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Bharti Airtel: Phoenix Rising From The Ashes

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The Indian telecom sector is entering a phase of tariff discipline which along with paradigm shift in consumer behaviour is expected to benefit India’s largest telecom operator by active subscriber base – Bharti Airtel Ltd. After nearly three years of tariff war, which led mobile tariffs drop by more than half, the telecom sector is now starting to benefit from an improving tariff environment.

After nearly three years of a ruinous tariff war, which led mobile tariffs drop by more than half, the telecom sector is now starting to benefit from an improving tariff environment. Click To Tweet

The COVID-19-induced lockdown and social distancing, which discourages person-to-person contact has caused a surge in data demand across the globe. Such shift in consumer behaviour will spur data demand structurally, thereby increasing the wallet share of telecom services.

The Telecom Industry

The Indian telecom sector currently has five players – three private and two government owned. The three private players control 93% of the subscriber market, while the state-owned companies control remaining 7%. Even on the revenue front the case is similar.

Bharti Airtel: Phoenix Rising From The Ashes

The Mukesh Ambani controlled – Reliance Jio Infocomm Ltd. – which started with providing free services in 2016 led to a massive consolidation in the sector. The number of private operators dropped from 8 to 3. This consolidation led to the formation of Vodafone Idea Ltd. – Vodafone India Ltd. merged with Idea Cellular Ltd. Among the remaining, 3 shut-shop and 2 sold their operations to Bharti Airtel.

Among the listed telecom companies in India, only Bharti Airtel has seen a growth in its market capitalisation over the past 6 years. Companies like – Reliance Communications and Tata Teleservices have shut shop. When Vodafone Idea was Idea Cellular it had a market capitalisation of over ₹ 50,000 crore. Now post its merger with a larger company – Vodafone India – the combined market capitalisation has dropped to below ₹ 30,000 crore. This is despite multiple fund raising done by the company.

When Vodafone Idea was Idea Cellular it had a market capitalisation of over ₹ 50,000 crore. Now post its merger the larger Vodafone India - the combined market capitalisation has dropped to below ₹ 30,000 crore. Click To Tweet

Bharti Airtel: Phoenix Rising From The Ashes

Vodafone Idea Ltd. – an entity created by the merger of once India’s number two and number three telecom operator – has been losing ground since the launch of Jio. This was not only when they were separate entities but also post-merger. The operator did become the largest player in India post completion of merger; however, the position was short lived. Currently it ranks last among the private telecom players.

Moreover, the operator is on the verge of shutdown due to weak balance sheet, low cash generation, hefty pending regulatory payouts, massive subscriber losses due to weak network quality and unwillingness of promoters to infuse funds. A combination of tariff hike, government relief measures, an equity infusion by promoters or a strategic investor and any potential surrender of unused spectrum to reduce future liability seems to be the only route to ensure survival for Vodafone Idea.

Reliance Jio – youngest telecom operator – scorched its way in the telecom sector. It did so first by offering free services and then cheaper plans to win subscribers. The strategy adopted by Reliance Jio not only helped the operator to acquire close to 40 crore subscribers, but to also become India’s largest operator by revenue market share. The operator not only has a debt free balance sheet (thanks to its parent company – Reliance Industries Ltd.), but is also supported by a strong network layout.

Bharti Airtel

Currently the largest operator by active subscriber base has not only withstood the difficulties caused by the launch of new operator, but has emerged stronger. Healthier balance sheet, diversified source of income, strategic acquisitions, continuous investment for upgrading network, competitive tariff plans and better customer service helped the company withstand the Jio impact.

Bharti Airtel did see a drop in its revenue and active customer base since the launch of Jio. However, the drop was much lower than Vodafone Idea. Also, the acquisitions of Telenor India and Tata Teleservices did aid its customer base.

Bharti Airtel: Phoenix Rising From The Ashes

What Stands In the Future?

The most important aspect of any business is sustained revenue flow. For telecom, this is achieved through mobile tariff discipline and customer acquisition or upgradation. ARPU which are direct reflection of mobile tariff were on a downfall since September 2016 (launch of Reliance Jio). But recently, the sector has entered a phase of tariff discipline.

In December 2019, all the three private telecom operators hiked tariffs in the range of 30-40% – thereby indicating the end of three-year long tariff war. This led to a sharp recovery in Bharti Airtel’s average revenue per user in the March ended quarter.

In December 2019, all the three private telecom operators hiked tariffs in the range of 30-40% - thereby indicating the end of three-year long tariff war. This led to a sharp recovery in Bharti Airtel’s average revenue per user in… Click To Tweet

This tariff discipline will sustain, because –

  • Low tariffs had hit all operators’ free cash flows and bloated their balance sheet
  • Reliance Jio (initiated tariff war) is now the market leader and any tariff cuts will hurt it more

Bharti Airtel: Phoenix Rising From The Ashes

Bharti Airtel which reported an ARPU of ₹ 154 – highest in the last 12 quarters because of tariff hike – said the same was inadequate to generate a reasonable return on capital. Gopal Vittal, CEO of Bharti Airtel, expects the ARPUs to get to ₹ 200 in the short term and eventually to ₹ 300 which is where it should be for a telecom business.

