Telefónica Brasil S.A.

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 4/5

Telefônica Brasil S.A., operating as Vivo, is a Brazilian telecommunications company, providing a range of services, including mobile, fixed-line, broadband, and pay TV. It faces intense competition, evolving technologies, and a complex regulatory environment.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview:

  • Revenue Distribution: Vivo’s revenue streams are primarily divided into three broad categories:
    • Mobile Services: Mobile voice and data services generate the bulk of the company’s revenue, relying heavily on postpaid subscriptions which ensure predictable revenue streams.
    • Fixed-Line Services: Fixed voice, broadband and pay TV services are a smaller but still significant component of Vivo’s business.
    • Digital Services: The company’s digital services, including cloud, financial and security solutions, are increasingly important, with continuous growth every year.
  • Industry Trends: The Brazilian telecommunications sector has undergone significant changes:
    • Consolidation and Competition: The industry is consolidating, but at the same time, new competitors are emerging, especially in segments like mobile services and broadband, and increasing competition in various sectors.
    • Technological Transformation: The technological transformations and the high penetration of digital services are having a positive effect on revenue generation, because they favor an environment of growing internet data.
    • Regulatory Changes: The industry faces ongoing regulatory changes that could materially affect prices and the Company’s profitability.
  • Competitive Landscape: Vivo competes with several major players in the Brazilian telecommunications market, such as TIM, Claro and Oi, but also with companies like SKY, which are offering competitive prices, making profitability a challenge in some aspects.
  • What Makes Vivo Different: The company is the first to create a complete integrated digital ecosystem, encompassing different solutions (connectivity, services, data analysis, etc.), and has implemented a customer-centric strategy with excellent quality of service, personalized experience, and constant interaction.
  • Margins: Vivo’s margins have shown some volatility, but the company’s strong focus on improving cost efficiency has begun to pay off.

Financials in-depth:

  • Revenue: The company’s gross operating revenue has consistently increased since 2020, but 2023 growth was slower, largely attributed to the negative impact of the sale of services.
    • There was a 1.5% revenue increase between 2021 and 2022, increasing to a 5.1% growth between 2022 and 2023.

  • Service revenue increased by 6% in 2023, but was offset by a 17.2% decrease in product revenues.

  • Profitability: The adjusted net operating revenue and the net income from 2021 to 2023 shows some fluctuations year by year.
    • The net income for 2023 was R$3,336 million, which is higher than in the year 2021 (R$ 4,770 million).
  • Operating income had an annual increase of 6.4% and 1.3% for the years 2022 and 2023 respectively, representing a slowdown compared to 2021, when it grew 15.5%.
  • Operating Expenses: Operating expenses have increased over the years, mainly due to a rise in taxes, costs of services, and personnel costs. These have impacted net profitability.
  • Cash Flow: Overall, free cash flow seems to be stable with a few fluctuations, but remains at a strong position and able to generate good profits.
  • Debt:
  • The company reduced its net debt from R$16.18 billion in December 2021, to R$ 9.092 billion in December 2022. * In 2023, the company’s net debt was reduced further to R$8,368 billion.
  • Shareholder Returns: Shareholders have been prioritized with dividend payments in the 2023.
  • The Company has a program for shares repurchases in place.

Moat Analysis:

  • Intangible Assets: Vivo has built a strong brand recognition and a reputation for good services, which makes users more likely to subscribe to their services. However, those do not seem to make up a strong competitive advantage because there is no high differentiation in quality amongst the competitors. In Brazil there are a lot of well-known brands like TIM and Claro that offer comparable services at comparable prices, reducing the pricing power of Vivo.
  • Switching Costs: Although consumers could switch to other services with not too much hassle, the convenience of using multiple services under one company (like bundle packs for internet, TV, mobile, and other services), results in some switching costs.
  • Network Effects: The company’s mobile network, being the largest in Brazil, presents some network effects, meaning that users are more inclined to stick with a service provider if they are offering great coverage throughout the whole country.
  • Cost Advantages: The company has high costs due to the large workforce that they have, making some competitors with less employees (such as Oi) able to operate more efficiently with less operational costs.

Based on these factors, I rate Vivo’s moat as a 2 out of 5. While it has some advantages, it is not enough to consider them strong and sustainable over long periods of time. The moat is also constantly challenged by competitors.

Risks to the Moat:

  • Intense Competition: The telecommunications market in Brazil is very competitive, with several major players. This puts pressure on pricing and can erode profit margins.
  • Technological Disruption: Technological advances could disrupt traditional services and diminish the value of infrastructure assets. There is a constant evolution in the telecommunication market, which challenges the company to keep updating its services.
  • Regulatory Risks: The company’s operations are highly regulated, and changes in regulations can affect its profitability.
  • Macroeconomic Conditions: The Brazilian economy is subject to volatility and has a high interest-rate and inflation rate, which can impact consumer spending and thus revenues.
  • Management Risk: Because the company is not owner-operated but is owned by several different entities, there are some worries about leadership turnover and if they have the shareholders’ best interest at heart.

Business Resilience: Vivo is still a strong player in the Brazilian telecommunication market, and its large scale and established position is a defensive advantage. The need for connectivity and communication is unlikely to disappear, giving some resilience to the overall business model. However, competition and pricing pressures will always be a factor in profitability. Overall, I believe the company is well-positioned to withstand a recession thanks to its high brand recognition, diverse services, strong financials, and experienced management. I think a major part of the company’s revenue will always be present, which is their mobile subscriptions, making the company’s value quite resilient, but this is not a bullet-proof company and any problems with its structure will probably impact its overall operations.

I rate the business an understandability of 3 out of 5. Despite the complexity of the business being present, it’s overall operations are not that hard to grasp and you can get a good understanding of the company by digging into its financials.

I rate the balance sheet health as a 4 out of 5. The company’s debt is reasonable, it generates solid cash flow, and it has enough assets to back it, so the balance sheet is solid and stable. But, it also has lots of intangibles, which make the true value difficult to assess.

Recent Concerns/Controversies/Problems:

  • Capital Reduction: In December 2023, the company concluded a capital reduction, leading to a decrease in share price, which might give some worry to investors. It is important to remember that it has been said to have no impact in the company’s operations, as it only reduces the number of shares outstanding.
  • Government Regulation: The Brazilian government is constantly reviewing their regulation procedures, and that might negatively impact the company.
  • Macroeconomic Environment: As stated earlier, high interest rates and inflation in Brazil are not helpful to growth, therefore investors are often worried about any long-term investments in Brazilian companies.
  • Competition: Although the company has a big market share, that is not a good source of competitive advantage, and it is constantly competing with very well-known and established companies. This limits pricing power and profitability.