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Telecom sector out of woods?

Author: Kumar Shankar Roy/Wednesday, December 11, 2019/Categories: Exclusive

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Telecom sector out of woods?

The Indian telecom sector is at an inflection point. There are only three large private sector telecom service operators left in India. This is down from 10 players in 2014. Except for one company Reliance Jio, it can be said with a degree of surety that all the others, be it private sector or public sector telecom players, are in severe financial distress. At this crucial juncture, the three private telecom players including Bharti Airtel and Vodafone-Idea, almost in unison, have hiked tariffs on prepaid plans. Will this pave the way for the ailing telecom industry to get out of the woods? Will the rise in telecom plan prices have a negative effect on FMCG spending in rural markets? The Finapolis tells you, read on…

Price hike consensus

The seeds of the latest round of telecom price hikes were probably sowed when on October 24 the Supreme Court decided in favour of the government’s contention that all revenue, including from non-core sources, would count as gross revenue for calculating Adjusted Gross Revenue (AGR). The court directed compliance with the order in three months. Licence holders i.e. telecom companies have to pay about eight per cent of AGR to the Telecom Department as fees.

So, from December onwards, Vodafone Idea and Bharti Airtel have raised tariffs of their popular bundled prepaid plans by 25-41 per cent as well as the low-end plans by around 40 per cent. Jio has indicated done hikes of a similar magnitude albeit with higher benefits. Postpaid plans haven’t been touched yet.

According to Kotak Institutional Equities, Vodafone-Idea and Bharti have introduced Fair Usage Policy (FUP) for off-net voice minutes in line with what Jio introduced a few weeks back. Vodafone-Idea has kept the FUP at 1,000 off-net voice minutes per 28-days cycle post which consumers will be charged the current inter-connect rate (Rs0.06/min). Lastly, price hikes have been more in plans of longer duration (41 per cent for annual versus 31-40 per cent for 84 days versus 25 per cent for 28 days).

Tariffs of the minimum ARPU plans (introduced towards the end of CY2018), applicable for the feature phone segment (voice-only subscribers), have been increased by as much as 40 per cent. Huge gap between ‘value’ of entry-level and ‘popular’ bundled plans to limit down-trading. To address the issue of potential down-trading, both Vodafone-Idea and Bharti Airtel have kept a big gap in data offerings of entry-level and ‘popular’ bundled plans. For 28-days, there are three bundled plans, in which consumers can either choose a 2GB/month plan at Rs 148 or a 1.5GB/2GB per day plans at Rs 248/298. Some believe that the 2GB/month plan will be insufficient even for moderate data consumers. Down-trading would mean leaving a lot of value on the table while up-trading would offer significant incremental value. This should help move the belly of the smartphone ARPU curve to the right, in our view – a critical component of a sustainable ARPU uplift, as per Kotak.

Assuming stable subscriber mix for Vodafone-Idea and Bharti Airtel, an Average Revenue Per User (ARPU) increase of Rs 25-30 from these price hikes (assuming some down-trading), incremental EBITDA for the two companies works out to Rs 80-95 billion and Rs 70-85 billion, respectively, Kotak estimates.

Following the footsteps of incumbents, RJio too revealed the new effective price hikes beginning December 6, 2019. While the minimum recharge price plans were hiked by 32 per cent (now beginning at Rs 129), the popular monthly plans witnessed a price hike of 25-30 per cent, Motilal Oswal says.

For RJio, high ARPU prepaid plans have seen 27 per cent price hike which would result in ARPU increasing by Rs 38 from Rs 142 to Rs 180. While no rates have been disclosed for low ARPU Jio feature phone subscribers, Motilal Oswal assumes nearly 30 per cent price hikes for these subscribers too. Low ARPU Jio phone subscribers would probably see a hike of Rs 25 in ARPUs from Rs 84 to Rs 109.

Importantly, the price differential between Reliance Jio and Bharti Airtel and Vodafone-Idea price plans remains constant at about Rs 45-50 for most of the popular quarterly bundled plan, but the discount of RJio’s plan over Bharti and Vodafone-Idea‘s plan reduces to nearly seven per cent from 11-13 per cent witnessed in the previous months.

Motilal Oswal estimates that the hike in ARPUs would result in Rs 134 billion/Rs 119 billion incremental revenue/EBITDA which is ~25%/58% rise over previous revenue/EBITDA (2QFY20 annualized) with 89 per cent incremental EBITDA for Reliance Jio.

Telecom profit = FMCG loss?

Some experts take a simplistic view that the 30 per cent increase in telecom tariff (assuming no adverse price elasticity) could potentially hurt consumption, particularly; small ticket items (read FMCG / consumer staples).

