Turkcell Iletisim Hizmetleri A.S. (TCELL) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by. I'm Myrtle, your Chorus Call operator. Welcome, and thank you for joining the Turkcell conference call and live webcast. [Operator Instructions] And the conference is being recorded. The presentation will be followed by a question-and-answer session. [Operator Instructions] At this time, I would like to turn the conference over to Mr. Ali Serdar Yagci, Investor Relations and Corporate Finance Director. Mr. Yagci, you may now proceed.

Thank you, Myrtle. Hello, everyone. Welcome to Turkcell's investor and analyst conference call today. We have a very brief presentation consisting of 4 slides, which will be delivered by our CEO, Mr. Murat Erkan; and our CFO, Mr. Osman Yilmaz. We will then take your questions. Now I hand over to Mr. Erkan.

Hello, everyone. Good morning and good afternoon. Thank you for joining us today. I will initially provide you with a quick recap of our first 9-month performance. Following that, I will explain how recent macroeconomic developments are affecting Turkcell business and give some clearance on our action and the plan taking over these challenges. Then our CFO, Osman will take you through our balance sheet metrics and financial risk management details. Despite the strict lockdowns that prevail over the first half of the year, we delivered a strong performance, thanks to our well-executed diversified business model. Enjoying increased mobility and solid activity in the third quarter, we further strengthen our operational and financial performance, which reflected on our subscriber net addition of 2.5 million and above inflation top line growth. In the first 9 months of the year, we managed to grow our revenue by just over 21% driven real growth. This was enabled through rising data usage, growing subscriber base and price increases. Our strategic focus areas, primarily through digital services and Paycell and a remarkable performance in the international business further supported the growth. Rising by 20% year-on-year, our EBITDA reached TRY 10.8 billion. In terms of operational profitability, there was a very slight impact compared to last year. Mainly streaming -- stemming from rising energy prices and recover of marketing expense, which were suspended at the outbreak of the pandemic. Lastly, despite higher financial volatility during the year, our prudent financial management supported has achieved a TRY 3.6 billion bottom line corresponding to a 24% year-on-year increase. Taking this strong performance into consideration, as you will also recall, we once again revised our guidance upwards with the Q3 results in early November. Further to that, beginning from mid-November, we unfortunately started to experience a rapidly worsening macro environment. A relentless depreciation of Turkish lira against the dollar as high as almost 50% in just over 2 months, could well be defined as a six sigma event. It was inevitably reflected on the local prices, which together with the global rising energy and commodity prices ramped up the consumer price index to the peak of the last -- the past 3 years as of November. As corporates, we have entered into periods where we -- where the impacts of this unfavorable macroeconomics will probably be more compelling than ever. However, a Turkcell, we are focused on minimizing this impact with the actions we've already taken and through the ones we are currently taking in line with our prudent financial risk management approach and as per our drivers for our business model. Moving to the next slide, let me further clarify on these actions and their implications. Starting with the revenue front, we have once again increased our price this month in addition to the several price adjustments we made through the year. This will conveniently position to better monetize our expanded subscriber base going forward. Our strategic focus areas and international operation will also support the top line growth. One of the most frequently asked question is the FX sensitivity of our EBITDA. In our Turkcell operations, we have around 3% FX revenue share coming from roaming and wholesale business. On the OpEx side, FX share is around 7%. Thanks to these FX revenue generated in Turkey and also margin accretive international business, it's fair to state that FX sensitivity of our EBITDA is quite minimal. The other FX-related concern area is apparently our capital expenditure at around 75% of our CapEx is in hard core currencies. As you might recall, we have announced this year operational CapEx to sales guidance as 21%. While the depreciation of Turkish lira is clearly an issue, its impact will be limited compared to the competition as we have front-loaded the vast majority of our CapEx earlier this year. To further other FX impact on CapEx of upcoming periods, demand-driven CapEx will continue to be our priority with an increased focus, which means that discretionary CapEx will not be on the table. Going forward, in terms of CapEx, our focus point will be the core business such as fiber investments and investments with immediate revenue impact in the short to medium term. Thanks -- Thank you for listening to me. And now I will leave the floor to Osman for the financial section.

