Walk walk from TalkTalk

But on closer inspection, we have decided that we shouldn’t have overlooked TalkTalk’s multitude of failings. We think that the telecoms group will struggle to reach its 2019 targets (Mr Dunstone has a history of overpromising and underdelivering), meaning that another profit warning could be on the table before long.

At the heart of the group’s problems is the rising competition in the British telecoms marketplace which has created a major challenge for the niche targeted by TalkTalk of providing cheap bundles. In the year to March 2017, customer numbers dropped because of the competition and the group has had to work hard to attract and retain business in the 2018 financial year. So, although the new Fixed Low Price Plan brought in 83,000 new customers in the first three quarters of 2018, this has not sparked revenue growth. Moreover, the lack of clarity in TalkTalk’s financial reporting (the group rarely provides clear customer numbers and has not fully explained why the larger user base has not translated into improved revenue) doesn’t instil confidence.

Management expects customer numbers to rise 4 per cent in the 2019 financial year, but we think that is too optimistic considering the growing competition from deep-pocketed peers. Perhaps more concerning is the fact that management has forecast adjusted cash profit growth of 15 per cent in 2019, a major swing from the 27 per cent decline which broker JPMorgan expects when 2018 numbers are reported in May. The group blamed strong customer growth, its subsequent marketing expense and a delay in cost savings for three profit warnings in the last year. We can’t see how the group will be able to reduce spending significantly while continuing to invest heavily in marketing.

To deal with the ‘period of investment’ management cut the dividend in February, meaning investors can only expect a 4p payout in 2018 and 2.5p thereafter. But investor income still looks under threat: in 2018 dividends won’t be covered by earnings. Moreover, the group’s banking covenants forbid it from paying a dividend when net debt reaches three times adjusted cash profit. Even with the recent £200m equity placing, some brokers are forecasting that leverage will be above this level by the year-end. Tapping shareholders for extra cash and then paying it back via a dividend seems a pointless exercise and we think it may not be long until the dividend is cut completely.

More instability has been created by TalkTalk’s proposed investment in full fibre broadband. True, laying its own infrastructure could help it reduce its reliance on Openreach, but it won’t come cheap. TalkTalk and its partner in the project, Infracapital, the infrastructure equity investment arm of M&G Prudential, will contribute £500m of cash over the next five years (£100m from TalkTalk) with a further £1bn provided by debt. To make a return on that investment, TalkTalk is likely to be reliant on another telecom group leasing its new lines, but as many of its peers are investing in their own infrastructure projects, this could prove a struggle.