Abaci's Common Sense Investing

This comes later than usual because I was waiting for the annual report of PCCW, not because I was expecting something groundbreaking to be said by Richard Li but rather a better breakdown of the segmental figures. However in the end I found there's none and the information there was just as convoluted.

(previous analysis at http://abaci-investing.blogspot.com/2007/02/pccw-8-now-is-time.html for the unfamiliar)

The item I was curious to know more was $600m of unallocated expenses, which was quite sizable considering its mysterious nature and that 2006 pre-tax profit was only $2.5b. The weird thing was that there was no such item in the interim report, i.e. somehow all unallocated expenses found its ways into the different business segments at interim, and then reappeared as unallocated in the annual report.

Earnings were down from $1.9b to $1.6b. Management's explanation was lower investment income and disposal gains. There was no elaboration and the slightest hints I picked up were the $100m derivative loss (vs. $300m gain last year) and $150m lesser disposal gain last year. I had no way to know which way these items will show up next year so I take it'll be same this year. Fixed line and internet business was flat or in nicer term consistent. NOW and PCCW mobile provided much of the bleeding. The consulting arm on the other hand was a surprise turnaround. Interest cost as expected did drop by $200m as higher cost debt were refinanced and interest income increased by $200m as well.

I'm not concerned about the prospect of NOW as I'm sure the EPL license will bring in sufficient subscribers to cover the costs. Many of us have had enough experience with Cable TV's lousy picture and customer service. I don't see there's any other killer programming to stop this migration. Knowing the habit of our fellow honkies, the switching should occur at the last minute and at the same time in September. I read that some equipment will be upgraded to broadcast matches in HD, if it's true it'll draw an even larger crowd. Just 350k new subscribers to the sports channels (less than half of Cable TV users) at $179 a month will bring in over $750m revenue a year, even though the license alone will cost some $500m a year.

I have lesser comfort in PCCW mobile, for mobile market is too crowded and no one is earning decent income. In fact the mobile division was the loss leader, increasing from $126m in 2005 to $700m last year, albeit $500m of it was depreciation, amortization and interests. My expectation of lower costs from consolidating Sunday and PCCW outlets and staff didn't happen yet in 2006, but I'm sure it'll take place this year as increasing revenue (vs. cost cutting) will be a more difficult task. I'll stick to my previous guess of $200m saving for this year.

Earnings excluding PCPD and amortization this year may be $1.6B-1.8b so recurring p/e is 16-18x, not attractive enough if you are an income collector. I hoped PCCW would go into a quiet debt reduction mode which would grow the company value internally. But looking at the recent developments it looks like big cash will always be spent and there will always be deals, buy or sell, to make the headlines to entice buyers for PCCW. So I've changed my view and labeled PCCW as a pure M&A play, meaning it isn't exciting and you won't know when it'll happen. The good thing is it'll hold its value against general market fall.

DISCLOSURE: I hold 8 at time of writing.