the industry. Even though devices such as this are

incapable of transmitting phone calls, they are able to send and receive data at a much higher rate than

a cell phone, resulting in an increase in the amount of data being used and, therefore, the changing of

the companies. When data usage increases so do the costs to the companies because there is a cost to

the companies relative to the amount of data being transmitted. Thus, the unlimited amount of data

that was once available to the customer in the past, for a set monthly charge, is currently changing into

two options: a cap on the amount of data, or a much higher rate for unlimited use.

Historical Growth



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Because the penetration rate was only 66% in 2006(CITA.org), there was plenty of room for growth. As

illustrated above, from 1990-1995 there was 324% growth in revenue, from 1995-2000 a 175% increase,

from 2000 to 2005 a 116% increase, and from 2005-2010 there was only an estimated 34% increase.

Since most people don’t have a use for more than one cell phone at a time and because 95% of the

population already has one, there is a relatively limited new customer base. Thus, there has been a

drastic decrease in growth for regular cell phones, however, with the increasing trend toward the use of

data devices there is potential for another jump in revenue. Unfortunately, it is still a competitive

industry, and unless these companies continue to stay competitive they will lose their existing

customers.

Key Players



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Both AT&T Inc. (153.69 mkt. cap) and Verizon Wireless (102.73mkt. cap) led the US wireless industry, by

a significant margin, in subscribers and total revenues. The two companies carried close to 186 million

subscribers, roughly 65% of all US subscribers. Verizon Wireless’ revenues reached $62.1 billion in 2009,

a 4.3% increase from 2008, and AT&T Wireless had revenues of $53.5 billion in 2009, up 8.8% from

2008. In the third quarter of 2010, AT&T’s revenue rose 10.5%, while Verizon Wireless’ revenue was up

7.7% (S&P), making Verizon Wireless the largest in market share with 32.4% and AT&T right behind with

32.3%.

T-Mobile USA (59.5 mkt. cap) out of Germany and Sprint Nextel Corp. (12.87) have not seen the strong

market share gains of the top two carriers, and now lag by a large margin. Sprint Nextel with 48.8

million subscribers is third, while T-Mobile is forth with 33.8 million subscribers. With Sprint’s market

share at 17% and T-Mobile at 11.7%, they are considerably smaller than AT&T and Verizon. Finally,

companies like Metro PCS, US Cellular, and Leap Wireless control the remaining 6.6% of the market.

Sprint is the only company out of the top four that exclusively markets cellular phone and data services,

while Verizon Wireless and AT&T derive a small percentage of their revenues from the landline

telephone business. Not only is this beneficial as another source of revenue, but the low risk of this

strategy allows for the companies to take on more debt thus increasing their leverage. On the other

hand, T-Mobile, as a subsidiary of Deutsche Telecom includes many different revenue sources within the

communication industry. For example, they are involved with many cellular and landline telephone

services, internet services, plus they sell communication equipment. Bear in mind that the statistics

above concerning revenue and subscribers apply only to the T-Mobile subsidiary.

Industry Drivers

Costs

Many of the costs associated with the wireless communication industry are fixed costs, such as

buildings, tower construction, etc. However, variable costs are associated with subscriber usage, and as

the industry changes toward more of a data accessible market, these variable costs will become more of

a factor. So, as more data is used, the cost for the data usage plans will also increase. Since product

costs are unique to many cellular phone providers, the phones themselves can be sold at a lower price

to the consumer than what the provider paid to manufacturer. Consequently, this loss is made up by

the revenue gained in the sale of a service contract.

Revenues

Demand in this industry used to be more elastic than it is currently. Cell phones are becoming more and

more standard utility than they are luxury. As the penetration rate increases the demand, elasticity

decreases. Conversely, one factor that could affect the revenues, in the event of economic downturn, is

the way phone usage contracts are priced. So, each plan sold contains a limit on the number of minutes

a customer can use. For example, AT&T charges $39.99 for 450 minutes, $59.99 for 900 minutes, and as

the amount of minutes increase the price also increases. As a result, a customer with limited finances

may opt to decrease the number of minutes they pay for, which will result in loss of revenue.



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Macroeconomic Factors

The growth phase of the wireless industry is coming to a close, and they are entering into the maturity

phase. Almost everyone knows about cell phones, and product awareness advertising is at a minimum.

One aspect that is keeping the industry in the growth cycle is the paradigm shift toward increased data

usage. Although the technology is not new, the way that it’s being used is changing, both significantlyand rapidly. The industry is text book competitive, with many companies. As far as leverage, most

companies hover with a capital structure of 1/3 debt and 2/3 equity, and the industry beta is relatively

low as it is less than 1.

Legal and Regulatory Environment

The most significant regulatory factor for this industry is the FCC (Federal Communication Commission).

This organization essentially controls every transmission that passes through the airwaves. Radio

frequency licenses are auctioned through the FCC, and then sold to cellular providers(S&P). Without

these licenses cellular services are not possible. Therefore, the FCC decides which companies can exist

and which ones cannot. Other FCC regulations must also be followed, such as: what types of signals are

used, how often, how many, etc. Companies that fail to comply with regulations lose their license and

are no longer able to provide services.

Porters Five Forces

The objective of Porter’s five forces is to examine a company or industry in order to determine the key

forces in its internal and external environments. The results help investors and/or management to

decide whether or not a particular industry or company is worth the risk of investment. The five forces

are: bargaining power of the suppliers, bargaining power of the buyers, threat of substitute products,

threat of new entrants, and competitive rivalry within the industry. Therefore, they determine, for themost part, the amount of competition within the industry, and whether the investment would be

profitable.

Bargaining Power of the Supplier

While the industry depends upon suppliers to keep up with growth and demand, one would assume that

the suppliers would have considerable bargaining power in the industry. However, there are a number

of suppliers that supply the fiber optics, materials, software, and other necessary equipment to the

wireless telecommunications industry and because of their high numbers, low switching costs, and

essentially similar products, the bargaining power of the supplier is fairly low. From an investment point

of view, this can be positive because the costs for materials remain low and it reduces risk.

Bargaining Power of the Buyers

Today, the buyer is beginning to exert more influence within the industry due to an increasing number

of providers. They are buying products that are undifferentiated, which forces the industry to compete

in price and new product development. Because switching costs are relatively low, customers have low



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exit barriers. Also, there is a growing number of companies within the industry that offer shorter

contracts, or no contract at all. This trend should continue as companies within the industry attempt to

one-up their competitors. However, although bargaining power is rising, the market has become

saturated with competitors. Theoretically, this should lead to mergers and acquisitions, which from an

investment stance is encouraging as the value of a company being acquired tends to increase during an

acquisition, thereby, resulting in fewer providers for buyers to choose from.

Threat of Substitute Products

One of the biggest threats in the industry is competition with cable and satellite television providers.

These providers already have an efficient and effective system for providing television and other

services to their clients, and they are extremely capable of offering similar wireless telecommunication

services to their customers as well. Other threats are services provided by the internet such as e-mail,

web chatting, etc., these can also be substituted for the services provided by the wireless

telecommunications industry. Now, while these are considered a threat, mobile communication devices

are still the “bread and butter” of this industry. If other providers want to try and compete, they will beat a disadvantage due to strong name recognition and brand loyalty existing within the industry.

