Turkcell - Q3 2022

Transcript

Operator (participant)

Ladies and gentlemen, thank you for standing by. I am Mina, your chorus call operator. Welcome and thank you for joining the Turkcell Conference Call and live webcast to present and discuss the Turkcell third quarter 2022 financial results conference call. At this time, I would like to turn the conference over to Mr. Ali Serdar Yağcı, Investor Relations and Corporate Finance Director. Mr. Yağcı, you may now proceed.

Ali Serdar Yağcı (Investor Relations and Corporate Finance Director)

Thank you very much, Mina. Hello, everyone. Welcome to Turkcell third quarter 2022 results call. Today's speakers are our CEO, Mr. Murat Erkan, and our CFO, Mr. Osman Yılmaz. We have a brief presentation, and afterwards we'll be taking your questions. Before we start, I'd like to kindly remind you to review the last page of the presentation for our safe harbor statement. Now I hand over to Mr. Erkan.

Murat Erkan (CEO)

Thank you, Serdar. Good morning and good afternoon, everyone. Welcome to Turkcell third quarter earnings call, and thank you for joining us. We left behind another quarter where macroeconomic challenges continued to weigh on the economic activity around the world. While inflation remained to be a major concern, especially in Turkey, domestic demand was still strong as rising prices prop up consumer spending. We recorded 57% revenue growth in the third quarter, enabled by consecutive price adjustment and upsell performance, coupled with a growing subscriber base. Strong rebound in roaming, ongoing momentum in digital business services and Techfin, also positive contribution from international operations support top-line growth. Amidst continuing inflationary pressures, EBITDA grew by 49% year-on-year, implying just short of 41% margin.

On the back of growing EBITDA and proactive FX management, we recorded a net income of TRY 2.4 billion, increasing 68% year-on-year. Higher mobility and strong tourism activity enabled us to accelerate the growth in the subscriber base with 1 million net additions. In the first nine months, we gained a total of 2.2 million net subscribers, further centering our leadership in the market. Lastly, this quarter, with a focused approach, the revenue share of digital channels in the consumer space achieved 23% and setting a record. In consideration of this result, we further increased our full year guidance, which I will elaborate on my last slide. Moving to next slide. Let's take a look at our operational performance in mobile.

Let's take a look at our operational performance in mobile. In line with historical trends, this quarter was marked by increasing mobility coupled with a sharp rise in foreign visitors to Turkey, exceeding pre-pandemic levels. The market continued to grow on the back of tourist arrival, as well as the demand from the corporate segment. Accordingly, we recorded strong net adds of 420,000 in postpaid and 506,000 in prepaid subscribers. Blended mobile ARPU growth ramped up to 449% year-on-year from 33.7% in the previous quarter.

The main reasons behind the acceleration were consecutive price adjustments since December of last year, upsell performance, and the higher data usage during the summer. On top of the price adjustment of the past three quarters, we made another increase in September, and tariffs have been doubled for a new subscriber compared to last year. Despite price adjustment, we continue to observe stable churn levels in the mobile segments, thanks to our analytic capabilities, strong brand perception, network quality, and extensive distribution channels. Despite a very slight increase compared to the previous quarter, as expected due to increased mobility, our churn rate was identical to that of last year in this quarter. Confirmed by our Net Promoter Score, the consumer continued to recommend Turkcell to a significantly higher degree than the competition, underlining our premium position in the mobile segment. Moving to the next.

In the fixed broadband segment, we gained net 68,000 fiber subscribers on the back of rising demand for high-speed connection in the back-to-school period. Our focus on price adjustment and upsell to the higher speed packages has supported ARPU growth of 27%. ARPU growth in the fixed segment lags behind that of mobile for two reasons. First, contract terms are longer as per market dynamics. The second, the incumbent operator was reluctant to make meaningful price adjustments until October. We have started to offer 12 months contract to address the first concern and also increase price following the incumbent's very recent actions. The fiber churn rate of 1.2% was not much affected by price increase and higher mobility in this quarter thanks to our superior speed and customer service quality.