The telecom regulator is also mulling to introduce floor tariffs – price below which no telecom operator can offer its services. Thus, a second round of tariff hike either direct or indirect is imminent. However, it might not happen anytime soon, given the Covid-19 pandemic and the economic slowdown in the country. But over long-term recurrence of tariff war is unlikely.

Bharti Airtel can also increase its ARPU without a tariff hike, i.e., by upgrading customers to a higher tariff plan. There are two types subscribers which generate income – prepaid and postpaid. In prepaid there are two sub-types – feature phone users and smartphone users. The feature phone plans generate an ARPU of nearly ₹ 50. Incase of smart phone plans, the entry level ARPU is close to ₹ 200. While in postpaid, the entry level ARPU is ₹ 399.

Thus, if an Airtel subscriber shifts from feature phone to smartphone, its ARPU jumps nearly four times, while if a prepaid data user converts to a postpaid user, the ARPU jumps nearly two times.

Currently, Bharti Airtel’s smart phone penetration is very low as only 48 percent of the 28.3 crore users have smartphones. While, postpaid users are only 5.2 percent of the total customer base. Thus, the opportunity to generate higher ARPU from upgrading its own customers is high.

Bharti Airtel: Phoenix Rising From The Ashes

 

Also, postpaid has higher opportunity to grow – similar to the trend in other developing countries. In Philippines, postpaid constitutes 50-55% of total customers while in Brazil, it constitutes 60-65%. In India, the number of postpaid subscribers is very low (5.2% of total subscriber base) due to arbitrage in price plans between prepaid and postpaid, i.e., the decline in prepaid pricing has led to a drop in postpaid subscriber share.

In Each Loss There Is A Gain

Vodafone Idea has been losing grounds for the last two financial years in the telecom market. The company has lost over 120 million subscribers in the last 21 months. Its revenue market share has fallen by over 1,100 basis points. This market share shift has been primarily due to Reliance Jio and Bharti Airtel’s ability to attract more wireless broadband subscribers to their network.

Reliance Jio and Bharti Airtel have been able to add more wireless broadband subscribers due to continued network investments as well as a wider data network. With Vodafone Idea on the verge of shutdown, the other two private operators – Airtel and Jio – are set to gain. Even if Vodafone Idea survives, because of its inability to invest in networks, market share losses are certain. Currently, the operator has 26% revenue market share and 30% of active subscriber base which could be up for grabs for peers.

Bharti Airtel: Phoenix Rising From The Ashes

Airtel Nemesis – Reliance Jio

Despite a 40% tariff hike in December 2019, Reliance Jio’s ARPU grew my meager 2%. The company has also seen its ARPU drop from its peak of ₹ 156 to ₹ 131. All this points towards the fact that the company has been gaining customers from the lower end of the market, i.e., the feature phone users and low paying data users. This is expected to continue further on the back of JioPhone and because neither Bharti Airtel nor Vodafone Idea have a competing 4G offering in this segment. Since its launch in August 2017, Jiophone has helped Reliance Jio gain 100 million subscribers.

Bharti Airtel: Phoenix Rising From The Ashes

On the smartphone user segment, both – Airtel and Jio – would continue to gain. However, it would be difficult to predict the gains. But, on the postpaid segment, Airtel has an upper hand when compared to Reliance Jio, because of its competitive pricing. Reliance Jio on the other hand, has only one plan in the prepaid segment right from the start with no additional benefits. While Bharti Airtel even for its basic postpaid plan has additional benefits like Amazon Prime one-year membership and Zee5 subscription.

Consolidation To Lower Raw Material Prices

Spectrum prices in India have remained high, but now the same would fall given the change in supply-demand dynamics.

India started allocating spectrum through auctions from 2010. At that time, the industry had 7-12 operators while the amount of spectrum being put up for auctions was limited. For example, in 2010, when 2100 MHz of spectrum band was auctioned for the first time, out of the 60 MHz available, the government auctioned merely 15-20 MHz, thereby creating an artificial scarcity. Furthermore, the industry with over 7 operators were looking to purchase this spectrum to launch 3G services. The entire spectrum was sold, and the realized auction price was 5-7x the reserve price.

These spectrum prices were taken as a benchmark for subsequent auctions as a result of which spectrum prices remained high in India. However, the telecom industry has since transformed into a pseudo-duopoly thereby curtailing demand, and the supply of spectrum has also increased materially as the government has released more spectrum.

In the past, spectrum prices have been lowered by 40-60% across bands which have not seen demand in the previous auctions. For example, in 1800 MHz band, spectrum prices were lowered for few circles by 61-62% over 2012-2014, as they did not find any takers in the auctions. Recently, the price of 700 MHz band was cut by 43% since it did not see any bids in the 2016 auctions.

In the past, operators had to bid for spectrum in advance due to the fear of missing out, driven by spectrum scarcity. This led to sub-optimal capital allocation and depressed returns. Now in the current market structure with 275 MHz of 5G spectrum and only 2-3 operators in the fray, operators need not rush into spectrum purchases.