Threat of New Entrants

It will be difficult for new companies to enter this industry due to high capital requirements, limited

access to distribution channels, FCC policy/regulations, and the large companies already entrenched in

the industry. A new company would have to apply for licensing with FCC, and abide by its rules and

regulations. Also the market is saturated, so a new company would have a difficult time challenging the

existing companies. A new company may not have access to affordable distribution channels and,

therefore, would not be able to match the price of its competitors. Finally, the high fixed costs for

equipment and materials require a large capital investment, and a new company may not have access to

cheap capital and simply could not afford to enter the industry. From an investment point of view,

difficulty entering into this industry is encouraging, because these high barriers of entry offer the

existing companies added protection, to help stabilize growth and earnings.

Competitive Rivalry

There is significant competition within the industry as different companies’ battle each other for market

share. The industry’s growth is slowing, it lacks product differentiation, and it has high fixed costs.

Companies within this industry will have to continue to expand into foreign markets for new customers

and growth. This could be a significant area of growth due to the fact that the worldwide marketpenetration is only at 53%. Within the domestic market, a down economy leads to lower interest rates

as the government tries to encourage growth. Companies can take advantage of cheaper financing to

develop new products and services. New technological developments and services should be combined

with existing products and offer new opportunities for growth. Deregulation will help foster new ideas

and innovations. As demand for wireless telecommunication products and services increases, the

industry should see considerable growth both domestically as well as in the foreign markets.



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Worldwide Mobile Subscriber Penetration

Short Term and Long Term Prospects

With domestic market penetration at 93%, new customers will not be the main source of profitabilityand growth within the United States. Domestic growth will come from the development of new

products and services. In the short term, new developments in smart phones and media tablets seem

to be the focus of the industry. In the long term, companies will have to enter foreign markets to attract

new customers. This can be a challenge because of the expense, uncertainty, and political/regulatory

aspects associated with entering a foreign market. However, this should be an area of considerable

growth for companies possessing the resources and patience to expand their companies beyond the

borders of United States. Also, wireless only households are growing rapidly, and this should lead to

both short term and long term opportunities of offering new products and services to households

throughout the country.

US Mobile Subscriber Penetration

Wireless Quick Facts

Mid-Year Figures

http://public.cenriqueortiz.com/images/us-wireless-subs-market-dec-2008.jpg






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Topic Jun-10 Jun-05 Jun-00 Jun-95

Wireless Subscriber Connections 292.8M 194.4M 97M 28.1M

Wireless Penetration

% of total U.S. population

93% 66% 34% 11%

Wireless-Only Households1

% of U.S. Households

24.50% 7.70% N/A N/A

1Wireless Substitution: Early Release of Estimates from the National Health Interview Survey, July -

December 2009, National Center for Health Statistics, May 2010. www.ctia.org

Challenges and Threats

The wireless telecommunications industry is not unlike many other industries, in that it faces challenges

and threats to its success and profitability. As previously stated, the biggest threat to this industry

comes from outside industries, like cable and satellite television providers, providing similar products

and services. This threat is serious because they already have a distribution system in place. If they can

offer similar products to their existing clients, then growth and profitability in the wirelesstelecommunications industry would decrease. Also the industry will have to address the effects of

globalization. As emerging nations develop their own telecommunications industry, there is a possibility

that these countries will attempt to penetrate the United States telecommunication industry. Although

the FCC will probably make it just as difficult for foreign entities to enter the industry as they do for

domestic companies, the threat is still a possibility that the industry will have to address. A threat from

within the industry comes from a very limited supply of well qualified management and employees. This

means that demand for highly capable employees is up, and companies have to pay higher wages and

benefits to retain the best talent. This can cause financial pressure because increased labor costs offset

profits and growth. Also, because the industry is regulated by the FCC, new legislation could be passed

that would limit growth, flexibility and overall profitability. Finally, because the domestic market is sosaturated, companies are going to have to rely on technology and innovations rather than new

customers to sustain growth. Developing new technology is costly and risky, so only companies that

have resources available or access to cheap capital will be able to continue to thrive.

Economic Cycle

The wireless telecommunications industry is entering into the mature stage of the economic cycle. In

this stage, the industry’s growth stabilizes and most of the companies within the industry are competing

on price and brand differentiation. The industry is both defensive and cyclical. Communication

becomes as essential as food and water. There will always be a need to communicate information, so

the basic part of the industry will continue to thrive regardless of the economy. The industry, however,

is also cyclical in that new products and services that require discretionary spending will struggle to sell

in a down economy. It is a good industry to invest in, both going into and coming out of a recession.

http://www.ctia.org/






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Do We Invest Here?

The industry has a market capitalization of 343 Billion, which fits into our large cap portfolio. The

industry’s beta is 1.01, lower than the current portfolio, so we are not taking on additional risk by

investing in this industry. The industry is expected to grow 7 to 8 percent over the next five years.

There is very little threat of new entrants into the industry, so profitability and growth should remainstable. In the long term, the industry should see an increase in mergers and acquisitions between

companies, and this should make some of the smaller companies very valuable. We should also see, in

the long term, considerable growth in emerging countries as they increase their demands for wireless

communication services. There will always be a demand for communication, and the companies that

offer the fastest, most reliable, and newest technology will thrive in this industry.

Our Choices

Based on our analysis of the industry as a whole, we knew that there were only a few companies located

in the United States to choose from for further analysis. We were assigned to look at the foreign market

to see if perhaps there were any companies that might complement our portfolio. We decided to

examine foreign telecommunication companies with a market capitalization rate over one billion dollars,

and that are publicly traded on U.S. markets. We decided that these companies would not only be

interesting to look at, but also provide the necessary financial data needed for comparison. The two

United States firms that we chose are AT&T and Verizon, and the two foreign firms are Vodafone and

Telefonica.

AT&T

AT&T’s roots stretch back to 1875 with founder Alexander Graham Bell’s invention of the telephone.

During the 19th century AT&T became the parent company of the Bell System, the American telephone

monopoly (corp/history). In 1984 the department of justice broke up the monopoly into eight separate

companies to encourage competition and decrease costs to consumers. Headquartered in Dallas Texas,

AT&T is home to over 260,000 dedicated employees engaged in selling retail services, product repair,

and product installation. AT&T offers a wide range of wireless, data, video, and home phone products

and solutions. As a company, AT&T services over 95 million customers, they were the first to offer

Apples iphone, and they are the leading provider of traditional wireline voice services. With 17.8 million

high speed internet subscribers, AT&T is the largest U.S. broadband provider (AT&T). With 167.5 Billion

dollar market capitalization rate, AT&T is the largest U.S. wireless telecommunications company.



