NARRATOR: Welcome to Viewpoint, a TD Securities podcast. Listen in as we draw perspectives from a variety of thought leaders on key themes influencing markets, industries, and the global economy today. We hope you enjoy this episode.
PETER HAYNES: Welcome to episode 29 of Viewpoint, a TD Securities podcast. My name is Peter Haynes, and I'll be your host for today's podcast, where we will learn about the critical factors impacting the North American cable, satellite, and telco sectors. Joining me in today's episode are two top-ranked analysts with over 40 years of combined experience covering this space. Greg Williams joins us from TD Cowen's US research team. And Vince Valentini joins us from Toronto. Greg and Vince, thanks for joining me today.
GREG WILLIAMS: Thanks for having us, Peter.
VINCE VALENTINI: Great to be here, Peter.
PETER HAYNES: Well, this is a busy time of the year for both of you as it is earnings season, and each of you are hosting conferences in May. As you are prepping for your respective conferences, what are you expecting to be the high-level themes that will be of interest to the investing audience? Greg, I'll start with you for the US perspective.
GREG WILLIAMS: If I had to break down our three sectors, which is cable, wireless, and enterprise telco, I think I'll start with cable. The high-level theme is really finding the bottom. When do we see the light at the end of the tunnel for a struggling industry? Cable just posted its worst quarterly broadband subscriber losses in history. Next quarter's probably not going to be much better.
What's happening in the cable industry is one, you're seeing market maturation, right? With the COVID lockdowns, it accelerated broadband adoption. In other words, if you didn't get broadband during the lockdown, you probably never likely will. It's very hard to fight for those last few subscribers in the broadband industry.
And when they're fighting, the second problem is the competition that's been emerging in otherwise market that lacked some competition in the cable space. On the low end, you're seeing fixed wireless. You're seeing the wireless carriers beaming out their airwaves into the home and offering home broadband services, and that competes against cable. And in the higher end, you're seeing fiber to the home. Fiber to the home is bigger in Canada. But what you're seeing in the US is a proliferation of fiber builds, and that's competing against the cable industry.
In the meantime, the cable providers are focused on mobile bundles. They're focused on plans and pricing as well. So if you can't grow the revenue through subscribers, maybe you can grow it through getting them faster speeds and paying higher prices.
Just moving on quickly to wireless, it's similar to broadband, but with the market maturation. But maybe the setup isn't as gloomy. The wireless industry is trying to figure out if it's going to be a harder landing, like you're seeing in cable, or maybe a softer landing. And it does seem to be the latter.
What you're seeing in the wireless industry, at least this last earnings season, in the last few weeks, is super low churn, record low churn. Fewer folks are disconnecting and leaving to another subscriber. So that's giving-- providing some respite and rationality in the industry as customers aren't leaving as much.
And just lastly, in enterprise telco, worth mentioning is AI. I'm sure we're going to talk a little bit about AI in this conversation. But these large-language models, they need to be fed fiber to training data centers. And so you're seeing an onset of fiber demand in the enterprise telco space. And it's something we're going to keep track of. So those are pretty much the big themes the next few weeks or months in my sectors.
PETER HAYNES: So, Vince, when you look at Canada and you think of the issues impacting Greg's US names, are Canadian cable, satellite, and telco companies facing the same headwinds as Greg discussed? Or are there made-in-Canada issues.
VINCE VALENTINI: Yeah, Pete. We have some of the same issues, but for different reasons. For sure, the most important factor through the current earnings season, which isn't quite over in Canada yet, is the competition. We've seen elevated levels of competition across especially the wireless market, but also in cable and broadband.
The other two issues that may be slightly different in Canada are population growth. How sustainable is it?, which has been a big tailwind, especially for wireless subscriber growth the past two years. And the third one would just be free cash flow quality and dividend sustainability, which I think we'll talk about a bit more later in the podcast.
But back to competition, we have probably more aggressive competition in wireless in Canada than what the US is experiencing right now, maybe a little bit less competition on the fixed line and broadband side.
The Canadian market used to be a pretty comfortable oligopoly. And the government has made an effort for the past 14 or 15 years to bring in a viable fourth carrier to bring tension to the big three, which is Rogers, Bell, and Telus. That seems to be working, and we have pretty vibrant competition in wireless. And in some cases, people define it as a price war that has gone to levels that are not disciplined anymore.
The backdrop in fixed line is we've been competitive for some time. As Greg alluded to, we're pretty advanced in terms of fiber. We don't have new independent players building fiber in Canada, but what we have is our two legacy phone companies of BCE and Telus, were early and aggressive at upgrading their legacy copper networks to fiber. So the cable companies have been facing tough competition from a good fiber-to-the-home provider for the past few years, and that is not letting up.
