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Bharti Airtel Limited
Geared Up for Growth
What's Changed
Price Target Rs410.00 to Rs450.00
EPS F2012, F2013E +3%, +6%
Investment conclusion: We reiterate our Overweight
call on Bharti and raise our price target by 10% to Rs450.
We highlight three key factors: 1) Bharti turns FCF
positive in F1Q12; 2) it is one of the fastest-growing
large cap telco companies; and 3) the valuation is
appealing, especially on a P/Cash EPS (net profits plus
depreciation) basis. We see three catalysts: 1) strong
quarterly results (we expect 6% sequential growth; 2)
traffic growth returning in Africa; and 3) reduced rate of
tariff decline in the domestic business and hence faster
revenue growth.
FCF positive from F1Q12: We estimate Bharti will turn
from being FCF negative of 45% in F2011 due to the
investments in Zain, 3G, and broadband license fee to
13% FCF positive in F2014. Net debt to EBITDA should
move from 3x to 1.1x during the same period.
One of the fastest-growing large-cap telcos: We
expect Bharti to have ~300mn subs by F2014 and
strong CAGR over F2011-14 of 12% in subs, 14% in
revenue, 19% in EBITDA, and 25% in profit.
Valuation appealing: Bharti trades at 14x F2013E
earnings and 6.2x EBITDA, about 10% above it Asian
peers. Cash flow (PAT+ Depreciation) is over 2.5x its
profit; hence its P/CEPS is 40% lower than its P/E at
5.8x, a 10% discount to Asian peers. Compared to the
Indian Sensex, Bharti trades at a premium 25% profit
growth and on a P/CEPS basis it is 30% cheaper against
the Sensex’s 8.4x (F2013).
We raised our EPS by 3% for R2012E and 6% for
F2013E, and our long-term EBITDA estimate 5%, in line
with our higher PT of Rs450 (implies ~23% upside from
current levels). Key changes reflect our more bullish
stance on domestic wireless and so we are 3% higher
than consensus on EBITDA. We are 6% lower than
consensus on earnings, however, due to depreciation
Investment Summary
Bharti has outperformed the Indian market by almost 30% and
the MSCI Asia (ex-JP) telecom by ~18-20% in the last six
months; the stock is up 15% in absolute terms. Interestingly
foreign institutional portfolio allocation in Bharti is amongst its
lowest ever at 2.7% since listing as against a peak of 8.4%
(Exhibit 1), and almost 75% of analysts have an overweight
rating.
We reiterate our Overweight call, and raise our earnings
forecast and, accordingly, our price target. Our new price
target of Rs450 implies 23% upside from current levels.
Three Key Elements of Our View
1) Bharti turns FCF positive in F1Q12.
2) It is one of the fastest growing large cap telco companies
we follow.
3) The valuation is appealing, especially on a P/Cash EPS
(net profits plus depreciation) basis.
We are raising our earnings forecasts by 3% for F2012 and
6% for F2013 as well as our longer-term EBITDA expectation
by 5%.
Bharti Is FCF Positive from F2012
Bharti has projected overall F2012 capex of US$2.9-3.1bn
with domestic capex of around US$1.9bn and capex in Africa
(Zain) of US$1-1.2 bn. Our capex estimates are bit more
aggressive at US$3.3bn, implying cash outflow of US$4bn,
including the US$700 million for the final payment pertaining
to the Africa acquisition. Our EBITDA assumption for F2012
of US$5.6bn implies net cash flow from operations of
US$1.6bn.
Overall, we estimate Bharti will turnaround from being FCF
negative of 45% in F2011 due to the investments in Africa, 3G,
and broadband license fee to being FCF positive at 13% in
F2014. Net debt to EBITDA should move from 3x to 1.1x
during the same period (see Exhibit 2). Even if we were to
estimate US$790mn in additional outflow to the government
related to excess spectrum payment, we estimate Bharti
would still be FCF positive in F2012.
Bharti is one of the fastest-growing large-cap telcos we
follow: In the next four quarters, we expect Bharti to report
sequential growth of 6% in EBITDA, as shown in Exhibit 3.
We expect Bharti to have close to 300mn subs by F2014, and
over F2011-14 see 12% subscriber growth, 14% revenue
growth, 19% EBITDA growth, and 25% growth in profit on per
annum basis, one of the fastest rates among our large cap
telcos (Exhibit 4).
