SES S.A. is an abbreviation for Société Européenne des Satellites. SES is a holding company based in Luxembourg offering satellite communications services globally through its subsidiaries. The company offers services for cable television networks, Internet access, corporate networks, network facilities, telecommunications services, and audiovisual broadcasting serving corporates and governments.
I bought into SES in December 2017 based on a promising top-level valuation (dividend and FCF yield), but I never did a proper DCF analysis. On March 2nd, 2020, shares of SES fell about -30% after releasing 2019 results and a lower guidance for 2020. So, its about time to value SES properly and to see if it is currently an attractive value proposition.
- IR Website
- Consolidated Financial Statements FY 2019, 17mb (FS 2019)
- Annual Report 2019 (AR 2019) was published
- Investor Presentation FY 2019 (IP 2019)
- O3b mPOWER Insight Paper
- about o3B mPowerTechnology
Cash is King Once More
Cash is king, this became obvious during the last few weeks once more. Even the best companies with best in class long-term profit potential must first survive to earn that future cash. So, how fares SES on that front?
SES had cash of 1,155 m€ at hand (equivalent to 1.1 bn€) according to SESs FS 2019 (Note 19), as of Dec 2019, consisting of
- 400 m cash, and
- 750 m short-term deposits with maturities between one day and three months
Material borrowings coming due within one year (FS 2019, note 23)
- March 2020: Eurobond 2020 (EUR 650 million) 4.625%
(already repayed now)
- March 2021: Eurobond 2021 (EUR 650 million) 4.750%
SES had an undrawn multi-currency revolving credit facility of 1.2 bn€ until 2021 providing flexibility.
- Euribor/Libor +45 bps (at BBB-/Baa2)
- potential step ups if credit rating worsens
I do not expect a looming credit crunch for SES, based on the short-term revenue resiliency and longer-term contract nature of the majority of SES’ business. That notion aside, borrwings became more expensive for SES (as for other companies):
- SES’ yield curve shifted c. 150bps upwards YTD
- borrwings are more expensive now (c. +1.5%-points), than beginning of January
- this shift is not excessive, i.e. Deutsche Telekom AGs shift was about 100bps
- Borrowing EURs for 10 years currently cost SES about 3% p.a.
(back in Oct 2019, SES placed a 500 m€ bond for 0.875%; , p. 65/77)
Quick Fact and Observations
Currently SES struggles to make progress on the following conflicting goals:
- reducing net debt, since current leverage (3.2x) is at the upper bound of proclaimed target range (3.3x Ebitda)
- keeping revenue and Ebitda flat or at least limiting the downside of both,
- CapEx Investments for its O3b mPOWER to enable growth in Networks segment
- Industry: global communication Services, satellites
- Market Cap: 2,455 mn €, with FDR currently at 5.34 €.
- came down dramatically during last 5 yrs (see below)
- Class A and Class B shares, a B-share carries 40% of the economic rights of an A-share. B-Shares come with higher voting power.
- The Fiduciary Depositary Receipts or FDRs are each backed by one A-Share and are listed on the Luxembourg (SESG LX) and Euronext Paris Stock Exchanges (SESG FP)
- Valuation: est. 2020 EPS of 0.42, resulting in a fwd P/E of 12.7x.
- Current Dividend Yield: 7.8%
- based on 40 euro Cents (just approved, payable Apr 23rd)
- ex date is April 21st
- not Long ago, dividend was cut from 0.80 € to 0.40
- Revenue Growth: total revenue growth over the last few years was negative
- with shrinking video segment but a growing networks business
- Profitability: was very high but came down since 2016
Disruption: This historically rather defensive industry, is currently partially disruped and could face long term headwinds from new competitors.
- Media consumption habits have changed. Less linear TV consumption, resulting in less favorable demand/contract terms of satellite services for SES from TV networks.
- In the same time, data connectivity is more important than ever before. Consumers want to be online without interruption, connecting with friends on social networks even being on a cruise or in a plane.
- Corporations are adopting to a new era of working remotely and using data stored in the cloud, accessible any time, from whereever you are (cruise, airplane, in the middle of nowhere). That means, if you have a stable data connection! Today, governments are more dependent on data connections than ever before as well.
- Based on those trends, and the promise of connecting billions of people to the internet (and their services, driving advertising revenue) many big corporations have plans to launch fleets of satellites connecting the people to the internet: SpaceX, OneWeb, Facebook, … . These are potential long term competitors to SES.
