Earnings Call Transcript - TKC Q1 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by. I am Gaily, your Chorus call operator. Welcome, and thank you for joining Turkcell's conference call to present and discuss the First Quarter 2020 Financial Results. At this time, I would like to turn the conference over to Mr. Korhan Bilek, Treasury and Capital Markets Director. Please, Mr. Bilek, you may now proceed.

Korhan Bilek, Treasury and Capital Markets Director

Thank you, Gaily. Hello, everyone. Welcome to Turkcell's First Quarter 2020 Results Call. Today's speakers are our CEO, Mr. Murat Erkan; and our CFO, Mr. Osman Yilmaz. We have a brief presentation and afterwards, we will be taking your questions. Before we start, I would like to kindly remind you to review the last page of this presentation for our Safe Harbor statement. Now I hand over to Mr. Erkan.

Murat Erkan, CEO

Good afternoon and good evening, everyone. Welcome to Turkcell's first quarter 2020 results call. We faced a challenging quarter with several consecutive difficulties. The year started with an unfortunate natural disaster, and we began feeling the impact of the COVID-19 pandemic in March in Turkey. The first case was confirmed on March 10, marking a rapid change for both our company and our lives. We promptly acted to protect and support our employees, customers, distribution channels, and communities in need. I will discuss the pandemic's impact later in the presentation. For now, I want to highlight that its effect was limited to just two weeks in our first quarter results. I am pleased to report a strong start to 2020 in line with our plans. Our excellent operational performance in the home market significantly contributed to these results. We gained a total of 614,000 net subscribers, achieving a substantial portion of our annual target of 1 million. We continued to see strong ARPU growth in both Mobile and Residential Fiber segments. Consequently, we reported a 17.3% revenue increase, with EBITDA rising by 23.1%, resulting in a 42.2% EBITDA margin. These results align with our earlier guidance. Now, let’s delve into our financial performance. We recorded TRY6.7 billion in revenue and TRY2.8 billion in EBITDA for the first quarter. Our EBITDA margin improved by 2 percentage points year-on-year. Our EBIT reached TRY1.4 billion with a 21.6% margin. Net income stood at TRY873 million, which nearly doubled this year when excluding last year’s one-time Fintur transaction gain of TRY772 million. Now, let's look at our operational performance. We gained 679,000 net postpaid subscribers, bringing the postpaid share to 63% of total mobile subscribers. This quarter, we discontinued 289,000 subscribers as required by regulation, impacting our prepaid net additions. Nonetheless, we achieved a net gain of 566,000 mobile subscribers this quarter. Together with IPTV and fixed segments, the 614,000 net subscriber additions meet 61% of our annual target. Early subscriber gains will positively affect yearly revenue. We are confident we can meet our full-year target of 1 million, despite uncertainties related to COVID-19. The monthly churn rate for mobile customers, excluding regulatory impacts, fell to 1.7% from 1.8% last year and down from 2.1% in the previous quarter. Blended mobile ARPU increased to TRY46.3, a 21.1% rise driven by a shift towards postpaid subscriptions and higher tariff upselling due to increased data consumption. Prepaid ARPU also rose significantly this quarter, far surpassing fourth quarter figures in the fixed broadband segment. Our fiber subscriber base saw a net addition of 34,000. Residential fiber ARPU grew by 13.4%. The price increase last year influenced the growth figure. We expect ARPU growth rates to align with inflation moving forward. I’d like to highlight our growing postpaid base. Our value-focused strategy has led to consistent growth in postpaid subscriptions. Despite the traditional seasonal weakness in the first quarter, we achieved solid performance with 679,000 net postpaid additions, resulting from a customer-focused approach since early last year. We shifted to a more valuable portfolio of higher postpaid subscribers, increasing the postpaid share by 7.8 percentage points year-on-year to 63%. This strong postpaid base is increasingly important in the current economic environment, as postpaid subscriptions offer more upsell opportunities and are less risky during challenging periods. Now, let’s examine the performance of our fixed wireless access product, Superbox. Superbox remains the only home internet alternative to fiber, delivering fiber-like speeds over our mobile network where fiber is unavailable. We added 76,000 net subscribers this quarter, more than three times last year's first quarter figure, bringing total Superbox subscribers to 400,000. Demand for Superbox has surged as people stay home during the pandemic, and we are confident in our ability to meet this demand in terms of supply and network capacity. Moving on to our strategic focus areas, we are advancing our digital services with new features and innovations. Among these is the Turkcell Digital Security