Morgan Stanley raises 2018 EPS outlook for all 4 major carriers, citing tax reform

Investors should be watching how carriers leverage their newfound assets under the recent tax reform package.

Morgan Stanley raised its 2018 earnings per share estimates for all four major U.S. wireless carriers, citing the “second order effect” tax reform that could lead to increased consumer spending.

The initial benefits of the Trump administration’s Tax Cuts and Jobs Act of 2017 have been “mostly” priced in to the shares of the top-tier mobile network operators, according to Morgan Stanley. And the overall telecom sector has “significantly outperformed” since mid-November as passage of the package became increasingly more likely. But that pricing has primarily been focused on direct impact of tax reform on the bottom line rather than how each carrier may look to leverage its newfound resources—and how consumers might up their wireless spending.

“What remains to be seen is the second order effect, as companies and individuals start to react to their improved financial condition. Could we see stronger demand if consumer spending picks up, or new buyback programs for example?” wrote Morgan Stanley Equity Analyst Simon Flannery.

The firm raised EPS estimate for the year for AT&T by 13% and increased forecasts for both Verizon and T-Mobile by 18%. Sprint’s EPS estimate was raised from 8 cents—far lower than those of its competitors—to 11 cents, marking an increase of 35%.

“We expect 2018 guidance to reflect the impact of the new corporate tax reform, but we will be most interested in what the companies plan to do with the greater earnings and cash flow,“ Flannery continued. “AT&T announced a $1 billion increase in capex and a $1,000-per-employee bonus, while deleveraging, M&A and dividend increases/buybacks are also possible although may take longer to be rolled out.“

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Morgan Flannery also expects that churn once again increased sequentially as the market entered 2018, as the release of new iPhones prompted carriers to join in their usual—if somewhat limited—rounds of promotional activity. The question, according to Flannery—is whether they are doing so at the expense of service margins.

“While promotional activity was less aggressive than 2017, we do expect churn to increase sequentially for all players with a decent stock uptick in upgrade rates reflecting the new iPhones, “he wrote. “T-Mobile provided bullish porting data in December suggesting that their Netflix on Us move was proving popular. While we think phone adds should be solid, we are focused on service revenues which remain negative year over year at all the big carriers except T-Mobile. At Sprint, for example, service revenues continue to fall sequentially despite subscriber growth reflecting ongoing ARPU compression, with 50% off promos starting to unwind. It will also be interesting to see if Comcast continues their solid wireless momentum from last quarter.”