This topic discusses 1&1 Q2 2024 earnings.
1&1 says H1 results lower-than expected due to network outage, lowers service revenue and EBITDA guidance for full year
Here is a summary of the preliminary results (Q2 results calculated):
- 1&1 Q2 2024 revenue rose 2% y/y to EUR 991.5 million (analysts estimate: EUR 1 billion (+3.2%)), service revenue increased 3.4% to EUR 823 million (analysts estimate: EUR 825.2 million), hardware segment revenue dropped 4.5% to EUR 168.5 million while EBITDA fell 15.1% to EUR 144.3 million (analysts estimate: EUR 175.1 million).
- In Q2 access contracts came in at 16.35 million (addition of 39k vs management guidance of 80k to 100k and analysts estimate of 40k), mobile contracts were 12.36 million (addition of 45k vs analysts estimate of 44k) while broadband contracts were 3.99 million (loss of 6k vs analysts estimate of -4k).
- 1&1 said the network outage in June and July led to contract, service revenue and EBITDA growth rate in H1 that is lower than expected and that growth in Q3 is also expected to be lower than planned.
- As a result, 1&1 lowered its guidance for 2024 service revenue to €3.33 billion (+3%) from €3.37 billion(+4%) (analysts estimate: EUR 3.35 billion), EBITDA to around €686 million from €720 million (analysts estimate: EUR 719.2 million), but raised guidance for 1&1 mobile network startup costs to around -€174 million from -€160 million (analysts estimate: EUR -163.9 million) and cash capex to around €460 million from around €380 million previously (analysts estimate: EUR 378.6 million) (due to build-up of network inventories).
Assessment
The impact of the network outages experience in late May (caused by a software update) is much worse than I had expected. 1&1 shares are down 16% on Monday open trading hours as a result. However, the increase in cash capex guidance could imply that the network buildout is progressing well.
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I am not sure if capex implies better progress in their network as the reason is that they are now building up their own network component inventory instead of partners.
Maybe it shows also worse progress because some partners could not deliver?
In addition Capex in H1 was very low.
Is there already analyst commentary?
Maybe. I though it could indicate that some partners finished their work and now 1&1 is in the next phase. I don’t think 1&1 could build their network themselves given the limited knowledge they had on Open RAN. Here are analysts commentaries;
Bernstein analyst Ulrich Rathe questioned the extent to which the network outage is responsible for the lowered guidance or whether they possibly indicate new problems.
Buy, €21-> €19.50: Analyst Keval Khiroya of Deutsche Bank says the focus is now on 1&1’s future operating and capital expenditure and he expects 2024 consensus estimates for operating result to be lowered.
Buy, €20.50: Analyst Polo Tang of UBS criticized 1&1’s clouded annual outlook.
Buy, €25: Analyst Simon Stippig of Warburg Research said the network shortage in May had no long-term consequences.
Neutral, €21: Analyst Andrew Lee of Goldman Sachs said the results were weighed down by temporary operational challenges and one-off effects.
Buy, €32: Analyst Usman Ghazi of Berenberg said the Q2 results look worse than they are. He pointed out that time effects played a significant role and this would significantly relativize reduced guidance for operating result.
I don’t think this is likely for two reasons
- Companies are usually quite good in their planning. This means that they would have most likely accounted for a partner finishing work and them building up more inventory for a next phase in their original 2024 planning if that was the plan.
- I think the low capex in H2 2024 might show problems in the buildout of the network but I did not look it up yet as there is work on all fronts due to the market sell-off.
Maybe you could focus on capex and answer questions like
- How was H2 2024 capex compared to expectations
- Is there analyst commentary around capex?
- Might there be a problem or could it simply be a slight delay as capex guidance for the full year is maintained or even up?
In addition more analyst commentary and other relevant insights and thoughts would be helpful.
I am considering to increase the position at current levels.