Proceeding with our fiber rollout plan, we added 240,000 home passes in this quarter. Year to date, we have reached around 90% of our annual target with over 700,000 additions. On the IPTV side, we are pleased to see continued interest in our TV+ service with 45,000 net addition this quarter. Overall, IPTV penetration in our fiber subscriber base has exceeded 66%, rising 3 points year-on-year. Next slide. Now in the next two slides, we go through the developments of our strategic focus areas. Let's start with our digital services and solution where we gained 1.2 million paid user year-on-year, reaching almost 5 million. The revenue of digital OTT services, which include core OTT services, rose 66% year-on-year, mainly driven by cloud storage, TV and music streaming.

On the TV+ side, our paid subscriber base continued to grow. As we successfully deliver on our big screen and TV+ Ready strategy, our OTT TV subscriber reached 932,000, up 25% year-on-year. Our cloud storage platform, Lifebox, reached 1.7 million paid subscribers on a solid rise of 47% year-on-year, successfully addressing rising interest in cloud storage services as a result of ongoing digitalization of everyday lives. On Digital Business Services side, where we serve corporates and enterprises, this quarter was marked by exceptional revenue growth of 107%. Tailor-made end-to-end digital transformation projects were instrumental in this growth. Additionally, by more than doubling their revenues, data center, cloud and business application services further supported growth.

The backlogs from the system integration project totaled TRY 1.5 billion, which is set to contribute to the top line over the upcoming quarters. We continue to acquire new value-added business. For instance, the establishment of Turkey's electric vehicle Togg's IT infrastructure with high processing power. Next slide. Third is our Techfin focus. Our Techfin business had a strong quarter, with revenues up 77% year-on-year, as Turkey's leading payment platform, Paycell, was the main driver of this growth, increasing its revenues 105% year-on-year. The ongoing shift to the digital payments was evident to tripling total transaction volume and a 21% rise in active users hitting over 7 million. Among the revenue lines, the leading products Pay Later sustained its strong revenue trends as mobile payment volume doubles year-on-year.

Another strong performing vertical is Paycell Card, where the transaction volume rose four-fold. Lastly, revenue contribution from POS solution also continued as we ramp up our Android POS devices in this market. Furthermore, Paycell Europe was launched in the third quarter to serve users on that continent. The company will initially provide money transfer services targeting mainly to the Turkish population money flow from and to Europe. Further to that, we are planning to launch digital wallet, debit card and investment product solutions. On the consumer financing side, Financell's revenue rose 57% on a larger loan portfolio, achieving TRY 2.9 million. Despite a growing loan book under unfavorable macro condition, the cost of risk remains at the healthy level of 1.3%. Next slide. Now let's take a look at our performance in the international market.

Turkcell International segment revenue grew by 79% year-on-year, mainly thanks to the currency movement and to some extent, Lifecell's growth. Despite the ongoing war in Ukraine, Lifecell revenue grew by 10% yearly in local currency terms, mainly with the increasing ARPU. Lower interconnection costs and suspended marketing expenses more than compensated for the rising energy pressures. Lifecell's EBITDA margin improved by around 3 percentage points to 60% in the third quarter. In Belarus, Beeline revenue rose 9% thanks to mainly price increase and upsell performance. The contraction in handset sales continued to positively impact the EBITDA margin. Next slide.

As communicated before, we are proud and excited to be a part of Turkey's electric vehicle project Togg, which unveiled the Gemlik Technology Campus last week on the occasion of Turkey's Republic Day. The first domestic car is expected to hit the road in March of next year. We will be the first electric SUV produced in continental Europe by a non-traditional manufacturer. The facility will have a production capacity of 175,000 units per year, and aims to produce a total of 1 million vehicles of five different models by 2030. As Turkcell, we are not only glad to contribute to Turkey's dream of innovation, but also work towards the aim of leveraging our position in e-mobility services. By leveraging our capabilities in digital services, we integrated fizy as the native music application of the car.