SES in more Detail
The following is another (more rosy) description about SES
SES has a bold vision to deliver amazing experiences everywhere on earth by distributing the highest quality video content and providing seamless connectivity around the world. As the leader in global content connectivity solutions, SES operates the world’s only multi-orbit constellation of satellites with the unique combination of global coverage and high performance, including the commercially-proven, low-latency Medium Earth Orbit O3b system. By leveraging a vast and intelligent, cloud-enabled network, SES is able to deliver high-quality connectivity solutions anywhere on land, at sea or in the air, and is a trusted partner to the world’s leading telecommunications companies, mobile network operators, governments, connectivity and cloud service providers, broadcasters, video platform operators and content owners. SES’s video network carries over 8,300 channels and has an unparalleled reach of over 355 million households, delivering managed media services for both linear and non-linear content.ses.com
Equity Structure and Shareholders
A-Shares entitle its owners of higher economic participation and back the listed Fiduciary Depositary Receipts or FDRs. The B-Shares are not traded, owned directly by the State of Luxembourg or indirectly through banking institutions. The ratio between the former and the latter must be held as 2:1.
Performing the DCF valuation I will calculate with a number of effectively outstanding Shares of 457,845,631, resulting from:
- Equivalents of A-Shares Outstanding: 460,149,120
- minus: SES held 4,708,584 FDRs on Dec 31, 2019
- plus: Outstanding SRSUs (858,729) and Shares regarding the LTI (1,546,366) = 2,405,095
Claims on Equity
Read more about this topic here.
According to Note 22 (FS 2019, p 60ff) the Group has four share-based compensation plans, resulting in Claims on Equity. #2 and #4 are accounted for above.
- Stock Appreciation Rights Plan (STAR Plan)
- Simulated Restricted Stock Units (SRSU)
- Equity Incentive Compensation Plan (EICP)
- Long-term Incentive programme (LTI)
I assume (and this is a very rough estimate), a Claim on Equity of c. 16.5 m€, based on the notion that most exercise prices are way out of the money.
Segments and Revenue Composition
SES has two main revenue-generating segments, each one with some sub-segments; (sub-)segment revenue share for FY 2019 in parantheses.
Video Business (62%)
- Video Distribution (75%)
- Europe (50%)
- North America (10%)
- International (15%)
- Video Services (25%)
- MX1 (15%)
- HD+ (10%)
Networks Business (38%)
- Government (40%)
- 60% US Government
(15 agencies, 50 clients)
- 40% Global Government
(29 countries, 58 clients)
- 60% US Government
- Mobility (25%)
- 60% Aero
- 40% Maritime
- Fixed Data (35%)
- Cloud and corporate enterprises
The Video Business is split in two sub-segments: Video Distribution (75% of segment revenue), distributing TV signals via its satellite Network; and Video Services (25% of segment revenue), providing various services to media businesses, via MX1 (managed solution, Distribution platforms) and HD+ (transmitting HD Quality channels in Germany and related sales activity).
The Video segment is coping with long-term declining revenues, since customer behavior is changing: most younger people prefer streaming services vs linear TV. At the same time, media companies try to lower their cost bases accordingly and try to leverage their increased bargaining power after industry consolidation.
Thus, video revenues and margins are pressured in the short-term and will most likely not recover substantially in the long-term. Declines should be stronger in the near future and flatten out longer term, since there is certainly a future for linear TV; especially live events (i.e. sports) and news (reflect yourself during corona). All this despite
- growth in number of TV channels
- increasing share of (ultra) HD
Some positive news: Early April, public broadcaster BVN TV has signed a long-term worldwide distribution agreement with SES.
The second segment provides data solutions tfor governments, telecoms and cruises or inflight. This segment should profit from long-term tailwinds. There are more and more pensioners able to afford a good living. Thus, demand fur cruises is growing for many years and will most probably recover strongly after current corona Crisis (at least this is my guess). Inflight connections are getting more and more important for mobile work (i.e. consultants and executives) and for consumers that must be always on (… probably producing beautiful, filtered insta posts from delicious inflight meals? 😀 ).
Separating this segment is up to discussion, creating two stand alone businesses and creating the optionality to access external capital. I believe in this low-interest environment there could be huge demand for long-term growing infrastructure assets. (But I guess any plans/process came to a sudden end within last two weeks.)
O3b Networks business was acquired by SES in 2016. O3b mPOWER (for more details read the Insight Paper) is to become SES’ second-generation MEO (Medium Earth Orbiter) satellite system and promises to be the future of low-latency satellite-based network services, resulting in a CapEx bump in 2021. It will enable SES to offer a better value proposition to its customers tackling many use cases and act as a differentiator to its main rivals (Inmarsat, Intelsat, ViaSat) for mobility/data services, since they offer services with higher latency. SES states that the first 3 customer commitments have been recently secured (incl. Carnival (cruise), Orange (telco), pipeline building comp.).