Where we differ from consensus: We are 3% higher than
consensus on EBITDA due to our positive stance on
domestic business. However, we are 6% lower than
consensus on earnings due to depreciation assumptions.
Valuation Look Appealing
Bharti trades at 14x F2013 earnings and 6.2x EBITDA, about
10% above it Asian peers. The company’s cash flow
(PAT+Depreciation) is over 2.5x its profits, and hence its
P/CEPS is 40% lower than its P/E, at 5.8x, a 10% discount to
its Asian peers (Exhibit 5).
Compared to the Indian Sensex, Bharti trades at a 25%
premium on profit growth, and on a P/CEPS basis it is 30%
cheaper against the Sensex’s 8.4x (F2013).
Key Investment Debate 1
Why are we positive on the domestic business?
1) Tariff wars are behind us – we have not seen any predatory
pricing since June-Oct 2009, as shown in Exhibit 14.
2) Two months of number portability – Despite that, Bharti
reported its lowest drop in ARPU in 12 quarters at 2%, as
shown in Exhibit 13.
Market view: The market believes competitive intensity is not
waning; hence, our EBITDA estimates for the company are
3% higher than consensus.
3G tariffs plans in the market seem to suggest a tariff of 2G++
(i.e., bundling of data with voice with a minimal revenue
commitment of about Rs300/month from a consumer).
Although data tariffs are 70-90% lower than earlier, voice
tariffs are similar to 2G voice tariffs, as shown in Exhibit 15.
Our earnings assumptions for domestic wireless are shown in
Exhibit 6. Assuming ARPMs fall less due to 3G, we estimate
every 10% change in ARPMs leads to a 10% change in
domestic wireless EBITDA, a 5% change in overall EBITDA,
and a 15-16% change in profit for the company
Key Investment Debate 2
Are regulatory risks in the price? Following the
appointment of a new telecom minster in India, we expect the
government to, once again, address issues pertaining to
spectrum in 2H12. We have factored in regulatory payouts of
Rs23.8/share (i.e., US$2bn) in our base case. The regulatory
payouts include: 1) excess spectrum charge over 6.2 MHz of
Rs9.4/share as suggested by TRAI; and 2) 50% of the NPV for
renewal charges as suggested by TRAI equating to Rs14.4/
share for a total of Rs23.8/share (Exhibit 19). In our bull case,
relating to regulatory risks, we assume license fee reduction of
a total of Rs30/share. In our bear case, we remove another
Rs14/share from our base case, factoring in 100% of the
renewal charges as suggested by TRAI.
Market view: Our discussions with investors reveal they are
concerned about both the time line and the amount of payout.
Investors appear to be closer to our bear-case assumption
(i.e., expecting Bharti to have a payment of Rs 38/share).
The three regulatory issues that the government will
address, in our view, are:
• Regulations and charges pertaining to spectrum held in
excess of 6.2MHz by incumbent GSM operators;
• Policy pertaining to the renewal of license and spectrum
charges.
• Reduction in annual license fee charges.
The Telecom Regulatory Authority of India (TRAI) recently
came out with an addendum to its earlier Recommendations
on “Spectrum management and licensing framework” dated
May 11, 2010. The spectrum charges, which were earlier
recommended to be linked to 3G pricing, are now are ~20%
lower for excess spectrum and about ~45% lower for renewal
charges.
What Is in Our Estimates for Africa?
In our estimates for Bharti’s African business, we assume
35% long-term margins and around US$1bn per annum longterm
capex (Exhibit 9). For F2011-13, we assume subs
growth of 18%, ARPU dip of 4%, ARPM dip of 16%, MOU
growth of 14%; which leads to 23% revenue growth, and 37%
EBITDA growth. This leads to a negative contribution of
Rs16/share to our target price.
While pricing has not changed since January 2011, according
to our MTN analysts: We [MS] think it is still early to assume
tariff stability in the market because the competition still has
high market share targets (Bharti and Etisalat), the gap
between the tariffs and the MTR of ~N4 (N12-N8.20) is still
significant, and Etisalat has asymmetry (gets paid more and
will only get to N8.20 by December 2012). At the same, we
think elasticity will take time to materialize but will ultimately
come through and offset most of the negative impact from
falling tariffs.