Thank you, Murat, and hi, everyone. I'll continue with the balance sheet leverage and FX risk metrics. As a telecom company having operations in an emerging market, liquidity management is arguably the most critical issue for us. We have long been taking necessary measures to maintain a strong liquidity position and continuously monitor it with a proactive approach. At the end of the third quarter, we had a cash position of around $1.4 billion equivalent, which was mainly in hard currencies. This conveniently covers our debt service until 2025. Our repayment schedule for the next year or even the following years is quite manageable as well. Hence, we are not in an urgent need for additional financing in the short term. Please also note that the average maturity of our borrowings is around 4 years. In addition to our strong balance sheet, we also had around $600 million committed credit lines with global lenders as at the end of third quarter supporting our liquidity position even further. As you might recall, our net leverage was at 0.9x at the end of third quarter. However, given the rapid depreciation of Turkish lira, this leverage level will inevitably be exceeded should we close the year with the existing value of the lira. To give you a bit of color, we can note that each 15% depreciation in the lira increases our net leverage by around 0.1x. Next slide. Now a few words on management of FX risk. As you may recall, we keep a majority of our cash in FX and also employ hedging instruments as a part of our prudent financial risk management approach. At the end of Q3, we had around $2.2 billion equivalent FX debt on our balance sheet. We also had $0.2 billion FX position, mainly related to working capital. As a natural hedge, our hard currency cash holdings were around USD 1.3 billion. The remaining $1.1 billion is covered by our derivative portfolio of around $1.2 billion. Around 70% of our derivative portfolio consisted of participating cross currency swaps by the end of third quarter, while 10% is playing in our cross-currency swaps. Proxy hedges, which are mainly FX future contracts had 15% share. Lastly, currency swaps, which we generally used to utilize liquidity at 7% weight. We had 10% further participating cross currency swap expiring in October, bringing our nominal participating cross currency amount to around $700 million, half of the amount which we had in late 2018. Please note that due to the significant volatility, the strike levels of some participating cross-currency swap contracts have been exceeded. This led to deterioration in the effectiveness of the hedging portfolio to a certain extent. As a result, fair valuation of our derivative instruments is likely to be negatively impacted which could result in higher FX loss in this quarter compared to the first 3 quarters. Restructuring TAM is an option, but it is very costly. Hence, we had cash FX or future contracts to offset the loss in effectiveness. Yet, I should also emphasize that in a scenario where we had not taken those hedging actions, we could have incurred an FX loss of couple of billions TL in the fourth quarter with current FX rates. It is fair to state that our hedging instruments still provide a significant protection even in the case of a six sigma event like this. This concludes our presentation. We are now ready to take your questions. Thank you very much for listening.

[Operator Instructions] The first question comes from the line of Degtyarev Slava with Goldman Sachs.

A couple of questions. Firstly, do you currently see any of your customer groups trading down? And is that were to happen? And where do you see the highest elasticity of demand towards the current market conditions? And secondly, with regards to the margin outlook, maybe you can comment at least directionally with regards to the margin outlook for the next year or at least to which extent you will be possible -- will that be possible to mitigate the negative margin effect from the rise in inflation? Maybe any costs you expect to be growing below inflation levels.

Slava, first of all, regarding the first question, customer demand. Actually, since the FX has increased, this -- demands are increasing as well due to the expectation of price will go higher. So that's why the people would like to get whatever they can get as soon as possible. So it's -- so we don't see any customer leaving us. We don't want any customer to leave us. So as you see, we net at 2.5 billion subscriber for this year, first 9 months. So we don't see that demand as of today. Regarding margin outlook for next year, I think it's too early to say because we are in the process of preparing next year forecast, next year guidance and next year budget preparation. So obviously, we will see some pressure on the margin. But I think we have a very good business and also diversified business to manage this margin impact. So obviously, there will be pressure, but I think we can manage it. And also our CFO, Osman will add some points as well.

Actually regarding the margin outlook for the next year, we can say that there are 3 major drivers that are affecting our margins adversely, not only for Turkcell, for the whole sector. The first factor is energy prices. Energy prices are rising globally, and depreciating lira is putting further pressure. The second is labor costs. We are anticipating a real wage growth in the coming years as we experienced this year. This is also a global phenomenon, and it is further fueled by the rising inflation in Turkey. And the third one, which is more FX related is transmission growth, international data traffic costs and roaming costs are increasing. But on the revenue side, they have also positive implication. So net effect is relatively more limited. So these are imminent effects. We will see the impact of these negative consequences starting from Q1, but anticipating these adverse impacts, we have been taking preemptive actions since last quarter. We have been revising our tariffs in either mobile segment or fixed segment since last September and October, by the way. And we have further increased our prices in mobile and fixed in November and we are planning further increases in December. For -- either for existing clients or new acquisition tariffs, we are planning price hikes. And I can say since September, we increased our prices by about 15% to 30% depending on the type of the product or depending on client type, whether it is an existing client or a new client. And the other factor is we are proactively seeking areas where we can save costs. Turkcell is cost-conscious company. We have always been prudent in cost management, and we are further taking additional cost actions to mitigate negative impacts of this inflation and FX-related risks. So maybe for a couple of quarters, we can see some margin erosion limited but the price hikes that we have been doing and the inflation pass-through to our tariff prices and revenues will more than offset the negative impacts in the rest of 2022.

