The following is our analysis of Bell Canada Enterprises (Bell). We have compiled this information from Bell’s 2005 to 2009 annual reports and from the annual reports of Bell’s two major competitors, Rogers Communications Inc. (Rogers) and Telus Corporation (Telus). We have examined all major ratios and financial numbers and forecasted these results into a five year pro forma. This thorough examination has enabled us to provide a detailed analysis and short and long term recommendations for potential investors.
Adjustments & Notes
In 2007, Bell reported “other income of $2,406 million in 2007 [that] included a $2,300 million gain on the sale of Telesat in October 2007.” This had affected all calculations involving net income and was greatly skewing our evaluations. For this reason we have chose to remove the discontinued operations amount in 2007 in our analysis of the upcoming ratios.
In late 2008 the global market slipped into a major recession, which hit many industries, including the telecommunications industry.
During the building of this report Bell released its 2010 annual report. Instead of incorporating these numbers into our analysis, we have used the data evaluate our recommendations.
From 2005 to 2006, Bell had increased it return on equity (ROE) 2%, from 13.32% to 15.01%, but in 2007 ROE had dropped to 9.5% and continued to drop to 5.5% by the end of 2008. We can attribute a portion of this 2008 drop to the recession, but as it had been falling before hand, other factors must have been involved. Upon examining their numbers, we see that there was a drop in net income for both years (over 50% by the end of 2008) accompanied by a significant increase in shareholder equity (up almost $4 billon).
One major difference in 2008, aside from the recession, was Bell underwent a major restructuring of its operations. This expense incurred in 2008, seems to have paid for itself as Bell has lowered operating expenses into to 2009. These, and other changes in 2008, have flowed down to net income and ROE. In 2009, Bell has seemingly begun to recover, with its ROE jumping up to 10.25%. While Bell did increase, it is important to mention that their ROE still lies below the ROEs for both Telus and Rogers.
The trend line for the projected ROE does not accurately reflect our future expectations. Our analysis of future growth rates actually provide an ROE higher than that of 2009.
Contrast to its ROE, Bell’s return on assets (ROA) has remained relatively stable, with an average of 4.3%. There was however, a drop of 2% in 2008, which was recovered in 2009. This again, can be attributed to the recession. Their ROA is slightly lower than their competitors. In decomposing the ROA we get a five year average net profit margin of 10%, with 2008 being slightly lower. Again, this is comparable with the two year averages of Rogers and Telus, though Bell’s two year average is still only 7.57%. Examining further, we find a five year average turnover ratio of 46%. Telus’ two year is slightly higher at 50% and Rogers is quite a bit higher, at 69%. These consistent numbers show that Bell is a stable and productive company; however they lag behind their competitors.
As of 2009, Bell has leveraged their Shareholder Equity 2.25 times. This is close to Telus’, however both lie well below Rogers who has leveraged just fewer than 4 times, making both Telus and Bell less financially risky, with Bell the least risky.
While on the surface it appears that Bell performs worse than their competitors because of their lower ROE. However, Rogers has leveraged itself significantly more in comparison to Telus and Bell, which can account for their larger ROE. We will expand in our leveraging analysis in the next section.
|Net Profit Margin||5.34%||9.80%||11.72%||10.43%||8.84%||12.60%|
Upon deeper examination of Bell’s leverage position, the debt ratio has confirmed that Bell (52%) has less debt when compared to assets than both Telus (60%) and Rogers (75%). Over the last five years, Bell has been lowering its interest bearing debt from $1.21 per dollar contributed by shareholders to $0.93. Like the debt ratio, the debt-equity (D/E) ratio is lower for Bell than both its major competitors.
For times interest earned, Bell has a five year average of 3.9 times; meaning Bell has $3.90 of income leftover after expenses to pay every dollar of interest. This is even with the industry standard. Analysis of the cash flow to debt ratio shows that Bell is not in a very strong credit position as they are only able to cover a maximum of 27.78% of their debt through cash flow from operations annually. However, this seems to be the industry norm, as it is equivalent in both Rogers and Telus.