Assuming Bharti’s African business margins were to move
40% and capex falls to US$800/annum, its African business
value would increase to Rs13/share up from negative
Rs16/share.
What Is the Potential 3G Upside?
In our base case and our target price calculation, we include
the 3G book value of Rs41/share as against our estimate of
Rs110/share assuming 22mn subscribers an incremental
ARPU of Rs150/share, which would raise our EBITDA and
earnings by average 7% and ~16% by F2015
F4Q11 Results: Domestic Business Shined, Africa
Mixed Bag
Bharti reported F4Q11 results in line with our
expectations, with consolidated revenue growing 3% QoQ
and 51% YoY and reported EBITDA up 34% YoY and 9%
QoQ (3% normalized). Overall profit was down 30% YoY and
up 8% QoQ. EBITDA margin stagnated at 33.5%, adjusting
for the rebranding margins in the last quarter.
What we liked:
1) Domestic wireless top line shined: Domestic Average
Revenue Per Minute (ARPM) fell only 2% QoQ, cumulative
minutes in India grew 6% QoQ and 23% YoY, leading to
Average Revenue Per User (ARPU) fall of only 2% QoQ, the
lowest fall in 12 quarters. Revenue grew 4% QoQ, 14% YoY
while EBITDA was flat. We were impressed at the Minutes of
Use (MOU) being flat at 449 minutes. Value added services
(VAS) increased from 13.8% to 15%
2) Both fixed line and the Enterprise business surprised us
at the EBITDA level, with margins improving to 45% and 26%,
respectively, up QoQ 58bp and 460bp.
3) Losses in other business reduced by Rs700mn whereas
revenue grew 19% or Rs500mn, suggesting improving
operations in DTH business
What concerned us:
1) Passive business disappointed: On a QoQ basis,
revenue stagnated while EBITDA margin fell 158bp to 37%,
leading to a 4% decline in EBITDA, which was 7% below our
expectations.
2) Tax rate increased to 27.3% from 21.7%.
Africa was a mixed bag: Overall net adds were 2mn,
leading to 5% subscriber growth. ARPU was a healthy US$7.2,
down only 1% QoQ. However, MOU fell 4% to 115 minutes,
leading to stagnation in traffic growth. ARPMs actually grew
1.6% to US$0.062/minute. In one of the countries, DRC, the
local regulator imposed floor tariffs, which led to a negative
growth in traffic. Adjusting for the same, traffic would have
grown 3.5%. In addition, management believes that post this
regulatory change, elasticity is now coming back in the
system; in our eyes, traffic growth will be back next quarter.
Overall revenue grew 3% (our expectation 5%), but
margins surprised us positively, increasing 99bp QoQ to
26.3%, ex re-branding. The single biggest cost reduction
came in sales and marketing, which fell from 29% (25% not
including rebranding) to 23%.
India + South Asia (SA) – EBITDA margin under pressure:
India + SA margin fell 135bp to 33.3%, and we estimate
domestic wireless margins fell by 129bp at 34.3% – both of
which surprised us for the negative. The key reason was the
1% increase in network opex costs, due to higher network
coverage in Sri Lanka, Bangladesh, and domestically, due to
3G and higher fuel costs.
Post F4Q11, our key changes are shown in Exhibit 12, as we
increase our domestic business contribution, partly negated
by lower passive division assumptions and 3% lower revenue
and EBITDA from Africa. We have also increased the tax rate
and lowered depreciation, which counteract each other. We
have largely maintained our overall EBITDA assumptions
short term, although the profits increase by 3% and 6% for
F2012 and F2013, respectively. Our domestic market
changes lead to a 5% change in our longer-term EBITDA
forecast.
Valuation Methodology
For our bear-, base-, and bull-case scenarios, we use a
sum-of-the-parts methodology, which adds discounted cash
flow (DCF) value for Bharti’s core business, 3G book value
and value derived from its tower business and net accrual
from Africa acquisition.
Bharti’s core business value remains at the midpoint of the
value derived from our DCF calculation on a one-year forward
basis, assuming a terminal growth rate of 3% and cost of
capital of 12%, as shown in Exhibit 17. Based on one-quarter
forward rollover, we arrive at our new core business enterprise
value of Rs396/share.
Since in our base case we do not include any revenue upside
due to 3G, we add back the book value of the 3G license
(Rs41/share) to the net debt for the company. This equates to
Rs9/share.