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Direction of the company

AT&T’s future depends heavily on their ability to update and to expand their network. “This network

and the vision behind it form the core growth platforms that are shaping AT&T’s future” (2010 Annual

Report). The core growth platforms are:

Mobile broadband

Advanced business solutions that combine mobile broadband, cloud capabilities and

applications to help businesses mobilize everything and transform their operations

AT&T has invested heavily into a mobile broadband network, and today AT&T has the fastest mobile

network in the U.S. Their goal is a network that offers “faster speeds, more capacity, and greater

functionality” (2010 Annual Report). They have incorporated this network into the business world, and

offer businesses access to data and applications at home, the office, or anywhere in the world. This has

led to faster decisions, more reliable information, and an increase in productivity. As the business

community shifts away from the traditional office work space location to a more mobile work location,AT&T will continue to offer new products and services to meet the demands of this new trend.

Competitive Strategy

“When the communication industry looks back at the start of this decade, it will be marked as an

inflection point – when mobile broadband forever changed how the world does business” (2010AR).

AT&T’s competitive strategy is to build the fastest mobile broadband network in the world. This will

enable them to offer products like smart phones and media tablets to a growing mobile segment of both

the business and consumer worlds. In the past three years the company has spent 70 billion to acquire

spectrum and build the most advanced wireless network (2010AR). Their motto is to “rethink possible”

and they are spending billions to develop new ideas and innovations that were once thought impossible.

As for performance, AT&T increased wireless revenues in 2010 by 29%, gave back 9.9 billion in

dividends, and increased its earnings per share by 64% (2010AR). This strategy along with new product

developments should keep AT&T at the top of the wireless telecommunications industry.

Strengths

AT&T is the largest provider of broadband in the U.S. and they are the world’s largest communications

holding company.

They have a broad portfolio of products and services such as:

Wireless communications

Long distance services

Internet/broadband services

Telecommunications Equipment



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Advertising

One of AT&T’s biggest strengths was its exclusivity agreement with Apple to be the only company to

provide service to the iphone and ipad. Although this agreement has ceased, AT&T will continue to

enjoy the benefits because they were the first company to offer these products from Apple, and they

have customers committed to the AT&T brand.

Weaknesses

U.S. market penetration is approaching 100%, and AT&T will have to find new markets or develop new

products to continue its growth.

High debt to equity ratio will decrease its financial flexibility.

Opportunities

Industry consolidation through mergers and acquisitions

Further wireless growth

Expansion into foreign markets and emerging nations

Expanding from the 3G to a 4G network

Threats

Increase competition within the industry for market share

Because of market saturation, AT&T will compete primarily on price. This increased competition could

reduce profit margins.

Dependency on Apple could lead to vulnerability in both growth and profitability

Foreign companies ability to penetrate U.S. telecommunications industry

Product Mix

AT&T offers a wide range of both products and service to consumers and businesses. Most notably are

headsets and media tablets such as the blackberry, and Apple’s iphone, ipad. They offer numerous data

and voice service plans to over 95 million customers in the United States. Their plans range from the

traditional two year contract to prepaid minutes without a contractual obligation. AT&T has the fastest

mobile broadband network and the largest international voice coverage of any wireless carrier

worldwide. The company was not immune to the recent economic downturn, however, “AT&T is

coming out of the downturn stronger, both operationally and financially, than we were going in — with

improving revenue trends, expanding margins and a more growth-oriented business. In the fourth

quarter, 73 percent of revenues came from mobility, wireline data, and managed services, and those



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revenues were growing at a 9.0 percent pace” (2010AR). As AT&T continues to expand its mobility

network and product line, they should continue to have both growth and prosperity.

Vodafone

Vodafone began as a joint venture between Racal Electronics, Millicon, and Hambros Technology in

1982. The network was known as Racal Vodafone with Vodafone being derived from the firm’s goal to

establish a voice and data services over a cellular telecommunications network. Hence, the Vo

represents voice services, and the Da represents data (celtnet). In 1991 Racal Telecom split from Racal

Electronics and became the Vodafone group. Through a series of mergers and acquisitions in the late

1990’s and 2000’s Vodafone expanded its wireless communications empire. Most notably Vodafone

bought out Germany’s largest network Mannemann, merged its U.S. assets with Bell Atlantic to form

Verizon Wireless, purchased J-Phone (Japans third largest mobile operator), and purchased Eircell

(Irelands largest wireless communications company) (wiki). In 2004 Vodafone made an offer to

purchase AT&T wireless, but lost to Cingular Wireless. Over the past three decades Vodafone has

carved out a telecommunications empire stretching all over the world.

A map showing Vodafone Global Enterprise' footprint.

Vodafone Operating Countries

Vodafone's partners and affiliates

Direction of the Company

The vision of Vodafone is to be the communications leader in an increasingly connected world (VodaAR).

In order to achieve that vision, the company is looking to increase cash flows through cost reduction,

and product implementation. Vodafone’s direction is not only to increase its product and services

portfolio, but to also expand these products and services into other sectors such as healthcare, trucking,

and emerging markets. Vodafone is increasing its dividend to not only reward its current investors but

to also make the company more attractive to new investors. In short, Vodafone’s direction is to expand

its operations to create new marketable products and services while maintaining strong cash flows to

pay out rewarding dividends.

http://enterprise.vodafone.com/discover_global_enterprise/global_reach.jsp


http://en.wikipedia.org/wiki/File:Vodafone_World_Footprint.svg




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Vodafone like any other company wants to grow and expand to increase profitability. Vodafone has

established the following strategy for success:

Cost reduction target delivered a year ahead of plan

Strong revenue growth from data and fixed line services

Continued strong growth in emerging markets

Enhanced shareholder returns

Vodafone reduced its costs by over 1 billion pounds in 2010; this was achieved one year ahead of

schedule. Vodafone is increasing its investment in its network and product portfolio, “We have

reinforced the commercial focus of our operating companies by emphasizing relative market share of

quality customers, exploitation of the data opportunity, and expansion into converged services”

(VodaAR). 33% of the 2010 revenues came from products not related to mobile service; Vodafone is

shifting away from mobile voice to become a total communications provider. The emerging markets of

India, Turkey, and South Africa are another focus point of Vodafone’s strategy. In 2010 India’s customer

base increased 32 million subscribers to a total of 100 million subscribers; Vodafone is now the second

largest telecommunications company in India. Vodafone increased their service revenue in South Africa

by 4.6% and in Turkey by 31.3% (VodaAR). Finally, Vodafone paid out over 4 billion pounds in dividends

to its shareholders; up 7% from 2009. The company will continue to pursue these strategies to increase

profitability to not only the company, but also to its shareholders.

Strengths

Diversified geographical portfolio

Strong mobile telecommunications operations in Europe, the Middle East, Africa, Asia, and the U.S.

Strong interconnected network of suppliers

Strong interconnected mobile service network

Weaknesses

A centralized operational structure that neglects newly acquired local markets differences and cultures.

This allows smaller local companies to win market share.

