The rapid pace of change in Australia's telco sector means key infrastructure is 'mission critical'

Australia’s telecommunications sector ranks fairly high on the list of sectors in which there’s rarely (if ever) a dull moment.

Such a rapid pace of change can create a tricky minefield, but there’s also plenty of interesting investment narratives within the space.

Broadly speaking, the commercial use-cases within the sector can be broken down into three stages: infrastructure providers, software or hardware developers, and processing data for end users (consumers or businesses).

For Steve Collette, principal at Melbourne-based corporate advisory firm Merchant Group, the optimisation of data management is one of the most compelling commercial use-cases within the sector.

“For me, it’s the idea of how ubiquitous data is when we think about things with inelastic demand,” he told Stockhead.

“Businesses that can service or capture the reality of that type of demand are ones that remain at the forefront of investors’ minds.”

Collette said that among listed telco stocks, there’s been a shift towards business-to-business (B2B) strategies which offer an “end-to-end” solution for data management.

And it’s a move which has been driven by strong margins on offer for companies that execute on that vision.

“The goal is to manage the process all the way from origin point of the data packets, through to how clients assemble data in the cloud and the way employees engage with that data,” Collette said.

“It takes time and those solutions don’t emerge overnight. There’s a range of other services in the market and a variety of ways to achieve that continuous outcome. But as far as an aspirational target – managed services are an important piece of the puzzle.”

‘Mission critical’

One stock focused on the B2B opportunity is 5G Networks (ASX:5GN), which offers end-to-end data management services for business customers.

The company has had a busy 2019, completing an $8m share placement in March as quarterly revenue climbed to start the year.

5GN shares ran all the way from 40c in January to $1.60, before investors hit the brakes after Q2 revenue growth came in flat at $15.4m.

And amid increased investor interest, 5GN’s executive team has focused on strategic acquisitions to execute on the first part of an end-to-end telco strategy — key infrastructure.

The company acquired a Melbourne data centre for $3m in April, followed by a $3.5m deal for another centre in the Sydney CBD earlier this month.

There’s already some big players in the space, including Vocus Group (ASX:VOC) and NextDC (ASX:NXT) — both of which have market capitalisations above $2 billion.

But speaking with Stockhead, 5GN CEO Joe Demase said the aim was ultimately to change the way companies interacted with their IT providers.

“The tech is changing all the time so you’re not necessarily competing against a Vocus,” he says.

“Demands are changing because everything relies on a cloud and high speed connection, and there’s new opportunities based on the different ways we consume information.

“If you look at data centres – everyone’s building them. No one’s turning around and saying ‘I’ve got excess capacity in my data centre.’ And it’s the same with cloud services.”

He added that 5GN also operates adjacent to the rollout of the NBN, which is more focused on the consumer space.

“For a consumer, a bad night with their connection is that Netflix doesn’t work,” Demase says. “What we’re providing is a mission critical service for companies to run their business.”

He said a typical 5GN customer is a professional services firm in accounting or law, with 200 or 300 employees that has an IT staff running its own servers.

“We can replace that server with a high speed fibre link into their office that has connectivity back to our data centre, move those servers and let our team manage it,” he explained.

“It allows them to focus on their core business — and they get faster connection speeds with a cost saving.”

Demase said the recent acquisitions in strategic CBD locations are part of a strategy to provide direct-fibre services to business clients.

“We’ve aggressively targeted acquisitions — we’ve done six in under two years since we listed — but we’re strategic about the markets we play in,” he said.

“For us now, it’s a matter of sweating those infrastructure assets until you get to a critical mass. Once you get to 30-40 per cent capacity they really start to make good money, because the majority of revenue drops to bottom line.”

The other driver of 5GN’s move to vertical integration is to reduce data centre rental costs, offsetting an existing cost of $4m per year, Demase said.

And as competition heats up, he said the company wants to position itself to be flexible around client requirements.

“Some clients may still want to operate with their own physical server, and just put it in your data centre. Other clients may just need to rent cloud services,” he said.

“That demand for faster tech is going to continue to grow. New applications are being written all the time and I think it’s self-perpetuating as we grow as a population.”