Gift University of Gujranwala

Corporate Finance
WACC

TELUS Corporation (Dividend Policy)

Submitted to:
Sir Asim Ilyas
Submitted by:
Ali Raza

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TELUS
Corporatio
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TELUS Corporation: Dividend Policy

INTRODUCTION:
The Canadian telecommunications industry began to see rapid growth and changes ever since
the introduction of cellular service in 1985. TELUS Corporation is one 4 major corporations
in the telecommunications industry who account for 78%of industry revenues in 2000.there
are two segments wire line and wireless.TELUS Corporation case is written by Ken Mark,
fundamentally there are two characters in this case, the one is Robert Gardner is the vice
president &treasurer of TELUS and the second is Robert McFarlane the chief financial
officer. Robert Gardner realized that company dividend policy was shaped partly by

TELUS future prospects

leverage policy
state of the telecommunication industry
expectation of the investor

There was a contradiction implied by a growth oriented company with a high payout
ratio.

Authorities:
Robert Gardner is the vice president &treasurer of TELUS
Robert McFarlane the chief financial officer

Canadian Telecommunication Industry

In2000,theCanadiantelecommunicationsindustryrecordedservicerevenuesof$29.9billion,the
highestever.Theindustrywasdominatedbyincumbentlocalexchangecarriers(ILECs),the
telephonecompaniesthathadhistoricallyprovidedtelecommunicationsservicesonamonopolybasis
priortorecentderegulationandtheemergenceofnewcompetitors.
TheILECsconsistedprimarilyofverylargecompaniessuchasTELUS,BellCanada,AliantTelecom
andMTS(ManitobaTel)whoprovidedafullrangeofbothwirelineandwirelessservices.Theywere
primarilyregionallyfocusedandhistoricallyhadcooperatedtocoordinateserviceofferingsto
customersrequiringserviceonanationalbasis,butrecentlytheyhadbeguntocompeteinselect
markets.TheselargeILECsaccountedfor78percentofindustryrevenuesin2000.

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TheCanadiantelecommunicationsindustrybegantoseerapidgrowthandchangeseversincethe
introductionofcellularservicein1985.Recorded services revenue of 29.9 billion, Industry dominated
by incumbents local exchange carriers, Provide a full range of both wire line and wireless services ,
Large ILECS accounted 78 % of industry revenue

Wireline competitors:
There are two types of Wireless competitors
1. Facility based providers:

2. Reseller

1. Facility based providers:

They owned much of their physical transmission facilities include companies like AT&T
Canada, Call Net, GT Group.
2. Resellers:
They did not own their facilities but utilized ILECS or other networks to deliver services
include Primus, Distribute Communication& IPS.
Wireless Market:
Four national carriers.
Rogers Wirless
TELUS

Microcell
Bell wireless

From 1998 to 2000, Wireline revenue compounded annual growth rate

7.4%,Wireless CAGR was 12.3%, resulting in Canadian real GDP growing from
1.8% to 2.4%.

Estimation of consulting firm:

A consulting firm (TF/Carson) estimated that about 47.4 million voting and nonvoting shares of Telus were owned by mutual funds. The focus of these mutual
funds was as follows:
Growth oriented: 50 per cent

Income oriented: 36 per cent

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Balanced funds: 7 per cent

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Index funds: 7 per cent

CRTC is an independent agency responsible for regulating Canadas broad casting &
telecommunication increase competition in the industry. They began deregulating long
distance & service in the wire line market in 1997 CRTC opened local service to
competition this eliminated the traditional local phone service monopoly, opened the
opportunity for ILECS to pursue competition & growth against incumbent
telecommunication companies.
Both bell & TELUS beginning large, long distance market was becoming increasingly
commoditized, declining industry revenue as the revenue loss associated from reduces
prices in recent years ,long distance competitors generate volume on their networks
&offered lower prices.

