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India Connect
3G – Initial Hiccups; Unexpected Trends
Past week’s India telecom trading — The Indian market took a breather, ending
flat over the previous week. Bharti continued with its outperformance as it turns into
a consensus buy, ending the week up 2%. Idea marginally underperformed, giving
up some of its previous week’s gains on regulatory uncertainty related to the IdeaSpice merger. RCOM was down 1% during the week.
3G – initial on-ground trends – Our on-ground research on 3G has shown that 1)
initial success of 3G has been witnessed in the smaller towns rather than larger
cities, primarily due to ready availability of next-gen high-speed data dongles based
on CDMA in these cities (speeds relatively slower, but not enough to shift to 3G); 2)
dongles rather than handsets are the key focus for operators, given high usage can
only occur through the dongle route; and 3) network issues persist and will take time
to resolve.
DoCoMo claims that MNP response not as expected – DoCoMo has disclosed
that it hasn’t received the expected response from MNP in the Punjab circle, having
gained 3-4% of the post-paid market v/s the expected 5-10%. While DoCoMo
should have benefited having won 3G, the company claims that subscribers’ inability
to port-out is the key reason. We continue to believe that MNP is likely to benefit
GSM incumbents rather than the new entrants due to their better network
quality/coverage.
Next week’s outlook— We anticipate the telecom stocks to move in line with the
market as they take a breather after outperforming the broader market in the last
three weeks. The Street is likely to shift its focus to the 4Q results where we expect
some rev/min pressure, though accompanied by decent volume growth.
Past week’s sector drivers (Continued)
M&A buzz around Idea: How much to believe? – Media reports during the week
indicated plans of a stake sale to MTN. We however believe that any M&A within
India telcos is unlikely to occur until the formulation of the new telecom policy which
would not only provide clarity on the M&A rules but also on the regulatory hits on
Idea (excess spectrum charges, license renewals, Idea-Spice merger etc).
Cracks start to appear in new entrants JVs — Both Telenor and Etisalat (JV
partners in India) have already started to distance themselves away from their India
partners who are currently embroiled in the 2G spectrum probe. We believe that the
spectrum probe coming on the back of the deteriorating business environment (for
new entrants) has severely dented any chances of their business revival. This
should help reduce impact of multi-SIMs and support traffic growth of incumbents,
which is likely to increasingly become the key focus area for growth.
Bharti’s B/S could be take some more hit – The Government has deferred a plan
to sell its 30% stake in Bharti Hexacom (provides services in Rajasthan and six NE
states) to re-evaluate the Rs18bn base price (Bharti would be the likely bidder).
This, along with the previous media report which had indicated its plans to acquire
Qualcomm’s BWA spectrum in four circles (incl Delhi/Mumba0) for US$1.2bn, could
dent its FY12E FCF, which we currently estimate at US$2.5bn.
Handset companies looking at PE to raise funds – White box vendors including
Gee Pee Infotech, Karbonn Mobile, Lava Mobile, Olive Telecom and Spice Telecom
have disclosed their intentions to raise funds (~US$1bn) through the PE route. Most
of the funds are likely to be used to set-up manufacturing/assembly units within the
country to counter the expected increase in Government levies on handset imports.
Bharti Airtel
(BRTI.BO; Rs362.05; 1L)
Valuation
Our target price of Rs415 comprises: (i) Core business value of Rs332 based on
Mar-11E DCF; (ii) We estimate value accretion from Zain at Rs25/share; (iii) We add
the towerco value (100% Infratel + 42% of Indus) at Rs82; and (iv) We reduce the
potential cash outgo (Rs24) related to one-time excess spectrum charges and
license renewal fees. The DCF is based on a WACC of 11.2%, a terminal growth
rate of 3% and beta of 0.8. We prefer DCF as peak capex burden is behind us and
the company should start to generate significant free cash flows. The domestic
business DCF implies FY12E EV/EBITDA of 8.4x, P/CEPS of 9.0x and P/E of 18.1x.
Risks
Our quantitative risk-rating system, which tracks 260-day share price volatility, rates
Bharti shares as Low Risk. We are comfortable with this for the following reasons:
1) Bharti has a track record of profitability and execution; and 2) strong FCF
generation notwithstanding the high debt following the Zain acquisition. Downside
risks that could impede the stock from reaching our target price include: 1) business
disruption through tariff pressures; 2) slower turnaround at Zain; and 3) adverse
regulations (low probability in our view).
Reliance Communications
(RLCM.BO; Rs109.35; 1H)
Valuation
Our target price of Rs127 comprises (i) core business value of Rs110, based on
6.3x Mar-12E EV/EBITDA, at a 25% discount to Bharti's implied target multiple; plus
(ii) towerco value accretion of Rs25 based on long-term external tenancy of 0.5x.
