JM Financial picks Bharti for the near term

With the new TRAI regulations creating uncertainties in the telecom sector, the results of Bharti Airtel have not met expectations, said Sanjay Chawla, Senior Telecom Analyst, JM Financial.

In an interview with CNBC-TV18, Chawla said that Bharti Airtel’s India mobile revenues and EBITDA performance has been in line. “It has been primarily driven by a very good traffic growth of 5% quarter-on-quarter, although, slightly obscured by 2% drop in the RPM,” added Chawla. 
However, he feels that regulatory issues will impact Idea more than Bharti. Hence, for the near term, Chawla picks Bharti as a preferred stock.  Below is the edited transcript of his interview with CNBC-TV18. Also watch the accompanying video. Q: What exactly were the key positives and the key negatives for Bharti Airtel this time?
A: The overall results were slightly below our expectations both on the revenue, EBITDA and net profits front. If you look at the revenue weakness, that’s primarily come from the Africa business due to lower than expected minutes growth, just around 3.4% quarter-on-quarter.
As far as the EBITDA is concerned, the weaker than expected EBITDA like last quarter is from the non-mobile business, basically enterprise business and corporate overhead segment in India. Overall, of course net profit is lower due to lower EBITDA as well as higher foreign exchange losses. Q: What’s your expectation in terms of their performance going forward, because if you looked at other operational indicators, say margins or ARPUs or even minutes of usage, operationally the company seems to have done well domestically?
A: Yes, absolutely. The most important takeaway is that the India mobile revenues and EBITDA performance has been in line. That’s primarily driven by a very good traffic growth of 5% quarter-on-quarter, although, slightly obscured by 2% drop in the RPM.
I think the fact that traffic has picked up quite significantly compared to previous quarters is a very good sign. Ultimately the traffic growth should remain pretty good despite the low single digits. Having said that, one also has to keep in mind that part of the traffic growth, that we have seen both in case of Idea as well as Bharti, has been driven by price drops.
There is some elasticity effect which has also played out. If you assume no price drop, then the traffic growth cannot sustain at a 5% kind of level. It will be probably closer to 2-3% quarter-on-quarter. Q: For the bigger question, it’s much more than operations and market performance that will determine the price of this stock. So much will depend on their ability to acquire fresh spectrum as well as when the refarming hit might come. What is your price target on the stock and more importantly what does that factor in on both these counts, spectrum purchase as well as refarming?
A: Obviously we are going through a very deep phase of uncertainty in the telecom sector with regard to the regulation. There are also a lot of moving parts in terms of the spectrum pricing as well as refarming and what would be the nature of refarming eventually.
Although, a fair value of Bharti is about Rs 420 but just for the higher spectrum cost, to retain the existing spectrum of 900 and 1800 at the reserve price. We take a hit of Rs 55 per share for Bharti. At this share price level, Bharti stock is pricing in a lot of the downside from the TRAI recommendations. Q: I was given to understand that refarming hit will be even worse. Would you be able to give a number in EPS terms for refarming if they had to do it?
A: That’s correct. Our current assumption is that Bharti would be able to retain bid for the 900 spectrum that it currently owns. However, if they were to acquire all 1800 network, then obviously the hit is far higher. It’s close to Rs 100 per share in case of Bharti. Q: Just wanted a sense on what exactly is your picking order within the telecom space. We have seen numbers coming from Idea as well. Give us a sense on a comparative basis, which one would you prefer and in general what would your picking order be?
A: If one has to simply go by the strength of operational performance, clearly Idea stands up much ahead of Bharti, as we also saw in the last quarter results.
But, regulatory uncertainty is an important driver of share price, at least over the next three to six months. We see much greater hit on Idea, because of these regulations, if these are approved by the government, than in case of Bharti.
From a near-term point of view we would like to own more of Bharti. Obviously if one takes a 12-15 month view, we believe Idea still has got potential to outperform, because we don’t think the worst as far as the regulations are concerned is going to play out. Q: We also had news over the weekend that Vodafone’s hiked tariffs in post-paid in the Mumbai circle by 20%. Give us a sense on what exactly have you made of that news at all and whether there is any value to it?
A: These are still very early signs and one should not extrapolate the pricing environment based on this. We have seen some post-paid hikes here and there in one or two circles, but what we have seen over the last 9-12 months is that a lot of these tariffs hikes have not been sustainable.
If you just looked at the performance of ARPM over the last three quarters then, whatever increase we saw in the September and December quarter, increase in ARPM of 3-4%, all of that has been pretty much given up. Operators have given up in this quarter.
One has to wait and see how sustainable that is and a lot will depend on the TRAI recommendations. If someone like Uninor were to exit, obviously that gives much more credence to return of pricing power theory. Q: What did you make of the Bharti management’s talk, body language and what you maybe picking up in terms of the African performance, since that appears to be what disappointed in the current quarter?
A: The performance has not exactly matched our expectations in Africa. We will have to wait and see because our longer term view on Africa still remains intact but, quarter-on-quarter we will continue to see volatility.
Last two quarters in particular have not seen the benefit of elasticity, which was very strong over the previous two or three quarters. We have seen price drop, but we haven’t seen any increase in MOU per customer in Africa. That has been the main reason for disappointment.
I guess, going forward, one may have to temper down the African expectations a little bit. I think, over a longer term view, our expectations are not going to be very different.