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Telecom stocks have taken a beating this year; is it time to start buying them?

The BSE Telecom index has fallen 41 percent so far this year. The sector has been battling issues of low tariffs, eroding profitability, and rising debt as a result of an aggressive pricing war started by Reliance Jio

December 07, 2018 / 11:12 AM IST
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Despite taking a heavy beating this year, telecom stocks have not yet won the favour of all analysts. While they believe ballooning debt and tough competition will continue to weigh on telecom operators, plans to raise funds and a focus on data could offset some of the big negatives.

For the uninitiated, the sector has been battling issues of low tariffs, eroding profitability, and rising debt as a result of an aggressive pricing war started by Reliance Jio. This war has also led to the sector consolidating into three names — Vodafone Idea, Bharti Airtel and Reliance Industries-owned Reliance Jio.

The BSE Telecom index has fallen 41 percent so far this year. Brokerage Motilal Oswal highlighted that valuations of telecom stocks were under check during November.

Also, expectations of an increase in average revenue per user (ARPU) because of reports of a price hike by Reliance Jio led to a surge in the valuations of all incumbents.

Multiple analysts that Moneycontrol spoke to believe the sector may not have bottomed out just yet, but there are some positive signs.

Fund-raising plans

Both Airtel's and Vodafone Idea's plans to raise funds are being viewed as positives for the industry.

"Both companies are raising cash to plough back into a diminishing balance sheet with Bharti looking to list some African business and sell stake, while Vodafone Idea seeing the Birla Group put in more personal capital," said Sanjiv Bhasin, Executive Vice President - Markets and Corporate Affairs, IIFL. He believes that the worst may be past for the sector in general.

Airtel plans to raise Rs 12,000-15,000 crore through issue of fresh shares in the current fiscal year, while Vodafone Idea plans to raise Rs 25,000 crore through issue of shares to expand its 4G network.

Data boom

Bhasin expects the sector to benefit from the assembly elections in five states and the general elections next year.

“The period will see humongous appetite for data as social media is the new mantra for elections. We expect huge surge in data consumption along with pricing also returning with Jio already indicating a rise in prices,” he said.

Rising debt

Experts at Angel Broking see ballooning debt and unsustainable ARPUs as major challenges for the telecom sector. They believe that the sector may have consolidated this year, but there are some headwinds to be taken note of.

"One, most telecom companies have paid a large sum for spectrum during the auctions and that has led to their debt ballooning. That will continue to pose a financial risk. And, two, the price war triggered by Reliance Jio has pulled ARPUs down to near unsustainable levels," Mayuresh Joshi, Fund Manager at Angel Broking. told Moneycontrol.

The telecom sector was estimated to be around Rs 4.2 lakh crore as at the end of March this year, ICRA said in a statement. This is, however, lower than the expected Rs 4.7 lakh crore as monetisation of towers and support from promoters helped bring the number down, it said.

Pricing pressure

A lot will predicate on how the ARPUs move in the coming year, Joshi of Angel Broking said, adding that immediate risks may be in the price. The sector will require really strong traction to generate superior cash flows.

Meanwhile, Emkay expects Jio’s aggressive pricing to continue, which could keep the industry's revenues and operating profits under pressure.

"Further, rising cost pressures and elevated capex spends, along with falling revenues, would continue to push debt levels," analysts at the firm said in their report.

What should investors do?

Pricing power holds the key for telecom companies going forward, AK Prabhakar, Head of Research at IDBI Capital, told Moneycontrol.

"The players are strong in this space. Investors can look to wait and watch for pricing power to return and then look to bet on telecom stocks," said Prabhakar.

Bhasin of IIFL has a 'buy' call on Bharti Airtel with a one-year target price of Rs 385.

Emkay, meanwhile, believes Airtel is relatively better-placed than Vodafone Idea as it continues to focus on deleveraging its balance sheet.

The brokerage has maintained its negative stance on Vodafone Idea, despite the merger, due to the risk of RMS (revenue market share) loss. Moreover, the company is still not fully invested to compete with Airtel and Jio on 4G capacity, Emkay said.

Disclaimer: Reliance Industries Ltd. is the sole beneficiary of Independent Media Trust which controls Network18 Media & Investments Ltd.

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Uttaresh Venkateshwaran
first published: Dec 7, 2018 10:28 am