We base our valuation of Bharti’s tower business on our DCF
of the company’s seven circles as well as its ownership in
Indus to arrive at a value of US$110k per usable tower.
We value Bharti’s tower business at Rs85/based on our DCF
model and add this to our core business equity value.
Our valuation methodology for African assets is DCF. Since
our analysis suggests Bharti has acquired these assets at a
premium by taking on higher debt, the net accrued value has a
negative Rs16/share impact (Exhibit 16).
We also incorporate regulatory payouts for excess spectrum
beyond 6.2MHz and cost of renewal of total spectrum on
expiry of licenses. These amount to US$790mn or Rs9.4 per
share and US$1.2bn or Rs14.3 per share, respectively.
We set our price target at our base case value of
Rs450/share.
Downside risks to our price target
• Higher-than-expected drop in tariffs due to aggressive
pricing by new operators to gain subscribers.
• Regulatory uncertainty regarding spectrum and Bharti’s
need to pay additional spectrum charges. In our bear
case, we estimate US$1bn for the company based on
Trai’s recommendations.
Catalysts include:
• Unlocking value in the tower business through listing or
strategic sales;
• Economies of scale due to being the leading wireless
player; and
• License fee reduction for the industry as a whole.
Exhibit 16
Bharti: Sum-of-the-parts Valuation
(Rs/share)
Core Enterprise Value (EV) DCF 396
Less: Core Net Debt (9)
Core Equity Value DCF 405
Towerco Contribution to Bharti's base case 85
Net accrual of African acquisition to Bharti (16)
Regulatory Payouts (24)
Target Price for Bharti based on SOTP 450
Source: Company data, Morgan Stanley Research
Exhibit 17
Bharti: Assumptions for Cost of Capital
Risk Free Return (Rf) 8.0%
Market Premium (Rm) 6.0%
Assumed Beta 0 .90
Cost of Equity (Re) 13.4%
Equity (%) 72.0%
Cost of Debt (Rd) 11.0%
Tax rate 22.5%
After-tax cost of debt (Rd [1-t]) 8.5%
Debt (%) 28.0%
WACC 12.0%
Source: Company data, Morgan Stanley Research
India Equity Research Reports, IPO and Stock News
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Bharti Airtel Limited
Geared Up for Growth
What's Changed
Price Target Rs410.00 to Rs450.00
EPS F2012, F2013E +3%, +6%
Investment conclusion: We reiterate our Overweight
call on Bharti and raise our price target by 10% to Rs450.
We highlight three key factors: 1) Bharti turns FCF
positive in F1Q12; 2) it is one of the fastest-growing
large cap telco companies; and 3) the valuation is
appealing, especially on a P/Cash EPS (net profits plus
depreciation) basis. We see three catalysts: 1) strong
quarterly results (we expect 6% sequential growth; 2)
traffic growth returning in Africa; and 3) reduced rate of
tariff decline in the domestic business and hence faster
revenue growth.
FCF positive from F1Q12: We estimate Bharti will turn
from being FCF negative of 45% in F2011 due to the
investments in Zain, 3G, and broadband license fee to
13% FCF positive in F2014. Net debt to EBITDA should
move from 3x to 1.1x during the same period.
One of the fastest-growing large-cap telcos: We
expect Bharti to have ~300mn subs by F2014 and
strong CAGR over F2011-14 of 12% in subs, 14% in
revenue, 19% in EBITDA, and 25% in profit.
Valuation appealing: Bharti trades at 14x F2013E
earnings and 6.2x EBITDA, about 10% above it Asian
peers. Cash flow (PAT+ Depreciation) is over 2.5x its
profit; hence its P/CEPS is 40% lower than its P/E at
5.8x, a 10% discount to Asian peers. Compared to the
Indian Sensex, Bharti trades at a premium 25% profit
growth and on a P/CEPS basis it is 30% cheaper against
the Sensex’s 8.4x (F2013).
We raised our EPS by 3% for R2012E and 6% for
F2013E, and our long-term EBITDA estimate 5%, in line
with our higher PT of Rs450 (implies ~23% upside from
current levels). Key changes reflect our more bullish
stance on domestic wireless and so we are 3% higher
than consensus on EBITDA. We are 6% lower than
consensus on earnings, however, due to depreciation
Investment Summary
Bharti has outperformed the Indian market by almost 30% and
the MSCI Asia (ex-JP) telecom by ~18-20% in the last six
months; the stock is up 15% in absolute terms. Interestingly
foreign institutional portfolio allocation in Bharti is amongst its
lowest ever at 2.7% since listing as against a peak of 8.4%
(Exhibit 1), and almost 75% of analysts have an overweight
rating.
