Telstra Corporation Limited - Essay Example

Telstra Corporation Limited Introduction: Company Profile Telstra Corporation Limited is the largest player in the Australian telecommunication and information services industry. The company’s holds the largest market share in the country’s mobile market (45%) and 41% of the local broadband reach. The company’s wide product line ranges from the provision of basic access services which involves installing, renting, and maintaining connections between customer premises and public switched telephone network to local and long distance telephone call services, mobile telecommunication services, and data and internet services. Aside from the aforementioned services, it is also involved in the provision of cable distribution and management of business information technology or telecommunication services. The company also provides wholesale services to other carriers, carriage service providers, and Internet service providers (Telstra Corporation Limited 1). The company has made its IPO (initial public offering) in 1991. Currently, the company is under joint public/private ownership, with the Australian government holding 51.8% of its share as of the mid-2005 (Telstra 1). The privatization of Telstra has begun in the late 1990’s by the coalition government. However, full privatization which would mean divesting all the government’s shares had been blocked until the 14th of September 2005. Current Issue: The True Value of Telstra Corporation Limited stocks The true value of the company’s stock is currently under hot speculation from the different industry players. Experts assert that the company’s stock is overvalued as some financial information were revealed to the government, the company’s largest stakeholder yet remained concealed to the remaining 1.6 million shareholders. The company had allegedly borrowed US$500 million from its reserves to cover its dividend payout in 2005 and another US$2.5 billion for its dividend obligations in 2006. It was also reported that the company needs a minimum of US$3 billion cash outlay in order to rehabilitate its faulty lines. This investment is necessary as Telstra Limited Corporation had not been making investments to maintain its lines (Haynes 20-21). This information significantly affected the value of the telecommunication giant as investors become wary of the true performance of the company and its future directions. During the first week of September, the market value of its stocks plunged to its lowest in two years. Stock prices further dipped reaching $4.00. Risk and Return History of Telstra Corporation Limited After its IPO in 1997, Telstra Corporation Limited has become a profitable investment in security, giving healthy dividends to its shareholders. It can be noted that the company allocates 70% of its total earnings for the fiscal year to pay its stockholders. Also, the company’s dividend rate is pegged at 60-70%. This was further raised during 2003 when the management decided to raise this percentage to 70-80%. Business Risk of the Telecommunication Industry (including the role of government regulation) Business risk is defined as “the risks associated with the unique circumstances of a particular company, as they might affect the price of the company’s securities (Business Risk 1).” Like other major industries, the telecommunication sector is significantly affected by almost all the macro and microeconomic variables in the economy. Stock prices are typically dependent on the level of interest rates, earnings, dividends and other information which are present in the securities market. These variables are the major and basic factors affecting the business risks of the telecommunication industry as they are used in the stock valuation techniques employed by individual investors. However, there is also a significant level of business risk associated with the changes happening inside the telecommunication industry. As the economy is facing rapid technological developments, innovations in the provision of telecommunication services are inevitable. In particular, the Australian telecommunication industry is restructuring as evidenced by the new products present in the market like the broadband technology. This in turn leads to product commoditization, especially in voice communication (Sainsbury 6). This development affects the performance and profitability of the industry players and becomes reflective in the prices of their stocks. New trends encourage speculation in stock prices which is a huge factor in stock price formation. Major players in the Australian telecommunication industry took advantage of the boom in the sector. As telecommunication services became a necessity in urban and rural areas, profit driven corporations have established their presence to capture these markets. However, as the other players choose to operate in more lucrative market niches, Telstra Corporation Limited is mandated by the government is required to “provide basic telephony to all customers in all geographic locations (Telstra Accuses 5).” This limits their productivity as more profitable markets are already covered by other companies, leaving Telstra Comporation Limited with less lucrative ones. This has significant implication in the income level of Telstra and investors take this information to asses the value of the stock offered by the company. Investment Strategy The investment strategy of a company is often indicated not only by the amount of capital it allocates for the acquisition and maintenance of its resources but is also indicated by the type of investments it has in its portfolio. The portfolio of Telstra Corporation Limited is comprised of different ownership in diverse industries. The company is involved in the following industries—book and other publishing, non-building construction, wholesaling of electrical and electronic equipment, retailing of domestic appliance, electronic shopping and mail-order houses, wired telecommunication carriers, mobile telecommunication carriers, telecommunication retailers, internet service providers, other telecommunication services, financial asset investors, information storage retrieval services, computer consultancy services, and advertising services (Company Details 2). The company’s involvement in these diverse industries gives an impression of the company’s attitude towards investment. Telstra Corporation Limited’s portfolio is diversified so as to distribute business risks. It follows the investment strategy of “not putting all your egg’s in only one basket.” Somehow, this is