According to ICICI Securities, it’s deja vu 2000-2004 when urban consumer cut back on FMCG consumption due to stress on household incomes and shift to housing and durables and rural consumers were under distress due to consecutive droughts. The quantum of consumer spends likely getting re-directed to telecom is huge (Rs 0.5 trillion or 8% of FMCG industry) and that’s a material risk.

Though the quantum of increase in spend towards telecom appears huge at Rs 0.5 trillion, the per person spend in telecom is small. That potentially reduces the stress on individual household budgets. Moreover, the consumer thinks in absolute terms for low unit spends like FMCG or telecom, says ICICI Securities.

India’s saving rate has been reducing over the last few years and this trend could continue – meaning consumers are likely to dip into savings (to spend) and hence the low or limited impact on consumption per se, they also argue.

However, one must add that the FMCG sector has multiple drivers of growth (volume, premiumization, new category creation) in 2020 versus a single driver (volumes in 2000).

Telecom stock performance

The stock markets have been cautiously optimistic about telecom stocks recently. Though Reliance Jio is not listed yet, Bharti Airtel and Vodafone-Idea are very much traded in the markets. Shares of MTNL, Tata Teleservices and Reliance Communications are also listed.

Telecom stocks have been difficult to understand. Bharti Airtel stock as on December 7 closing was trading quite close to its 52-week high of Rs 486 per share. It has clearly jumped from 52-week low of Rs 259. It has a market cap of Rs 2.28 lakh crore.

However, Vodafone-India has been a different story. The stock is trading at about Rs 7 per share levels, quite a way below its 52-week high of Rs 25. After the news of price hikes, the stock has moved quite a bit from its 52-week low of Rs 2.6 per share. The company has a market cap of Rs 19,900 crore.

The stock performance of MTNL is not being talked about since it is getting right-sized, company wise speaking. Nearly 92,700 employees of BSNL and MTNL have opted for voluntary retirement, which is expected to save about Rs 8,800 crore annually in salary bills. As many as 14,378 employees of MTNL, accounting for 76 per cent of the total strength, opted for the VRS. High wage bills forced MTNL to post a loss of Rs 3,398 crore in 2018-19.

The Indian government in October announced a revival package of Rs 68,751 crore for debt-ridden BSNL and MTNL which included Rs 17,169 crore on account of ex-gratia on VRS and Rs 12,768 crore due to preponement of pensionary benefits spread over a period of 10 years through budgetary allocation for VRS. Under the scheme over 1 lakh BSNL and 16,300 employees at MTNL were eligible for VRS which was rolled out on November 4.

Out of woods?

There are many who believe that the telecom price hikes will help nurse back the sector to health. However, this may not be as simple.

Just prepaid tariff hikes are not adequate for sustainability of telecom sector. Acuité Ratings & Research is of the opinion that these players may also need to revise their post-paid tariffs to revive their profitability and importantly, to generate some level of cash accruals for near term capital expenditure.

Clearly, the domestic telecom sector is in no shape to make the necessary investments in 5G services. The government had announced plans to auction additional spectrum required for 5G early 2020. The financial position of the telecom companies already had an impact on the previous spectrum auction held in 2016-17 when only 41 per cent of the spectrum on the offer was bid out and only Rs 65,000 crore could be raised against the base price of Rs 5.6 lakh crore for the proposed auction in the 3300-3600 MhZ band.

TRAI has proposed a base price of Rs 492 crore per MhZ which would translate into a spectrum outgo of Rs 50,000 crore for each operator (assuming a minimum requirement of 100 Mhz for 5G rollout). Importantly, the balance sheets of the operators except for Reliance Jio, may not permit any aggressive bids for 5G spectrum in the near term.

Acuité, therefore is of the view that the launch of 5G networks in India may not happen over the next 2-3 years and may get postponed beyond 2022. Further, the regular capital expenditure including the expansion and upgrade of existing networks is likely to be slowed down in the near term which will have a bearing on the quality of telecom services.

It is in this context that the tariffs hikes are critical for the Indian telecom sector. The tariff hikes announced by the three players primarily focus on the prepaid customers where excessive competition for subscriber addition and market share, had led to very low average revenue per user (ARPUs). The charges for voice calls had become almost negligible and data prices had dropped very sharply to an average of Rs 12 per GB compared to Rs 269 in 2014. The proposed hikes in prepaid tariffs may lead to a rise of 20-25 per cent in the EBITDA of the incumbent players since around 60 per cent of the subscribers are in the prepaid category.

Nonetheless, the study undertaken by Acuité indicates that even taking into account the gains from the revision, the debt coverage levels in the sector as reflected in the debt to EBITDA levels will continue to remain elevated between 3x-6x levels. While the relief provided by the government through a moratorium on spectrum payments for two years will help to an extent, the high leverage in the balance sheets will necessitate either significant equity infusion or asset monetization.

(The writer is a journalist with 14 years of experience)

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