Service, aimed at providing online security for individuals. We also launched various supporting campaigns, including zero-rated video calls and live sessions. Overall, our digital service revenue grew by 29% year-on-year, driven by our focus on standalone subscribers as outlined in our November 2019 Capital Market Day plans. Our digital business solutions recorded strong quarterly growth of 42%, driven by a seamless service delivery to corporate clients. We captured nearly 700 new projects this quarter. Given the evolving business landscape, we anticipate accelerated demand for digital solutions, particularly in cloud and data security. In Techfin, Paycell achieved a historic 146% increase in transaction volume in March, driven by mobile usage limitations and rising digital content consumption. We expect demand for Paycell to grow as user habits transition. Now, let’s review data usage and subscription trends. Average mobile data usage rose by 66% year-on-year to 9.8 gigabytes per user, the highest growth in the past ten quarters, primarily driven by increased content consumption, more 4.5G users, and Superbox subscribers. In March, 4.5G user data consumption reached 13 gigabytes monthly. Of the 31.4 million customers with 4.5G services, 20.4 million have compatible smartphones, indicating further growth potential. We achieved a 78% smartphone penetration rate this quarter, with 89% being 4.5G compatible, and saw 1.9 million net additions of 4.5G compatible smartphones year-on-year. During these critical times, the importance of our sector has become clear. Our investment in infrastructure over the years has helped us to maintain quality, which sets us apart during challenging times. Our network's reliability has enabled us to offer more to our subscribers, and our robust distribution and online sales channels have brought us closer to our customers, leading to increased customer recommendations of Turkcell. Now, let’s turn to our international business, which contributed 8% to total group revenue. Our international revenue grew by 21.7% year-on-year to TRY560 million due to rising data usage and favorable currency movements. In local currencies, revenue growth for our Ukrainian and Belarusian subsidiaries was 12% and 2%, respectively. This quarter, Lifecell Ukraine acquired a new license in the 900 megahertz bandwidth for UAH121 million, expanding its frequency band and will use it to provide LTE services to rural areas and highways. Additionally, our Turkish Republic of Northern Cyprus subsidiary achieved a 14% revenue increase, benefiting from fixed service contributions and the corporate sector. You may have seen our recent conference where we discussed the initial impacts of COVID-19. Here’s a summary of our findings regarding its effects. The pandemic has disrupted many aspects globally. Following the first confirmed case in Turkey, we noted numerous economic and social preventive measures enacted by the government, significantly affecting daily life and uniting the public against the virus. We managed operations with nearly all employees, including 100,000 call center agents, working from home. By late March, we observed a 35% increase in total network traffic, peaking at 50% during surge hours. Our digital services usage also soared, with group video calls on BiP increasing tenfold and a 15% uptick in logins on TV Plus. Meanwhile, postpaid customer acquisition fell by 35%, while fixed broadband subscriptions surged by 52%. We also noted marked improvement in churn levels. Our retail network experienced a 30% increase in website and app traffic, coupled with a 76% rise in sales volume. Our Digital Business Solutions teams provided around-the-clock service to meet increasing demands. Moreover, we successfully expedited the opening of a City in Ikitelli, Istanbul. Similar trends were reported in our international operations, which continue to face challenges, particularly in the prepaid sector. Certain business segments, like SMEs and roaming income, as well as top-ups and device sales, carry potential risks. The ongoing crisis may also affect global supply chains if it persists. We have assessed these risks and calculated their potential effects on our 2020 targets. We are sharing revised and realistic guidance, anticipating that the challenges will extend into the second quarter with gradual improvements afterward. We now project revenue growth of 10% to 20% and an EBITDA margin between 40% and 42%, with EBIT margins of 19% to 21%. Our operational CapEx to revenue ratio is expected to fall between 17% and 19% given new revenue guidance, and we aim to maintain steady normal CapEx despite currency fluctuations. Despite the challenging landscape, we are optimistic about achieving double-digit top-line growth throughout this critical period. As conditions stabilize, we believe we will capitalize on the rapid digitalization and shifts in user habits favoring digital service and payment solutions. Before handing over to Osman, I want to express my gratitude to all those working tirelessly, especially our health workers. Please stay safe and healthy. Over to you, Osman.

