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The leading provider of wireless communication services in South Korea, SK Telecom Corp.  (SKM) has reported its first quarter 2012 results. Quarterly net income plunged 39.9% year over year to KRW 323 billion (approximately $291 million). Increased investments in advanced wireless networks and mobile tariff cuts were largely responsible for the decline in the quarter.

Revenues

Total operating revenue for the first quarter was KRW 3,016 billion (approximately $2.7 billion), down 3.7% year over year given the drop in most of the product lines. Consolidated operating revenue grew 2% to KRW 3,986 billion ($3.6 billion) driven by growth in 3G and 4G LTE subscriber growth and improvement in revenues from SK Planet.

Mobile service revenue dropped 2.1% year over year to KRW 2,621 billion (approximately $2.4 billion). Interconnection revenue declined 14.4% to KRW 254 billion ($229 million) while new business and other revenue was down 10.8% at KRW 141 billion ($127 million) from the year-ago quarter.

Operating Income & Expenses

Operating income fell 26.4% to KRW 452 billion (approximately $407 million) in the first quarter, resulting in operating margin of 11.3%, down 440 basis points. The decline was mainly due to the reduction in mobile tariffs

Despite lower marketing expenses and increased smartphone activations, operating income lacked luster due to spectrum reallocation and higher investment.

Operating expenses rose 7.3% year over year to KRW 3,533 billion (approximately $3.2 billion). Marketing expenses fell 7.6% year over year to KRW 725 billion ($652.5 million). Marketing to sales ratio improved to 24.0% from 25.1% in the year-ago quarter.

Subscriber, ARPU & Churn

During the first quarter of 2012, subscribers increased 2.2% year over year to 26.56 million with a net addition of 4,000 customers.

ARPU (average revenue per user) fell 3.1% year over year to KRW 39,126 (approximately $35.21) owing to cuts in monthly mobile service rates while the churn rate remained stable at 2.5%.

Liquidity

SK Telecom exited the first quarter with KRW 2,457 billion of cash and marketable securities on its balance sheet. Debt-to-equity ratio was 63.7% compared with 44.6% in the year-ago period. Capital expenditure increased to KRW 482 billion from KRW 300 billion in the year ago quarter.

Our Analysis

SK Telecom continues to lead the domestic wireless market through successful smartphone offerings as well as the expansion of its 4G LTE service. Moreover, 3G network expansion, Apple Inc. (AAPL) iPhone offerings, cloud computing and mobile software businesses should boost the company’s long-term prospects. However, increased promotional expenses and heavy handset subsidies may drag the company’s earnings in the near future. SK Telecom is continuously investing to improve its network visibility that would restrict its future earnings. Further, we remain cautious on tariff reductions, intense competition from its major rival KT Corp. (KT) and heavy regulation by the Korean ministry.

We are currently maintaining our long-term Neutral recommendation on SK Telecom. For the short term (1–3 months), the stock retains a Zacks #3 Rank (Hold).

 
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