Airtel – Diversified Businesses

Along with its mainstay – India mobile business – the company also has presence in home broadband, DTH and enterprise segments in India. It also owns majority stake in a tower company – Bharti Infratel Ltd. and in Airtel Africa Ltd. It also has some operations in Sri Lanka, however, the revenue contribution is only 1% from the same. The company also owns pan-India optical fiber network of 3,04,907 Kms.

Bharti Airtel: Phoenix Rising From The Ashes

Airtel Africa

Bharti Airtel listed African unit has seen a turnaround in its business in past few years. This was on the back of cost optimisation measures, assets sales and capital infusion by investors. Proceeds of asset sale and fund infusion was used to reduce debt thereby reducing the interest cost resulting in the company generating profits after over six years of its acquisition. Its revenue growth is expected to led by subscriber growth, while margins are expected to remain largely stable.

Bharti Infratel

The listed tower infrastructure company is going through a tough spot due to reduced tenancies. The reduction in tenancies was largely due to consolidation in the telecom space. The company is also amidst merging Indus Towers with itself. Nearly one-third of Bharti Infratel’s tenancies are from Vodafone Idea and any shutdown or cost optimisation plans of the latter will have a direct impact on Bharti Infratel.

DTH

Airtel is the third largest DTH (direct-to-home) operator in India with 23% market share and is favorably positioned to gain in this market given the synergies with home broadband offering. It owns 80% stake, while the remaining is owned by Warburg Pincus.

Enterprise

Enterprise services include fixed Line, data and voice businesses and wholesale voice and data services to global partners. Airtel offers these services through its seven owned subsea cables and another 22 subsea cables through partners. Airtel’s enterprise operations have synergies with its mobility operations in India and Africa. Segment revenues is expected to grow at a slower rate due to entry of Reliance Jio.

Home or Wired Broadband

India’s home broadband market has a significant growth potential given its low 7% penetration among total households and below 20% penetration in urban households. Despite this, the subscriber growth over the past three years has been just 5%. The key reason for slower growth is expensive pricing and widespread rollout of 4G which offered high speed at lower prices.

Bharti Airtel: Phoenix Rising From The Ashes

However, things are likely to change now given the COVID-19-induced lockdown and social distancing. With the onset of the lockdown, the search for term “broadband” rose more than 2x compared to pre-lockdown level. Although this surge in demand is unlikely to have translated into immediate subscriber addition, but could spur latent demand for broadband connectivity in India.

The broadband market in India is dominated by state-run Bharat Sanchar Nigam Ltd. with nearly 43% market share. The space is not as fiercely competitive as telecom. Even Reliance Jio, unlike its entry in the mobile space, entered the broadband market, shunning aggression.

 

Bharti Airtel: Phoenix Rising From The Ashes

Broadband doesn’t warrant a price war to win customers, all it needs is quality of service. The quality of service provided by state-run companies is low and one doesn’t need to disrupt the market to get entry in the broadband space. Jio Fiber’s broadband tariffs are 13-23% lower than Bharti Airtel, but they are effectively 8-27% costlier when data caps are factored in.

Jio Fiber’s broadband tariffs are 13-23% lower than Bharti Airtel, but they are effectively 8-27% costlier when data caps are factored in. Click To Tweet

Even with Jio’s commercial launch, Airtel’s home broadband subscriber base has remained largely unaffected. Infact in the month of January, Reliance Jio witnessed a drop in its user base. During the lockdown phase, the searches for ‘Airtel Broadband’ was higher than ‘Jio Broadband’.

Bharti Airtel: Phoenix Rising From The Ashes

Airtel Balance Sheet

Despite paying 40% of the past AGR dues, Bharti Airtel has been able to reduce its net debt, excluding lease liability, and leverage ratio – net debt to EBITDA. Going forward, lower capital expenditure intensity as guided by the company, higher cash flows due to tariff hike and its ability to monetise the non-core businesses can help the company lower its debt.

Earlier, the company had sold stake in Airtel Africa, DTH business and Bharti Infratel to reduce its debt.

Bharti Airtel: Phoenix Rising From The Ashes

Valuations

Bharti Airtel is currently trading at an enterprise value to FY20 EBITDA of 10.6 times. Going forward, the street is expecting the company’s EBTIDA to grow mainly on the back of higher contribution coming from the India mobile business. The India mobile business would be benefitted due to tariff hikes. However, the estimates do not factor in any tariff hike for FY21 – growth would be on the back of tariff hike done in December 2019. Based on EBTIDA estimates compiled by more than 10 brokerages, the fair value of Bharti Airtel could be in the range of ₹ 723 to ₹ 1065 apiece. The key risks to this positive thesis on Bharti Airtel are no tariff hike, high competition in broadband and enterprise business, significant impact on Airtel Africa’s fair value due to lower crude prices and impact on Bharti Infratel’s fair value if Vodafone Idea shuts shop.


Bharti Airtel is part of the CM LongTerm Portfolio in the “Post-Virus New Normal” quadrant. We actioned a buy of the 2nd tranche of the portfolio earlier this month. For full access to our model portfolios, research, and member forum, upgrade to Capitalmind Premium today. Use Code CMPOFF10 to get 10% off regular price.

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