• No reason to get excited now, downgrade to Neutral After uninspiring 2Q16 results, we fail to see a reason to maintain our Buy rating on STC. Signs of market weakness, aggressive competition, delays in tower deals and no dividend hike by STC, are all reasons why we have cut our rating to Neutral as we reduce our FV by 14% to SAR68.3.
• Competition still aggressive and growth is slowing 2Q16 revenue was 9% above our estimate, with growth driven by the KSA unit (up 7% Y-o-Y, 5% Q-o-Q), vs. slower growth at international units (+3% Y-o-Y, +1% Q-o-Q). By examining the EBITDA margin, which fell to a low 34%, we believe STC has likely sacrificed margins for revenue growth to cushion a drop in interconnect revenue. This is possible through higher handset sales (low-margin) and aggressive opex tactics (discounts, marketing, etc.), in our view. Lower MTRs also hurt margins as STC is likely a net interconnect receiver, we believe. Seeing Mobily’s and Zain KSA’s results, we believe STC aggressively captured the lion’s share of growth.
• Where could we be wrong? A dividend surprise is likely the catalyst with the highest probability in the medium term, we believe, given STC’s substantial net cash of cSAR14bn. However, we do not see when STC could increase dividends. In 2Q16, STC paid SAR1.00 in line with its dividend policy and our estimate.
• Tower sale could be a catalyst, but not soon Visibility on a potential tower deal for STC is limited, in our view. While it may constitute a good share price catalyst, we believe it is at a very preliminary stage and will not take place before mid-2017. Both STC and Mobily recently agreed to explore options to jointly extract value from their towers to reduce expenditure and cut opex. The MoU is effective for three months and may be prolonged for 30 days. Both companies may also include other licenced operators whose objectives are aligned with them.

Omar Maher
Karim Riad