Osman Yilmaz, CFO

Thank you, Murat. I'm proud to be part of this dynamic management team. We have quickly and effectively adapted to extraordinary and rapidly changing conditions. As mentioned, the COVID-19 pandemic had a limited effect on our performance in the first quarter, but we anticipate its impact will be felt in the second quarter, presenting a headwind. Group revenues increased by 17.3% year-on-year, equivalent to an additional TRY1 billion annually, with TRY900 million stemming from Turkcell Turkey operations. This growth is driven by diverse revenue sources, where the consumer business accounts for nearly half of this increase, while the corporate business and new products like Superbox have also contributed significantly. As in previous quarters, the consumer finance company's contribution was negative due to a slowdown in its activities. Additionally, the discontinuation of our sports betting business Intertek has hindered growth. Excluding these two factors, our year-on-year growth stands at 20.8% for the first quarter. Group EBITDA rose by 23.1% year-on-year to TRY2.8 billion, primarily due to robust top-line growth and effective cost controls. The EBITDA margin improved by 2 percentage points to 42.2%, with Turkcell Turkey being the primary contributor to this margin enhancement, showing a 2.7 percentage point increase. EBIT grew by 30% year-on-year to TRY1.4 billion, reflecting a margin of 1.6%. We maintained flat G&A expenses and reduced sales and marketing expenses compared to the first quarter of last year. The G&A savings were mainly due to personnel expenses, as we increased our top line with a limited headcount increase. Sales and marketing contributed 1.9 percentage points to EBITDA, with 0.6 percentage points coming from marketing and 0.9 from sales expenses, attributed to effective and targeted campaigns this year. We also focused on utilizing digital channels, leading to additional savings. The year-on-year increase in receivable outflow is largely influenced by a TRY42 million run-off effect from the previous year. Now, let's examine our fintech company First Finance's performance. In Q1, Financel revenues decreased by 32-33% due to a declining portfolio following regulatory decisions and rising handset prices. The total loan portfolio decreased by about 42% year-on-year to TRY2.1 billion. The COVID-19 pandemic continues to pose challenges for this business. Its EBITDA dropped by 7% to TRY102 million, resulting in a margin of 62%, with a yearly margin improvement of 17.2 percentage points largely due to reduced funding costs and an increasing share of equity in total funding. Additionally, risk costs fell from 3.2% to 2.8% in Q4, reflecting our risk management strategy. The potential further decline in this business due to the COVID pandemic could positively impact working capital. Paycell is tapping into the increased demand for cashless payment methods, with 4.6 million active users and a total transaction volume of TRY2.5 billion this quarter. We saw significant growth in service usage, particularly for online payment and direct carrier billing, with direct carrier billing volume up 69% and third-party bill payments rising by 216%. The transaction volume on the Paycell card reached TRY53 million, a 70% year-on-year increase, supported by our analytical capabilities enabling targeted campaigns. Paycell has expanded its reach, now accepted at 9,300 merchant points, generating TRY64 million in revenues with a 57% EBITDA margin in Q1. Focusing on non-Turkcell businesses, non-group revenues surged by 82% this quarter, now representing over half of total revenues. Paycell is well-positioned to benefit from enduring shifts in consumer preferences towards cashless payment methods. Moving on to our balance sheet and leverage, our gross debt has decreased to TRY19.5 billion from TRY20 billion, influenced by TRY2.4 billion in debt repayments and a TRY1.6 billion negative impact from currency fluctuations. The dollar and euro appreciated by 10% and 9%, respectively, in Q1. Since we do not offset derivative receivables against debt, our reported debt increases with foreign exchange appreciation. As of Q1, our net debt stood at TRY10.3 billion with a leverage ratio of 0.9x, down from the previous quarter. Excluding the fintech business, the ratio is 0.8%, the lowest in the sector. In Q1, we recorded a nominal increase of TRY221 million in net debt, primarily due to TRY535 million negative FX impact. The first quarter is typically challenging for working capital due to high CapEx from the previous quarter and the annual frequency tax, which was over TRY400 million this year. Therefore, our cash generation this quarter was very promising. Liquidity management has been a critical aspect of our business strategy. We have faced criticism from some investors for maintaining substantial liquidity, but the current crisis has validated this strategy. Turkcell boasts a strong balance sheet, with an average debt maturity of approximately 5 years, and we meet our working capital needs through short-term bank loans that align with our obligations. Our liquidity provides a solid buffer to sustain operations, with TRY1.4 billion in hard currency cash covering TRY1 billion in debt service over three years, excluding short-term local currency loans and available credit lines. A potential decline in the consumer finance sector will further release working capital. Lastly, regarding our FX management, our balance sheet remains strong with around US$1.4 billion in cash and a long position of US$140 million. We continue to hold most of our cash in hard currency for natural hedging. With our hedging strategies, the proportion of FX debt has decreased from 80% to 40% by the end of Q1. Our disciplined FX risk management has once again safeguarded our bottom-line performance during this challenging quarter, and despite nearly 10% FX appreciation, we achieved a net FX gain, excluding swap interest, resulting in a strong bottom line of TRY873 million. This concludes our presentation, and we are now ready to address your questions. Thank you.