[Operator Instructions] The next question comes from the line of Anik Jane with Bank of America.

I have, please, 2 questions. The first one is on growth. You mentioned you are targeting real growth. Can you please elaborate? Is it for '22 and which assumption of inflation you are using in your base case? And do you think you can achieve real growth if inflation in the next year will be, let's say, 30%, 40%? And the second question I have is on CapEx. You mentioned you are postponing discretionary component of CapEx. Can you please give some color how big is it as a percentage of total CapEx? And in which areas is it, if it's not core, but discretionary?

Thank you very much. For the first question regarding growth. I mean, our aim is to have a real growth above the inflation. And this year, we manage this. Next year, we would like to manage this. But obviously, when you say 35%, 40% and even more than that, then if such a case happens, probably we will go for real growth but it will come with a little bit lag because, as you know, we have contractor-based approach with the customer. So our contract with the customer will follow a little bit with the lag. But obviously, our strategy is always inflationary pricing. And we -- whatever the inflation is going to happen, we will try to catch even above the inflation, stay above the inflation. Regarding CapEx, obviously, for the 2022, we would like to keep our CapEx ratio versus revenue similar to 2020. But obviously, we haven't finished the -- or finalize the budgeting for next year. We will come with the guidance for the next year. Obviously, as I mentioned, we spend our CapEx budget for 2021 at the first half of the year mostly. So this is -- this makes us a little bit comfortable versus competition because based on this FX ratio, it's difficult to implement. As I mentioned around 75% of our CapEx is hard core currency. And it's reasonable to expect some impact. And as I said, we have made front-loaded investment and we have started also company-wide smart CapEx project, which enable our -- enable us to optimize our CapEx allocation and improve efficiency and estimates. But as I said, our 75% of our CapEx is hard currency. So we'll see what we can do for the next year.

So excluding these discretionary areas, you believe flat CapEx intensity could be potentially within the reach.

Okay. Let me give the word to our CFO to go for this discretionary areas.

Actually, in order to maintain our premium image and strong quality image in mobile segment, we have never interrupted our investment even during the pandemic and to respond to rising demand, we continue to invest in the areas where we have seen reverse organization trends, especially in some southern parts of Turkey. So this also reflected in on our NPS scores. In connectivity-related parts of NPS, our scores have widened versus competitors. So in mobile, we don't need to invest as heavily as we invested over the last couple of years. Our growth focus is now on the fixed side where we have been chasing the incumbent and data center investments, mobile investments for the moment are relatively more discretionary items. And given the uncertainties in the market and given the rising costs, these are not just related to FX. We have been pausing this discretionary investments until we see more clarity in the market. Thanks to our proactive approach in the first half of the year in terms of CapEx, we are not anticipating any capacity or coverage related issues in any segment.

To add on top of what Osman said, regarding data center, I think we are one of the best position in terms of being market leader in Turkey as data center side. We already finalized 4 technologically advanced state-of-the-art data center in Turkey. They are quite strong data centers. So this is our also strong position. If somebody would like to do data center in Turkey, they have to heavily invest in CapEx as well and FX-related CapEx as well.

[Operator Instructions] 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. Sorry to interrupt, we have a last minute registration from the line of Demirak Kayahan with AK Investment.

I have 2 questions. First of all, now we've given investment need and the average revenue per user is generating, for instance, in the fixed broadband. What is the current payback period for the fiber investments. I think I understand you can make some price adjustment, but never -- I mean, follow can tax the , the TL depreciation. So I'm just trying to understand the return metrics at the current prices and the cost of investment. And the second thing I would like to ask, as I understand from your remarks that your current positions are unhedged because of the high cost. So I mean, what kind of costs are we talking about for instance, just hedge do you guys still dominate the TL terms? Or are you planning to keep it that way until you see some clarity, less volatility in the market?

Okay. Kayahan. First of all, regarding our fiber investment. Our fiber return on investment and payback period is typical fiber business is between 8 to 10 years. But obviously, the depreciation for the fiber investment like more than 25 years. So it's typically 8 to 10 years is our existing payback period. So regarding matching for the ARPU inflation and investment payment, obviously, we will continue inflationary-based pricing on the fixed side as well. So plus, I think if you compare our ARPU versus incumbent, even though we are follower, we are challenger in this segment, we are at least 20% above the incumbents ARPU, which means that customers are appreciating our service, fiber quality, customer experience and the service level. So this is good signature, a good sign for us. We are in a good business. Our take-up rate, our return on investment much faster than the competition and also global market as well. Our take-up rate is around more than 40%, which is -- which gives us opportunity to get payback earlier than we expected. Regarding hedge, I think Osman will give some color. But as you can imagine, hedging the money, this is quite expensive. So there are limits for the hedge, but maybe Osman can comment on this one.