O3b faces competitions from SpaceX and OneWeb (offering low earth orbit satellites services) and Eutelsats offering sounds quite similar, but still …
O3b mPOWER will enable SES to capture a tremendous growth potential for seamless global data connectivity services within Networks Business tackling diverse use cases such as …
- enabling customers to change throughput levels quickly or certain events
- tackles maritime use cases with follow the ship capabilities for cruise lines and commercial shipping (beaming to a movable smaller area)
- governmental drones connectivity
- connecting telecom assets for changing data capacity needs
Paul Rusnock, Chairman and CEO of Boeing Satellite Systems International, praises SES and O3b for outstanding technology:
O3b mPOWER is a unique system with exponentially more power, performance and flexibility, which sets the technology at the highest level, offering a visionary roadmap for next generation technology. We are proud that we, together with SES, have jointly developed this unprecedented level of technology integration scalable for all orbits.”(AR 2019, p. 18/180)
On March 2nd, SES reported its FY 2019 results. The market reaction was very negative with -30% that day. After this day, the performace was even more negative until the end of March.
Negative adj. financial development, with Revenue down -3.8%, and Ebitda even worse with -5.5% (operational leverage)
Reported video revenue below guidance
- while perceived as rather resilient
- on the positive side: “Over 80% of the 2020 group revenue outlook already secured”
Financial outlook worsened, with midpoints
- Video: 1,130 m€
- down from 1,225
- Networks: 820 m€
- down from 875
- Ebitda: 1,280
- down from 1,300
- excl. restructuring costs (40 m€) and any impact from C-Band
Total Revenue is slightly shrinking since 2017, about -1.4% p.a. Revenue Mix is changing over time, with Networks Busiess. The Video Business Segment is lossing some relevance vs Networks. The Sub-Segment Mobility is growing strongly at double digits, but still only contributes 10% of total revenue (a fourth of Networks-Segment Revenue), up from a mere 3.5% in 2015.
Margins were elevated until 2016 but decreased afterwards. Especially the Operating margin deteriorated dramatically, this margin is after depreciation and amortisation or D&A expenses as well as Impairment charges (these are very high in SES’ case: 851 m€ in 2019, after 864 m€ in 2018); including 96.8 m€ impairment expenses mainly relating to MX1 and reflecting SES’ more prudent financial outlook
|in mn€ (as rep.)||15||16||17||18||19|
|Cost of sales||183,6||231,0||273,9||285,8||269,1|
SES reports costs as above. In Note 4 (FS 2019) SES describes the cost categories in more detail:
- Cost of Sales (COGS) should vary directly with revenue as it consists of rental expenses for third party satellite capacity (25%), customer support costs (15%) and other costs.
- This leads me to model a Gross margin at a level slightly below average of last three years at 85% in 2020, reversing to historic average
- Staff costs (incl. share-based payments expenses and restructuring charges) would likely act as negative leverage with declining sales.
- I model staff costs with a slight upward trend in expenses per FTE, with slightly falling number of FTEs in 2020 based on restructuring charges (c. 40 m€), see guidance) going forward
- Other costs are rather uncorrelated to short term revenue and include
- office related and technical facility, in-orbit insurance, marketing, general and administrative, consulting charges, travel-related, provisions for debtors.
- Marketing, travel expenses should be lower during the ongoing corona crisis
Depreciation and Amortisation (D&A) as well as Impairment costs account for the bulk of operating expenses (though non-cash), summing up to 851 mn€ in 2019 (after 864 in 2018), including impairment charges of 97 mn€. These operating expenses are more asset-linked than revenue-linked, but partly also depending on financial business outlook (impairments).
Below are a few observations regarding SES’ balance sheet (debt is discussed below in more detail)
- Balance sheet size is growing consistently for many years
- Total-equity-ratio is about 50% since 2016.
- Intangible assets amount to 4,685 m€ resulting in an intangibles-to-equity-ratio of c. 35%.
- Intangibles mostly consist of goodwill (2,264 €, thereof 2,054 GEO Operations) and orbital slot license rights (2,095 m€)
- Tangible assets amount to more than 5 bn€, mostly consisting of space equipment
As written above, cash is king once more. Currently, SES seems to do ok on that front.
- But, upper bound of proclaimed leverage ratio, based on Net Debt / Ebitda, of 3.3x is a real constraint with reported leverage of 3.22x in 2019.