We believe a 25% discount to Bharti on the core business valuation is justified on
account of the inherent risks of dual network and higher leverage. Our towerco net
value accretion of Rs25 is based on the following assumptions: 1) Long-term
tenancy of 2.15x with captive tenancy of 1.65x; 2) Capex recovery of 12%, 3)
WACC of 11.3% and terminal growth rate of 3%. Note that the incremental value
accretion to RCOM is calculated after netting off the contribution from the captive
tenancy. Thus, it only reflects the value of the external revenues. We reduce
Rs8/share from the on cash outgo based on a 50% probability of the Government
charging the "market" value for the GSM spectrum allotted in 2008 for Rs16.5bn
(market value estimated at ~Rs49bn for 4.4MHz based on 3G spectrum thrice as
efficient as 2G).
Risks
Our risk-rating system, which tracks 260-day share price volatility, assigns a
Medium Risk rating to RCOM. We however believe a High Risk is appropriate given
lackluster business momentum and possible penalties by the Government on 2G
spectrum especially in the context of its high leverage. Key downside risks that
could prevent the stock from reaching our target price include: 1) Further
deterioration in core business, 2) higher-than expected penalties related to GSM
spectrum allotted in 2008 and 3) inability to deleverage through asset sale
IDEA Cellular
(IDEA.BO; Rs65.70; 1M)
Valuation
Our target price of Rs79 is based on (i) core business value at Rs81/share based
on Mar-11 DCF; plus (ii) the Indus stake valued at Rs15/share; minus (iii) Rs17
cash outgo related to one-time spectrum charges and license renewals from TRAI
recommendations. The DCF is based on a WACC of 11.0%, a terminal growth rate
of 3% and beta of 1.1. We prefer DCF as peak capex burden is behind us and the
company should now start to generate free cash flows. The DCF implies a FY12E
EV/EBITDA value of 8.9x and P/CEPS of 7.5x.
Risks
We assign a Medium Risk rating to IDEA Cellular, as opposed to the Low Risk
assigned by our quant risk rating system as 1) Idea's already stretched balance
sheet is vulnerable to regulatory payments (high probability) and 2) smaller scale
and new launches mean it is more susceptible to business disruptions. Downside
risks that could impede the stock from reaching our target price include: 1) Adverse
regulations regulated to higher-than-expected regulatory charges (license fee
renewals and excess spectrum charges) are key risks given relatively small B/S
size; 2) Higher-than-expected competition would impact Idea more than its peers
given its smaller scale.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
India Connect
3G – Initial Hiccups; Unexpected Trends
Past week’s India telecom trading — The Indian market took a breather, ending
flat over the previous week. Bharti continued with its outperformance as it turns into
a consensus buy, ending the week up 2%. Idea marginally underperformed, giving
up some of its previous week’s gains on regulatory uncertainty related to the IdeaSpice merger. RCOM was down 1% during the week.
3G – initial on-ground trends – Our on-ground research on 3G has shown that 1)
initial success of 3G has been witnessed in the smaller towns rather than larger
cities, primarily due to ready availability of next-gen high-speed data dongles based
on CDMA in these cities (speeds relatively slower, but not enough to shift to 3G); 2)
dongles rather than handsets are the key focus for operators, given high usage can
only occur through the dongle route; and 3) network issues persist and will take time
to resolve.
DoCoMo claims that MNP response not as expected – DoCoMo has disclosed
that it hasn’t received the expected response from MNP in the Punjab circle, having
gained 3-4% of the post-paid market v/s the expected 5-10%. While DoCoMo
should have benefited having won 3G, the company claims that subscribers’ inability
to port-out is the key reason. We continue to believe that MNP is likely to benefit
GSM incumbents rather than the new entrants due to their better network
quality/coverage.
Next week’s outlook— We anticipate the telecom stocks to move in line with the
market as they take a breather after outperforming the broader market in the last
three weeks. The Street is likely to shift its focus to the 4Q results where we expect
some rev/min pressure, though accompanied by decent volume growth.
Past week’s sector drivers (Continued)
M&A buzz around Idea: How much to believe? – Media reports during the week
indicated plans of a stake sale to MTN. We however believe that any M&A within
India telcos is unlikely to occur until the formulation of the new telecom policy which
would not only provide clarity on the M&A rules but also on the regulatory hits on
Idea (excess spectrum charges, license renewals, Idea-Spice merger etc).
Cracks start to appear in new entrants JVs — Both Telenor and Etisalat (JV
partners in India) have already started to distance themselves away from their India
partners who are currently embroiled in the 2G spectrum probe. We believe that the
spectrum probe coming on the back of the deteriorating business environment (for
new entrants) has severely dented any chances of their business revival. This
should help reduce impact of multi-SIMs and support traffic growth of incumbents,
which is likely to increasingly become the key focus area for growth.