European market saturation levels are so high that Vodafone has to compete on price

U.S. market is not performing as well as other markets

Opportunities

A focus on cost reductions to increase returns

Research and Development of new products and services to target specific market segments

Continue to expand in grow in emerging nations



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Expansion of network from 3G to 4G

Threats

Highly competitive market

Underperforming in the U.S. market

High penetration and saturation levels in Europe

Government legislation on cross border cell phone use

Local competition taking market share

Product Mix

Vodafone offers a wide range of products and services to both consumers and business. Most notably

for the consumer is the web box that allows you to access internet through your television. Vodafone

has a large selection of cell phones ranging from very basic phones to Android and Blackberries’. They

have a variety of service plans from two year contracts to pay as you go. They have online support tohelp resolve customers problems and concerns 24 hours a day 7 days a week. The company has done

well navigating the recent economic downturn. In the 2010 annual report, total revenue was 44.5

billion up 8.4% from 2009. As the company shifts towards becoming a total communications provider

through new product and service innovations and expansion into foreign markets, profits and product

lines should increase substantially.

Verizon

Verizon was founded as Bell Atlantic split from AT&T Co after a forced break-up due to an Anti-trust law

suit in the early 1980’s. In 2000 Bell Atlantic joined in a historic merger with GTE that took two years tocomplete. An additional merger between Bell Atlantic and Vodaphone took place to create Verizon

Wireless. On February 14, 2005, Verizon agreed to acquire MCI, formerly WorldCom, after SBC

Communications agreed to acquire AT&T Corp. just a few weeks earlier.


In the annual report, letter to shareholders Ivan Seidenberg President and CEO of Verizon stated:

Verizon Wireless currently operates the nation’s largest and most reliable third -

generation wireless data network, and we are moving forward with plans for a

nationwide fourth-generation network based on a global standard called LTE, for “Long-

Term Evolution.” This new LTE network will be up to 10 times faster and much more cost -

efficient than today’s wireless technology.

Clearly data services are more important to the wireless telecommunications industry than they

ever have been before. Call quality is of decreasing importance while data quality and speed are



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becoming drastically more important. Verizon is no exception. They will be focusing on a new

faster data network to insure the best customer experience. Seidenburg went on to state:

We are also priming the innovation pump for the coming explosion of smart devices,

multimedia applications and machine-to-machine communications. We started our own

innovation lab, opened our network to outside developers, and are working with partners such as Qualcomm, Skype and Google to create new devices, applications and

services, and we have joined with China Mobile, Softbank Japan and Vodafone to create

a Joint Innovation Laboratory to foster application development worldwide. We

expanded our portfolio of smart phones and devices, one of which – the Motorola Droid

smart phone, based on Google’s Android operating system – topped Time’s list of the

best new gadgets of 2009.

Verizon is also putting more resources into their telephone, internet, and television bundle

named FiOS. This takes place over high speed fiber optic cables. The service is not available

everywhere in the United States and steps will have to be taken to expand the available service

area.


As device manufacturers develop technology to better utilize data services, a network to operate those

devices is essential. The wireless industry is extremely competitive and for many customers the grass is

always greener at another provider. Verizon is choosing to focus their efforts on offering ground

breaking devices to utilize data as well as advertising their LTE network that is an extremely fast 4 th

generation data network. Verizon is also keeping with past strategy of focusing on the fact that they are

the nation’s largest network, as ATT their biggest competitor focuses on the fastest network.

Verizons annual report states:

We are also priming the innovation pump for the coming explosion of smart devices,

multimedia applications and machine-to-machine communications. We started our owninnovation lab, opened our network to outside developers, and are working with

partners such as Qualcomm, Skype and Google to create new devices, applications and

services, and we have joined with China Mobile, Softbank Japan and Vodafone to create

a Joint Innovation Laboratory to foster application development worldwide. We

expanded our portfolio of smart phones and devices, one of which – the Motorola Droid

smart phone, based.

Strengths

• Brand equity - Can you hear me now?

• Strong network

• Strong financial performance

• Good reputation for Customer Service

• 3G Coverage

• Android lineup of VZW's is 50% of Google sales



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Weaknesses

• Geographic concentration - only in the US

• ATT was first to incorporate the iPhone

Opportunities • Further consolidation in the industry

• Acquisition of smaller, regional operators

• Expansion into markets outside of the US

• New phones - the Droid, iPhone

Threats

• Intense competition in the wireless space

• FCC regulations

• High Costs associated with the competitively essential LTE network

Product Mix

One of the largest advantages Verizon has is the diversification of its product and service

offerings. Verizon’s most notable products are its vast line of cellular phones and its network to

run those devices. Contracted and pre-paid service plans provide the main stream of revenue.

In addition Verizon has data only devices and plans, the FiOS network, and a very active R&D

department that is continually looking at new opportunities.

Telefonica

Created in 1924, as Compañía Telefónica Nacional de España (CTNE), until the liberalization of the

telecom market in 1997, Telefónica was the only telephone operator in Spain and still holds a dominant

position (over 75% in 2004).



19

The above map illustrates where Telefonica operates; the lighter blue section denotes an affiliate of the

company that services that country. Telefonica is a major player worldwide providing even minor

services in the United States. Based in Miami, Florida, Telefónica USA, Inc. provides services to U.S.

based multinational companies that have operations in Latin America and Europe. Telefónica USA also

operates the Key Center, a category 5 data center in Miami, from where the company supports Business

Continuity and IT services for Enterprise customers in South Florida. (Wikipedia).


Telefonica is a major worldwide telecommunications provider. As with all companies in the industry

they will be focusing on expanding their data network. Telefonica will also continue to look at

opportunities for expansion into new markets. Telefonica is highly sought after for its high dividend

yield. As illustrated in the following table the company has a 6.9% yield and has steadily increased its

dividend for the last 8 yrs.

Telefonica (TEF) 6.9, 8

Inergy (NRGY) 6.8, 10

Teekay LNG Partners (TGP) 6.6, 7

Getty Realty (GTY) 6.5, 11

National Presto Industries (NPK) 6.5, 8

http://seekingalpha.com/symbol/tef



http://seekingalpha.com/symbol/nrgy



http://seekingalpha.com/symbol/tgp



http://seekingalpha.com/symbol/gty



http://seekingalpha.com/symbol/npk










20

Telefonica has made announcements to maintain the dividend growth and hit 1.60 euros in 2011 and

over 1.70 in 2011. In order to pay this dividend appropriately Telefonica will need to increase profits.

Many analysts argue that an increase in profits will be a challenge for the company.


Telefonica will continue with the expansion of their data network. They will continue the past pattern of

technology development and effective acquisitions, but will focus these efforts on developing synergies

in the data department. According to their annual report Telefonica innovates by:

Introducing new technologies into networks and platforms:

o Deploying new fixed and mobile access networks to satisfy the needs of both local and globalclients.

o Introducing technologies that increase the intelligence and functionality of our networks.

o Implementing new technologies to allow remote management of devices and improve our customer-service centres so that we can offer our clients simpler solutions with higher-quality customer

service.

Applying Information Technologies (IT):

o Taking full advantage of the potential of Systems as a tool to optimize our internal processes,evolving towards the online world.

o Applying the best global and regional practices to the Systems in the Telefónica Group.

o Taking advantage of our scale by consolidating Data Centres and unifying work-station systems.

