We expect Telkomsel's operating performance to remain stable with easing of competition and growth in data services. Also, the performance is stronger than our earlier expectations. Revenue increased 10.6% for the nine months ended Sept. 30, 2012, because of a 15.3% growth in non-voice revenue driven by data services. At the same time, margins remained stable at 57% because lower marketing expenses offset the higher operating expenses stemming from an increase in the data access fee for Blackberry services. We expect Telkomsel's margins to remain stronger than its regional peers'.
Telkomsel's "modest" financial risk profile reflects its conservative financial policy, with a ratio of debt to capital of 9.6% as of Sept. 30, 2012. In addition, the company has strong cash flow protection measures. Its ratio of funds from operations (FFO) to debt has been more than 150% for over the past five years. Telkomsel continues to register large and stable positive free operating cash flow (FOCF). We expect the company to distribute most of its FOCF as dividends.
The Indonesian telecom market is competitive and susceptible to price-based competition. The wireless subscriber growth has moderated because of a high wireless penetration rate of more than 100%, including users who hold multiple SIM (subscriber identity module) cards. Nevertheless, the top three players dominate. PT Indosat Tbk. (BB+/Stable/--; axBBB+/--) has a market share of about 20% and PT XL Axiata Tbk. (not rated) has about 16% share. We expect future growth to be driven by demand for data services.
In line with our expectation, Telkomsel recently won an appeal in the Supreme Court to reverse the bankruptcy ruling based on a petition filed by PT Prima Jaya Informatika (not rated) in the Central Jakarta District Court. The victory erases any potential risk Telkomsel might have faced on an adverse ruling.
Standard & Poor's Ratings Services' base-case scenario for Telkomsel indicates a debt-to-EBITDA ratio of less than 0.3x and an FFO-to-debt ratio of more than 150% over the next three years. Our projections are based on the following assumptions:
-- Revenue growth will accelerate to about 10% in 2012 and will remain at a similar level in 2013 before declining to 7% in 2014.
-- EBITDA margins will be stable at about 57% over the next two years.
-- We expect capital expenditure at about 18% of revenue in 2012 and to gradually decline to about 16% of revenue by 2014.
-- We have assumed that the dividend payout ratio will gradually increase to 100% in 2014, from 85% in 2012.
We assess Telkomsel's liquidity as "strong," as defined in our criteria. We expect the company's sources of liquidity to exceed its uses by more than 2x over the next two years. We anticipate that net liquidity sources will remain positive even if EBITDA declines by 30%. Our liquidity assessment is based on the following factors and assumptions:
-- As of Sept. 30, 2012, Telkomsel's liquidity sources include cash and cash equivalents of Indonesian rupiah (IDR) 6.8 trillion.
-- Sources also include our projection of FFO of about IDR26 trillion in the next 12 months.
-- Uses of liquidity include debt due in the next 12 months of about IDR1.5 trillion.
-- Uses also include minimum capital expenditure of about IDR5 trillion, which we believe is required for maintenance of the network and other assets, and our expectation of dividend distribution of about IDR5 trillion, even in case of stress.
Telkomsel has significant headroom in its covenants. The company also benefits from strong financial flexibility with a high level of unencumbered assets, low debt, and its affiliation with Singapore Telecommunications.
The stable outlook reflects Telkomsel's solid market position and strong cash flow generation, which could mitigate any potential competitive pressure over the next couple of years.
We could raise the rating on the company if the T&C risk assessment on Indonesia improves.
Conversely, we could downgrade Telkomsel if a lowering of the sovereign rating prompts us to lower the T&C risk assessment, or if Indonesia's country risk heightens. We could also lower the rating on Telkomsel if shareholders' initiatives, such as significant dividend payouts and debt-funded investments, weaken the company's financial performance, such that its debt-to-EBITDA ratio stays at about 2x on a sustainable basis.