Bharti’s B/S could be take some more hit – The Government has deferred a plan
to sell its 30% stake in Bharti Hexacom (provides services in Rajasthan and six NE
states) to re-evaluate the Rs18bn base price (Bharti would be the likely bidder).
This, along with the previous media report which had indicated its plans to acquire
Qualcomm’s BWA spectrum in four circles (incl Delhi/Mumba0) for US$1.2bn, could
dent its FY12E FCF, which we currently estimate at US$2.5bn.
Handset companies looking at PE to raise funds – White box vendors including
Gee Pee Infotech, Karbonn Mobile, Lava Mobile, Olive Telecom and Spice Telecom
have disclosed their intentions to raise funds (~US$1bn) through the PE route. Most
of the funds are likely to be used to set-up manufacturing/assembly units within the
country to counter the expected increase in Government levies on handset imports.
Bharti Airtel
(BRTI.BO; Rs362.05; 1L)
Valuation
Our target price of Rs415 comprises: (i) Core business value of Rs332 based on
Mar-11E DCF; (ii) We estimate value accretion from Zain at Rs25/share; (iii) We add
the towerco value (100% Infratel + 42% of Indus) at Rs82; and (iv) We reduce the
potential cash outgo (Rs24) related to one-time excess spectrum charges and
license renewal fees. The DCF is based on a WACC of 11.2%, a terminal growth
rate of 3% and beta of 0.8. We prefer DCF as peak capex burden is behind us and
the company should start to generate significant free cash flows. The domestic
business DCF implies FY12E EV/EBITDA of 8.4x, P/CEPS of 9.0x and P/E of 18.1x.
Risks
Our quantitative risk-rating system, which tracks 260-day share price volatility, rates
Bharti shares as Low Risk. We are comfortable with this for the following reasons:
1) Bharti has a track record of profitability and execution; and 2) strong FCF
generation notwithstanding the high debt following the Zain acquisition. Downside
risks that could impede the stock from reaching our target price include: 1) business
disruption through tariff pressures; 2) slower turnaround at Zain; and 3) adverse
regulations (low probability in our view).
Reliance Communications
(RLCM.BO; Rs109.35; 1H)
Valuation
Our target price of Rs127 comprises (i) core business value of Rs110, based on
6.3x Mar-12E EV/EBITDA, at a 25% discount to Bharti's implied target multiple; plus
(ii) towerco value accretion of Rs25 based on long-term external tenancy of 0.5x.
We believe a 25% discount to Bharti on the core business valuation is justified on
account of the inherent risks of dual network and higher leverage. Our towerco net
value accretion of Rs25 is based on the following assumptions: 1) Long-term
tenancy of 2.15x with captive tenancy of 1.65x; 2) Capex recovery of 12%, 3)
WACC of 11.3% and terminal growth rate of 3%. Note that the incremental value
accretion to RCOM is calculated after netting off the contribution from the captive
tenancy. Thus, it only reflects the value of the external revenues. We reduce
Rs8/share from the on cash outgo based on a 50% probability of the Government
charging the "market" value for the GSM spectrum allotted in 2008 for Rs16.5bn
(market value estimated at ~Rs49bn for 4.4MHz based on 3G spectrum thrice as
efficient as 2G).
Risks
Our risk-rating system, which tracks 260-day share price volatility, assigns a
Medium Risk rating to RCOM. We however believe a High Risk is appropriate given
lackluster business momentum and possible penalties by the Government on 2G
spectrum especially in the context of its high leverage. Key downside risks that
could prevent the stock from reaching our target price include: 1) Further
deterioration in core business, 2) higher-than expected penalties related to GSM
spectrum allotted in 2008 and 3) inability to deleverage through asset sale
IDEA Cellular
(IDEA.BO; Rs65.70; 1M)
Valuation
Our target price of Rs79 is based on (i) core business value at Rs81/share based
on Mar-11 DCF; plus (ii) the Indus stake valued at Rs15/share; minus (iii) Rs17
cash outgo related to one-time spectrum charges and license renewals from TRAI
recommendations. The DCF is based on a WACC of 11.0%, a terminal growth rate
of 3% and beta of 1.1. We prefer DCF as peak capex burden is behind us and the
company should now start to generate free cash flows. The DCF implies a FY12E
EV/EBITDA value of 8.9x and P/CEPS of 7.5x.
Risks
We assign a Medium Risk rating to IDEA Cellular, as opposed to the Low Risk
assigned by our quant risk rating system as 1) Idea's already stretched balance
sheet is vulnerable to regulatory payments (high probability) and 2) smaller scale
and new launches mean it is more susceptible to business disruptions. Downside
risks that could impede the stock from reaching our target price include: 1) Adverse
regulations regulated to higher-than-expected regulatory charges (license fee
renewals and excess spectrum charges) are key risks given relatively small B/S
size; 2) Higher-than-expected competition would impact Idea more than its peers
given its smaller scale.
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