Optimizing purchasing processes:

o Establishing a purchasing strategy that takes advantage of our global scale.

o Increasing electronic purchasing and provision processes by introducing new systems.

Strengths

• Strong worldwide market position

• Strong focus on Research and Development

Weaknesses

• Not as strong in the Asia Markets

Opportunities

• Business Expansion

• New Collaborations

• Great recognition on past dividend yield



21

Threats

• Intense competition in the wireless space

• Government communication and anti-trust regulations

Product Mix

Telefonica offers wireless and wire line telecommunication service. Like many other companies they

also offer a bundle package of telephone, television (satellite or cable), and internet services. Unlike the

larger United States companies, ATT and Verizon, Telefonica sets many of their service agreements

around pre-paid service plans. Some of the agreements are postpaid contractual agreements, but a

large majority is pre-paid, pay per unit plans.

Analysis of Profitability

ROA

The return on assets for the four companies over the past five years is shown in the above chart. AT&T

and Verizon have similar ROA’s and Vodafone, after a large increase in 06, has remained fairly flat over

the last three years. It appears that Telefonica is performing the best. Telefonica has a better return for

each dollar invested in the assets for the company. One interesting note is that we see a drop in ROA

for the two U.S. companies during 08’s economic downturn; however both foreign companies remain

high during that year. If the U.S. continues to have economic problems, investing in either the foreign

companies maybe a better choice.

-15.00%

-10.00%

-5.00%

0.00%

5.00%

10.00%

15.00%

20.00%

Jan-06 Jan-07 Jan-08 Jan-09 Jan-10

ROA

AT&T

Verizon

VODA

Telefonica



22

ROE

The ROE tells us how investors have fared from their investments in the companies. The goal of a firm

should be to maximize shareholder wealth, and the higher the ROE, the better the company is

performing from the investor’s point of view. ROE tells investors how much profit is being generated

from each dollar invested from equity. From the above chart, Telefonica has the best ROE.

Dupont Analysis for 2010

We can further dissect ROE into the operating segments that make up ROE. These segments include

leverage, asset efficiency, and profit margin.

Dupont 2010

Profit

Margin Asset Turnover Leverage ROE

AT&T 0.159832636 0.463040238 2.517682 0.186331

Verizon 0.023919673 0.47689478 5.589754 0.063763

VODA 0.194391977 0.287208897 1.754146 0.097936

Telefonica 0.167393846 0.510682485 5.150175 0.440263

We can see that the profit margins for AT&T, Vodafone, and Telefonica are similar with Vodafone

leading at 19%. Telefonica is doing the best at using their assets to generate sales with an asset

turnover of .51. Ultimately it comes down to leverage. Telefonica has a leverage multiplier of 5.15,

which is much higher than Vodafone or AT&T. Telefonica is using more debt than equity to fund its

operations and expansions, and this is giving them an ROE of 44% for 2010. This is a great ROE but if the

company cannot keep up with its debt obligations, they will be in financial difficulty.

-30.00%

-20.00%

-10.00%

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%


P e r c e n t a g e

ROE

AT&T

Verizon

Vodafone

Telefonica



23

Sales

AT&T is dominating the other four companies in terms of sales. Their revenues for 2010 were 125

billion. All four companies’ sales are beginning to taper off or even decline over the last year; this is due

to high penetration and saturation rates in the U.S. and Europe. To increase sales each company will

need to find new customers through new products and services, and essentially steal them away from

their competitors.

Cost of Goods Sold

Costs of Goods Sold has declined for Telefonica and increased for AT&T, Verizon, and Vodafone.

Telefonica is able to purchase its inventory at much lower costs which in turn could lead to a

competitive advantage.

0

20000

40000

60000

80000

100000

120000

140000


Sales

AT&T

Verizon

VODA

Telefonica

0

10000

20000

30000

40000

50000

60000


Costs of Goods Sold

AT&T

Verizon

VODA

Telefonica



24

Gross Margins

Profit margins have fluctuated a great deal over the past five years. Vodafone has done a nice job in

rebounding from a bad 2006 and 2007 sales years. Also, one of Vodafone’s competitive strategies is a 1

billion dollar cost reduction which the company achieved in 2010. This reduction helped increase their

profit margin for 2010. AT&T and Verizon felt the effect of the U.S. economic downturn in 2008, but

AT&T has rebounded nicely. Telefonica, however, seems to be the most steady and consistent company

when it comes to profit margins. They have done a great job at keeping cost down while increasing

sales.

Analysis of Revenues, Growth, Earnings, and Dividends

Sales Growth

-80.00%

-60.00%

-40.00%

-20.00%

0.00%

20.00%

40.00%


Gross Margins

AT&T

Verizon

VODA

Telefonica

-20.00%

0.00%

20.00%

40.00%

60.00%

80.00%

100.00%


Sales Growth

AT&T

VZ

VODA

Telefonica



25

We see a sharp decline in sales over the past three years, and this can be attributed to both high market

saturation, and weak economies. Vodafone has seen its sales grow over the past three years, and this is

dueto its penetration into emerging nations like India and Turkey. AT&T has had the sharpest decline,

and this is in part from a highly saturated U.S. market, a weak U.S. economy, and a weak presence in

emerging nations. Growth in the telecommunications industry is expected to be 7 to 8 percent over the

next five years. It is a highly competitive industry and only the companies with the best products and

operations will continue to prosper.

Operating Cash Flows

All four companies have maintained healthy cash flows from operations. This tells us that management

is running operations effectively and that the companies are very profitable. The industry demands

large capital investments and one way to fund investments or expansions is through cash flows. From

an investment point of view, it is important to see what each company is doing with their respective

cash flows (dividends, new projects, pay down debt etc.). As we will see each company pays lucrative

dividends, and this can attract investors looking for a fixed income stream.

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

40.00%

45.00%


Operating Cash Flows

(as a percentage of sales)

AT&T

VZ

VODA

Telefonica



26

Earnings Growth

We can definitely see some volatility in the earnings growth of each company. This is also attributed to

high competition and market saturation from within the industry. Interestingly both AT&T and

Verizon’s growth mirror one another, this up and down is most likely stemming from the U.S. recession

and lack of growth opportunities. Vodafone has been steadily trending upward and this is due to its

ability to expand into new markets. Telefonica has a very stable earnings growth due to their ability to

keep their cost of goods sold consistently lower than the other three companies.

Dividends

All four companies pay dividends, even when their net income is negative. Once again, Telefonica pays

a very consistent and stable dividend. It is difficult to determine which company is better than the other

-800.00%

-600.00%

-400.00%

-200.00%

0.00%

200.00%

400.00%

600.00%

800.00%


Earnings Growth

AT&T

VZ

VODA

Telefonica

0.00%

100.00%

200.00%

300.00%

400.00%

500.00%

600.00%

700.00%


Dividend Payout

AT&T

VZ

VODA

Telefonica



27

when it comes to its dividends, but even on a down year companies are maintaining their payout. This

could be one way to attract new investors and to help maintain a stock price.