Operator, Operator

The first question is from the line of Kim Ivan with Xtellus Capital. Please go ahead.

Ivan Kim, Analyst

Yes, good afternoon. I have two questions. First, regarding your significant growth in postpaid subscriber additions, could you clarify how many are from other operators and how many are conversions from prepaid customers? Additionally, considering the strong postpaid additions over the last few quarters, are you concerned that this might trigger increased price competition from your competitors in the mobile market? My second question is about free cash generation. You mentioned it was robust in the first quarter, despite some seasonality challenges with high frequency payments. The equity free cash flow for the first quarter was TRY900 million. Do you have an estimated range for the full year, especially since there should be some additional working capital release in the remainder of the year from the unwinding of the consumer finance company balance sheet? Thank you.

Murat Erkan, CEO

Okay, Ivan. I believe we hardly heard the second part of the question. But let me start with the first part of the question regarding postpaid and the switch between prepaid to postpaid. As part of our strategy, we have been more focused on strengthening our bond with customers over the past years. We realize the return of our efforts each quarter. We are one of the telecom companies leveraging data analytics skills most effectively using big data, and we follow a micro-segmented approach, which enables us to make the right offer to the right customer at the right time. Please also note that we achieved the performance by registering mobile ARPU growth of 21%. Our solid performance confirms our commitment to gain a million subscribers each year. Nearly half of the postpaid net adds in Q1 switched from prepaid. So this reflects a part of your question. Moving prepaid customers to postpaid segment is one of our key goals and is naturally a target for all operators. I must say it's not as easy as it sounds from the technical definition of the switch. Therefore, there is a notable performance on our front as well. So this was the first part of the question. Let me give you the word to Osman regarding free cash flow and working capital relation. Osman?

Osman Yilmaz, CFO

In the beginning of the year, we were expecting about TRY500 million additional free cash flow generation from our consumer finance business. But given the negative impacts of the COVID-19 pandemic, we now expect more than TRY700 million free cash flow generation from consumer finance. But part of this additional free cash flow generation will be offset by deteriorating collection performance, mainly in the corporate segment.

Ivan Kim, Analyst

Sorry, just two quick follow-ups. So do you have a ballpark number for the annual free cash flow you expect right now, or you can share that?

Osman Yilmaz, CFO

Actually, we prefer not to give a precise number for free cash flow generation, but you can roughly say 20% of the EBITDA, nominal EBITDA – 25% of the nominal EBITDA can be expected as our free cash flow generated before this year.

Operator, Operator

The next question is from the line of Drouet Herve with HSBC. Please go ahead.