Problem Facing By TELUS Corporation:

TELUS Corporation was formed in 1999 with the merger of two carriers; Alberta
based TELUS and BC telecom. Following the appointment of a new CEO, TELUS
created a new strategic intent for the company. These six strategies were to build
national capabilities, provide integrated solutions, Partnering, Acquiring, and
Investing. Other strategies included focuses on Data, IP and investing in internal
capabilities. In pursuit of attainting these strategies TELUS started to invest in state-ofthe art national fiber optic IP network in building local access networks. With a new
strategy a divided recommendation was too made in the coming weeks to decide a new
policy. The dividend policy is formed by future prospects, leverage policy, the state of
the art telecommunications industry, and the expectations of investors. When it comes
to making the policies
KEY CHALLENGES:

Challenges for ILECS to establish a variable business model

High startup capital requirement
Negative cash flow
Long technology provisioning times.
Falling prices in both long distance and local services as well as burst of dot.com

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Bubble, resulted in large number of ILECS failure including AXXENT.CI

communication, norigen.
Wireless penetration in Canada was just under 35%.
As it approaches penetration rates of 70%.
Despite of growth wireless industry was still in investment phase.
Internet access market was another growth area

CRTC was considering new prices cap regulations that prevent incumbents carriers
from raising the prices.CRTC was considering modifying the subsidies or contribution,
that incumbents could receive for providing basic residential service at below cost rate
in high cost service area. TELUS estimated projected impact of these two regulatory
decisions to be a reduction in annual EBITDA of between 250 million to 300 million.

TELUS:

Formed in 1999 with the merger of two carriers Alberta based TELUS & BC
telecom. TELUS accelerated its national expansion plans & exposure to the high
growth wireless market with 6.6 billion. To finance Clearnet acquisition, TELUS
arranged short term bridging loan of 6.25 billion, thereby increasing the leverage of the
firm. Dominion bond rating service downgraded TELUS debt rating to BBB (high)
&R-2(high) from A and R-1 (middle). TELUS successfully raised 9.2 billion in
offering of unsecured notes bank syndicated credit facility. Divested its directories
business for 810 million. TELUS acquired the remaining 30% stock in Quebec tel for
285 million. With respect to OEP in 2002 TELUS expected to recorded an additional
expense of 12.5 million.

The strategic intent was supported by six strategic imperatives:

Build national capabilities across data, IP, voice and wireless by leveraging our IP
platform;
Provide integrated solutions that anticipate and meet the evolving needs of our
customers and differentiate TELUS from its competition;
Partnering, acquiring and divesting to accelerate the implementation of our strategy
and to focus our resources on our core business;
Focus relentlessly on data, IP, voice and wireless growth with the objective of
building scale and differentiation by integrating services into compelling solutions for
our customers;
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Go to market as one team under a common brand, executing a single strategy; and
Invest in internal capabilities, most particularly our people, to build a high
performance culture and efficient operation.

Dividend reinvestment plan:

In 2001, TELUS changed its dividend reinvestment plan (DRIP) by providing five per
cent discount to the existing market price for reinvested dividends in order to reduce
the companys debt. The issuance was to be done from treasury only instead of
secondary markets. An investor could purchase up to $20,000 per month. About 44.1
per cent dividends were reinvested in October 2001 which was a significant increase
from the previous period.

Dividend current policies maintain:

TELUS has currently offering a dividend of $1.40, which is the second highest in the
industry. Their current expected free cash flow per share is not forecasted to be able to
maintain that dividend. With 298 million shares outstanding, it will cost approx.
$417.2 million to pay the current dividend. The current free cash flow forecast is ($850.8 million), leaving TELUS to finance $1,268,560,000 to maintain the dividend of
$1.40

TELUS Dividend Policy:

These are four dividend policies for earning.

reduce debt increase cash

pay a dividend to share holders (Alberta, BC)
reinvests them for organic growth or acquisition
repurchase its shares

TELUS annual dividend were 0.92 & 1.40 per share ,Exchange ratio for BC telecom is
1:1,TELUS share holder realized 18% increase in dividend ,TELUS had 298.4
common voting and nonvoting shares outstanding,47.4 million voting and nonvoting
TELUS shares were held by mutual funds The focus of these mutual funds was as
follow:
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growth oriented 50%
incomes oriented 36%

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balance fund 7%
Index fund 7%