Financial and Competitive Positions

Leverage

Telefonica has used leverage to inflate its ROE, but has paid down some of their debt over the past three

years. Both Vodafone and AT&T use a fair amount of debt to fund operations and expansions. Verizon

has taken on a lot of debt over the past three years and this could be a sign of future problems.

Nevertheless all four companies are generating good cash flows from operations, and they are taking

advantage of reductions in income taxes by deducting interest expense from taxable income.

Current Ratio

All four companies have current ratios below 1 and this indicates some concern as to their ability to pay

their obligations as they come due. Due to fact that the telecommunications industry requires such high

capital investments, the high levels of debt are to be expected. Vodafone has been increasing their

0

1

2

3

4

5

6

7


Debt to Equity

AT&T

VZ

VODA

Telefonica

0

0.5

1

1.5


Current Ratio

AT&T

VZ

VODATelefonica



28

current ratio over the past two years. This is part of their competitive strategy to reduce costs and

improve performance. High debt is a weakness of the industry and with growth slowing; all companies

will be feeling the pressure to meet their debt obligations.

Comparative Financial Statements

Comparative Income Statement

2010 AT&T Verizon Vodafone Telefonica

Sales 100.00% 100.00% 100.00% 100.00%

Cost of Goods Sold 42.05% 41.43% 66.20% 28.99%

Gross Profit 57.95% 58.57% 33.80% 71.01%

Selling Administration Expense 41.96% 56.18% 14.36% 54.27%

Adjusted Net Income 15.98% 2.39% 19.44% 16.74%

2009

Sales 100.00% 100.00% 100.00% 100.00%Cost of Goods Sold 41.28% 41.35% 63.00% 29.47%

Gross Profit 58.72% 58.65% 37.00% 70.53%

Selling Administration Expense 48.81% 54.11% 29.49% 56.83%

Adjusted Net Income 9.91% 4.54% 7.50% 13.71%

The comparative income statement shows that net income fluctuated a great deal from year to year.

This is not surprising due to the volatility of the telecommunications industry. High selling and

administration costs are to be expected because these companies sell numerous products and services

versus manufacturing products for sale. However, Telefonica consistently had the highest gross profitand the lowest cost of goods sold.



29

Comparative Balance Sheet

Verizon AT&T Vodafone Telefonica

2010

Assets

Cash 3.28% 0.54% 3.06% 4.46%

Total Inventory 5.35% 0.33% 0.28% 0.79%

Total Current Assets 10.16% 7.43% 9.06% 16.22%

PPE 39.87% 38.44% 13.15% 27.58%

Intangibles 35.83% 22.54% 14.28% 19.28%

Other Long Term Assets 2.56% 2.50% 2.01% 10.09%

Total Assets 100.00% 100.00% 100.00% 100.00%

Liabilities

Total Current Liabilities 16.86% 21.65% 42.96% 31.80%

Total LT Debt 24.94% 37.60% 42.99% 48.76%

Other Liabilities 18.97% 26.49% 2.33% 6.81%

Total Liabilities 100.00% 100.00% 100.00% 100.00%

2009

Assets

Cash 2.71% 2.32% 3.19% 4.92%

Total Inventory 5.42% 0.32% 0.27% 0.84%

Total Current Assets 9.66% 8.17% 8.53% 16.80%

PPE 39.59% 37.69% 12.61% 26.43%

Intangibles 12.97% 22.66% 13.74% 15.22%

Other Long Term Assets 3.48% 2.53% 2.11% 14.72%

Total Assets 100.00% 100.00% 100.00% 100.00%

Liabilities

Total Current Liabilities 15.73% 20.91% 42.00% 33.09%

Total LT Debt 25.89% 40.02% 47.72% 47.81%

Other Liabilities 20.95% 25.66% 2.38% 6.33%

Total Liabilities 100.00% 100.00% 100.00% 100.00%

The comparative balance shows that the companies have a small percentage of current assets. Due to

the high capital investment requirements for the industry the companies have the majority of their

assets tied up long term. All the companies use a fair amount of long term debt to finance operations

and expansions. While beneficial from a tax perspective, all four of the companies could lose flexibility

in the event of economic slowdowns.



30

Best of the Breed

All four companies are good companies, and have shown both strengths and weaknesses over the past

five years. However, we believe that Telefonica and Vodafone are the “best of the breed”. Telefonica

has shown a consistent steady growth in sales and profit margins. They are able to keep costs down,

while steadily growing sales. Telefonica has the highest ROE and ROA of the four companies. Thismeans that they are effective in using their assets to create sales, as well as returning high profits for

investors. We like that over the past five years they have shown very stable earnings and profit margins

instead of erratic ups and downs. We believe that they will continue to expand and grow at an above

average rate, and maintain a solid stable return to investors. While Vodafone has had much more

erratic numbers than Telefonica, they had the highest earnings growth in 2010. They are the least

leveraged of the four companies and have more financial flexibility to take advantage of new

innovations. Their ROE and ROA is less than Telefonica’s, but they are still trending upward. They have

strong cash flows and paid the highest dividends over the past five years. Finally, we like Vodafone

because of their access to emerging markets such as India. We believe that revenue growth will be

highest in emerging countries, and Vodafone already has a major foothold in India and other developingnations. They have the experience from past foreign acquisitions, as well as the financial flexibility to

undertake costly and risky expansions into foreign markets.

Valuation Analysis

Our Investment Philosophy

We decided to approach our philosophy for investing by examining three options: growth, value, and

GARP. With a growth strategy we would be looking at companies that are exhibiting above average

growth than the market. We would be looking for companies that are exhibiting strong recent sales

and earnings growth. They would be companies with higher P/E multiples, paying little to no dividends,

and with Betas above one. In essence we would be looking for the next Microsoft or Google. With a

value strategy we would be looking for stocks that the market has not correctly priced. We would need

to determine the stocks intrinsic value and compare it to the current market price. If the intrinsic value

is higher than the current market value, then the stock would be a good choice. These companies would

be the opposite of growth companies and would have Betas less than one, steady dividends, and smaller

P/E multiples. With a GARP strategy we would be looking to combine both value and growth and search

out for companies that are showing consistent earnings growth above the market levels while excludingcompanies with high valuations. The goal would be to find companies exhibiting both growth potential

and that are currently underpriced. These would be companies with relatively low P/E multiples and

PEG ratios of one or lower.

We decided to examine the telecommunications industry because we were looking for a mature

industry with growth potential. A growth strategy would be difficult in this industry because the

industry has a Beta below one, relatively low P/E multiples, and the majority of the companies pay



31

dividends. So our strategy should be that of a value investor. However, we like to think of ourselves as

investors looking for some growth, while maintaining stable earnings. So we believe that we are GARP

investors. We like large cap companies that are producing above average earning, but also companies

that are less risky and pay steady dividends. While the growth rate is expected to be slowing over the

next five years, we believe that there is still opportunity left in this industry for positive gains.

