Why 3G Has Failed To Boost China Mobile’s Earnings

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China Mobile

China Mobile (NYSE:CHL), the world’s largest mobile operator, reported an insignificant 1.5% increase in its net earnings for the first half of 2013, as its 3G potential continued to remain underutilized on account of deploying an unpopular and largely incompatible proprietary TD-SCDMA 3G technology. With less than one fifth of China Mobile’s subscribers using the faster 3G network, wireless data revenues contributed only 16.6% to the carrier’s telecommunication service revenues in H1 2013. The lion’s share of China Mobile’s revenue still comes from the traditional mobile telephony services such as voice & SMS, which have faced increased pressure from Over-The-Top (OTT) applications like WeChat. [1]

China Mobile has consistently lost market share to rivals China Unicom (NYSE:CHU) and China Telecom (NYSE:CHA) as the two comparatively smaller carriers with their respective iPhone deals have been much more successful in catering to the explosive data demand. However, China Mobile has been battling hard to revamp and revitalize its data business by focusing on 3G handset availability, and TD-LTE as a solution to its TD-SCDMA struggle. The carrier’s efforts have begun to yield results as wireless data revenues have picked up a strong growth momentum on the back of rapid increase in 3G subscribers over the last couple of months.

We have a price estimate of $60 for China Mobile’s stock.

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3G Subscriber Growth Picks Up

China Mobile’s 3G subscriber base of about 140 million is the largest in the Chinese telecom industry, but in terms of 3G penetration, it is still below the 20% mark. In comparison, rivals China Unicom & China Telecom have 3G penetration of around 40% and 50% respectively. However, in recent months, China Mobile’s 3G subscriber growth has gained traction with improved supply and wider choice of TD-SCDMA mobile phones, resulting in strong growth for the carrier’s wireless data revenues. [2]

For the six months ending June, 2013, China Mobile added around 50 million 3G subscribers, thereby registering an impressive 300% growth as compared to the same period last year. As a result, wireless data revenues increased by 62.2% in the first half of 2013. More 3G subscribers and higher data revenues have been propelled by 3G device sales, as China Mobile sold 66 million TD-SCDMA mobile phones in H1 2013. China Mobile now has around 595 TD-SCDMA mobile models available for its subscribers. In addition, the carrier also launched two self-branded TD-SCDMA smartphones. [1]

However, growth in 3G has come at a cost. China Mobile’s profitability (as measured by EBITDA margins) has taken a hit due to higher smartphone subsidies and increased cost of network expansion. The carrier’s cost of products sold, which represents the cost of handsets sold, has now increased to 10.1% of China Mobile’s operating revenue as compared to 6.7% in H1 2012. This highlights the increase in the subsidy impact for the carrier. Going forward, we forecast a decline in China Mobile’ profitability as it would most likely dole out huge smartphone subsidies for promoting its 4G TD-LTE network. [3]

4G Preparations In Full Swing

As China Mobile’s TD-SCDMA network has largely struggled to deliver results, the carrier has set its focus on commercialization of the 4G TD-LTE network, which is undergoing pre-commercial trials as of now. China Mobile plans to build more than 200,000 TD-LTE base stations covering around 100 cities by the end of this year. The company incurred a capex of RMB 57 billion in H1 2013 for its network expansion, as compared to the budgeted capex of RMB 190.2 billion for the full year 2013. Capex spend will accelerate once 4G LTE licenses are issued, which are expected to be issued by the year end. [3]

China Mobile is closely working with suppliers and manufacturers to make sure that there is an ample number of smartphones available soon after it launches 4G LTE services. The carrier has already launched 25 TD-LTE trial devices with more than 100 models currently under development. China Mobile’s TD-LTE network is unlikely to face incompatibility issues as it has been widely adopted globally and has received greater support from chip-makers and handset manufacturers in comparison to TD-SCDMA. (see China Mobile Readies For A Massive 4G Launch) With traditional mobile services declining and 3G far from realizing its potential, China Mobile’s future growth increasingly hinges on the success of its 4G foray.

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Notes:
  1. 2013 First Half Results, China Mobile [] []
  2. 3G subscribers, China Mobile []
  3. Interim Results Presentation, China Mobile [] []