We reiterate our Overweight call, and raise our earnings
forecast and, accordingly, our price target. Our new price
target of Rs450 implies 23% upside from current levels.
Three Key Elements of Our View
1) Bharti turns FCF positive in F1Q12.
2) It is one of the fastest growing large cap telco companies
we follow.
3) The valuation is appealing, especially on a P/Cash EPS
(net profits plus depreciation) basis.
We are raising our earnings forecasts by 3% for F2012 and
6% for F2013 as well as our longer-term EBITDA expectation
by 5%.
Bharti Is FCF Positive from F2012
Bharti has projected overall F2012 capex of US$2.9-3.1bn
with domestic capex of around US$1.9bn and capex in Africa
(Zain) of US$1-1.2 bn. Our capex estimates are bit more
aggressive at US$3.3bn, implying cash outflow of US$4bn,
including the US$700 million for the final payment pertaining
to the Africa acquisition. Our EBITDA assumption for F2012
of US$5.6bn implies net cash flow from operations of
US$1.6bn.
Overall, we estimate Bharti will turnaround from being FCF
negative of 45% in F2011 due to the investments in Africa, 3G,
and broadband license fee to being FCF positive at 13% in
F2014. Net debt to EBITDA should move from 3x to 1.1x
during the same period (see Exhibit 2). Even if we were to
estimate US$790mn in additional outflow to the government
related to excess spectrum payment, we estimate Bharti
would still be FCF positive in F2012.
Bharti is one of the fastest-growing large-cap telcos we
follow: In the next four quarters, we expect Bharti to report
sequential growth of 6% in EBITDA, as shown in Exhibit 3.
We expect Bharti to have close to 300mn subs by F2014, and
over F2011-14 see 12% subscriber growth, 14% revenue
growth, 19% EBITDA growth, and 25% growth in profit on per
annum basis, one of the fastest rates among our large cap
telcos (Exhibit 4).
Where we differ from consensus: We are 3% higher than
consensus on EBITDA due to our positive stance on
domestic business. However, we are 6% lower than
consensus on earnings due to depreciation assumptions.
Valuation Look Appealing
Bharti trades at 14x F2013 earnings and 6.2x EBITDA, about
10% above it Asian peers. The company’s cash flow
(PAT+Depreciation) is over 2.5x its profits, and hence its
P/CEPS is 40% lower than its P/E, at 5.8x, a 10% discount to
its Asian peers (Exhibit 5).
Compared to the Indian Sensex, Bharti trades at a 25%
premium on profit growth, and on a P/CEPS basis it is 30%
cheaper against the Sensex’s 8.4x (F2013).
Key Investment Debate 1
Why are we positive on the domestic business?
1) Tariff wars are behind us – we have not seen any predatory
pricing since June-Oct 2009, as shown in Exhibit 14.
2) Two months of number portability – Despite that, Bharti
reported its lowest drop in ARPU in 12 quarters at 2%, as
shown in Exhibit 13.
Market view: The market believes competitive intensity is not
waning; hence, our EBITDA estimates for the company are
3% higher than consensus.
3G tariffs plans in the market seem to suggest a tariff of 2G++
(i.e., bundling of data with voice with a minimal revenue
commitment of about Rs300/month from a consumer).
Although data tariffs are 70-90% lower than earlier, voice
tariffs are similar to 2G voice tariffs, as shown in Exhibit 15.
Our earnings assumptions for domestic wireless are shown in
Exhibit 6. Assuming ARPMs fall less due to 3G, we estimate
every 10% change in ARPMs leads to a 10% change in
domestic wireless EBITDA, a 5% change in overall EBITDA,
and a 15-16% change in profit for the company
Key Investment Debate 2
Are regulatory risks in the price? Following the
appointment of a new telecom minster in India, we expect the
government to, once again, address issues pertaining to
spectrum in 2H12. We have factored in regulatory payouts of
Rs23.8/share (i.e., US$2bn) in our base case. The regulatory
payouts include: 1) excess spectrum charge over 6.2 MHz of
Rs9.4/share as suggested by TRAI; and 2) 50% of the NPV for
renewal charges as suggested by TRAI equating to Rs14.4/
share for a total of Rs23.8/share (Exhibit 19). In our bull case,
relating to regulatory risks, we assume license fee reduction of
a total of Rs30/share. In our bear case, we remove another
Rs14/share from our base case, factoring in 100% of the
renewal charges as suggested by TRAI.