Moreover, we recently announced that we are working to integrate Paycell's payment system and digital financial solution into Togg's mobility solution. Thanks to e-wallet card, e-wallet card storage and virtual POS infrastructure provided by Paycell. Togg users will be able to create their own Togg wallet and make payments at charging station without having to exit the vehicle. Next slide. I'd like to end my presentation by sharing our updated guidance for the full year of 2022. Taking into consideration our nine months performance, we once again revise our guidance upwards. Accordingly, we raise our revenue growth target to 47%-48% and EBITDA guidance to around TRY 21 billion. On the CapEx side, we change our guidance to around 20%, thanks to our controlled CapEx management.

Please note that these expectations do not account for the implication of a likely adoption of inflationary accounting in the future. I will now leave the floor to our CFO, Osman.

Osman Yılmaz (CFO)

Thank you, Murat Bey. Now let's take a closer look at our financial performance. In the third quarter, our group revenues grew by 57% year-on-year, corresponding to an incremental rise of TRY 5.3 billion. Turkcell Türkiye recorded a revenue growth of 57% in this quarter, thanks to an expanding subscriber base, gradually increasing ARPU growth as a result of dedicated price adjustments throughout the year, and strong momentum of Digital Business Services. Doubling year-on-year, strong performance of wholesale and roaming revenues was another driver of the top line growth. Turkcell International revenues comprising 11% of the Q3 top line contributed TRY 700 million, mainly with the positive impact of currency movements and better than expected performance of Lifecell Ukraine. Our TechFin segment made TRY 218 million contribution.

Paycell revenues, which accounts for 49% of the segment, rose by 105% year-on-year. This performance was due mainly to traction in the Pay Later product, as well as our POS solution that has been on an uptrend since its launch. Additionally, Financell revenues was up 57% year-on-year, thanks to a greater loan portfolio, average interest rate, and rising contribution of insurance business revenues. Improvement of the other segments contribution on a yearly basis was mainly thanks to a rise in sales from digital channels and higher equipment revenues. Next slide. Now some highlights on EBITDA development. EBITDA rose by 49% year-on-year to TRY 6 billion, and margin decreased by 2.2 points year-on-year to 40.9%. Two main factors behind this contraction were wage hikes and higher energy prices.

On the personal expenses side, we reflected the rise in minimum wage to our wage and salaries budget in July, which was the second increase of the year. Our energy expenses more than tripled year-on-year as of Q3, stemming from globally increasing electricity prices and higher utilization in data centers. On the other hand, lower growth of cost of goods sold and interconnection costs as a percentage of revenue limited the margin contraction. Turkcell International segment recorded a 52% EBITDA margin in this quarter. As a percentage of revenues, lower S&M expenses and improvement in the international cost of Ukraine operations more than compensated the higher radio expenses. Lastly, group S&M expenses only recorded a limited increase of 0.1 point as a percentage of revenues, while we managed to add 1 million subscribers to our portfolio just in this quarter. Next slide.

Now more detail on our free cash flow generation. In line with our expectation, we generated TRY 2 billion free cash flow in this quarter. This cash flow generation was mainly on the back of strong EBITDA generation of TRY 6 billion. Our working capital improved around TRY 80 million, mainly resulting from a positive impact from trade receivables, thanks to better collection performance and higher trade payables due to seasonality as well as the support from advance payments realized in the previous quarter. To note, the increase in receivables from financial services was mainly due to Financell expanding loan portfolio. Next slide. Let's take a closer look at our CapEx management. We continue to focus on fixed segment investments in order to introduce our pure fiber technology to new customers given the sustained demand. In Q3, around half of operational CapEx was accounted for by the fixed segment.

