Thursday, 29 August 2013

Asian Daily

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� � � � �Indian Telecom Sector ---------------------------------------------------------------------------------------- Management meet: Competition to remain benign, expect fall in spectrum prices Sunil Tirumalai / Research Analyst / 91 22 6777 3714 / sunil.tirumalai@credit-suisse.com Chunky Shah / Research Analyst / 91 22 6777 3872 / chunky.shah@credit-suisse.com

● In our recent meeting, Bharti Airtel's management indicated that the competitive environment continues to improve. There is significant upside to tariffs based on industry economics, and the limiting factor, if any, would be customer behaviour. So far, this factor has been quite accommodative.

● It is possible that momentum on tariff increases takes a breather in the seasonally weak Sep-quarter, but the upward trajectory should resume from the Dec-quarter. Management explained that 50%+ of the near-term USD/INR mismatch is hedged, while the USD debt repayments start only after 18 months (average tenure 4.5 years).

● Bharti Infratel has no plans to acquire Airtel's African tower assets. Acquisitions, if any, will likely be domestic or from other foreign operators/towercos. In the current economy, this seems unlikely. Hence, the company could be open to increasing dividend payout as a possible use of surplus cash.

● After attending TRAI's OHD on spectrum auction, we believe a significant cut to reserve price is likely. This should be positive for incumbents. Reiterate OUTPERFORM on Bharti/Idea.

Valuation metrics Company Ticker Rating Price Year P/E (x) P/B

(x)

Local Target T T+1 T+2 T+1

Bharti Airtel BRTI.BO O 294.25 410.00 03/13 20.1 12.4 1.9 Bharti Infratel BHRI.BO O 130.05 195.00 03/13 17.0 14.0 1.4 Idea Cellular IDEA.BO O 155.10 175.00 03/13 25.4 16.6 3.2

Note: O = OUTPERFORM, N = NEUTRAL, U = UNDERPERFORM Source: Company data, Credit Suisse estimates

We recently met with management of Bharti Airtel/Infratel and attended the open house discussion of TRAI on spectrum auctions.

Bharti Airtel: Competitive environment benign

Bharti Airtel's management explained that the competitive environment continues to improve. Currently, the actual realised call rates are at a 33% discount to headline rack rates, due to the presence of promotional vouchers/minutes. The general direction will be for this gap to reduce with continued withdrawal of discounts (as was seen in the Jun-13 quarter). However, with the Sep-quarter usually being seasonally weak on volumes, operators may not intervene significantly on discounts in the current quarter, but action should resume from the Dec-13 quarter onwards. Management does not expect any disruptive action on tariffs by any competitors in the next few quarters (i.e., there is a general consensus in the industry that tariffs have to go up). In this context, the only risk to tariff increase would be customer elasticity—a factor which has not shown up negatively so far.

The company is comfortable with market share movements (we have highlighted that Bharti has been gaining market share over the last few quarters). While revenue market share will remain an important objective, the focus will be on improving profitability while keeping healthy market share growth.

On risks from a falling rupee, management explained that of the US$7.5 bn debt, there is no repayment due in the next 12-18 months, with an average tenure of 4.5 years. The company as a policy

normally hedges 50%+ of net USD payables from INR (i.e., 50%+ of 12M currency mismatch is hedged). Management reiterated that it is well within all debt covenants for the past 12 months. Moreover, the African operations are already self-sufficient on cash flow, and management expects Africa to take care of even the acquisition interest in a few quarters.

Bharti Infratel: No Africa acquisition on cards; upside to dividend

Management clarified that there are no plans for Bharti Infratel to acquire African tower assets (either immediate or long term). While the company had earlier indicated inorganic expansion as a possible use of cash, acquisitions would be limited to acquiring tower assets from other operators (in India or abroad). In any case, given the fall in the rupee, reduced valuations of Infratel vs global peers and limited opportunities in India, it is unlikely that any acquisition would take place soon.

In this context, it is possible that Infratel steps up dividend payout: either as a one-time interim payout or a change to its policy (current policy is 30-50% payout). As per CS estimates, an increase in dividend payout to 75% (in line with FY13) would lead to a 3.5-4% dividend yield on the current stock price.

TRAI discussions: Likely cut to spectrum reserve price

TRAI recently held a well-attended open house discussion on the issue of spectrum auctions (valuation and reserve price), along with other related issues. Our key takeaways:

● Despite minor opposition from some quarters (primarily CDMA operators and consumer groups), we believe TRAI is inclined towards a significant reduction in reserve price. TRAI chairman repeatedly referred to the precarious economic situation as a context to set realistic reserve prices, and also explained that small (10-20%) reductions in reserve price in multiple steps will do more harm than good.

● TRAI is likely to continue to support refarming of 900MHz. But in our opinion, this is no longer relevant since all spectrum will need to be bought at market price by incumbents (i.e., refarming is being replaced by repricing).

● A gradual move towards uniform spectrum usage charges is likely, though the Chairman warned against any 'sudden disruptive changes in this environment'. This would be positive for the industry.

● TRAI seems to be in favour of allowing spectrum trading, which will further improve the overall financial situation for the sector. We suspect implementation will take a while.

● TRAI suo moto came up with issues on 'refarming' a portion of the 800MHz CDMA spectrum into GSM. This could be positive for GSM operators if implemented (more spectrum supply).