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The BULL case for Telstra Corporation Ltd

As Telstra Corporation Ltd (ASX: TLS) shares creep back towards their 52-week high, it’s a chance to ask ourselves if there is still value at current prices. In my opinion, the answer is yes.

Until recently, many investors perceived Telstra as the ex-government, home phone and Sensis business which was outdated and sure to fail in a world of nimble technology companies. But it is no more.

Waving goodbye to a lucrative legacy

For years, Telstra enjoyed the benefits of being a former government department. With infrastructure that enabled it to have a monopoly over its competitors and margins so robust they are were envy of every big company.

In recent times however, internet providers like iiNET Limited (ASX: IIN) and TPG Telecom Ltd (ASX: TPM) have grown concerned over the dominance prescribed to Telstra and its shareholders. There have been many cases heard in front of the competition watchdog which have proven how hard it can be for rivals to compete with Telstra in its current capacity.

But now, at least as far as most investors can tell, the natural monopoly is coming to an end and Telstra’s once envied copper-cable network is set to be replaced by a faster fibre optic network owned by the government’s own NBN Co. However, recently a report surfaced which showed Telstra’s shareholders can expect nearly $100 billion in lease payments over the next 55 years. Talk about easy money!

A changing landscape

In the next few years, with the market rapidly adapting to the latest trend of applications and devices (which are internet dependent) data usage and network throughput will increase. Dramatically.

As a result, superior network coverage, convenience and reliability is what every customer will be demanding. In this respect Telstra is in poll position. Its mobile network is far more superior to that of Vodafone – part-owned by Hutchison Telecommunications (Aus) Ltd (ASX: HTA) – and Singapore Telecommunications Ltd’s (ASX: SGT) Optus. In the past five years, Telstra is the only company to have significantly grown its market share of mobile subscribers.

But mobiles aren’t going to be the catalyst for its next growth spurt. Businesses and corporations will play a bigger role. Providing large networks, unified communications and cloud computing to customers right throughout Australia and Asia. This will be central to the Telco’s next wave of growth. It was evident in its most recent half-yearly report when it announced nearly 30% revenue growth from both its Networked Application Services (NAS) and International divisions.

In the next few years Telstra will look to completely remove itself from its troubled Sensis business and will make sweeping changes to its Media division as a whole.

Valuation

Telstra shares have had a great run in the past three years as investors reacted to low interest rates and the company’s increasing cash flows. In the next few years, it remains unclear as to exactly what management intend to do with its huge amount of free cash flow which is anticipated to be at the higher end of management’s FY14 guidance provided earlier in the year ($4.6 billion to $5.1 billion).

I suspect, there are two alternatives likely to play out in investors’ favour in coming years.

The first of which is increasing dividends. Analysts’ suspicions were confirmed earlier this year when the board declared a 14.5 cent interim payout. This is likely to be replicated in the second half of the year. Putting it on a forecast dividend yield of 5.6% plus franking. By 2016, consensus appears to be for a dividend above 30 cents per share.

The second likely outcome is further investment in Asia. Recently, the company divested its stake in Hong Kong mobile carrier CSL amid, arguably, one of the best growth periods it had experienced since Telstra purchased its stake in the carrier back in 2002.

However other alternatives include a share buyback or paying down some of its $13.9 billion in debt, particularly before interest rates rise and interest cover falls from its current 12.4 times FY13 EBITDA.

Foolish takeaway

With industry tailwinds and a dominant market position which is likely to continue many years into the future, investors could do a lot worse than add this telco to their portfolios. With both the International and NAS businesses driving earnings higher, don’t be surprised to see management continue to invest heavily in Asia and return excess funds to shareholders.

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Motley Fool Contributor Owen Raszkiewicz does not have a financial interest in any of the mentioned companies. 

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