Through the analysis of these leverage ratios, all companies in this industry are riskier to finance because their cash flow to debt ratio and times income earned are quite low and their debt ratios are quite high. On the other hand, these companies operate in the telecommunications industry, a must for the majority of Canadian citizens and businesses.
|Cash Flow to Debt||24.39%||27.78%||23.66%||24.94%||28.30%||27.67%|
Bell’s has a degree of total leverage (DTL) of 5.39, which is quite significant as this demonstrates that for every 1% change in revenues that occurs, Bell’s Earning before taxes will change by 5.39%. This would make Bell very exposed to any shocks in the market. Nonetheless, this does seem to be an industry trait as both Telus and Rogers have similar DTL. Bell’s breakeven point is $8.2 billion; this is significantly higher than both its major competitors. It is especially important to note that their breakeven point is double the breakeven point for Telus. This is likely attributable to the fact that Bell is the major supplier of all landline telecommunications in eastern Canada (similar to Telus’ situation in western Canada) and they must supply service to significantly more customers.
The five year average gross profit margin for Bell is 76%, which is approximately the average for the industry. This indicates that 76% of their revenues are available to cover their operating expenses. The cost of running a company in this type of industry is significantly high with operating expenses being between 27% and 50% of revenues. Operating margin was on average for the last five years 19%, this is consistent with the industry. This is likely due to the heavy amount of infrastructure required.
|Break Even Point||$8,341||$8,218||$3,880||$4,018||$7,002||$6,707|
|Gross Profit Margin||75.15%||74.49%||66.49%||65.88%||88.50%||88.24%|
In 2009, Bell’s receivables turnover averaged 11.05, meaning they turned over their accounts receivable just over 11 times a year, or almost every month. This reflects in their average collection period of 33 days. This is representative of the type of industry they are in, as they bill monthly, with a significantly lower ability of customers to withhold payment. This is because service tends to be cut off after a limited number of days of non-payment. Similar numbers appear for Telus, while Rogers has a slightly lower turnover.
Inventory is turned over just over 10 times a year for Bell, with similar ratios at Telus (12.14) and Rogers (10.70). We assume that this is because of the level of innovation needed to stay competitive in this industry, with customers demanding newer and faster products continuously. Bell’s fixed asset turnover is lower than that of its competitors meaning that they are generating less profit from their assets. This is possibly due to Bell’s efforts to provide consistent and reliable communications even in the more remote areas. That the ratio remains stable shows that Bell has been investing in new fixed assets at the same rate as the assets are depreciating.
After examination, we can conclude that the receivables and inventory turnover is not significant to Bell because the company maintains low amounts of accounts receivable and inventory, as is the nature of their industry. However, Bell does seem to be less productive with their fixed assets than both of their major competitors, though they do have a significantly larger investment in fixed assets.
|Fixed Asset Turnover||0.80||0.81||1.32||1.24||1.44||1.43|
Bell’s working capital ratio is 8.63%, which is slightly lower than the industry average, marginally higher than Telus. In the last year, their ratio has declined. This is due to the reduction in cash and cash equivalents from 3 billion in 2008 to 0.7 billion in 2009. This could be a major cause for concern as it lowers Bell’s liquidity and may result in cash flow problems. Still, Bell does retain more cash and cash equivalents than either of Telus or Rogers.
Going back to the note concerning the 2007 discontinued operations, which we removed for evaluation purposes, it seems that Bell had a significantly higher current and quick ratio during that year. This is due to the income from that year, however both ratios quickly returned to their previous levels by the end of 2009. This means that Bell has spent the money they gained from the sale of Telesat. As stated before, this is a cause for concern, as they seem to be spending more cash than they are bringing in. In spite of this, Bell still remains within the range of their competitors for both ratios and they appear to be trending towards higher liquidity.
|Working Capital Ratio||0.1406||0.0863||0.0586||0.0796||0.1344||0.1325|
Over the past five years Bell’s book value per share has consistently increased due to a combination of increasing retained earnings and the buying back of shares. Earnings per share did drop significantly in 2008 due to a decrease in earnings, which we can attribute to the recession. In 2009, earnings per share returned back to its 2005/2006 levels. This return is due to a combination of share buyback and increasing revenues. It is significant to note that Bell’s earnings per share are less than Telus’ and Rogers’.