Accordingly, we recorded 711,000 home passes in the first nine months of the year. Having advanced the quality of mobile network in the past years, we are now able to focus more on extending our fiber footprint. In Q3, our operational CapEx to sales ratio was at 17%, which brings the 12 months figure to 18.9%. We expect a higher CapEx in Q4, given the seasonality. On the fiber front, while CapEx intensity continues to increase, it will normalize as we ramp up monetizing of new home passes. All in all, we are progressing in line with our plans. Next slide. Now a few words on our balance sheet. As of Q3, our total cash position increased from TRY 22 billion to TRY 24 billion. Of this increase, TRY 1.9 billion stemmed from currency movements.

Recall that there was a cash outflow of TRY 1.3 billion as dividends in July. Our gross debt position increased to TRY 52 billion from forty-eight billion TL. Currency movements led to around TRY 2.9 billion increase in total debt. As a result, our leverage has improved this quarter to 1x, thanks to strong EBITDA growth and higher financial assets. Excluding the finance business, the figure was 0.9x. The bulk of our cash remains in hard currencies. Excluding FX swap, 55% of our cash is in US dollars and 17% in euros. This cash is sufficient to cover our debt service until 2025. Next slide. Lastly, I will go into the management of our FX currency risk.

At the end of Q3, we had around $1.9 billion equivalent of FX debt and around $1.2 billion equivalent of FX denominated cash as a neutral FX position. Additionally, we had around $700 million derivative portfolio comprised mainly of proxy hedges, which shield us independent of currency fluctuations. Overall, we have a limited short net FX position of $19 million. Going forward, we continue to target a neutral FX position. This concludes our presentation, and we can now open the line for questions. Thank you very much.

Operator (participant)

The first question comes from the line of Herve Drouet. Please go ahead.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

Hello, thank you for taking my question. Congrats on the very strong results. Can you hear me?

Osman Yılmaz (CFO)

Yes.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

That's the case.

Osman Yılmaz (CFO)

We can hear.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

Great. Okay, you had previously spoken about ending the year at nearly 1.5x net leverage. Now, net leverage actually went down to 1.0x from 1.2x in 2Q 2022. I was wondering, what do you now think we should expect for net leverage at year-end 2022?

Osman Yılmaz (CFO)

I guess this is the only question. Actually, we completed this quarter, as you said, with a leverage of 1x. Our target is to keep the leverage at these levels, given that we don't have any big CapEx cycle in sight in near future, like 5G. We continue to focus on our fiber investments and invest less in mobile networks since we had already done bulk of investments in the past five years. Excluding for the currency impacts, we aim to keep our leverage target around 1x going forward.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

That's excellent news for bondholders, I guess. Your EBITDA is obviously growing stronger than expected, which helped you with deleveraging. I was wondering if, given the high cash position you've accumulated while bonds are trading below par, if you're looking into accelerating the bond debt reduction.

Osman Yılmaz (CFO)

Till, could you repeat the question? Second question? We couldn't get the question.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

Sure. I was wondering if you're planning to accelerate the bond debt reduction, given the very high cash position you've accumulated while bonds are trading below par?

Osman Yılmaz (CFO)

Yes. It is one alternative for us to use our cash to buy back bonds, which are trading very cheap in the current credit conditions, both locally and globally. Unfortunately the liquidity in the secondary market is very thin, we are not able to buy back as we wish. We use our cash in relatively more liquid instruments at the moment. Bond buybacks are an important item on our treasury's agenda, we look for opportunities to increase our bonds.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

Great. Thank you. The last question is related to fiber penetration. Your uptake rate is very high at 41%, and you recently mentioned that among new homes passed at even 50%. I was wondering if you can provide an outlook on the topic here, where you see penetration rates trending going forward. Do you have any homes passed targets for this year, next year? You once mentioned that the government is paying for some of your fiber CapEx. I was wondering if you can expand a bit how the dynamic works. For example, what the proportion is between fiber CapEx that you pay for yourself compared to that of the government, and if it reimburses you or if it pays it directly.

