Sol Trujillo has turned from villain to hero in the space of a briefing session. Well, that seems to be consensus view according to the business press gallery, after Telstra announced a solid 13.4 percent rise in profit to $1.94 billion from a 5.3 percent increase in sales for the December half.

Business Spectator’s Robert Gottliebsen, normally not one to be easily impressed, seemed dazzled by Sol’s show, noting that:

The Telstra board were lampooned as complete fools for appointing Sol Trujillo as CEO. Their greatest critic was the former communications minister Helen Coonan. The Telstra board members are now starting to look like possible heroes. Coonan is on the back bench.

While Telstra’s performance is on its face, impressive, especially compared with Optus (whose earnings for the nine months ending December 2007 dropped by 40 percent), the plaudits for Sol and his team seem slightly overdone.

While bottom line profit was up 13.4 percent, EBIT increased by the lower 6.2 percent (bottom line profit looked better thanks to lower corporate tax and interest payments). Further, despite being effectively a utility, the market continues to price Telstra on a forward multiple of 16 times earnings.

Notwithstanding Trujillo’s boastful claims, the company isn’t quite “firing on all cylinders” — revenue from its copper network continued to fall, down 1.4 percent. Given fixed line services are still Telstra’s largest revenue segment, a more accurate description would have been that the company is firing on all cylinders, except for its largest one.

However, the drop in fixed-line sales was however more than offset by a 14.5 percent surge in mobile revenue and a 35 percent leap in internet sales. Foxtel also chipped in with a $100 million payment. It is this mobile revenue growth which has gotten commentators and analysts excited, allegedly vindicating Trujillo’s costly 3G rollout.

While Telstra’s performance is respectable, the growth in premium mobile services must be placed in context. Early adopters to Telstra 3G network (such as corporate Blackberry users) aren’t especially thrifty. Therefore, Telstra has been able to widen margins by providing premium products (such as web mobile browsing), with the average data spend per user increasing by 37 percent.

This growth rate is unsustainable in the medium term for two reasons. First, most customers are far more price conscious than early adopters or corporate clients, and once the Telstra has exhausted selling to the cream, it will find maintaining such high margins slightly more difficult. Second, as Telstra’s competitors eventually migrate to providing full, high speed mobile data services, data prices will inevitably drop and margins fall. (This happened with fixed lines and later mobiles in general, evidenced by Telstra’s revenue from basic mobile calls and access eking out a far more pedestrian 1.3 percent rise).

It should be noted that currently, Vodafone and 3Mobile focus on the lower end of the market, effectively leaving Telstra to compete with Optus for premium customers. The Singaporean-owned competitor has been too busy cutting costs and moving staff to India to effectively compete, allowing TLS to solidify its leadership in the premium area.

Despite the plaudits, Telstra’s result is solid, but not outstanding. Once Telstra can deliver several years of continued profit growth across and stop paying dividends from borrowings, then its performance can be praised. Until then, the utility is still priced for growth and its share price remains lower than when Trujillo arrived. Overall, probably best to keep the Cristal on ice for a few more quarters.

Peter Fray

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