Important Ratios

As GARP investors we are looking for companies that have both growth potential and that are currently

undervalued. They will relatively low price to earnings multiples and a PEG ratio of less than one. The

charts below show the P/E multiples and PEG ratios for AT&T, Verizon, Vodafone, and Telefonica.

The chart shows that Vodafone and Telefonica have the lowest P/E multiples. Verizon has the highest

P/E multiple but because we are pursuing a GARP strategy, any P/E multiple under 20 can be attractive.

We are looking for some growth, but a company with a lower P/E multiple can make their price muchcheaper than those with higher P/E multiples.

Forward P/E

0

2

4

6

8

10

12

14

16

VODA TEF VZ AT&T



32

Verizon and AT&T have PEG ratios around 2. This could indicate that the stocks are undervalued and a

good investment. Vodafone is over 3, and this could mean that the stock maybe overpriced to its value.

A PEG ratio is useful to GARP investors because we are looking for undervalued stocks. Of the four

stocks, Verizon has the lowest PEG and is the most attractive for investment.

Another part of our investment strategy was to look for companies that are paying a steady stream of

dividends. Our outlook on the economy is one of caution. We think that while the economy is starting

to turn around, we believe that high energy and commodity prices are going to put pressure on earnings

growth. As investors we would like some diversification into fixed income assets. However, the bond

market does not look all that attractive for the foreseeable future due to rising interest rate risk. For

this reason we would like to invest in companies that are paying healthy dividends. AT&T, Verizon,

Telefonica, and Vodafone all pay dividends.

PEG (five year)

-4

-3

-2

-1

0

1

2

3

4

VODA TEF VZ AT&T



33

Telefonica yields the highest dividend, followed by AT&T, Verizon, and Vodafone. All four companies

are very diligent in maintaining their dividends. We believe that an investment into any of these four

companies will help diversify our portfolio and reduce the overall risk. We also believe that if the

economy worsens, the dividends will act like a fixed income stream. We have seen in the past that even

in underperforming years that these companies will borrow funds to pay their dividends, so even if the

economy worsens, we believe that they will do all that they can to maintain their dividend payments.

Justifiable Multiple

Price to earnings ratio (P/E) is the best valuation multiple for this industry and specifically these

companies. Verizon has a current P/E of 41.89 and has a 1 year EPS estimate of $1.5 vs. a current EPS of

$0.9. This places a valuation at 62.835. At first glance this valuation seems high, and given the industry

average P/E is below 20. This may be a warning that Verizon will see a decline in P/E, or they are

significantly undervalued showing a current price of $37.00. ATT has an EPS estimate of $2.53 in 1 year.

Their P/E ratio of 13.3 would forecast a 1 year price of $33.65 compared to a current $31.31 whichseems more accurate than VZ. Telefonica has a P/E of 10.7 and a forecasted EPS of $2.54. This forecasts

a value of $27.28 compared to the current of $26.95. Vodafone has forecasted EPS of $2.75 and a P/E of

10.4. This forecasts a price of $28.6 slightly lower than the current of $29.16.

Forward Dividend Yield

0.00%

1.00%

2.00%

3.00%

4.00%

5.00%

6.00%

7.00%

VODA TEF VZ AT&T



34

In an industry such as telecommunications where the revenue stream is expected to be steady and has

such an enormous impact on the profitability of the company, the P/E ratio is a good valuation multiple.

The trends in earnings are directly correlated with stock price. The only downfall would be to estimate a

wrong P/E ratio, or earnings forecast. This would have an obvious error on the forecasted price.

DCF Analysis

Each company pays a steady dividend, and has Cash Flow reports so we were able to use both the

Dividend Discount Model as well as the Free Cash Flow to Equity Method. The accuracy results showing

a comparison of forecasted price vs. actual price are as follows:

Constant G DDM Market Difference 2-Stage DDM Market Difference

Verizon

$

38.37

$

38.27

$

0.10

$

46.27

$

38.27 $ 8.00

$

- $ -

ATT

$

30.67

$

31.30

$

(0.63)

$

25.81

$

31.30 $ (5.49)

$

- $ -

Telefonica

$

23.93

$

26.27

$

(2.34)

$

20.20

$

26.27 $ (6.07)

$

- $ -

Vodafone

$

20.65

$

28.83

$

(8.18)

$

19.21

$

28.83 $ (9.62)

$

11.25 $ 29.18

Constant G

FCFE Market Difference

2-Stage

FCFE Market Difference

$35.36 $38.27

$(2.91)

$27.39

$38.27

$(10.88)

$ - $ -

$

58.08 $31.30

$

26.78

$

35.39

$

31.30 $ 4.09



35

$ - $ -

$

31.48 $26.27 $ 5.21

$

34.96

$

26.27 $ 8.69

$ - $ -

$

31.81 $28.83 $ 2.98

$

39.50

$

28.83 $ 10.67

$

37.88 $ 34.33

For both the DDM and the FCFE models we forecasted a value using 1 constant growth rate as well as a

2 stage growth rate that held a 1-10 year period of growth and then a constant growth after the 1-10

years. As the table shows above the results of the forecast that was most similar to actual price was the

constant growth dividend discount model. Not only was the DDM constant growth model mostaccurate based on actual price, but is also the best valuation model based on a couple characteristics.

First, the 4 companies have consistently paid a steadily increasing dividend. As the dividend has

occurred so securely in the past we anticipate it will also in the future. In times of such economic

instability and volatile cash flows the DDM will be more accurate. As compared to the 2-stage growth

model, the single stage will be better as the growth outlook is not very solid for the telecommunications

industry. We anticipate from the data derived on the attached spreadsheet, as well as backed up by

further research, that the industry will grow. However we do not anticipate any difference between the

short term and long term growth outlooks. The valuation data for each company can be found on the

attached spreadsheet.

The specific earning growth forecast was computed by looking at the previous 5 year financial

statements. For every year the growth rate for EPS and EBITDA was calculated and an average over the

5 years was derived. The results are as follows:

Growth Calculation 5yr avg. EPS Earnings

VZ 4.13% 11.61%

T -156.93% 43.04%

VOD 109.56% 212.86%

TEF 29.11% 8.10%



36

There is a large variation in the growth rates when looking at the last 5 years, much larger than a 20yr

average might show. The data available for the foreign companies VOD and TEF is limited, so to keep

the data consistent the 5yr average was derived. Analysts forecasts on growth were also weighted as a

result of inconsistent data and two growth rates were assigned, 2% for VZ and T, and 4% for VOD and

TEF. The sensitivity analysis looking at price against difference growth rates is as follows:

VZ

Growth rate Value

4.00% $64.13

3.00% $48.13

2.00% $38.37

1.00% $31.80

0.00% $27.07

-1.00% $23.50

-2.00% $20.72

-3.00% $18.48

-4.00% $16.65

T

Growth rate Value

4.00% $48.55

3.00% $37.68

2.00% $30.67

1.00% $25.78

0.00% $22.18

-1.00% $19.41

-2.00% $17.22

-3.00% $15.44

-4.00% $13.96



37

Other Valuation Considerations

Analyst Recommendations:Recommendation

Summary Verizon ATT Telefonica Vodafone

Mean Recommendation 2.4 2.20 2 2

Mean Target

$

37.84

$

32.44 $ 28.29

$

33.84

Median Target

$

37.50

$

32.25 $ 28.29

$

33.20

High Target

$

48.00

$

36.00 $ 28.29

$

38.54

Low Target

$

27.00

$

29.00 $ 28.29

$

29.40

The above chart shows the summary of the analysts’ opinions. The top numerical number is set on a

scale of 1-5. 1 being a strong buy recommendation and 5 being a strong sell recommendation. In that

buy sell recommendation the 4 companies are very similar. The two foreign companies are slightly

better showing a 2, and ATT has a slightly higher buy recommended over Verizon showing 2.2 and 2.4

respectively. The mean price is an average of all the analysts’ price valuation for each company. In

comparison to the market price for each company; VZ- $38.27, ATT-$31.30, TEF- $26.27, VOD-$28.83.