In 2016 SES issued two deeply subordinated perpetual non-dilutive Hybrid Bonds, supporting credit ratings while financing the O3b acquisition with the following features
- with notionals of 750 m€ and 550 m€
- incurring significant transaction costs of 19.8 m€ + 7.6 m€
- with coupons of 4.625% and 5.625%
- callable at Jan 2, 2022 and Jan 29, 2024 (or at later coupon dates)
- receive 50% equity treatment
As written above, SES had Cash of 1,155 m€. Total regular Interest Bearing Debt amounts to 4,428 m€ and another 1,300 m€ of Hybrid Debt. Treating the Hybrids purely as Debt, I calculate Net Debt of 4,573 m€.
- Currently, SES pays more than 200 m€ in interest p.a. SES could benefit using lower interest rates for refinancing debt.
Debt Maturity Profile
SES has a dozen bonds outstanding, some of them with quite high coupon rates still. In 2019 SES was able to place an eight year bond with a fixed coupon rate of 0.825% (at par). The bond was oversubscribed 6 times, indicating very strong investor demand for SES’ bonds. Thus it is reasonably to assume, that maturing bonds with higher interest rates can be refinanced at lower levels, reducing payable interest in future years, provided current financial market turmoil normalizes.
As written above (Cash is King Once More), repayment or refinancing of borrowings coming due in 2020/21 should be no problem, though, refinancing could happen at higher spreads because current stressed markets situation. Many SES bonds traded well above par a few weeks ago (Feb/Mar); now (Mar/Apr) they trade at about par with big differences, depending on maturity type etc.
Most bonds become due until 2027, a minority features maturities up until 2044, additionally there are the two above mentioned perpetuals.
- The FCC payments could help tremendously repaying debt
Other Debt Items
- Pensions seem to be immaterial
Accelerated Relocation Payments in Dec ’21, ’23 from
The move to transfer spectrum to terrestrial cellular should benefit SES and Eutelsat and generate about $4.5 billion in aggregate, after clearing costs but before taxes. The FCC adopted an order on Feb. 28 that tracks the plan outlined by Chairman Ajit Pai on Feb. 6.
- Legal challenges are likely and could result in lower and/or later absolut payouts.
- SES expects a tax rate of 20-25% on net proceeds.
The exact final amounts (net of tax, etc.) are hard to guess. But I will go with the number discussed for SES from the latest FCC report (Feb 28) in my base case. That is $ 3.968 bn, net of clearing costs but before taxes for SES, split into
- Phase 1 (ending Dec 2021): USD 977 mn
- Phase 2 (ending Dec 2023): USD 2,991 mn
Cash proceeds shall be used for deleveraging (i.e. the hybrid bonds with high coupons), investments and returns to shareholders.
Separation of Networks Segment
SES is reviewing strategic options for its growing Networks business. Growing infrastructure businesses can fetch a high valuation in public/private markets. SES seems to be open for external capital. As of now, I will not assume/model any separation.
Financial Guidance 2020
SES gave the below guidance during the presentation of FY 2019 results. A stronger USD could provide some limited tailwind, the current corona virus could result in some short-term headwinds for the mobility sub-segment.
Expectations & Assumptions
The separation of SES Networks could well be a value driver for shareholders (or value destroyer) if (partially) sold to investors at (un-) attractive terms. For the following DCF Valuation (more about the concept of DCF), I will not model the networks separation specifically (so I do implicitly assume that if it is sold, it will be sold close to fair value).
Even if there are a few potential disruptors in the long term (see above), such approaches do fail sometimes for whatever reason. If they do not fail, it could affect SES’ business in any possible way from not at all to dramatically shrinking revenue and profitability. I believe to represent this different scenarios, modeling a few scenarios is a prudent approach when performing a DCF. I hope to choose scenario probabilties about right. I know I will be wrong, but it is enough not to bee too much off the mark.
I believe it makes sense to model SES’ revenues seperately for the both segments and to differentiate between short and long-term drivers.
In the short term SESs revenue streams should show resiliency, due to the very nature of long-term contracts. Video business boasts a 3.9 bn€ fully protected contract backlog. The current crisis will for sure lead to customers chasing all possibilities to preserve liquidity delaying cash outflows. In the short term, I believe, this could lead to
- some minor revenue decline in the video segment
- stalling growth in the mobility sub-segment, reviving growth next year (probably). So far, I assume no defaults of cruise line, commercial shipping or airlines
- Guidance for Video is between € mn 1,110 – 1,150
- Guidance for Networks is between € mn 800 – 840
- I assume the lower bound (1,910 m€ for 2020) for 2020 revenues
- representing a severe decline of revenues of -3.7%
Longer term, I expext SESs segment revenues to develop diametrically opposed, with an overall CAGR of 0.8% from 2019 until 2025, with
- Video revenues declining long-term with stabilizing trends in a few years, resulting in a CAGR of -3.7%.
