Why telecoms should be a core corporate bond component

Telecoms have demonstrated resilience despite the pandemic’s blow to revenues as well as leverage challenges within the sector.

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“We have a generally favourable view of the industry fundamentals and believe that telecom bonds are a core component of a corporate bond portfolio,” said Trevor Bateman, vice-president of global fixed income, credit, at CIBC Asset Management.

He expects rebounding revenues for the sector in 2021.

“We’re looking for revenues and earnings to grow in the mid-single digits in 2021, and that supports positive free cash flow,” Bateman said in an interview on Jan. 25.

For example, the wireless side of the business should benefit from new customers as retail stores reopen once pandemic lockdowns ease. “That helps support our topline revenue growth [outlook],” Bateman said.

Revenue growth should also be boosted as overage charges (fees for surpassing a cellphone plan’s minutes) rebound. The charges account for 4% of wireless service revenues, Bateman said.

Carriers relaxed the charges during the pandemic, along with offering bill payment deferrals. These measures will likely begin to fade in 2021, he said.

Roaming revenues — which account for about 7% of wireless service revenues, Bateman said — were particularly hard hit by Covid-19. He expects these to recover toward the year’s second half if travel restrictions ease.

The wireline side of the telecom business — video and internet — was relatively more resilient last year amid lockdowns and working from home, and should continue to be so. “Customers [who] upgraded their internet packages in 2020 will likely keep them,” Bateman said.

However, video may contribute less to revenue after the pandemic.

“I’m looking for a resumption in terms of cord cutting,” Bateman said. “The need for home entertainment may not be as important as it was in 2020.”

While revenue is generally promising, telecom balance sheets are “stretched,” as measured by debt to EBITDA (earnings before interest, taxes, depreciation and amoritization), Bateman said.

Credit ratings for telecoms are stable overall, he said, but noted a couple of exceptions.

First, Telus Corp.’s elevated leverage resulted in S&P Global Ratings revising its BBB+ rating to negative from stable at the end of 2019.

“Key for Telus will be managing any spectrum purchases [frequencies used to transmit data], as well as the Telus International IPO and how that could defray some of the costs,” Bateman said.

Telus International Inc., Telus Corp.’s digital consulting business, closed its initial public offering last week with $8.5 billion in market capitalization, which Telus said was the fifth largest IPO in TSX history by total proceeds raised.

Second, Shaw Communications Inc. has an S&P rating of BBB−, with the rating agency revising the telecom’s outlook to positive from stable in November 2019. Another rating upgrade could be on tap this year, Bateman said.

Bateman was cautious on valuation, describing telecom bonds as “rich,” especially compared to bank bonds. “We’re a little bit skeptical in terms of how much more room there is for telecom bonds to tighten,” he said.

He expects new bond issuance in the sector of about $10 million, up from about $8 million last year. “A large part of that increase is related to potential funding for spectrum, as well as perhaps early redemptions of 2022 bond maturities,” Bateman said. In particular, the wireless sector will bid in the government’s wireless spectrum auction in June.

The level of issuance is manageable for the primary market and should have no negative impact on the secondary market, he said.

The sector could also see environmental, social and governance (ESG) developments this year.

While green bonds have been issued in various global jurisdictions, Canada has yet to get in on the action, Bateman said. In the U.S. telecom industry, the first green bond was issued in 2009.

“For the Canadian industry, [2021] would be a good year for the launch of the industry’s initial green bond issuance,” he said.

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