TELUS had a dividend reinvestment plan (DRIP).TELUS offers 5% discount to share

holders to the existing market price for reinvested dividends. Monthly purchase of up
to 20,000 per investor was allowed. Participation in TELUS drip was 44.1 % in
October 2001.Cash flow statement for nine months ended Sep 2001 showed that 66.9
millions of shares had been issued compared to 13.7 million in the same period a year
earlier. TELUS current dividend per share was 1.40 or 0.35 per quarter. Clearnet
generated negative free cash flow 158.9 million in 9 months ended sep 30 ,
2002.TELUS issued almost 50 million shares in addition to issuing and assuming 4.7
billion of debt. TELUS paying 70 million of incremental dividends per annum as a
result of acquisition. Retain the dividend payout at the level existing prior to the
Clearnet purchase .in order to indicate to the investors that the Clearnet purchase was
financially manageable. TELUS chief executive stated that we are committed on
maintaining an investment credit rating, our balance sheet shows that after acquiring
Clearnet net debt is 7.6 billion and total share holder equity of 6.8 billion.
In 2000 annual report stated current dividend levels may be in consistent with the
growth strategy of talus. The debt of talus is currently rated investment grade and
talus plans to maintain this status. The business plan of talus contemplates increased
capital expenditures in the growth area of wireless, data and IP as well as expansion
on a national basis. TELUS review its dividend policy quarterly
By October 2001 for four quarters TELUS had held its dividend at 0.35 per quarter.
With a closing share price of 23.65 on Monday, Oct 22, 2001, was down from 42.65
at end of Jan 2001.TELUS dividend yield was 5.9 percent .TELUS debt was rated as
investment grade
BBB+ by standards & poors
BBB (HIGH) by dominion bond rating
Baa2 by moodys
If talus wanted to raise cash without incurring further debt if equity was sold dividend
would be payable on new shares and transaction cost would be four percent to six
percent. On Sep 30 2001 TELUS net debt was 54.5 percent above its leverage policy
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target of 50 %.In 1998 it was 33% and in 1999 it was 32.2%.Dec 20, 2000
announcement by AT&T to reduce it fourth quarter dividend by 83 % from 0.22 to
0.0375.Jan 15, 2001 announcement by cogoco cable that it would cancel its dividend
of 0.03 per quarter.Dec 8, 1999 Trans Canada pipe lines announced that it would
reduce its annual dividend from 1.12 per share to 0.80per share. In contrast to the
alternative of cutting TELUS dividend, holding the dividend at its current level could
send a strong signal to the market; TELUS management was confidence about its
future financial performance. Some companies also had active share repurchase
programs, share repurchase were another way of returning capital to share holder and
in the process reinforcing investor confidence and perhaps bolstering the price of the
stock in the market on Nov 8 2008, BCE indicated its intention to repurchase for
cancellation up to 440 million common shares between Nov 10, 2000 to Nov 9,
2001.By dec 31, 2000, BEC had purchased and cancelled 9.2 million common shares
for an aggregate price of 384 million. In 2000, MTS repurchased 2.5 million shares at
an aggregate cost of 59.5 million.

Analysis :Initial evaluation of TELUS current dividend policy, we speculated that the

$1.40 dividend per share would not be sustainable with our projected future cash
flows and would not align with the growth strategy. This was communicated to
TELUS shareholders in the Management discussion and Analysis in the spring of
2001.
Dividend current policy maintains:
TELUS has currently offering a dividend of $1.40, which is the second

highest in the industry. Their current expected free cash flow per share is not
forecasted to be able to maintain that dividend. With 298 million shares outstanding, it
will cost approx. $417.2 million to pay the current dividend. The current free cash
flow forecast is (-$850.8 million), leaving TELUS to finance $1,268,560,000 to
maintain the dividend of $1.40.

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The possibility of solving this problem through debt issuance is not a feasible option
because of our recently issued $9.2 billion in debt, which downgraded our debt rating
to the lowest investment grade of BBB (high);both Moodys and Standard and Poors
evaluated our current debt structure with a negative outlook credit rating. Telus
Corporation has a policy, which does not support a lower debt rating and does not
wish to be downgraded further. Our current net debt to capitalization ratio is above
our target long-term leverage policy, which makes issuing debt an inadequate option.
The other alternative is to issue additional equity, which could be financed with an
issuing cost of 4-6%.Telus target net debt to capitalization ratio is 50% and is
currently at 58.8% (as of the June 2001 Statement of Financial Position).This provides
us with an incentive to issue more equity to raise funds while also improving upon our
target ratios. If we were to set this ratio equal to our target of 50%, then our
shareholders equity would have to be increased by $2,863,052,632 (after floatation
costs) to $9,126,700,000, which is consistent with issuing approximately 121 million
shares at $23.65.Although this would cover our negative free cash flows for the
upcoming year, this in a 40.6% increase in total equity, which is inconsistent with
managements strategy. The relevant calculations are as follows:

Financial Calculation:
LongtermDebt/(Shorttermdebt+LongtermDebt+ShareholdersEquity)=50%
(1200.4+7926.3)/[(1200.4+7926.3)+6406.8]=58.8%
0.50=9126.7/(9126.7+SHE)
SHE=9126.7
ChangeinSHE=9126.76406.8
ChangeinSHE=2719.9Million
Accountingforfloatationcosts:
2719.9/(10.05)=2863.05
ChangeinnosofShares=2863.05/$23.65
ChangeinnosofShares=121.06MillionShares

Graphical Representation of TELUS shares Price:

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TELUS share price

50
45
40
35
30
25
20
15
10
5
0

Our first concern is to reduce negative free cash flow for 2001 by 50% (this being an

arbitrary number, but an attainable goal) and to be left with zero negative cash flow in
2002. Our reasoning behind this is that by freeing up cash flow, it will increase our
dividend paying flexibility, as well as reduce our need to draw from retained earnings.
Our next concern is that we do not wish to issue more than 5% of our current number
of shares outstanding to avoid a large fluctuation in price, as well as heavy floatation
costs. Our justifications for reducing the dividend include sufficient evidence that our
investors and shareholders will be supportive and accepting of our decision. Firstly, in
an analysis of our current shareholders, we concluded that 64% of our mutual fund
investors were not income oriented and therefore, we assume they will be less
impacted by a dividend reduction.
In October 2001, there was a 44.1% participation rate in the reinvestment plan
(DRIP).Thisprovidesinsightintoourinvestorspreferences,showingusthatmany
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ofourinvestorsareinterestedincapitalgainsandarewillingtoforgoadividend
income.Thirdly,intheacquisitionofClearnet,50millionadditionaldividendbearing
shareswereissuedwhichincreasedTelusdividendspayableby$70millionayear.
ThisissuancefurtherweakenedTelusfinancialpositionalongwithdebtfinancing
costs.Asafinalpoint,ourshareholderswerewarnedintheManagementDiscussion
and Analysis that the current dividend policy was inconsistent with our growth
strategy. Lowering the dividend payout supports internal growth in T elus, which
providesastronginvestmentopportunityinthefastgrowingwirelessindustry.
[298.4millioncommonsharesoutstandingX$1.40$135million(reductionin
negativefreeCFinyear2)]/298.4millioncommonsharesoutstanding=$0.94
dividendpershare
Thisisa32.9%decreasefromthecurrentdividendbeingpaid.Nextwelookatour
newequityissuinganddeterminehowmanynewsharesneedtobeissued.
Newequityissue=(425.4million135million)/(10.05)
Newequityissue=$305.6million
Numberofshares=$305.6million/$23.65

Numberofshares=12,925,336.6shares

Conclusion:

Eliminating the dividend completely will send a very negative signal in the market. It
will trigger the sale of companys shares and the share price will fall further.Reducing
the dividend may be an option but it is very hard to determine that to what extent the
dividends should be reduced. Reducing dividends have resulted in disasters for other
companies and is not considered a good sign even if the company is 100 years old.
Residual model can be used to determine the level of dividends to be distributed.

Recommendation:

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Following our above recommendations we would like to reiterate our confidence in

our suggestion of a dividend reduction for Telus Corporation. Through various
calculations and choosing a path of minimal assumptions, we were able to set
attainable goals, identify a variable for sensitivity analysis and provide a sustainable
dividend policy that will maximize shareholder value. It is our belief that in an
industry of declining revenues, based on recent regulatory changes, Telus has
increasing EBITDA forecasts that represent their operational efficiencies. This
combined with many one-time restructuring and financing costs in the upcoming
years, provides Telus with a strong future cash flow position. This could allow for a
future dividend increase or reevaluation. We feel that our recommendation places
Telus in the strongest possible position given the circumstances.

Appendixes
Exhibit 1:

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TELUS share price

50
40
30
20
10
0

Exhibit 2:

Dividends
0.4
0.35
0.3
0.25
0.2
0.15
0.1
0.05
0

Dividends

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