Description

Millicom (TIGO: US, TIGO: SSB): US$60.07 and SEK 560

February 7, 2019

Warning: Do not buy this without doing your own work.  I / we may sell at any time.

Millicom is humming.

Millicom is a leading Latin American telco that is in the second half of a transition from a mobile prepaid voice business to a fully modernized, sustainably growing, data-centric quad play fixed and mobile company.  The market does not seem to realize how successful this transition has already been.

The stock is cheap, and the business has accelerating operations led by a tremendous CEO, Mauricio Ramos.  Since joining four years ago, Ramos and team have made a series of excellent capital allocation decisions while improving operational focus and execution across the board.  Additionally, it is clear that Millicom owns a M&A put option at prices above today’s trading levels, bounding downside.

Historically an orphaned equity, with its primary listing in Sweden despite its primary operations in LatAm, Millicom just completed a full second listing to the main US Nasdaq under the ticker TIGO (Tigo is Millicom’s dba).  Millicom stock was orphaned despite being #1 or #2 in several Latin American markets and having billions of dollars of revenue (~$6.5 billion) and market cap ($6.0 billion).

CEO Ramos is a John Malone disciple.  He currently serves on the board of Charter, and previously led Liberty Global’s LatAm business.  From my perspective, Ramos may be the most impressive of the Malone lineage cable executives. He is clear on priorities, is operationally focused, is willing to make tough decisions, and deeply understands the cable value creation model.

Trading at <5x EBITDA (proportionate) with a resilient and growing top-line, expanding margins, and an enormous high returning capital deployment opportunity in front of it, Millicom is worth much more than its trading price.  Similar, less well-positioned businesses trade several multiple turns higher. At a minimum, if you like Lilac, you should love Millicom.

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Note: The US listing is thinly traded.  Much more liquidity exists in its Swedish listing: TIGO SS.  I quote US$ stock prices for convenience.

I’m using $2.5B of 2018 pro forma EBITDA (non-proportionate), $5.1B of net debt (non-proportionate), and 100 million shares outstanding.

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Company:

Four years ago, Mauricio Ramos took over leadership of an operationally challenged mobile-first telco that had just acquired a fixed line business in Columbia, full of copper customers.  While its largest business was a voice-first mobile business in LatAm, Millicom also had a large money losing African mobile business. On the plus side, Millicom was the leading mobile operator in most of its markets, and it often ran the #2 cable business in those same markets (or no fixed business at all).  When Mauricio took over, this is approximately what the operating situation looked like:

Source: Telegeography

CEO – Mauricio Ramos:

In hedge fund world, Mauricio’s primary claim to fame may be that he is on the board of Charter, but it is his strategic leadership, operating, and capital allocation chops that impress me.  For nearly a decade - prior to his taking the reigns at Millicom - Mauricio led what is now called Liberty Latin America (aka, Lilac - ticker: LILA), but at that time was simply Liberty Global’s LatAm subsidiary.  In particular, for many years Mauricio led its increasingly high performing Chilean business (VTR), taking share and driving margins. VTR is today the crown jewel of Liberty LatAm (which has subsequently expanded via M&A to hold important positions all over the Caribbean).

At Millicom, Mauricio has surrounded himself with a revamped leadership team.  In the key leadership roles, only CFO Tim Pennington slightly pre-dates Mauricio, having been recruited from the CFO role at Cable & Wireless in early 2014, a year prior to Ramos’s hiring.  Those familiar with Lilac are likely intimately familiar with C&W…

In its short history, Lilac has been written-up five times on VIC.  Only one of those efforts directly mentions Millicom (in passing) while another has it as a semi-anonymous listing on a comp table.  This is despite Millicom being the larger, better opportunity and existing as a perfect strategic match for Lilac from an M&A perspective (Note: the VIC message boards mention Millicom several times, primarily catalyzed by Lilac’s publicly disclosed interest in Millicom, though the core write-ups do not).  Millicom is larger, cheaper, better capitalized, and growing just as fast. Sometimes I wonder what multiple Millicom would trade at if it were renamed Liberty Millicom. Lilac trades at nearly 7x NTM EBITDA, while Millicom is closer to 5x.

Upon taking the reins at Millicom, Mauricio zoomed in on a few core operating goals:

1. Operate ethically and with first world governance;

2. Invest in assets that support high speed, anywhere data transmission.  This means fiber or HFC fixed assets and 4G mobile;

3. Invest in filling its network (i.e., more customers and more usage), without sacrificing customer lifetime value;

4. Become more efficient – take cost out while improving the customer experience, re-investing savings in the network;

5. Focus only on markets and assets that are strategic and where Millicom can lead and earn a respectable return on capital (divesting anything non-core);

6. Opportunistically bolt-on strategic acquisitions.

He and his team have crushed it on all fronts, despite a very challenging operating environment (currency pain, sluggish LatAm economic growth, a rapidly declining traditional mobile voice and SMS business, inheriting a corruption scandal).

Operations:

While I have not seen it in any of their English language disclosures, per Millicom’s recent Spanish language deck for the media relating to its Cable Onda acquisition, it has moved to #1 in “Home” in all of its LatAm markets except Columbia (where it continues to build furiously).  This means that since Mauricio became CEO, he’s helped drive market share for the Home business from #2 to #1 in at least four of Millicom’s markets.