So cable and broadband competition is not getting any worse, but it's still tough. Wireless, probably getting a little bit worse. And those are going to be some of the key issues we need to address with the management teams in the coming cycle.
PETER HAYNES: So, Vince, I find it curious that in Canada, we have single providers of cable, satellite, and telco services all owned by the same entity, whereas in the US these services are bundled under one individual provider, but they don't necessarily own all the components of the bundle. How do we get where we ended up here in Canada with single owners of all the components? And then, Greg, is this the type of consolidation you think is in the cards in the US, where we end up with single owners of all the bundled services? Vince, I'll start with how we ended up where we are in Canada.
VINCE VALENTINI: For sure, Peter. I think if you ask any telecom operator, they would say it's better to own all of the wireless and wireline infrastructure. There are operating cost benefits of running those two systems together, also tremendous marketing benefits of being able to bundle the products together and get owner economics out of owning both networks.
So if the industries had their choice, going back historically, they would have evolved with owning both. Just happened to turn out that Canada was able to evolve that way when the first wireless licenses were given out. In the mid '80s, they were given to the one incumbent phone company in every region. Now, in the recent 15 years of government trying to get a fourth wireless carrier, there were a few independents that stepped up for a while, but they never could find the right scale and funding model to make it work.
So all of the assets and spectrum flowed their way back to the cable companies. Shaw, for a while, had some. Quebecor always had some in Quebec. Now, Quebecor owns the whole thing. So we effectively have integrated carriers across the country that own both the fixed line networks and the wireless networks. And it really just goes to the legacy of how the industry is formatted. But once people own both those networks, they're not going to give them up because there's good synergy in running both together.
PETER HAYNES: So Greg, are you expecting this type of consolidation for the US?
GREG WILLIAMS: To Vince's point, it does make sense to have owner economics on the wireless and wireline side. But we don't see much consolidation. The cable companies, they don't have wireless infrastructure, and they would need it. But they're wholesaling it from Verizon today.
But seeing big cable and big telco mergers get through will be pretty tough in any regulatory regime, regardless of even who's in the White House. Mashing together two of these large big cable and big telco companies could be pretty tough from a regulatory perspective. Maybe we could see Charter and T-Mobile merge eventually as a bundled play. You might not see the infrastructure come together, but you are going to still see bundles, very much so.
Bundles make a great business case for cable trying to bundle the wireless offer. Altice, just the other day in their earnings, mentioned that they're seeing 20% lower churn or disconnects when bundling. So basically, subscriber lasts 15 months longer if they have a bundle, which could be very profitable.
And they also use bundling as a pricing mechanism. You're seeing fiber to the home come into the cable space. So they can't price as low as fiber to the home, but if you can bring in a mobile bundle in tow, that can help keep their ARPUs, or Average Revenue Per User, pretty strong. So cable is focused on these household telecom bill as opposed to just the broadband bill. So they might not see it from an infrastructure perspective, but you'll still see this convergence through wholesale deals over the next few years.
PETER HAYNES: Greg, when you think of bundling as we think of cable as part of that bundle, I always think about my kids who are 22 and 23 who will never own cable in my mind. And people always talk about cord-cutting. Is it possible we just see cable fade off into the sunset as we get older and people are focusing on other methods of communication to receive their shows, whether it's streaming or on the internet? And are you expecting cable to exist in the long term?
GREG WILLIAMS: I think the idea now is to divorce your idea of saying cable video. Cable is now a home connectivity provider. So regardless of the app that rides over that wire to the home, you're saying it's Netflix or Paramount+, or it could be social media streaming, music, et cetera, that's just an app. Video is now just an app of many apps that ride over that pipe. That pipe is sticking around. Physics is physics, and it's high-speed upload and download with low latency. And that's going to be there, and it's going to be better than wireless from a physics perspective.
But yes, I think that video is evolving into maybe the streaming that's been broken up. And now we're seeing maybe consolidation of the streaming side come back to a few large providers. That evolution will be interesting, but folks are going to still watch a lot of video, and they're going to be watching it over a wireline connection. Whether the cable owns that relationship or not remains to be seen.
PETER HAYNES: I often hear people say, Why do I need traditional cable? as you referred to it, and people think about live sports. But now that live sports is moving on to the streaming space-- we keep hearing about the NFL with more streaming, and baseball is now doing streaming as well-- it will be interesting to see if all the sports move in that direction.
Greg, you mentioned AI earlier in the discussion. It seems that it's a theme in every sector. I'm curious, in your space, how is AI impacting the companies that you cover?
GREG WILLIAMS: Sure. I think the most exciting AI theme in my sector is on that fiber side I alluded to. These large-language models with ChatGPT, et cetera, they need to be trained. And the training is done in large data centers. And these training data centers could be in tier 2 or tier 3 smaller markets. They don't need to be in the big markets by the edge.