In 2007, Bell increased the dividend payout to the relative amount it is now at (75%) which is higher than either Telus or Rogers, who both dropped their relative payout in 2009. Bell’s price earnings ratio has returned back to 2006 levels after a jump in 2007. This is consistent with their competitors, which shows that Bell is not valued significantly different than its competitors on the market. Each dollar invested by shareholders into Bell is worth $1.32; significantly lower than Rogers’ market to book value ($4.67) which is due to their significantly higher ROE. However, Telus’ market to book value is similar to Bell’s.
Examining the EBITDA multiple, it would take approximately 3 years to pay off the purchase of Bell on the open market, using only the earnings before interest, taxes, depreciation and amortization. Telus and Rogers have a similar EBITDA multiple.
To continue growing at the rate of 2.57% per year as it did in 2009, Bell will require external financing (EFR) of $253.74 million. This equates to an external financing equal to 1.43% of sales. Of the three companies, Bell has experienced the slowest growth over the last two years. This is possibly due to the fact that Bell is nearly double the size of Telus and Rogers in terms of revenue and assets. If it chooses to finance its growth, Bell could find difficulties, due to its high leverage and low liquidity.
At low growth levels all three companies can continue to grow without external financing, though it is important to note that the sustainable growth rate for Bell is much lower than for Telus or Rogers. Averaging Bell’s five year growth rates (excluding 2007) we estimate a growth rate of 3.75%. This is over Bell’s sustainable growth and 2009’s growth rate, which means Bell will need $270.23 million more than their projected EFR, equalling a total EFR of $569.66 million. If Bell can secure this financing every year and sustain the growth rate, their revenues will equal $21,322 million by the end of 2015. To finance these operations Bell’s total liabilities will need to increase to $24,951 million by the end of 2015. Since Bell’s dividend payout ratio is much higher than its competitors, Bell could reasonably lower its payout ratio to retain more earnings and decrease their reliance on external finance.
|Sustainable Growth Rate||0.98%||1.63%||4.24%||3.00%||2.14%||6.14%|
Bell appears to be efficient in its operations, turning over inventory and turning its receivables into cash rapidly. Although this is true, Bell is inefficient in managing its cash flow and if in a crunch would have problems paying off its current liabilities with solely its current assets. This does appear to be an industry issue as both its major competitors would experience similar struggles.
When compared to its major competitors, Bell looks to be a stable investment, with average dividend payouts. Telus does have a higher dividend payout per share, but this difference is recovered in the lower share price for Bell. Rogers, on the other hand, has a much lower dividend payout per share and a higher share price.
Without further examination into both Telus and Rogers we are unable to provide a recommendation as to which company is the best investment in the industry. However we are able to say that Bell appears to be a stable investment with stable ratios across the board. This indicates Bell would be a good long term investment as long as Bell can solve its cash flow difficulties. In the short term, Bell may not be a good investment because their cash flow needs at the five year average growth rate may require more earnings retention (fewer dividends) or an increase in the number of shares. Both of these actions would likely result in a lower market price in the short term. If Bell were to grow at a lesser rate (their 2009 annual report projects 1.5% growth), this would also solve and cash flow issues and allow the dividend rate to stay as is. Simply put, Bell would be a safe long term investment but a riskier short term investment at the projected growth rate. At a smaller growth rate, as is stated in their 2009 annual report, Bell becomes a much safer short term investment.
Real 2010 vs. Projected 2010
Upon examining Bell’s newly release 2010 annual report, we see that their growth rate for 2010 came out to 1.88% instead of our five year average of 3.75%. This allowed Bell to grow its operations with only a minor increase in their long term debt. With this lower growth rate Bell has been able to increase its dividend per share by 12% or 20 cents per share. This reflects in a higher price per share of $35.34 at the end of 2010.
In contrast to the downward sloping trend line in our ROE graph, 2010’s ROE grew to 13.23%. This agrees with our statements and calculations of growth.