- Network revenues should be enabled through O3b mPOWER to capture a strong growth potential, driven by secular connectivity trends, for years to come, resulting in a CAGR of 6.5%, driven by
- mobility CAGR of 12.4%
(government CAGR: 5.7%, fixed CAGR: 1.3%)
- mobility CAGR of 12.4%
Resulting in the below modeled revenue development in my base case scenario
I model Gross margin as flat, since COGS should directly fluctuate with revenue (see Costs).
Based on falling revenues and some fixed costs, most likely Ebitda margin will take a further hit next year, and will hopefully slightly recover onwards, but stay below historic levels.
- Annual CapEx levels came down over the years, with Depreciation and Amortisation (+Impairments) now being usually higher than CapEx.
- O3b satellite starts will result in a CapEx spike in 2021 (ideally party offset by C-band proceeds).
As you can see below, SES benefits tremendously from Tax Credits.
- Deferred Tax assets did build up over the last few years (2019: 260)
- But deferred Tax Liabilites are still higher (2019: 360)
- I model a tax rate of 25.69% going forward.
With the stock trading at 5 €, down from 20 € only 18 months ago or above 30 € 5 years ago, it is important to think about risks and errors in my valuation.
- What am I missing that the market is aware of?
(in case my valuation indicates a significant undervaluation)
- Handling of different Share Classes:
- I will use A-Share equivalents
- Handling of Hybrid Bonds:
- I will just treat it as debt and adjust the cost of debt accordingly (higher)
For my base case scenario I chose these parameters
- My discount rate, here WACC is 7% based on
- required yield on equity of 9.5% with a weight of 0.33
- after Tax Cost of Debt of 4.3% with a weight of 0.66
- Cost of Debt (before Tax) of 3.8% based on paid interest of 219 mn over 5.7 bn of debt (incl. hybrids)
- upward adjustment of 2%p since hybrids trade well below par
- My terminal growth rate is 0%, which I believe is rather conservative with regard to SES’ networks business, which is assumed to gain revenue share
My base case valuation indicates a significant undervaluation with a FVpS of € 14.33 ($ 15.46) vs FDRs currently trading at € 5.34.
- even assuming a very adverse scenario with zero cash from the accelerated relocation payments, I still get a FVpS of above 8 €
- SESs main segment (video) is facing structural challenges, that will weigh down revenues and margins for the foreseeable future
- New entrants (SpaceX, OneWeb) pose a long term threat to SES business development. Even its differentiating services enabled via its O3b network could be threatend
- Payments relating to the FCC decision are key to get leverage under control and contribute c. € 5.50 per share (of a FVpS of € 14.33)
- The above observations and SES’ high leverage result in a low quality investment opportunity and a high required margin of safety of 40%
Currently, SES is a buy for me. I will wait a few days until my final buying decision. I will look if there are some overlooked issues. Additionally I will think about my timing: Since the ex-date (FDR trading without claim on the dividend) is April 21st, maybe I only want to buy afterwards. In this case I could buy at a lower PpS, not receiving the Dividend and not paying taxes.
- As a German investor, I do not have any negative tax-issues with a Luxembourg withholding tax.
Update April 22, 2020: I sticked to my plan and bought shares only when they traded ex-dividend on April 21st (the ex-date). Unfortunately the price per share or PpS increased considerably (+34%) in a short period; from € 5.11 on April 3 to a high of € 6.83 on April 17. I bought at April 21 at € 6.17.
- The next day (22nd) SESs shares only trade at € 5.50. Obviously a lousy timing! The day after, on April 23rd, SES ended the trading day at € 6 again. One of many investment quotes applies:
The Bottom is the day before the recovery begins. Thus it’s absolutly impossible to know when the bottom has been reached … ever. Oaktree explicitly rejects the notion of waiting for the bottom; we buy when we can access value cheap.Howard Marks (Letter to Investors, March 2020)
I will track and review the following key data to evaluate if my investment thesis is playing out as expected (modeled numbers, base case):
- Total revenue growth, thereof
- Operating Profits, and segment margins for
- CapEx (vs D&A)
- Net debt and paid interests
SES will announce its 2020 Q1 Results on 7 May 2020
I hope you enjoyed this blog post. Please feel very encouraged to discuss my assumptions and methods below or to give me general feedback or if you liked my article just like it 😉
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