And not only that, but there's a power crisis going on. These data centers hog lots of megawatts, even gigawatts of energy. You can't get that sort of power in the tier 1 market. So they've got to hunt down to the tier 2, tier 3 markets to get some power.
So the data centers out in these smaller markets, they need fiber optics. Fiber is the connectivity tissue to the internet and to these large-language models, so connecting the fiber to these training data centers, and eventually the inference data centers, and eventually the edge, where the user is going to be a few years from now. But right now what's happening is connectivity to the training data centers, and the hyperscalers are ordering these fiber optic cables to connect these data centers in a very big way. That's an exciting theme that's happening in enterprise fiber.
As far as the telcos, I think they're focused on a few things with AI. One is just their internal process optimization. Just like any company, they're looking at the inside of what's in-house and what they can do. For them, it could be network optimization as well.
The biggest one for a telco I can see right now is customer care, improving the product experience. I know we deal with chatbots all the time, but now they're going to get even smarter over time. And they can give subscribers the right plans, and that's an exciting feature for AI in the telco space. And then perhaps the rise of private networks. We've been talking about private networks for quite some time now. And maybe AI can bring these low-latency networks, Mobile Edge Compute, or MEC, to the mainstream as AI can help with capabilities, again, proliferate the private network space in telco land.
PETER HAYNES: Vince, the biggest story in your coverage universe over the past couple of years was the back and forth between the Competition Bureau and Rogers over its proposed merger with Shaw, which ultimately was completed just over a year ago. Now that the dust has settled and we move forward with these three primary bundled service providers coast to coast in Canada, how should investors think about comparing the three names, BCE, Rogers, and Telus? And as you are discussing the various individual potential competitors across the country, is it possible or likely that we will actually see a fourth coast-to-coast Canada bundled competitor emerging down the road?
VINCE VALENTINI: Yeah. Peter, if you don't mind, let me just chime in for a second on the prior couple of questions, and then I'll answer your question directly. In terms of GenAI, just topical, Telus just announced a GenAI solution for their call centers that they're starting to roll out. So it's certainly being used by Canadian telecoms to try to improve their cost structure and quality of their customer service as well.
And back to the video question you had. I think that the sentiment towards this sector amongst investors in both Canada and the US is pretty much at all-time lows. Just want to reiterate that these companies own long-life infrastructure that drives a digital economy. There's this misnomer that traditional sources of revenue, like video subscriptions, may be on the decline, which they are, but that overlooks the fact that we need broadband.
Society cannot run without good broadband connections to households and good broadband mobile connectivity. These are long-life infrastructure assets. The companies that own the fiber, they own the spectrum, they own the cell sites, they are going to be here for the next 10 or 20 years, 50 years, delivering good services to people. I think sometimes some people forget the forest for the trees a little bit with some of the detail in the excess competition going on, which brings me to the answer to your question.
Unfortunately, that is the problem in the Canadian market recently, is the excess competition we're seeing is because we already have that viable fourth carrier, Peter. That is Quebecor. The whole logic of the Competition Bureau and the government trying to push Rogers to sell Shaw's wireless assets was to create a viable, almost national, fourth wireless carrier, which they've now achieved with Quebecor.
Quebecor has their own infrastructure in Quebec, Ontario, Alberta, and British Columbia. And through resale agreements, they are now operating in Manitoba as well. So they're in wireless across the vast majority of the Canadian population.
They only have cable in Quebec. So they only have owner economics in that one province to be able to bundle all the services together. But we have a regime in Canada called TPIA, which is third-party internet access, which allows any carrier to access somebody else's broadband network. Quebecor is making use of that regulatory regime to be able to bundle internet with wireless across all those other markets.
So we're already there, Peter. And that is what the market is trying to digest. Going from effectively a three-player national market to four players, there's been a bit of bun fighting over market share and everybody trying to feel out the competitive dynamic. And it's gotten a little more aggressive than investors would like to see.
I think that'll shake out in the long term. Everybody will figure out how to coexist. All these companies are in it for the long run to have good quality cash flow and run good businesses and not grind each other to death on price. So I think we're at the worst right now. And there's been some green shoots recently of pricing starting to stabilize. But we're definitely in a four-player world for the foreseeable future.
PETER HAYNES: Well, Vince, when you think of the three telcos and you just look at their dividends, Rogers is around 3.7%, Telus's dividend yields around 6 and 1/2%, and BCE is around 8.7% Now, BCE reported earnings last week. It's known as Canada's widows-and-orphans stock for its long-term capital appreciation, as well as its stable and growing dividend. However, from a share price perspective, it was just around $75 in mid 2022, and now the stock has traded down to $45. And that's gotten us to a dividend yield of 8.7% that most people would argue is unsustainable. Are you expecting BCE to cut its dividend? And what is your outlook for the stock in the longer term?
