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Thursday, 19 April 2012 16:05

Telstra juggles shareholder and future strategy priorities

Telstra has ruled out - in the short term - boosting returns to shareholders by either an on market share buyback of an increase in dividend and is being cagey about how it might use an expected cash pile of $3b over the next three years. However significant investments in either its own network and services or in other businesses will be needed to ensure its future prosperity as copper network revenues decline.

Ahead of an investor briefing by CEO David Thodey, CEO Andy Penn and other senior Telstra executives this morning there was speculation that Telstra would announce a share buyback. That did not happen.

Instead, Telstra issued a short press release saying: "Telstra. expected excess free cash of $2 to 3 billion over the next three years... [and] confirmed the priorities of its capital management strategy are to maximise returns for shareholders, maintain financial strength and retain financial flexibility."

CEO David Thodey told the briefing that Telstra was making no change to guidance for the 2012 financial year and reinforced the company's intention to pay a 28 cent per share fully franked dividend in 2012 and 2013.

CFO Andy Penn explained why there would be no share buyback. He told the briefing: "Our preference for returning capital to shareholders is via growth in franked dividends but we do not expect to have the franking capacity to increase the dividend before 2014.

"An alternative is an on market share buyback...[But] at the current level of our excess capital today we do not believe that on market buyback would be of a magnitude to be meaningful... We will update the market at our annual results announcement in August."

Thodey said: "Any buyback must be significant enough to create value for shareholders. But I think that can get lost in the desire to see buybacks. We have seen many buybacks in the industry that have made no difference to the share price, or to shareholders.

'So if you are going to do it you have to make it consistent enough and significant enough. Once we have the cash we can make that decision.


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Other options for Telstra that would require significant piles of cash are acquisitions and/or investments that would take it to new business areas and compensate for the loss of its mainstream fixed line telephony revenues as traffic migrates to the NBN.

Thodey summarised a number of acquisition and acquisition possibilities then said: "There are many different options available to us and we look at very one, but the most important thing a shareholder looks at is a return on their investment

"So we have declared again our three priorities: EPS accretable over three years; RoI better than WACC over three years and better than doing an on market share buyback....but we must look at growth opportunities. We just must."

And therein lies the problem: the level of investments required to shift the business might not, in the short term deliver the sort of returns shareholders have come to expect.

When asked about the possibility of acquisitions Thodey stressed that Telstra would be "very disciplined" and suggested that significant acquisitions/investments were not an immediate priority.

"We are managing the business very tightly today. We have a lot of work to do with the NBN and we are very focussed on that. But I have to look at the alternatives five to 10 years out and I have to look at how to structure the business...

"We are looking at a large number of alternatives. We have done acquisitions before Foxtel is the best thing we have ever done, but there are a lot of other stories along the way (not all of which turned out anywhere near as well as Foxtel).

"We have to be very disciplined but we have to look at other things and there is a very active programme in place. There are 13 key areas we are looking at. Media is one of them but you really have to know what you are doing and we would be very disciplined."


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In parallel with moving into new areas through acquiring or investing in other businesses Telstra will also need to invest significantly in its own network to enable it to 'move up the value chain'. And one analyst at the briefing, Mark McDonnell from BBY, was not convinced that Telstra had budgeted capex sufficient for the transition it will have to make.

He told Thodey: "The NBN is purely a layer 2 wholesale network and I imagine a lot of your 14 percent capex to sales ratio will be accounted for in the investment you need make in layers 3,4,5,6 and 7 in the new network and how that network needs to change.

"I am thinking about things like local caching and deep packet inspection; not in the core but closer to the periphery when you start overlaying policy and enforcement initiatives associated with the Telecom Interception Act and related copyright issues.

"All of these things will impact your capex very materially. I would assume your capex will not be flat out will be heavily geared to the extent of NBN rollout."

Thodey said: "You are absolutely right about your supposition about the importance of Layer 3 and above to differentiate ourselves going forward," but said that the level of investment needed was not as closely tied to the extent of NBN rollout and customer uptake as McDonnell suggested.

McDonnell was unconvinced. He told iTWire later: "What happens if Telstra wants to introduce a new service like video telephony that requires new CPE, that they might have to subsidise to encourage take-up?"

In summary: Telstra faces a significant challenge meeting shareholder demands for returns in the short term with making the investments needed to secure its long term future, while being heavily focussed over the next several years of managing the transition to becoming a retail and whole provider on the NBN.

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