Market view: Our discussions with investors reveal they are
concerned about both the time line and the amount of payout.
Investors appear to be closer to our bear-case assumption
(i.e., expecting Bharti to have a payment of Rs 38/share).
The three regulatory issues that the government will
address, in our view, are:
• Regulations and charges pertaining to spectrum held in
excess of 6.2MHz by incumbent GSM operators;
• Policy pertaining to the renewal of license and spectrum
charges.
• Reduction in annual license fee charges.
The Telecom Regulatory Authority of India (TRAI) recently
came out with an addendum to its earlier Recommendations
on “Spectrum management and licensing framework” dated
May 11, 2010. The spectrum charges, which were earlier
recommended to be linked to 3G pricing, are now are ~20%
lower for excess spectrum and about ~45% lower for renewal
charges.
What Is in Our Estimates for Africa?
In our estimates for Bharti’s African business, we assume
35% long-term margins and around US$1bn per annum longterm
capex (Exhibit 9). For F2011-13, we assume subs
growth of 18%, ARPU dip of 4%, ARPM dip of 16%, MOU
growth of 14%; which leads to 23% revenue growth, and 37%
EBITDA growth. This leads to a negative contribution of
Rs16/share to our target price.
While pricing has not changed since January 2011, according
to our MTN analysts: We [MS] think it is still early to assume
tariff stability in the market because the competition still has
high market share targets (Bharti and Etisalat), the gap
between the tariffs and the MTR of ~N4 (N12-N8.20) is still
significant, and Etisalat has asymmetry (gets paid more and
will only get to N8.20 by December 2012). At the same, we
think elasticity will take time to materialize but will ultimately
come through and offset most of the negative impact from
falling tariffs.
Assuming Bharti’s African business margins were to move
40% and capex falls to US$800/annum, its African business
value would increase to Rs13/share up from negative
Rs16/share.
What Is the Potential 3G Upside?
In our base case and our target price calculation, we include
the 3G book value of Rs41/share as against our estimate of
Rs110/share assuming 22mn subscribers an incremental
ARPU of Rs150/share, which would raise our EBITDA and
earnings by average 7% and ~16% by F2015
F4Q11 Results: Domestic Business Shined, Africa
Mixed Bag
Bharti reported F4Q11 results in line with our
expectations, with consolidated revenue growing 3% QoQ
and 51% YoY and reported EBITDA up 34% YoY and 9%
QoQ (3% normalized). Overall profit was down 30% YoY and
up 8% QoQ. EBITDA margin stagnated at 33.5%, adjusting
for the rebranding margins in the last quarter.
What we liked:
1) Domestic wireless top line shined: Domestic Average
Revenue Per Minute (ARPM) fell only 2% QoQ, cumulative
minutes in India grew 6% QoQ and 23% YoY, leading to
Average Revenue Per User (ARPU) fall of only 2% QoQ, the
lowest fall in 12 quarters. Revenue grew 4% QoQ, 14% YoY
while EBITDA was flat. We were impressed at the Minutes of
Use (MOU) being flat at 449 minutes. Value added services
(VAS) increased from 13.8% to 15%
2) Both fixed line and the Enterprise business surprised us
at the EBITDA level, with margins improving to 45% and 26%,
respectively, up QoQ 58bp and 460bp.
3) Losses in other business reduced by Rs700mn whereas
revenue grew 19% or Rs500mn, suggesting improving
operations in DTH business
What concerned us:
1) Passive business disappointed: On a QoQ basis,
revenue stagnated while EBITDA margin fell 158bp to 37%,
leading to a 4% decline in EBITDA, which was 7% below our
expectations.
2) Tax rate increased to 27.3% from 21.7%.
