Long Distance: China Unicom has a lot of work to do before it can be regarded as an attractive investment
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IT'S HARD TO UNDERSTAND why
anyone would want to invest in China
Unicom, especially after scanning the
prospectus that accompanied its listing in
Hong Kong in June. Although most
analysts greeted the company's initial
public offering with euphoria and
predictions that its shares would
outperform the market, it's now hard to
share their enthusiasm. Indeed, a close
reading of their own reports suggests the
negative argument is the more compelling
one.
Unicom encapsulates all the perils and
myths of investing in mainland China,
including the illusion of size, the dangers
of an uncertain regulatory regime and the
weight of a negative track record. On top
of all that, China Unicom's business plan
is untested, the company's debt
overwhelms its fragile cash flows and it
faces diminishing prospects as its
protective administrative umbrella yields
to nastier, more competitive forces.
MYTH AND REALITY
China may well be a nation of 1.3 billion
potential cellphone addicts; indeed, the
government appears to have made
getting the population hooked a national
target. On the surface, then, any telecoms
company active in China is looking at a
vast market, one that is already the
biggest in a region that is badly
fragmented. But the Chinese market, too,
is fragmented. And the very fact that the
government wishes its citizens to have
mobile phones means that it regulates the
prices at which telecoms companies can
offer their services--keeping them
attractively low.
China Unicom has always operated in a
grey area. Even after the Ministry of
Information Industries decided to adopt
the company as its vehicle to move away
from a monopoly situation, it has suffered.
According to its prospectus, for example,
the company will spend more than 1
billion renminbi ($120 million) this year to
compensate foreigners for the termination
of business arrangements that were never
officially approved. Foreigners who dealt
with Unicom in the past have not had
happy experiences.
Unicom is the only telecoms company in
China that's authorized to provide a full
array of services. But even its own
prospectus concedes that its rival, China
Mobile (Hong Kong), has "more
favourable geographical coverage,
greater financial resources and more solid
brand recognition."
Recently the MII has allowed Unicom to
undercut China Mobile's prices by
10%-20%. Even so, the only division in
Unicom that has been profitable is its
paging operation, a sunset business that
doesn't have much competition. And what
the ministry gives it can just as easily
withdraw, even before entry into the
World Trade Organization casts doubt on
such artificial supports.
In addition, the economics of Unicom's
business as a whole are far less attractive
than those of China Mobile. For a start, its
cellular subscribers on average spend
22% less than China Mobile's
subscribers. The gap is expected to
widen. China Mobile's earnings per
subscriber are expected to be as much as
twice China Unicom's over the next three
years, according to Jake Lynch, a
telecoms analyst at Jardine Fleming in
Hong Kong.
Unicom also has trouble getting its
subscribers to pay up, according to its
prospectus. From 1997 to 1998, its
accounts receivable doubled to more than
600 million renminbi while net income fell
about 40% to 372 million renminbi. In
1999, accounts receivable rose to almost
900 million renminbi.
It will take Unicom five years to recover
the costs of building out its mobile
network, compared to two years for China
Mobile, according to Lynch of JF. But
Unicom's cash flows and the money it
raised from its public equity offer aren't
nearly enough to finance its costs--it
plans to spend 100 billion renminbi by
2003. That means today's investors can
look forward to substantial dilution of their
interests. "China Mobile is the growth
story in China," says Lynch. "The gap
between the two will expand."
BOOM IN EQUITY ISSUES
That, however, is not exactly a ringing
endorsement of China Mobile. Although
the company has a more affluent
customer base than Unicom, its revenues
per subscriber are falling rapidly. And the
supply of telecoms stocks is about to
grow massively.
Lynch estimates that Asia, excluding
Japan, will see $30 billion-worth of new
telecoms equity issues soon, with the bulk
of that coming from China. Some $27
billion of new telecoms equity is expected
in Japan. In early October, when China
Mobile announced it was acquiring
additional urban and provincial operations
from its parent, China Telecom, its shares
rose. But when investors digested the
details of how the listed company would
pay for the expansion--massive new stock
issuance and a bond offer--the shares
sank.
So even if everyone in China did sign up
for cellphones, many of them would have
to sign up for shares too before demand
and supply begin to come into balance. |
