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DoCoMo: Growth Stock or Utility?
2005-07-17
International Herald Tribune

http://www.blackenterprise.com/yb/ybopen.asp?section=ybbf&story_id=76045397&ID=blackenterpri....

Atsuo Takahashi, a telecommunications analyst, recently purchased a cellphone from NTT DoCoMo. He likes the Motorola-made handset that lets users browse the Internet on its wide screen.

Because the new phone, the M1000, can reach the Internet like a PC does, it comes without one popular feature that has been ubiquitous on DoCoMo's phones: i-mode, a highly profitable Internet service repackaged for mobile phones that costs its 44 million subscribers 300, or $2.65, each a month. Subscriber growth is slowing in Japan, putting a cap on expansion. And as the government moves to award mobile licenses to two eager entrants, opening the door to new competition, analysts like Takahashi, who follows DoCoMo for Mizuho Securities, fear that the giant that once seemed to control the future of the mobile world in Japan could be losing its dominance.

"DoCoMo has lost a measure of control over its own destiny," said Kirk Boodry, a telecommunications analyst with Dresdner Kleinwort Wasserstein in Tokyo.

Led by DoCoMo, the largest Japanese mobile carrier, with a total of more than 50 million subscribers and close to 55 percent of the country's mobile phone market, the entire Japanese wireless industry is undergoing a radical transformation.

When new operators join the market, Takahashi said, Internet service providers could work with them to offer mobile Internet and a PC-based service as a single package, "and users will have one mail address for mobile and PC." Besides, new rivals can offer cheaper phone and data services and erode the margins of existing players, analysts said. And that, along with slowing subscriber growth, has crushed DoCoMo's share price.

Like the shares of many other technology companies in the world, DoCoMo shares rose sharply during the technology bubble in 1999- 2000. Unlike its peers, whose shares dropped precipitously amid the collapse of the technology bubble, DoCoMo's shares went through a long and steep decline over the past five years, leaving them still down more than 80 percent.

Now, opinion is divided between those who say the share price has fallen enough to become attractive and those who say it has not. At the height of its growth in early 2000, DoCoMo was the most valuable Japanese company, with a market capitalization of 43 trillion. Its subscriber base was growing by leaps and bounds, and its revenue was rising sharply, and with the spread of the i-mode service, which was gathering tens of millions of users, DoCoMo seemed to rule supreme.

But the collapse of the technology bubble in 2000 was followed by a dramatic slowdown in the net increase of subscriber numbers. Then came a decline in average revenue per user, a closely watched gauge of performance for mobile carriers, and then a fall in revenue and profit. In DoCoMo's 2004 fiscal year, revenue fell 4 percent to 4.8 trillion, while operating profit fell 29 percent to 784 billion. The shares have drifted even further down recently, as the company faced the prospect that Softbank and E-Access, an ADSL operator, will win the newly allotted mobile licenses from the government and may enter the mobile market as early as 2006. The government is also introducing a number portability system, likely to be put in place next year, allowing subscribers to switch carriers without changing their phone numbers, which may heat up competition even more. DoCoMo shares now trade at around 13.8 times forward earnings, according to estimates by Merrill Lynch, and around two times its net asset value. They offer a dividend yield of 2.34 percent, much higher than the Tokyo Stock Exchange average of 1.2 percent.

But even at that valuation, Boodry of Dresdner Kleinwort Wasserstein said, DoCoMo shares probably have not fallen enough. He has a "sell" recommendation with a target price of 150,000 on the stock. DoCoMo shares closed at 171,000 on Friday. Takahashi of Mizuho Securities said the market was skeptical of DoCoMo's ability to deliver growth, as its mainline voice and data services have reached a plateau or are in decline. "While revenues shrink, their costs are rising," he said, citing capital investment for third- generation, or 3G, networks and handset subsidies given to retail stores. "At a time when they are trying to increase sales of pricey 3G terminals, cutting down on subsidies is difficult," he said. But despite the grim scenarios, some investors are quietly buying DoCoMo shares, driven by a new perspective on the company.

One such investor is Masayuki Kubota, a senior fund manager at Daiwa SB Investments in Tokyo. He said that DoCoMo should not be seen as a growth company or a technology play but as a company that earns steady cash and pays it out to investors, like an electric power company slow or even no growth, but offering a solid floor because of the yield.

Kubota and other yield investors argue that the similarities with utilities are clear: Both phone carriers and utilities own and operate huge equipment, earn steady cash flow and have a measure of protection from casual competition. "When it comes to financial strengths, DoCoMo is far superior to power companies," Kubota said.

While DoCoMo piles up hundreds of billions of yen each year in profit and builds up its equity base it now has a debt-to-equity ratio of 1 to 2 Japanese electric power companies are highly leveraged. Tokyo Electric Power, Japan's largest electric power supplier, has a debt-equity ratio of 4 to 1 and a dividend yield of 2.26 percent.

DoCoMo has been spending 800 billion to 1 trillion annually on equipment, Kubota said. "Reducing that capital spending alone results in a tremendous excess of cash each year," he said. And that comes on top of the hundreds of billions in profit that DoCoMo earns annually, he added.

DoCoMo has said that once its 3G capital investment is completed in a few years, its current level of capital spending, about 800 billion annually, will start to decline. Besides, the threat of new competition may be overblown, some analysts say. Yasumasa Goda, an analyst with Merrill Lynch in Tokyo, said it would be difficult for any carrier to operate on revenue below 6,000 per user because the need to spend on things like equipment, advertising and personnel expenses makes a cheap phone service a difficult proposition. Vodafone KK earns 6,000 per user a month, according to Goda's estimate, and is struggling to survive, while DoCoMo and KDDI register 7,000 per user. The revenue threshold is critical, given that existing carriers spend 1,500 to 2,000 per user to market and to subsidize handsets.

Naoki Fujiwara, chief fund manager at Shinkin Asset Management in Tokyo, also questions the viability of carriers with cheaper services. "Even Vodafone KK is having a hard time in the market," he said. "I don't believe you can compete with DoCoMo and KDDI based on cheap services."

Fujiwara, who runs a Japanese equity fund that focuses on dividend yields, said he recognized that most telecommunications analysts in Japan were negative on DoCoMo shares, which he said boded well for value investors. "Share prices are developed based on that negativity," he said, adding that this negative perception has peaked. "It will probably not fall further from the current level."

The sagging DoCoMo shares have prompted the company's management to come up with a series of investor-friendly moves recently.

Once a low-yielding share, DoCoMo raised its dividend from 1,500 a share in its 2003 fiscal year to 2,000 a share in 2004 and it announced in June that the payout would be doubled this year. DoCoMo has also returned some of its accumulating cash pile to investors in the form of stock buybacks. In 2003, it repurchased 395 billion worth of shares, and in 2004, the company bought back 425 billion. This year, DoCoMo said it would buy back as much as 500 billion of stock. DoCoMo has been planting the seeds of growth, incorporating features like chips that turn handsets into electronic wallets. The Felica chip, as it is called, is embedded in more than three million 3G handsets. DoCoMo has also sunk nearly 100 billion into buying a 34 percent stake in a credit card company, Sumitomo Mitsui Card, with plans to incorporate credit card functions into these phones.