a good way of lessening possible risks as it is impossible that all these industries will default. However, there is also an issue that the Telstra Corporation Limited has not been allocating financial provision for its lines. This worsens the performance of the company as these poorly maintained faulty lines become inefficient assets, leading to poor services to customers and lower revenue. These faulty lines will also affect the company’s performance in the long run and will necessitate a higher cash outlay to fix them. Finance Strategy Finance strategy refers to the way a company secures financing needs for its resources. There are two main providers of finance—creditors and stockholders. Resources backed by shareholders are deemed less risky than those provided by the creditors. Two sources provide the financing needs of the company—creditors and stockholders. At the end of March 2005, Telstra Corporation Limited records a total of AuD$2.6 billion in total assets which is shared by liabilities and equities. As of the stated date, more than 48% of the firm’s resources are provided by creditors, while the remaining 52% are sourced from stockholders. This highlights the preference of the company to utilize less risky source of financing. However, it can be seen that during the past two years (2002 and 2003), the company registered a more leveraged position as debt holds a larger share of the assets. During 2003, the share of creditors in the company’s asset is 51% and even reached 58% during 2002 (Financials 2). The reduced contribution of creditors in the company’s contribution signals a preference for a more stable financing strategy. However, it greatly exposed Telstra to higher risks of investor speculation. Dividend Strategy Telstra Corporation Limited is known for allocating hefty amounts of dividend for its stockholders. Aside from the fact that company is the market leader in the Australian telecommunication industry, the shares of the company attract investors due to their high expected returns. The company has a policy of allocating 70% of all its earnings as dividend payouts for the fiscal year. The company pays dividend at a rate of 60-70% and further upgrade it to 70-80% during 2003 (Boredwalk 3). This huge allocation for dividend is the company’s strategy of sustaining the attractiveness of their securities as well as to compensate investors for capital losses. However, this strategy is not suited for the company as the growth of its income is significantly lower than the growth in its dividend. It can be noted that company is not capable of sustaining this type of strategy as it needs to source funds from its retained earnings to cover all the dividends pay-out. The strategy is also deceptive as it does not fully reflect the real value of stocks in the market. The stock is overvalued as dividend pay-outs, which is seen as stockholders as an indication of the company’s healthy financial performance, does not reflect the true financial situation of the Telstra Corporation Limited. This is harmful for the company in the long run as inability to pay exposes the company to more business risks. Or worse, it can lead to bankruptcy as stockholders are informed about the real value of their stocks. Governance of Telstra As the government holds the largest percentage of ownership in the company, it also manages and controls the future directions of the company. However, there arises a conflict about the priority of Telstra Corporation Limited. There would be a significant difference in the company’s management should it be privatized. Currently its services are seen as public goods provided by the government to its sovereign. Privatizing the company would change its goals from national service provision to profit maximization. It was stated above that Telstra is currently mandated to provide service to all people in all geographic locations no matter the profitability of these markets. As the sole owner of Telstra Company Limited, the government can also issue orders which will be beneficial to it. An example is the hefty level of dividends provided for the stockholders. As the main shareholder, the government skims around US$92 billion annually from the operations of Telstra Company Limited. Conclusion: Telstra’s Stock Price is Overvalued From the above evaluation, it can be concluded that Telstra Corporation Limited’s securities are overvalued as the price formation process was not able to incorporate significant information which would reflect the true value of its shares. For one, the advent of new communication technology will lessen the share of Telstra Corporation Limited in the Australian telecommunication industry. It should be noted that the largest portion of the company’s income is generated from its fixed line sector. However, experts forecast that future growth will come from communication through broadband technologies. The company’s earning is declining, yet dividends are paid out to indicate a healthy financial position. To make things worse, these dividend pay-outs were generated from the company’s reserves. Another flaw in the company’s dividend strategy is raising the percentage of dividend pay-out when income is declining. The dividend pay-out system should be consistent with the growth in revenue to reflect the true value of stocks. The financial strategy of Telstra Corporation Limited of securing financing from its stockholders exposes its stock price to speculation which could hurt the company in the long run. The dip in the stock price of Telstra Corporation Limited is just an adjustment mechanism to reflect the true value of the securities. Works Cited Boredwalk, Don. “Coke Joins the Rising Dividend Club.” Crikey. 2005. Crikey. 05 Oct. 2005. “Business Risk.” Investorwords.com. 2005. Webfinance, Inc. 05 Oct. 2005. “Company Details Telstra Corporation Limited.” IBIS World. 2005. IBIS World. 05 Oct 2005. < http://www.ibisworld.com.au/car/detail.asp?enterprise_id=5> “Financials Telstra Corporation Limited .” IBIS World. 2005. IBIS World. 05 Oct 2005. < http://www.ibisworld.com.au/car/financials.asp?enterprise_id=5> Haynes, Rhys. “Telstra Shares Touch New Low.” AAP News. (2005): 25 pars. 05 Oct. 2005. Sainsbury, Michael. “ Telstra Sinking.” Australian IT. 28 Sept. 2005: 20 pars. 05 Oct. 2005. “Telstra Accuses Competitors of Cherry Picking.” RWE Australian Business News. (2005): 5 pars. 05 Oct. 2005 “Telstra Corporation Limited Company Profile.” Yahoo.com. 2005. Yahoo! Inc. 05 Oct. 2005. “Telstra.” Wikipedia The Free Encyclopedia. 4 Oct. 2005. Wikimedia. 05 Oct. 2005. Read More