VOD

Growth rate Value

6.00% $40.36

5.00% $27.41

4.00% $20.65

3.00% $16.50

2.00% $13.70

1.00% $11.68

0.00% $10.15

-1.00% $8.95

-2.00% $7.99

TEF

Growth rate Value

6.00% $37.75

5.00% $29.35

4.00% $23.93

3.00% $20.14

2.00% $17.33

1.00% $15.18

0.00% $13.47

-1.00% $12.08

-2.00% $10.94



38

Noted should be ATT about a dollar undervalued, and TEF about two dollars undervalued according to

the mean analyst opinion.

Technical Considerations

Trading performance varied between each company. As reported by Yahoo.com/finance the average 3month volume was:

VZ- 15,902,500

T- 30,164,100

VOD- 6,762,220

TEF- 2,051,770

Clearly the foreign companies do not trade as heavily and that was expected. It should also be noted

that for each company the recent trading was similar to that of the longer term averages. This indicates

that there is not a significant discrepancy between current price and public information available. It

should also be noted that there was no record of any pertinent insider trading in the last 6 months for

any of the companies.

Catalysts

There are a few highly notable events that are occurring in the telecommunications industry. Affecting

every company is the implementation of a new “4G” data network. This is simply a faster data network

that can be transferred to cell phones and data only devices. The data aspect of these companies is

growing tremendously and the priority to have a strong, fast, reliable network is arguable the most

important aspect of this industry. Companies will either take the massive investment to incorporate this

new data network, or they will fall behind and have to develop a different business model. The

decisions concerning this investment will have consequences on the stock price.

ATT is currently in the news headlines more than any other company. The company is attempting an

acquisition of T-Mobile for Germany Based Deutsche Telecom (DT) and has also made a request toacquire over a billion dollar addition to their air space. These two purchases can have drastic results

both positive and negative. If the transactions go through, after being approved by the FCC, ATT will

have to use the resources wisely or the purchases will be viewed as part of an erroneous business

strategy. If the T-Mobile transaction does not go through ATT has agreed to pay nearly 5 billion dollars

to DT.

Recommendation

Price target

Using a combination of the DDM with a constant growth rate, analyst opinion, and the P/E ratio

valuation multiple; an 18 month price target was estimated.

Verizon-$38.00

Current Price- $38.87

ATT-$30.00

Current Price-$26.42

Vodafone-$29.00




39

Telefonica-$28.00


The two best transactions would be to go long on first ATT and then TEF. The data shows these stocks

as undervalued. VZ and VOD appear to be much closer to their market value.

Buy Criteria

The buying criterion for ATT is to buy at market price, unless the price increases above $30.00 before

the transaction takes place. The intrinsic value is significantly higher for ATT than the current market

rates. TEF does not have quite as high of intrinsic value relative to its market value when compared to

ATT. However, TEF is still undervalued and gains are likely to be made if TEF can be purchase at under

$29.00. Stop-Loss orders should be set at $25.00 for ATT and $21.00 for TEF.

Financing the Trades

As discussed after the presentation the class agreed on a few options in order to accommodate each

group’s recommendations. The following trades were agreed upon: Sell Aixtron

Buy $1500 Entropic at market value

Buy $3000 Joy Global at market value

Sell $1500 Verizon

Buy $2450 in ATT

Buy $1350 in TEF

The sale of stocks was based on underperformance in the past and forecasted underperformance in the

future.

Industry Considerations

Purchasing securities in the Telecommunications industry may have a slight diversification effect on the

portfolio as it produces steady cash flows and pays steady dividends in all economic conditions. In

addition purchasing TEF, a foreign company, would diversify against conditions that would negatively

affect the value of the dollar. However, the diversification may be limited as the price of the stocks will

vary widely with a strengthening or weakening of the economy. Many of the stocks in our portfolio willexperience this same volatility. In addition, many of the companies in the portfolio are connected to the

technology sector. The companies in this sector have a tendency to move together and having a

portfolio heavily weighted here will decrease diversification.



40

Risks

There are a few changes that will be occurring in the near future that may have a negative effect on

these purchases. First the government easing program that has freed up money from the Federal

Reserve (QE2) will end soon. The impact could reduce cash flows available to ATT and TEF which would

drastically lower share price. As with any communication company the government regulation from theFederal Communication Commission will have large impact on the performance of ATT and TEF. In

addition to the before mentioned transactions that ATT currently has with QUALCOM and T-Mobile, any

imposition the FCC places on these companies will have a consequence that effects them. Any changes

to the FCC guidelines should be addressed on how it may affect share price to TEF and ATT.



Works Cited

CTIA The Wireless Association. n.d. 01 Feb 2011 <http://www.ctia.org/>.

Moorman, James. "Telecommunications:Wireless." Standard and Poor's Net Advantage (2010): 1-10.

<http://www.netadvantage.standardandpoors.com/NASApp/NetAdvantage/showIndustrySurve

y.do?code=tws>.

Harrison, Jeffery. Strategic Management Fundamentals. Canada: South Western, 2010.

“The Industry Handbook: The Telecommunications Industry.” Investopedia. 12 February 2011.

http://www.investopedia.com/features/industryhandbook/telecom.asp.

“The History of AT&T.” AT&T.com 15 March 2011. < http://www.corp.att.com/history/>.

AT&T 2010 Annual Report. AT&T.com 15 March 2011

< http://www.att.com/gen/investor-relations?pid=19234>.

“The History of Vodafone.” Nemeton, 2003-2011. Celtnet.org.uk.

14 March 2011 < http://www.celtnet.org.uk/telecos/vodafone.php>.

Vodafone 2010 Annual Report. Vodafone.com. 14 March 2011

<http://www.vodafone.com/content/annualreport/annual_report10/print.html>.

Verizon Annual and Quarterly Reports. Verizon.com. 15 March 2011

< http://investor.verizon.com/>.

Telefonica Annual Report. Telefonica.com. 15 March 2011

<http://www.telefonica.com/en/shareholders_investors/jsp/home/home.jsp>.

MSN.money Financial Results. 15 March 2011 < http://money.msn.com/>.

Telecommunications Final Paper

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