Consolidation, data boom key triggers for telecom sector

Nitin Agrawal Moneycontrol Research

After a prolonged tariff war since Jio’s entry last year, the telecom sector appears to be stabilising. Incumbent players have seen a steep erosion in margins and profits over the last couple of quarters as they were forced to slash tariffs in response to the rates offered by Jio.

This, however, also paved the way for consolidation in the sector. We believe the process will accelerate and eventually lead to three-player oligopoly. This, and Jio’s revised tariff plans, should bring back pricing power to the players. With high-speed 4G technology and huge data demand, we believe the industry would witness an uptick in ARPUs and improvement in the financial performance of the companies.

Quarter snapshot RJio: Set to fire

Jio reported Rs 6,147.06 crore of revenue from operations, on a subscriber base of 138.6 million at the end of September 2017. This translates into an average realization per user (ARPU) of Rs 156.4 per month, which is much higher than that earned by other players in the industry.

On the back of a pan-India distribution network of over 1 million retailers and wide 4G reach, the company was able to add 19.5 million customers during the quarter. Jio’s VoLTE technology, which provides fast speed data streaming and allows to make calls through data, led to the highest per capita voice consumption at 626 minutes per month and 178 crore hours of high-speed video consumption per month.

In terms of operating margin, Jio reported EBITDA margin of 23.5 percent, no mean feat. The management attributes this performance to use of efficient 4G technology and significant addition of the paying customers for the quarter.

TRAI’s decision to cut the Interconnect Usage Charges (IUC) from 14 paise per min to 6 paise per min effective October 1, 2017 and to zero from January 1, 2020, would lead to substantial cost savings for Jio, improving its margins.

Bharti Airtel still the leader

Industry consolidation, improvement in Africa operations, data usage surge and lower discounts from Jio will help Bharti Airtel maintain its leadership position in the sector.

The company earned Rs 218 billion in revenues during the September quarter, down 0.8 percent sequentially. Operating margin or EBITDA expanded by 106bps (QoQ) to 36.5 percent.

Geographically, quarterly operating profits from Indian operations declined 5 percent sequentially, while operating profit margin was flat at 34.4 percent. A big positive surprise was the Africa operation, which posted the highest ever EBITDA margin of 32.3 percent on the back of continuous cost control efforts.

In terms of operating parameters, Airtel continued to add customers (up 8.5 percent YoY) despite Jio’s aggressive tariff plans. However, the company continues to witness a downward trend in its ARPU which declined 22.4 percent (YoY) and 5.7 percent (QoQ). We believe that ARPUs would rise once the industry consolidation is completed.

Vodafone + Idea: no visible signs of improvement

Vodafone after merging with Idea is set to become the leader in terms of number of subscribers but the dismal performance by both may put them back to their original position, behind Airtel. Both companies’ financials continue to weaken owing to pricing pressure and falling subscriber base.

For Idea, total subscriber base declined 3.5 percent sequentially and ARPU declined 6.4 percent, leading to 290bps contraction in EBITDA margin that came at around 20 percent, lowest since FY07.

For Vodafone India, total subscriber base declined 2.1 percent sequentially and ARPU declined 6.6 percent. However, aggressive cost-cutting arrested the fall in EBITDA margin which in fact led to 100 bps expansion in EBITDA margin to around 21.9 percent.

What do the Adjusted Gross Revenue (AGR) numbers tell about telecom players? – Jio helping in increasing the size of the overall pie

AGR is calculated from gross revenues after adjusting for charges paid to other service providers, roaming revenues actually paid to other service providers and service and sales tax paid to the government.

The inclusion of Jio’s revenue for the full quarter led to the uptick in the Gross Revenues and Adjusted Gross Revenues (AGR) for the industry. Without Jio, AGR for the industry was down 10 percent on a sequential basis.

In terms of individual players, Jio garnered 13.9 percent AGR market share in 2QFY18, eroding the share of the top three incumbents.

Valuations

Bharti Airtel: In terms of valuation, the sum-of-the-parts (SOTP) valuation gives upside potential of 37 percent based on EV/EBITDA multiples of 10.5 and 6 times for the India and Africa businesses respectively.

Idea: Based on 11 times EV/EBITDA multiple, the share price offers an upside potential of 16 percent.

Jio: Based on DCF valuation, RJio’s value is Rs 245, which will get added when valuing Reliance Industries. In sum, consolidation in the industry is going to play the most important role in shaping the future of the industry. The price war has already eliminated the marginal players. With stronger entities left in the fray, the industry can look forward to relatively more rational competition that would give them pricing power. Additionally, data boom offers many opportunities for these companies. These structural changes in the industry will catch investors’ fancy, although not before another couple of years of turbulence.

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

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