Millicom operates in difficult markets.  Just ask its competitor, Telefonica, which is suffering from poor operational execution and recently announced the exit of a number of its LatAm businesses to America Movil (Carlos Slim’s operation).  Millicom’s competition already included America Movil in several markets (dba Claro).  Claro is formidable and generally rational. Likewise, Lilac nemesis, Digicel, operates as a mobile-only competitor in a few of Millicom’s markets.

Until recently, Millicom’s core markets were Columbia, Honduras, Paraguay, Bolivia, Guatemala, and El Salvador.  In December, Millicom completed the acquisition of the leading independent cable company in Panama (Cable Onda), a perfect asset from a strategic perspective (Lilac is its primary competitor).  Millicom also has non-core African assets, which I don’t plan to extensively discuss, but will briefly touch on later.

While voice, SMS, and equipment centric mobile economics have been in dramatic decline, data-centric businesses are creating more differentiation, better economics, and deeper customer relationships.

Many of my favorite set-ups are what I call swimming ducks: at the surface, there is little to see, but beneath the surface, there is a dynamic environment temporarily being masked by the stillness at the surface.  In Millicom’s case, this was a declining legacy business and a rapidly growing data business. For a few years, the declining business was overwhelming the growth in the new business. As the legacy business became smaller and the data business grew, the dynamic began to slowly shift.  We have now come out the other side, and Millicom is growing in nearly all of its markets. That dynamic can be seen in the graphic below from Millicom’s Q3 earnings report.

If you disaggregate the LatAm business into three parts: B2C Mobile, B2C Home (i.e., cable), and B2B, you can see that Mobile was the source of negative growth.  As B2C Mobile has shifted from its analog roots (2G and 3G) to a digital future (4G+), that business has stabilized. In its April 2, 2018 report on LatAm telcos, Goldman estimated that postpaid churn is 60% lower than prepaid. Data-centric mobile as well as multi-play bundling target precisely this outcome: simultaneously growing subscription-like economics while lowering cost to serve.  At the same time, Home and B2B continue to rapidly grow. This will become more pronounced with Cable Onda included (which is primarily a Home and B2B business – deal closed Dec. 2018). Pro forma, Millicom more than 40% of its current run-rate revenue base comes from Home and less than 30% from legacy voice and SMS mobile.

Millicom is clearly a growth business, but trades today at 5x EBITDA.  This implies a stodgy, declining business with little hope of generating meaningful FCF.  We believe that lens is blind to reality.

As you can see above, Millicom is growing.  In particular, Millicom’s Home business is rapidly growing.  This is heartening, as cable subs are its most valuable / least commoditized customers.  This acceleration is primarily driven by two things: 1) sustained, large organic new builds; and 2) the near-completion of overbuilding its own old copper business (which meant a great deal of new HFC customers came at the “expense” of legacy copper customers…swimming ducks).  With this self-overbuild effort concluding and the new build operation accelerating to 1.2 million homes per year (which is world class), Home and B2B will remain robust growers. Over time, if Millicom achieves a 30% penetration rate on new builds (below its track record), that will add 360,000 HFC subs p.a.  On a base of 2.75 mm subs as of year end (ex-Panama), that’s portends a 10%+ Home subscriber growth rate for many years, while improving the competitive position for B2B and winning in an increasingly converged world.

As Home and B2B become a larger and larger share of the overall revenue pie, their growth rates will increasingly drive the overall business.  The Cable Onda acquisition increased Millicom’s number of homes connected by nearly 15% (from my estimate of 2.75 million as of December to around 3.1 million pro forma for Cable Onda).  While Mobile currently remains the largest business, Millicom is rapidly closing in on Home + B2B revenue of 50%. Within the remainder, which is essentially B2C Mobile, the higher quality “mobile data” subsegment will increasingly be a large portion of overall Mobile (with voice and SMS shrinking).  With Home growth rates >10%, B2B in the high single digits, and B2C Mobile positive low single digits, we should continue to see accelerating revenue trends. This growth will stabilize in the MSD range, as the faster growing portions become a larger and larger part of the mix.

Supporting that growth is the aforementioned large and high returning organic “build and penetrate” opportunity.  Unlike in the US and developed Europe, where passing homes often costs >$1000/home, in Millicom’s markets it costs <$100.  Even with commensurately lower ARPU, Millicom is generating >30% unlevered stabilized yields on new builds.

Millicom is passing these homes with first-world HFC/Docsis 3.0 infrastructure, creating a long monetization runway to drive those yields much higher over time.  Millicom’s infrastructure supports speeds like you can get in the US, but currently sells most customers 5-10mbps. As these economies grow, Millicom will be in the pole position to continue to serve customers’ growing needs, gradually increasing existing customers’ speeds for many years with limited incremental CapEx. This scalable infrastructure offers an incredibly bright future for market leaders with quality assets.

To understand the scope of the opportunity in front of Millicom, I’ve included penetration rates from Millicom’s recent Nasdaq listing presentation.  These are poor countries, but that also means the runway is long and the competition is less meaningful.

Millicom has been capitalizing on this by passing 1 million homes with HFC per year (probably closer to 1.2 million in 2018) and simultaneously executing a massive 4G buildout.  As of YE 2018, Millicom should have around 10mm HFC homes passed. Combined with its 4G push, Millicom’s rapidly growing data-centric customer base is much higher quality than Millicom’s legacy business of prepaid voice and SMS.