Herve Drouet, Analyst

Yes. Good afternoon. Two questions as well on my side. Firstly, in terms of date for the AGM, do you have a date for the AGM? And do you believe there could be – what is your view on the potential payouts on earnings that you may give to shareholders? And the second question is, did you see, in the beginning of Q2, an impact in terms of bad debt increasing, especially as you unwind your loan portfolio on consumer financing? Do you see a higher portion of difficulties in payment from some of your consumers? Thank you.

Murat Erkan, CEO

Okay, Herve. Thank you very much. For the General Assembly, along with many other listed companies, we are on hold regarding a call for General Assembly. Please also note that our government introduced a 25% cap on dividends, which will be effective until the end of September. So this is one side. Also, this cap overrides our official dividend policy of distributing a minimum of 50% of net income. Yet in practice, any present company would wait and see the normalization of this crisis before making a dividend decision. At Turkcell, we also believe that it will be reasonable to wait until the removal of this cap, hopefully, with the normalization of the condition and removal of this cap, our Board can make a dividend proposal in line with our policy, and we can hold our General Assembly in the later months of this year. This is regarding the AGM. For the bad debt, I think Osman can respond for the bad debt side as well.

Osman Yilmaz, CFO

Actually, until March, we had a very strong collection performance not only in the consumer finance business, but also in all business segments. And the cost of risk in consumer finance declined from 3.2% to 2.8% despite a contracting portfolio. Inevitably, the pandemic will have negative consequences on our collection performance. For example, due to regulatory restrictions, we will not be able to make a legal follow-up for our late payments in consumer finance business. Similarly, banks in Turkey cannot conduct legal follow-up actions for their receivables, and we will not be able to do this until mid-June. This will have some negative impact on our cost of risk. We expect cost of risk to rise to 4% to 5% in the coming quarters. It's about 1% higher than our initial assumptions at the beginning of this year. Also, please note that more than 90% of the loans that we granted are insured. These insurances protect us against unemployment, which is expected to rise rapidly in the coming months. So we are partially hedged against a macroeconomic downturn.

Herve Drouet, Analyst

And just a follow-up question on those 90% insured. Does it cover external events such as COVID-19?

Osman Yilmaz, CFO

It covers only unemployment. It doesn’t cover natural diseases or pandemics. It is not a health insurance. It's against debt and also ... unemployment.

Murat Erkan, CEO

Unemployment.

Osman Yilmaz, CFO

Yes. And we are not insuring customers above age 65, so we see very few fatalities throughout the year. Most of the compensation comes from unemployment claims.

Herve Drouet, Analyst

Okay. I understand. All right. Thank you.

Operator, Operator

The next question is from the line of Mandaci Ece with Unlu Securities. Please go ahead.

Mandaci Ece, Analyst

Hi. Thank you for the question. I have three inquiries. First, I'm interested in the future trend of mobile ARPU growth. If I'm correct, you mentioned that ARPU growth is expected to align with inflation eventually. When do you anticipate this convergence? I believe this is expected around April, but there will still be effects from upselling, which may lead to higher ARPU growth, especially in the postpaid segment. On its own, we are experiencing slower growth compared to previous quarters. However, as you've pointed out, there is a transition from prepaid to postpaid, which also impacts the blended ARPU. Considering all these factors, what percentage growth should we predict for ARPU in the second and third quarters? This is my first question in detail. My second question concerns the corporate segment revenues, which make up about 60% of your total consolidated revenues. We've observed 30% growth in this segment during the first quarter, but you are experiencing slower sales. Should we anticipate a significant contraction, slight growth, or continued growth in the high teens for this segment in the second quarter? How should we project for this segment specifically? Lastly, you mentioned increased working capital requirements for the year due to the SME business, which has a minor share in your total revenues. Why is this factor considered? Do you still expect an improvement in your net debt over EBITDA ratio or leverage ratio for 2020? Thank you.