As you know, there are different types of hedges that we are using. And the first one and the typical one that we used so far was long-term cross currency swaps. We use these instruments to convert our long-term FX liabilities to fixed rate Turkish lira liabilities. But given the nature of cross-currency swap curve, which is clearly steep curve. We avoid paying high hedging costs around these uncertain levels, hedging 5-year debts, including cost of the FX debt and hedging swaps exceeds 25%, which doesn't make sense. Rather than that, we prefer to use short-term contracts, like future contracts or forward contracts. Or we prefer to convert our Turkish lira to FX and holding -- given the low short-term deposit rates, opportunity cost of converting Turkish lira to U.S. dollars diminished fairly. So we prefer to convert our Turkish lira to dollars when needed or used relatively shorter-term future contracts. We're going to continue to use long-term hedging contracts once the market settles and we see more reasonable levels in the long end of the yield curve.

Okay. And as a follow-up, in terms of the ARPU level, I mean, is there any particular levels you'd like to keep the ARPU levels in USD dollar terms for instance, with the current rate in mobile for land looking less than $4 per month, 3.7 in fixed. It's around 5.5 [indiscernible] terms. So I mean in dollar terms given that your part of the business is the cost and the CapEx is in dollars, is there any particular dollar revenue wanted to keep ARPU? I don't know. I know it's not a -- pricing is in TL. But still has a threshold you have in mind?

I think the quick answer for this one. We're not focusing [ ESG-level ] ARPU since our customer earnings are based on Turkish lira, but what we focus inflationary-based pricing. So at the end of the day, even though FX goes up and down, volatility goes on, the short or midterm and long-term inflation will catch up with the FX has applies. So we're focusing based on inflationary-based pricing so that we can meet our customer expectation as well. So that's -- I mean, we -- obviously, I agree with you, we're spending our CapEx on FX, but this is the reality of the market we are in. So -- but I think we'll catch up at the end of the day, inflation will catch up with the FX.

The next question comes from the line of Mandaci Ece with Unlu Securities.

I have 3 questions. One is about the -- with the recent volatility, is there any effect should we assume on working capital? Is there any change in the business environment lining in SMEs or et cetera? That's one question I was going to ask. The second one is about the dividend. So since the fourth quarter earnings performance will be sensitive to currency fluctuations now with the recent volatility. According to initial assumptions, probably we will lower our 4Q estimate. So how should we assume the dividend payout for 2021 earnings given possible lower -- potentially lower earnings than our initial estimates. Should we expect a higher dividend payout or a similar payout like in the last 2 years, like the average of the last 2 years? And the third question is about LetterOne. I was going to ask because they just made an announcement before their lockup -- expire of their lockup and they were looking for a strategic -- any strategic potential for their stake in Turkcell. Do you expect any concrete development in the current future in the near future? It would be very helpful if you share your view.

Let me start from the question number 3, which is regarding LetterOne, expiry of lockup. Obviously, as a management team, as the executive team, we would like to support our financial or operational level to out for the shareholder investor. So we cannot comment of LetterOne lockup and what is their option. Obviously, the right target for this question is LetterOne side, but I think we're doing our maximum to support our shareholders. Regarding dividends, Turkcell quite well-known company in terms of dividends, and we are quite a sustainable company. In terms of distributing dividends we have clear policy, and we implement this policy during the last probably 5 years. And if government doesn't decide or any cap on the dividend side, we would like to follow our rules in terms of distributing dividends, which is 50% of the net profit. For the first question, volatility, let me give the word to Osman to describe you on the volatility side.

Actually, the FX volatility does not have much to do with our working capital as most of our receivables are in Turkish lira, and we haven't seen -- witnessed any deterioration in payment habits of our customers. On the -- actually, we are experiencing the lowest NPL ratios in Turkcell history despite deteriorating macro outlook. And going forward, we don't foresee any negative impacts from working capital changes.

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.

Okay. First of all, I would like to thank everyone who joined the conference call, and I hope to see you at the end of the year conference call as well. Thank you.

Thank you very much.

Ladies and gentlemen, the conference has now concluded, and you may disconnect your telephone. Thank you for calling, and have a pleasant evening.