Murat Erkan (CEO)

Okay. Thank you. I didn't get your point about government restriction on the CapEx side because we don't have any constraint on the government limitation for the fiber CapEx. For the fiber side, we aim to reach around 800,000 fiber home pass. We already get, like, around 710,000 level. It seems that we're gonna reach our targets. For the take-up rate part, our take-up rate is quite strong. Obviously, while we are adding new home passes, we can see some slight decrease on the take-up, but we're gonna recover as soon as we penetrate to the market. We penetrate to the new home passes that we get. We don't see any issue on the take-up rate side.

We're gonna see that it's gonna continue to slightly increase on the take-up rate side.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

The question on the government was not about restrictions, but I think you once mentioned that the government is paying for some of your CapEx. There are subsidies or reimbursements or something like that, and I was wondering how this dynamic works.

Murat Erkan (CEO)

No, no. Actually, this is not related with fiber. Government doesn't give any incentive, any payment on the fiber side, fiber CapEx side. We have universal service fund, which is used on the mobile side for the area that have very limited customer base. This is related with mobile, not the fiber side. We don't get any incentive.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

Okay.

Murat Erkan (CEO)

Any CapEx support from the government or anywhere else. I wish we had.

Herve Drouet (Managing Director of Telecoms, Media & Technology and Equity Research)

Okay, great. Thank you very much. Those were all my questions. Congrats again on the great quarter.

Operator (participant)

The next question comes from the line of Jonathan Kennedy-Good with J.P. Morgan. Please go ahead.

Jonathan Kennedy-Good (Equity Research Analyst)

Good evening, and thanks for the opportunity to ask questions. Just one from my side. You mentioned there were no real plans for 5G. I just wanted to, if you could refresh us on whether there are any renewals of licenses coming up or spectrum auctions that we should be aware of in the near to medium term. Thoughts on 5G rollout eventually, please.

Murat Erkan (CEO)

Okay. First of all, let's focus on the 5G side. Obviously there is no official timeline for 5G announced by the regulator yet. 5G is a vital technology that we can facilitate the digitalization of industries and contribute to the economic development of country. However, we believe there are some issues that are needed to be addressed. First, for a healthy launch, such as the fiber connection of base station, 5G-capable smartphone penetration, and development of local manufacturer equipments. As of twenty-ninth of July, we officially launched commercial 5G in Istanbul Airport with a special regulatory permission that is issued to all operators. Turkcell customers and international roamer can get 5G support, part of it.

We will position this airport as a commercial 5G pilot cluster, and we would like to use it as a base to create an R&D and test facility, test site of the equipment. As to the license cost and rollout CapEx, it is difficult to give any estimate, to be honest. We'll see the timeline, and there is no official tender announcement yet. On the 2G renewal side, we are talking with the regulator in terms of renewing 2G at least for the end of our 3G and LTE spectrum license, which is 2029. As soon as we get some conclusion, we'll go and announce the position. It is not going to be a big thing for us.

It should be another six years, you know, extension of the 2G. Obviously, 2G is coming to the end.

Jonathan Kennedy-Good (Equity Research Analyst)

Great. Thank you. That's very helpful.

Operator (participant)

The next question comes from the line of Nora Nagy with Erste Group. Please go ahead.

Nora Nagy (Equity Research Analyst)

Hi, thank you for the presentation and for the possibility to ask questions. Two from my side, please. Today we've seen the release of the inflation in Turkey, which topped 85%, and I was wondering if this could mean a further price increase to come, even this year, so in December, maybe. The second question about any rumors if you have in Turkey about another minimum wage increase, and if yes, by how much? Thank you. Okay. Let me start from the second part of the question. Obviously, having such a high inflation environment, we will see some increase on the minimum wage salary.

Murat Erkan (CEO)

Our expectation is starting from next year as a usual timeline. I don't know how much, because it really depends on the government policy and the discussion with all the, you know, shareholders. You can assume that we can see some increase on the minimum wage salary in Turkey. Regarding inflation pricing, as the leading operator, our priority in the high inflation environment is to adjust our prices in a more frequent and a timely manner. Our approach has given competitors the opportunity to adjust their price as well, because we are the leading operator. We started adjusting our prices on the mobile segment in December last year, and we have made further increase in March, June and September.