Murat Erkan, CEO

Okay. Thank you. Thanks for the questions. First of all, let me start on the ARPU side and give you a little bit broader answer because ARPU impacts on fixed and also mobile front. On the mobile side, our mobile ARPU rose to 1.5%, driven by a large postpaid subscriber base and offset efforts on the back of increased data consumption. Inflationary pricing is a key pillar of our business model. Due to the contracted nature of our business, our price actions are reflected in ARPU with a lag. Please note that Turkey has been on a declining inflation path since last year, and this trend is to be accelerated with falling commodity prices as well as a drop in demand in various industries as a result of the COVID-19 pandemic. Declining inflation, together with our aim to support our customers in these difficult times, places a limit on pricing. It is reasonable to expect our ARPU growth to convert to a range around inflation level in the upcoming quarters. On the fixed side, we registered fiber ARPU growth of 13.4% in Q1. The slowdown in fiber ARPU growth is also a reflection of the declining inflationary environment. Please also note that we renewed our offering portfolio with the removal of fair use policy at the beginning of 2019 and increased our pricing. As we have longer-term contracts in the fixed segment and as the base FX diminishes, this will also impact our ARPU growth. Regarding the corporate revenue side, obviously, we don't expect sharp contraction, but we will see business lockdown because especially in the SME side, the shops are closed, the SMEs are not working at this point in time. So this impacts our revenue side. On the other hand, roaming also has a big revenue declining position since our corporate customers aren't going abroad and doing business with their overseas companies. That’s why our corporate segments will be hit more than the consumer side in this COVID-19. To be honest, I would expect the corporate business to recover sooner than the other business because the demand is not canceled; it's just postponed. For the working capital side, Osman will take care of the question.

Osman Yilmaz, CFO

Thank you very much. We believe that instead of being strict on collections with a short-term outlook, we should offer flexibility to our customers during these challenging times to foster stronger relationships. The corporate sector, particularly small and medium enterprises, has been significantly affected by the pandemic. While we perceive lower risk for large enterprises and public accounts, the SME segment appears to be at a higher risk. We have been extending payment terms for several customers in industries that are facing direct impacts. Currently, the number of these requests is relatively small and inconsequential compared to our total client base. However, if the situation persists, we may anticipate more payment deferrals. As I mentioned earlier, we do not foresee a major impact regarding working capital needs, as this will be balanced out by the flexibility in our consumer finance operations. The easing of restrictions in this business will more than cover the working capital requirements in the SME sector. Regarding the net debt to EBITDA ratio, we expect our leverage to remain below 1.0 times throughout this year, assuming there is no significant depreciation of the lira. If the currency remains stable, we could see lower net debt to EBITDA ratios approaching 0.7 times.

Operator, Operator

Thank you. Ladies and gentlemen, there are no further audio questions at this time. I will now turn the conference over to Mr. Bilek for webcast questions. Thank you.

Korhan Bilek, Treasury and Capital Markets Director

So we have a list of questions coming from the web. We are going to touch on a couple of them and try to address the rest one-on-one. Some of them have already been answered. So one is related to the impact of prepaid top-up. So what's the COVID and social, mobility impact on the prepaid top-up?

Murat Erkan, CEO

Let me take care of this question. The usual online channel has seen an increased trend in the last couple of months. As people spend more time in their homes, we have seen a decrease in our top-up revenue from our stores. However, since our top-up rates have increased significantly through our digital channel, we don't see a negative effect on prepaid top-ups in total. So to give you some information, our digital share increased from 6% to 13% in terms of top-up.

Korhan Bilek, Treasury and Capital Markets Director

Thank you, Murat. Thanks. And one last question. Regarding our credit line, how much do you have in committed and uncommitted credit lines?

Osman Yilmaz, CFO

We have utilized almost all of our committed lines and are currently working on securing additional committed lines, which we plan to announce very soon. Additionally, we secured a US$50 million lift from an ECA facility, and at the beginning of April, we utilized TRY50 million from this facility. Furthermore, we have approximately 4.5 billion in credit lines from various banks, both in Turkey and internationally.

Korhan Bilek, Treasury and Capital Markets Director

Thank you, Osman. So this brings us to the end of the call. We thank Murat and Osman for their presentations and everyone for their participation.

Murat Erkan, CEO

Have safe and healthy days.

Osman Yilmaz, CFO

Thank you. Thank you all. Bye, bye.