Research Notes

The company's 9M05 revenue jumped by 55% on the year-earlier period, which is a strong result comparable to H105, when revenue rose by 57%. OIBDA and gross profit also increased by 55% and 54%, respectively. Such business scalability is not new for Vimpelcom, which has already displayed the same trend for these financial items.

Net profit rocketed by 74%, while net profit margin surged by 2%, which had a positive impact on the company's investment appeal.

The company also reported a rising subscriber base, which totaled 38.4 mln users by the end of Q305, or up 93% y-o-y. Churn rate growth of 1.6% is a negative on the back of the company's statements about the struggle for subscriber loyalty.

Vimpelcom's 9M05 headlines, $ th

On the whole, we are inclined to view the company's results as strong. However, the company's financials came as no surprise, since Vimpelcom's development is in line with the sector trend. As for negatives we would like to highlight the rising churn rate and the ongoing dispute between the company's shareholders, Telenor and Alfa, which has turned from chronic to acute from time to time and does not allow Vimpelcom to gain a foothold on the Ukrainian market.

MTS: eroding leadership

In January-September 2005 the wireless provider's sales surged 31% compared to the year-earlier period, while growth rates in OIBDA, gross profit and net profit were much lower than in sales, up 21%, 19% and 9%, respectively. The subscriber base at MTS rocketed 89% to 50.36 mln, which is largely in line with our forecasts. At the same time, the quarterly churn rate decreased 3.8% to an incredibly low level – 2.9% which is the result of higher customer loyalty.

The mobile major's ARPU shrank 36% in annualized terms, which came as no surprise, since MTS only reported a marginal drop in ARPU in the previous quarter, with ARPU slipping only 40 cents from $9.30 to $8.90.

Despite the fact that the company's growth indicators look robust, the results achieved by MTS are far softer than those of its main rival. VimpelCom outstripped MTS on every substantial metric. While MTS failed to maintain OIBDA and profit at the previous levels, Russia's No. 2 cellular operator even managed to raise net profit margin by 2%, while other profit margin indicators remained unchanged. Below, we provide a side-by-side comparison of the wireless majors' indicators

MTS figures and VimpelCom's performance in 9M05, $ th

Despite the contraction in some indicators MTS still remains the market leader, since in Q3 it managed to increase its subscriber base at more than 50 mln, while VimpelCom serviced only 40.05 mln subscribers at the end of the same reporting period. Revenue at MTS topped that of its rival by 60% and OIBDA margin outstripped VimpelCom's figures by 2.3%.

Thus, MTS' leadership in the FSU is beyond any doubts, since the mobile major considerably outstrips its competitor both in terms of operating and financial indicators.

At the same time, we would like to underscore the fact that the gap between MTS and VimpelCom has been narrowing at a rapid pace. For example, in late September 2005 VimpelCom's sales indicator was 60% lower than that at MTS, while a year ago the same indicator was 89%. The same phenomenon has also occurred in OIBDA and net profit, which dropped by 48% and 114% [sic!], respectively. In terms of Russian customers, VimpelCom has practically caught up with MTS, thus cutting the gap from 5% to 1%. Only a presence on the Ukrainian market allows MTS to keep remain considerably out in front, with a 26% difference between both operators' total subscriber bases.

Differential between VimpelCom and MTS indicators

Company plans. What does next year have in store?

MTS took center stage during a conference call held on November 23, where the company's spokespersons unveiled some of the company's short-term plans.

One major piece of news from MTS was that the wireless company is planning to announce an acquisition of a cellular company in the CIS. While management declined to single out any specific country, MTS was reported to be considering markets of seven countries (Azerbaijan, Armenia, Georgia, Kazakhstan, Kyrgyzstan, Moldova and Tajikistan) as potential expansion targets, while negotiations with these countries are at various stages - from 5% to 90%, according to MTS CEO Vasily Sidorov.

In addition, it was announced that MTS (and not Sistema, as reported previously) will bid in the auction for Turkey's second largest wireless operator Telsim which is to be sold by the state-run Tasarruf Mevduati Sigorta Fonu (the Savings Deposit Insurance Fund, TMSF). In addition, 14 international telecom majors, including the world's largest cellular company Vodafone, will compete against the Russian company. The starting bid for Telsim is $2.8 bln and in the event MTS succeeds, it will finance this acquisition using borrowed resources. The winner is to be announced at the end of December.

Information was also unveiled that the cellular operator would slash its headcount in 2005, transfer all its tariff lines in Russia to rubles and start to release data on active users (those which had performed chargeable operations within the last three months) starting Q106

Continued regional expansion abroad, special focus on costs and increasing customer loyalty has positively impacted the company's investment appeal. However, the fierce competitive pressure which MTS feels in Russia from VimpelCom prevents us from being unreservedly upbeat on the company's results, since the gap between the two wireless companies has considerably narrowed in 2005.

VimpelCom is also focused on regional development. In this regard, the most important recent news was that the Russian cellular operator has finalized the acquisition of Ukrainian Radiosystems. The transaction is estimated at $231.3 mln, including URS' debts of some $23.5 mln assumed by VimpelCom. VimpelCom paid a high price for URS and this is the most expensive transaction in FSU history in terms of price per user (about $2,000). However, we are upbeat on the fact that this transaction is complete and the Russian company has gained access to a promising market in a nearby country, since only new markets can quicken the pace of VimpelCom's robust growth.

It should also be noted that there is still not clarity in relations with Telenor, as the Norwegian shareholder has been adamantly opposed to the URS deal and the media reported nearly at the same time the transaction was closed that Telenor intended to prevent this transaction using all available legal means at its disposal.

Equity outlook

We are not inclined to believe that the results exhibited by MTS and VimpelCom in the first three quarters of 2005 will impact their stock valuations. Despite some deviations in forecasts, the above figures were largely in line with our expectations, although they could slightly dampen investor sentiment. This could be due to negative performance in some key metrics (especially ARPU at MTS and VimpelCom and the churn rate at the latter).

As regards the operators' rival positions, no significant changes are in sight and most likely VimpelCom will remain number two in Russia, although surprises cannot be ruled out during traditional New Year's mass subscriber recruiting campaigns.

In summary, we maintain that both cellular operators hold strong upside potential on fundamentals and we reiterate our Buy recommendation on VimpelCom's ADRs and common shares, as well as MTS ADS and commons, with a target price of $47.37 ($189.48 for commons) for VIP ADRs and $45.95 ($9.19 for commons) for MTS ADS.

Ivan Kobulaev

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