We saw that these price adjustments were followed by the competition to an extent. Despite the effective pricing on the mobile side, competitive dynamics and it leads to more limited price increase on the fixed segment. In spite of the continued demand for fixed broadband services, the incumbent operator was reluctant to make meaningful price adjustment until October, which was evident in their limited revenue growth and significant EBITDA margin contraction. Accordingly, we had fewer price increase in the fixed segment. In October, the incumbent operator made a meaningful price revision, which was also followed by us on November first. Furthermore, telecommunications is a necessary service for our customer, unlike a discretionary item demand to our services and have a limited price elasticity. Additionally, the price of other spending items are also rising, which makes consumer less sensitive to price adjustments as well.

It's fair to state that we do have the ability to reflect higher inflation to our prices. Our accelerated ARPU growth over the last quarter has also confirmed this.

Nora Nagy (Equity Research Analyst)

Thank you.

Operator (participant)

The next question comes from Demir Akmar with AK Investment. Please go ahead.

Demir Akmar (Analyst)

Hi. Thank you very much for the presentation and opportunity to ask questions. Also, congratulations on the strong result. I have a few things on my mind. The first thing, I understand that the prices for the new mobile tariffs almost doubled in September with the cumulative price increases. For the existing tariffs, I mean for the renewables, where do you see the price growth as of September?

Murat Erkan (CEO)

I mean, obviously it reflects to our ARPU numbers and I think we see that at 60%-70% level.

Demir Akmar (Analyst)

Okay.

Murat Erkan (CEO)

As a short term.

Demir Akmar (Analyst)

Okay, thank you. I was hoping to get more color for the next year. Maybe could you give us some color, some direction regarding the expected blended ARPU growth for the next years, given the pricing actions you take so far?

Murat Erkan (CEO)

Obviously, we had increased 4x during this year. It really depends on the inflation journey in Turkey for next year. We have just one rule which we're gonna follow, inflationary pricing. If we see inflation is decreasing, we're gonna react based on that. If we see inflation increasing, we're gonna react based on that. I cannot comment for now about inflation process, but I mean, whatever happens, we're gonna follow this.

Demir Akmar (Analyst)

Okay. Thank you. As for the next year, as well, in terms of the expected CapEx intensity, do you think that the current around 20% as of sales is sustainable, since you don't expect any further investments on that front in the near term?

Murat Erkan (CEO)

To be honest, we would like to expect similar CapEx intensity for next year. Obviously for the CapEx side, there are dependencies that we cannot control, which is like currency and other things. To be honest, we would like to stick to our CapEx intensity side for next year as well.

Demir Akmar (Analyst)

Okay. Understood. Thank you. The final question was about the dividend payment. You were usually paying around with 50% payout ratio, but you reduced it to 25% this year, I mean, given the difficult operating environment and the rising cost of debt. The leverage seems now quite comfortable. What should we expect on that front, at least in terms of your view?

Murat Erkan (CEO)

Yeah. Based on the normal condition, we will come back to our normal procedure, which is 50% distribution of the net income. I mean, as long as we don't see any different things on macro, micro or whatever, we will continue. We're gonna stick on our policy because our policy is quite clear, so we're gonna keep our policy.

Demir Akmar (Analyst)

Okay. Thank you. That was very helpful.

Operator (participant)

Ladies and gentlemen, there are no further questions at this time. I will now turn the conference over to Turkcell management for any closing comments. Thank you.

Murat Erkan (CEO)

First of all, thank you very much for joining our third quarter result call. Also, I would like to apologize for the interruption of the communication. Anyway, thank you very much for joining us and good afternoon and good evening to everyone.

Ali Serdar Yağcı (Investor Relations and Corporate Finance Director)

Now this concludes our call. Thank you very much all for joining. Hope to see you in the next one.