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Telstra Corporation Ltd and Vocus Group Ltd just got hit with a downgrade

The share prices of Telstra Corporation Ltd (ASX: TLS) and Vocus Group Ltd (ASX: VOC) came under pressure today after Macquarie Group Ltd (ASX: MQG) downgraded both stocks ahead of the February reporting season.

It’s been a tough period for telecommunications stocks as their margins have come under significant pressure from the rollout of the national broadband network and rising competition, although poor management is certainly a factor in Vocus’s case.

These stocks have managed to regain some lost ground recently as the NBN revised its pricing policy, but there are warnings that the operating environment won’t improve anytime soon as competitive pressure is likely to remain intense in 2018.

“Over reporting season, we expect the telcos to meet or beat what are relatively conservative expectations,” said Macquarie.

“In terms of underlying FY18 earnings, we believe Telstra is on track to meet its revised guidance, Vocus is skewing towards the higher end of its range and TPG Telecom Ltd (ASX: TPM) is likely to beat.”

We can expect to hear more about cost cutting measures during next month’s reporting season when these companies hand in their report cards, and these savings will help offset pressure in mobiles, broadband and corporate sales.

Don’t expect any bullish or upbeat outlook commentary either, although the silver lining is the low market expectations around the sector’s profit performance.

With so much bad news out in the open, telcos aren’t expected to deliver any nasty surprises and may even come in slightly ahead of expectations.

It won’t be enough for me to change my cautious stance on the sector and Macquarie’s decision to cut its recommendation on Telstra to “neutral” from “outperform” won’t help sentiment.

The broker thinks Australia’s largest telco will struggle to rally further when TPG’s new mobile business is nipping at its heels and the NBN rollout weighs on earnings.

Vocus also copped a downgrade with the broker moving it to “underperform” from “neutral” as the stock has overshot its fundamental valuation. Macquarie has a price target of $3.05 a share.

You might be interested to note that the broker has reiterated its “neutral” rating on TPG and its “outperform” recommendation on Amaysim Australia Ltd (ASX: AYS). Amaysim is the only stock in the sector that Macquarie thinks is worth buying.

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Motley Fool contributor Brendon Lau owns shares of Macquarie Group Limited, TPG Telecom Limited, and Vocus Communications Limited. The Motley Fool Australia owns shares of and has recommended Telstra Limited, TPG Telecom Limited, and Vocus Communications Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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