Hi Markco,STILL A THIRD TIER CARRIER:The reality for MAQ is that...

Hi Markco,


STILL A THIRD TIER CARRIER:

The reality for MAQ is that its destiny lies in an industry consolidation play, rather than as a standalone 3rd (emerging 2nd) tier carrier.

That said, MAQ should not end up as a casualty of industry consolidation, but rather, either as a driver, or a determinant, of that consolidation taking place. However, unless this occurs, it is unlikely that MAQ will secure the sort of growth that will be required of it to become profitable in the future.


BACKGROUND:

From an industry background perspective, MAQ is a city based, managed telephone company which packages and sells telecommunications’ solutions switched across a hybrid network comprising MAQ switches, some related network infrastructure, and the PWT fibre optic network.

MAQ has switching exchanges installed in Sydney, Brisbane, Melbourne, Canberra, Adelaide, Perth, Hobart, Launceston, Morwell, Albury, Griffith, Townsville, Rockhampton, and Newcastle.

MAQ also holds a carrier’s licence in Singapore.

MAQ’s target market is corporate Australia, and the Government sector (various States,
and Federal). In this segment, it competes (from a 3rd tier perspective) with PWT (and in the CBD areas, with UEC).


REVENUE SNAPSHOT:

2 years ago, MAQ was generating ~$194m in annualised revenue, a gross profit of $31m, and a net profit of $9m. At the time, MAQ was also spending $14m in CAPEX, and had $47m in cash, with no debt (at 31st December 2000).

Last year, however, MAQ’s position worsened, despite boasting an improving revenue outlook. With $219m in revenues, and a $30m gross profit, MAQ still lost $14m on the full year, saw its cash position (net of debt) deteriorate, and managed a blow out in its CAPEX bill to $36m (or 17% of sales).

For FY02 (to be reported shortly), it is likely that MAQ will have recovered some of its earlier lost ground, with revenue likely to approximate $235m.

Elsewhere, MAQ is also likely to report a stablising cash position (circa $30m), and minimal to nil debt. It is, however, unlikely that MAQ will generate a profit this time around. Early estimates of the FY02 loss approximates a net loss of $12 –15m occurs (despite a gross profit of $34m).


BUSINESS WRITE-OFFS:

Earlier this year, MAQ took a $10m “non-cash” charge against its data hosting facility located at Morwell (completed in August 2000). Whilst the scale of this writedown reduced the carrying value of the Morwell facility to $16m, MAQ made much of the charge being “non-cash” in nature. This, however, defies the fact that:
1)
Previously CAPEX was committed to the Morwell facility which less than 18m later was being written down (ie: value justification difficulties);
2)
the “non-cash” charge previously represented an expenditure of cash; and
3)
MAQ’s overall NTA positioned was worsened by the result (not enhanced).

Whilst it is unlikely that any residual writedowns of this facility will be announced as part of the FY02 results, further write-downs during FY03 cannot, at this stage, be discounted.


FUTURE DIRECTIONS:

FY03 revenue prospects (in the absence of industry consolidation occurring) is for revenue to flatten out at sub-$250m (circa, $245m). Margin contribution, and overall profitability should improve, with MAQ approximating a breakeven position in FY03. But, as a continuing 3rd tier carrier, MAQ will struggle to earn a sufficient capital return, to move much beyond this position, unless it redresses its:
1)
lack of operational scale; and
2)
lack of control over its revenue base.

In other words, going forward, PWT will be a marginal profitability prospect, if current operating conditions are maintained.

The struggle for MAQ, therefore, will be how to grow its business in FY03, whilst struggling to secure more control over its end-to-end service delivery process.

Unlike the 2nd and 1st tier carriers, MAQ lacks the network infrastructure to provide a complete end-to-end service delivery experience. To secure this in a virtual environment, MAQ relies on switching most of its voice traffic via PWT’s network. This, however, raises questions over:
1)
MAQ’s longer term margins (which are continuing to fall, as scale is built);
2)
MAQ’s ability to control network costs (the most significant input element of the overall network cost equation); and
3)
MAQ’s ability to generate adequate customer returns whilst lacking, in most instances, direct customer connections /interfaces.

Unless MAQ can either build scale through its own network proposition (unlikely), or can offer superior value added customer service to its connected customers (unlikely, particularly as a significant differentiator of service), then it is likely that MAQ will seek out a consolidation option in order to build its future business prospects. However, the big question mark over MAQ will be whether it will lead, or follow, the consolidation process.

On past experience, MAQ is unlikely to lead the consolidation process, preferring instead to wait for the opportunities to emerge. But, with only $30m in net cash available, MAQ’s likely consolidation options will involve (or require) a merger of equals, rather than domination of a few. In that regard, the main risk to MAQ’s outlook will be determining mutually acceptable merger terms, and sharing the benefits of consolidation.

The obvious merger /consolidation prospect for MAQ will be PWT.

Already, MAQ has a strategic alliance agreement with PWT which works as a preferential supply agreement allowing for MAQ’s voice traffic to be switched via PWT’s network. In addition, PWT has a 10% equity stake in MAQ.

With both MAQ and PWT competing in the same customer universe (ie: for corporate contracts), operational synergies could be achieved through MAQ and PWT getting together.

With the Williams Communications Group a likely seller (either directly, or as part of a consolidation option), and with CKI now controlling Citipower, which through its 1/3 controlled Downtown Utilities, also controls 30% of PWT, the synergies of a possible MAQ /PWT consolidation are there to be had.


SO, WHAT ARE MY VIEWS?:

For so long as the Tudehope’s remain in control, MAQ will attempt to go it alone.

But, unless MAQ can secure substantial new business which overcomes its obvious business limitations (ie: lack of end-to-end customer control), then MAQ will struggle to become profitable in the future.

Any further deterioration in the wider telecommunications industry will also call into question the adjusted carrying value of the Morwell data hosting facility.

So, the future may well be sub-optimal for MAQ, on a standalone basis (ie: marginally profitable, but with no real growth prospects in store).

Measured against all this, however, is the fact that MAQ is one of only 3 3rd tier carriers which is currently generating revenues in excess of $100m. So, from an industry consolidation perspective, MAQ’s continuing presence in the industry cannot be ignored.

I, therefore, doubt that MAQ will be a leader in the consolidation process (ie: it lacks the scale, financial capacity, and depth of presence to secure aggregator status).

But, it will act as a cornerstone to consolidation taking place (ie: a consolidation play initiated elsewhere which incorporates MAQ as a target).

Of the cornerstone option, 3 scenarios abound:
1)
the PWT powerplay, through Downtown Utilities (or through CKI) moving to grow scale through merging with MAQ – with a simultaneous exit for Williams Communications (most probably, to CKI or HWL);
2)
the Primus variant (with the locally unlisted arm of Primus telecommunications opting for a reverse takeover of MAQ, and a local listing – with the Tudehope’s emerging as major shareholders in the combined listed group); or
3)
some other form of consolidation emerging through the auspices of the Competitive Carriers’ Coalition (which comprises AAPT, HTA, MAQ, PWT and Primus).

Currently, I favour option 1, followed by option 2.

Tomorrow, I will attempt to post a SWOT analysis on MAQ.