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I rather think that the network buildout is progressing well and that the increased in Capex is merely due to a change in inventory strategy which lead to increased costs. Here are my reasons;
- In Q1 2024 earnings call, 1&1 said costs in H1 will go to antenna sites while costs in H2 will mostly go to construction of the remaining two data centers. In Q2, 1&1 reported network startup cost amounting to €54.3 million (excluding €14.3 million one-off effect of 2022/2023 recalculation). This exceeded analysts estimate of €44 million, implying that the number of antenna sites build could have exceeded management estimate or due to change in inventory strategy.
- Q2 capex was €26.5 million (Q1 capex: €7.5 million).
“The biggest part in the CapEx in the last 2 years was the CapEx to Rakuten to build up the core, the data centers and what we need on software and architecture. When we started with the operation of our network, all this work was finished. That means in the first 2 quarters of this year, we do not have any work from Rakuten doing in the data center just as I mentioned earlier, for the 2 further data centers, 3 and 4. That will be the biggest part where we will see CapEx in this year. The assumption is that we will see the biggest part of this CapEx in the third quarter. And so in the first 2 quarters, most of the CapEx is driven for installing the antennas on the sites. And in the first quarter, that was a low number and will increase in the further quarters. But the biggest part of the CapEx will be the CapEx for the 2 new data centers that will come within this year,” Markus Huhn said.
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In its H1 2024 report, 1&1 said the network outage disrupted its customer migration and as such, the expected savings in the purchase of wholesale services will not be realized until October.
“During the fault clearance of the network, it became apparent that central components were not sufficiently dimensioned for further network growth. This has been largely rectified in the meantime, but the delivery of an already planned capacity expansion has now been delayed. In order to maintain sufficient network capacity for new customer contracts, 1&1 has only migrated a small number of existing customer contracts to the new network since the end of May. Expected savings in the purchase of wholesale services will therefore probably not be realized until October.”
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1&1 said at the end of June, it had 1,781 antenna sites (addition of 447 during the quarter).
- In its earnings call, 1&1 said the increased 2024 capex guidance by 80 million is due to the shifting of some payment meant for Rakuten from 2026 to 2024- Rakuten needed to upgrade their stock which had stayed in their hands for long due to delayed network rollout.
- 1&1 is guiding for 360 million euros capex in 2025 (excluding the passive infrastructure worth 100-150 million euros).
- 1&1 said if they don’t get a partner to purchase the passive infrastructure, they will retain it through debt financing (they pointed out that financing terms are getting better).
- The company said that the network outage in May was caused by a failure of one of its data centers (and failure of redundancy measures to kick in) and not Open RAN network, adding that they stopped customer migration to ensure that everything was running smoothly first.
- 1&1 said they now have 546 active antenna sites (Q1 2024: 227).
- They reiterated the same commentary they have had on the Vodafone deal such as pointing out that the contract should start latest October.
Assessment
The construction of 1&1 network progressed well during the quarter. If they continue at the same pace, they are likely to hit their target of 3,000 antenna sites at the end of the year.
I particularly liked that the network outage was not caused by Open RAN as that would lower the credibility of the new technology. I think that issue could happen to any other network out there and as such, 1&1 shares doesn’t deserve to be punished for it.
The capex issue as a result of phasing of Rakuten stock is not out of the ordinary. They are simply paying for it earlier than planned. For the passive infrastructure, they want to sell it and rent it- a process that won’t make much difference other than increase their cash positioning at the moment.
I also liked that there have been no changes with the scheduling of the Vodafone contract despite the delayed migration of customers.
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I=3
Buy, €32->€30: Analyst Usman Ghazi of Berenberg said the results were mixed and concerns over liquidity weighed on investor sentiment. He thinks an end to cash burn is in sight with 2025 positive free cash flow being conceivable.
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The good thing is that 1&1 still has cash (I think around 350million) and is producing cash from it’s operations (excluding capex for own network).
Most crucially they don’t have any debt at all and should therefore be in a solid position. Once we have some time we could build a more detailed cash-flow model for them as well.
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