VINCE VALENTINI: BCE is in a tough position in my view, Peter. Their free cash flow is not covering their dividend. In fact, this year, their payout ratio is going to be up somewhere in the 175% range.
Everybody has different definitions of free cash flow, but investors look at it on a pure basis after all proper cash costs, including restructuring for severance costs, including wireless handset subsidies, and including lease payments. And when you do it on that fully allocated basis, BCE is really not covering their dividend, and they haven't been for a couple of years, yet they continue to grow their dividend. They slowed the growth from 5% down to 3% when they announced their annual dividend increase in February. So that was a bit of a negative signal to the market that there's something wrong. But I think people are worried that there could even be more shoe to drop.
At a minimum, Peter, I think their dividend growth slows even further. Maybe they go to 0, or maybe they do a token half a percent, or 1% increase while they try to get their payout ratio back on side. But I think there is a nontrivial risk that they would have to cut their dividend at some point. Definitely not doing it today. They have no interest in cutting their dividend. Happy to keep borrowing to pay the dividend for now. And they're probably going to try other strategies in terms of selling some non-core assets.
PETER HAYNES: Well, I think the simple math of those dividend yields tells us-- the market's telling people what to expect here, certainly with the differences in the numbers. So as we finish up here, I think back to 2018, and there was a major change in the way that the industry classifications existed for the names that you cover. In particular, the telecommunications services was changed in name to communication services. Internet names were moved into the sector, and things changed dramatically. Really, what the classification providers of S&P and MSCI were doing was that they were trying to reflect changes that have occurred to the sectors that you cover over the past.
So as we look into the crystal ball and think about your sectors in 5 to 10 years, what do they look like from a consumer perspective? And is it likely that MSCI and S&P will have to change their definitions of your sectors again because things have changed? Greg, I'll start with you.
GREG WILLIAMS: It dovetails into the question about video and that topic about video. What the use cases on the connectivity wires proliferates to be remains to be seen. Now, trying to predict what use cases will come around 5 to 10 years from now will be difficult. But connectivity is important, and that will be there.
And on the connectivity side, what you will see is-- the United States is around 60 million homes today with fiber. In 2030 and beyond, you're going to see over a hundred million homes connected with fiber in the United States. So we'll see some exciting use cases coming from Silicon Valley into your homes.
In the wireless side, what we finally may see is the proliferation of 5G. 5G is something that the three of us on this podcast haven't really seen what it does. Faster speeds on your 5-inch screen, on your phone, doesn't really mean much. But what 5G is supposed to bring is low latency and all-immersive experience, Internet of things, and maybe hit a hype cycle. Yeah, so 6 years ago, 5G was going to take off, and we really haven't seen much. But it's going to be slowly trickling.
And it reminds me of the iPhone in 2007. It took a while, right? We looked at the iPhone. It was fun. Some of these apps are nice. But a couple of years later, you realize you can't live without it.
And something like 5G, we can possibly see the same thing. Smart cities, smart grids, autonomous vehicles, AR/VR headsets, commercial drones, AI is going to help turbocharge that. We're going to see a lot more on the edge and the edge topology, and you're going to have to reach end users in milliseconds.
So it's hard to say what apps are going to win, but the connectivity will be there. I always like to say to customers and clients that, I'm not sure if hot water is going to win or cold water is going to win. But if you invest in the plumbing, you'll do OK.
PETER HAYNES: And Vince, what are your thoughts about what your sector is going to look like 5 years from now?
VINCE VALENTINI: Not much different than what Greg said, Peter. I mean, obviously the industries are linked in terms of the types of services and technologies they use. So Canada is unlikely to evolve in any dramatically different way than the United States.
I would just say, when you're talking GIX, I mean, these names are communication names. They deliver communication services, which are monetized effectively in two broad ways, your subscription dollars, which is the primary source of revenue, or monetizing any of audiences you have through advertising. The other names that got moved into communication, maybe they're the ones that at some point need to move out. And some of them are evolving to become more technology companies than they are really communication names.
But if you think of BCE, Rogers, Comcast, and AT&T, I mean, that's the definition of communication in my mind, unless they come up with a new subsector called infrastructure, and maybe a lot of these telcos could move into that. That would work for me. They'd probably get a higher valuation if people thought of them properly as an infrastructure versus competitive communication services. But communication is still the right tagline as far as I'm concerned.
PETER HAYNES: Well, I learned a lot here today, and I'm sure our listeners did as well. Thanks for spending time with us today.
VINCE VALENTINI: Thanks very much.
GREG WILLIAMS: Thanks for having us, Peter.
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