Post the 3G auction, most telecom companies would witness a significant increase in their debt levels resulting in pressure on their stock price performance
With all mobile service providers who had won the third generation (3G) bids needing a kitty of about Rs70,000 crore to pay for the spectrum, banks are readying to make necessary arrangements. The borrowings would be net positive for banks in the short-term, but analysts feel it will not be meaningful for the lenders. In addition, they feel deteriorating business dynamics and regulatory headwinds would limit any meaningful upside in the stock prices in the near-term.
"We expect a significant proportion of bank funding to be short-term as the telecom companies would seek to refinance their bank borrowings in the intermediate term with cheaper long-term sources such as external commercial borrowings (ECBs)," said BRICS Securities Ltd, in a note.
The transaction will be a single big deal for the Indian banking sector where the Rs70,000 crore lending would equate to about 1.8% of the total banking sector credit outsourcing. Top banks like State Bank of India (SBI), ICICI Bank Ltd, Punjab National Bank, Bank of Baroda, Bank of India, HDFC Bank Ltd and Axis Bank do have a capacity to offer more than 75% of the required funding to the telecom companies.
Ratings agency CRISIL said, ”Given that these investments will primarily be debt-funded, the players’ financial risk profiles are expected to be under pressure over the medium-term. However, this pressure will be offset by strong cash flows from the players’ pan-India operations, and in a few cases, by support from parents.”
There is a risk, though. If global capital markets continue to remain jittery or get worse, Indian telecom operators may find it difficult to find refinance options. In this case, banks would end up holding these loans for longer periods than expected and it may affect their balance sheets. Similarly, for telecom companies, unavailability of refinance may exert additional pressure in terms of servicing more expensive debt than anticipated.
"Telecom operators will have to make the spectrum payout in the next 10 days and thus we would see increased interest burden from the second quarter of FY11 onwards. Also, broadband and wireless access (BWA) auctions which starts on 24th May and with most of the telecom service providers participating in the auction, where there are only two slots available and 11 bidders, the competition is likely to be fierce," said an analyst who does not want to be named.
Although the winners are expected to pay the whole amount within 10 days, they will receive the required spectrum and permissions only in September 2010. Additionally, the operators will need four to six months to roll out 3G services. In short, even if operators are paying Rs70,000 crore within the next few days, they will not be able to generate any revenues till the start of next year.
In a research report, Ambit Capital Pvt Ltd said, “We believe that (the) incremental operational expenditure incurred towards running a 3G network in terms of a network operations centre (NOC) and selling and marketing expense would not be commensurate with the incremental revenues from 3G services. Earnings will be further impacted due to increase in amortisation and interest expenses after the deployment of the 3G network. We remain negative on the telecom sector and maintain 'sell' on Bharti Airtel Ltd, Reliance Communications Ltd (RCom) and Idea Cellular Ltd."
Echoing the same views, Sharekhan Ltd, in a research note said, “The 3G license outflow and the ensuing rollout capital expenditure would strain the balance sheets of the telecom operators, as the funding is expected to be financed through bank borrowings. We expect the strain to be highest on RCom followed by Idea. Bharti Airtel will be least affected with its net debt/EBITDA expected to increase to 2.6x from 0.2x."
Interestingly, in 2000, European telecom operators bid aggressively for 3G spectrum auction, with the UK government raising $35 billion and Germany earning $46 billion. Post-auction most of the companies witnessed a significant increase in their debt levels, which resulted in pressure on stock price performance.
After 10 years it is the same story in India, as well. The pan-India auction amount reached Rs16,750 crore ($3.7 billion), up 379% over the base price of Rs3,500 crore. With this, the Indian government will raise Rs67,700 crore ($15 billion).
Bharti Airtel has managed to win 3G licenses in 13 out of the 22 circles, which is much lower than the market expectation and the company management’s aim of a pan-India footprint. RCom also successfully bid for 13 out of the 22 circles, but with a predominantly ‘B’ and ‘C’ circle footprint, in addition to the three metros—Delhi, Mumbai and Kolkata. Idea has clearly followed the strategy of bidding for circles which account for maximum revenue for the company. In nine out of the 11 circles that Idea has won, it is one of the top three private operators in terms of revenue share. Vodafone has managed to be successful in nine circles out of which six are real big guns such as Mumbai, Delhi, Maharashtra, Gujarat, Tamil Nadu and Kolkata.
In the 3G bidding, Aircel was a clear winner, winning 13 circles that contribute 90% and 91% of the current subscriber and revenue base of the company. New entrant Tata Docomo managed to win nine circles, including big circles like Maharashtra, Gujarat and Karnataka. STel, another new player, also managed to win three circles—Bihar, Himachal Pradesh and Orissa—in which it offers its services at present.
With this kind of fragmented outcome of the 3G bidding, the operators may have to take the sharing route. "Looking at the different circles acquired by the incumbents, it appears that some of the players had adopted a strategy of gaining spectrum across a geographical corridor. Notably, Aircel won most of the southern and eastern circles, while Tata Docomo covered the western and northern parts. We believe that complementary distributions may be useful in deriving synergies when consolidation starts in earnest," said Sharekhan.
CRISIL feels that winning 3G spectrum blocks in their key circles will help the players retain their market positions, reduce congestion in traffic through use of additional spectrum and thereby enhance the quality of their services. “Their business risk profiles will, therefore, be positively impacted, even though 3G service revenues are unlikely to grow significantly in the next two years,” the ratings agency added.
Besides the higher spending and lower returns estimates, telecom operators will have to face the impact of mobile number portability (MNP) and 2G spectrum management and licensing norms, which have dampened the investor confidence on the visibility of the earning trajectory.
"After the recent correction in stock prices, current valuations are now suggesting value in terms of replacement cost, but we believe deteriorating business dynamics and regulatory headwinds would limit any meaningful upside in the stock prices in the near-term," said IDFC Securities Ltd, in a note.
Almost every telecom operator has witnessed flat realisations in the post-paid segment, which till now has remained insulated from the savage tariff war, and which will have to be ready to face the heat from mobile number portability (MNP). IDFC Securities said that it expects a sharp drop in post-paid pricing post-MNP as new operators and incumbents step up their marketing efforts in a tussle to attract this clutch of subscribers. "We estimate 15%-20% drop in post-paid pricing could lead to about 3%-4% drop in wireless revenue and around 200 to 300 basis points erosion in wireless margins," the brokerage added.
Fourth quarter results of the top four Indian wireless operators have reflected some rebound in the traffic growth at lower tariffs but the overall margin trend has continued to weaken. Average revenue per user (ARPU), the set parameter to gauge performance of telecom companies, has been falling since the past few quarters. For the quarter to end-April, Bharti Airtel, the country's largest telecom company, reported an ARPU of Rs220 from Rs305 a year ago. During the same period, APRU of Vodafone and Idea also fell to Rs197 and Rs185 from Rs274 and Rs255, respectively. For the quarter to end-April, RCom, the country's second biggest telecom operator reported an ARPU of Rs139 from Rs224 in same period last year.
So what lies ahead for telecom companies? Most of the brokerages believe telecom stocks will continue to remain under pressure over the short- to mid-term. They feel that deteriorating business dynamics and regulatory headwinds would limit any meaningful upside in the stock prices in the near-term. Given the aggressive bidding for 3G auctions, brokerages expect BWA auctions to attract equal attention from operators, which will further strain their balance sheets. Coupled with this, the impending risk of one-time 2G spectrum fee, reframing of spectrum and introduction of MNP, the sector remains beset with other significant uncertainties, they said.
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