Africa was a mixed bag: Overall net adds were 2mn,
leading to 5% subscriber growth. ARPU was a healthy US$7.2,
down only 1% QoQ. However, MOU fell 4% to 115 minutes,
leading to stagnation in traffic growth. ARPMs actually grew
1.6% to US$0.062/minute. In one of the countries, DRC, the
local regulator imposed floor tariffs, which led to a negative
growth in traffic. Adjusting for the same, traffic would have
grown 3.5%. In addition, management believes that post this
regulatory change, elasticity is now coming back in the
system; in our eyes, traffic growth will be back next quarter.
Overall revenue grew 3% (our expectation 5%), but
margins surprised us positively, increasing 99bp QoQ to
26.3%, ex re-branding. The single biggest cost reduction
came in sales and marketing, which fell from 29% (25% not
including rebranding) to 23%.
India + South Asia (SA) – EBITDA margin under pressure:
India + SA margin fell 135bp to 33.3%, and we estimate
domestic wireless margins fell by 129bp at 34.3% – both of
which surprised us for the negative. The key reason was the
1% increase in network opex costs, due to higher network
coverage in Sri Lanka, Bangladesh, and domestically, due to
3G and higher fuel costs.
Post F4Q11, our key changes are shown in Exhibit 12, as we
increase our domestic business contribution, partly negated
by lower passive division assumptions and 3% lower revenue
and EBITDA from Africa. We have also increased the tax rate
and lowered depreciation, which counteract each other. We
have largely maintained our overall EBITDA assumptions
short term, although the profits increase by 3% and 6% for
F2012 and F2013, respectively. Our domestic market
changes lead to a 5% change in our longer-term EBITDA
forecast.
Valuation Methodology
For our bear-, base-, and bull-case scenarios, we use a
sum-of-the-parts methodology, which adds discounted cash
flow (DCF) value for Bharti’s core business, 3G book value
and value derived from its tower business and net accrual
from Africa acquisition.
Bharti’s core business value remains at the midpoint of the
value derived from our DCF calculation on a one-year forward
basis, assuming a terminal growth rate of 3% and cost of
capital of 12%, as shown in Exhibit 17. Based on one-quarter
forward rollover, we arrive at our new core business enterprise
value of Rs396/share.
Since in our base case we do not include any revenue upside
due to 3G, we add back the book value of the 3G license
(Rs41/share) to the net debt for the company. This equates to
Rs9/share.
We base our valuation of Bharti’s tower business on our DCF
of the company’s seven circles as well as its ownership in
Indus to arrive at a value of US$110k per usable tower.
We value Bharti’s tower business at Rs85/based on our DCF
model and add this to our core business equity value.
Our valuation methodology for African assets is DCF. Since
our analysis suggests Bharti has acquired these assets at a
premium by taking on higher debt, the net accrued value has a
negative Rs16/share impact (Exhibit 16).
We also incorporate regulatory payouts for excess spectrum
beyond 6.2MHz and cost of renewal of total spectrum on
expiry of licenses. These amount to US$790mn or Rs9.4 per
share and US$1.2bn or Rs14.3 per share, respectively.
We set our price target at our base case value of
Rs450/share.
Downside risks to our price target
• Higher-than-expected drop in tariffs due to aggressive
pricing by new operators to gain subscribers.
• Regulatory uncertainty regarding spectrum and Bharti’s
need to pay additional spectrum charges. In our bear
case, we estimate US$1bn for the company based on
Trai’s recommendations.
Catalysts include:
• Unlocking value in the tower business through listing or
strategic sales;
• Economies of scale due to being the leading wireless
player; and
• License fee reduction for the industry as a whole.
Exhibit 16
Bharti: Sum-of-the-parts Valuation
(Rs/share)
Core Enterprise Value (EV) DCF 396
Less: Core Net Debt (9)
Core Equity Value DCF 405
Towerco Contribution to Bharti's base case 85
Net accrual of African acquisition to Bharti (16)
Regulatory Payouts (24)
Target Price for Bharti based on SOTP 450
Source: Company data, Morgan Stanley Research
Exhibit 17
Bharti: Assumptions for Cost of Capital
Risk Free Return (Rf) 8.0%
Market Premium (Rm) 6.0%
Assumed Beta 0 .90
Cost of Equity (Re) 13.4%
Equity (%) 72.0%
Cost of Debt (Rd) 11.0%
Tax rate 22.5%
After-tax cost of debt (Rd [1-t]) 8.5%
Debt (%) 28.0%
WACC 12.0%
Source: Company data, Morgan Stanley Research
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