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Below Par: Stock performance of listed operators

January 05, 2017
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By – Devangshu Datta

The telecom industry has seen many ups and downs since it was opened up to private operators about 20 years ago. While there has been much policy uncertainty and hectic competition, subscription growth has been very strong, compensating for the low ARPUs, high churn and unpredictable policy changes.

The past two years, however, have been extremely difficult for service providers. Revenues have stagnated and subscription growth has slowed down. Many telecom service providers are struggling to cope with high debt and are making net losses. Meanwhile, competition has remained intense. The latest entrant, Reliance Jio Infocomm Limited (RJIL) is actually offering services free for a long trial period.

The last two spectrum auctions (in March 2015 and October 2016) have been expensive for operators, with the base prices being set too high for comfort. Most companies are running cash-negative, or making net losses, and all service providers have committed enormous investments. City networks are saturated with a penetration of over 200 per cent in metros such as Delhi. Rural penetration is much lower at around 50 per cent. But roll-outs will be required to tap the rural population and the rewards could take a long time coming since rural users yield very low ARPUs.

Most of India’s telecom service providers are not listed. However, the largest ones, Bharti Airtel, Idea Cellular and Reliance Communications (RCOM), which is merging with Aircel and Sistema Shyam TeleServices subject to court approvals, are all listed as is state-owned Mahanagar Telephone Nigam Limited (MTNL), which has a presence only in Delhi and Mumbai. In terms of daily trading volumes, Bharti Airtel, Idea and RCOM belong to the derivatives segment and all three are highly traded shares with strong futures trading volumes. MTNL also generates serious volumes in the cash equity segment.

Tata Communications is also a listed stock but it provides only enterprise-level broadband and cloud services. RJIL is a subsidiary of Reliance Industries, and it is impossible at this stage to make a coherent analysis of Jio’s influence or its impact on the share price of Reliance Industries.

The return on investment in telecom stocks has been abysmal over the past two years. Every one of the listed telecom service providers has seen negative returns with share prices declining. The two-year return (from January 1, 2015 to December 5, 2016) is negative and the one-year return from January 1, 2016 to December 5, 2016 is also negative. In addition, the telecom service industry has underperformed the broad market index, the Sensex.

On a two-year basis, the Sensex, which tracks 30 of India’s largest companies spread across multiple industries, has a slightly negative return of (4.2) per cent. Bharti Airtel is the only telecom company to have not experienced double-digit losses during this period though it has suffered higher capital losses of 9.8 per cent. The worst affected has been RCOM, which has lost 56.6 per cent, while Idea has lost 54.4 per cent and MTNL has lost 37.4 per cent.

On a one-year basis, the performance is worse. The Sensex has been mostly flat through 2016, with a marginal gain of 0.72 per cent. Bharti Airtel is down 3.85 per cent while MTNL, Idea and RCOM are down 22.9 per cent, 49.1 per cent and 60.1 per cent respectively.

Looking at the performance during various phases across the tracked period (January 1, 2015 to December 5, 2016), there are several interesting trends.

Idea Cellular and Bharti Airtel outperformed the Sensex during January-August 2015. RCOM saw a brief period of outperformance in December 2015-January 2016 and Bharti Airtel beat the Sensex for another relatively long period during February-July 2016. Since August 2016, all telcos have been underperforming the Sensex. Three of the stocks – Idea, RCOM and MTNL – are all trading very close to their annual lows.

Valuations are fairly close to those of the general market. The price-earnings ratio is the most commonly used valuation metric. This ratio divides the share price by the net profit per share. The lower the ratio, the more conservative the valuation.

The Sensex has a price-earnings ratio of 20.5, using the earnings of constituent stocks weighted in proportion to the respective free-float market capitalisation. Bharti Airtel and Idea have price-earnings ratios of 15 and 21.5 respectively, while MTNL and RCOM are running losses, which makes valuations of this sort meaningless. It could be said that Bharti Airtel is slightly undervalued in comparison to the index, while Idea is mildly overvalued, or almost at par with the index, in terms of valuations.

Linking the share performance directly to news developments or to financial results is difficult but possible. MTNL’s growth has stagnated and it has been continuously making losses. It also has a high level of debt on its books. Moreover, it is in the process of conducting two mergers, which will lead to inorganic expansion, but may also stress its balance sheet. Idea has also been taking on more debt and it has seen a sharp decline in profits. But it is still growing. Bharti Airtel has also managed to maintain some growth although debt has increased for the operator.

The current demonetisation scenario is likely to impact telecom service providers more than it will affect the overall market, although it may be good for them in the long term. In the short run, all telecom service providers have seen a loss of revenue in the prepaid segment where discretionary spending on recharges has been hit by the cash crunch (which means that cheap plans cannot be easily adopted). However, almost every telecom service provider has a mobile wallet solution and the push towards cashless could result in more sign-ups for mobile wallets. In time, this could be a positive development for mobile companies.

Bharti Airtel’s relatively better performance suggests that scale does count. The company is not only the biggest service provider in India, it also has a presence in overseas markets and in the fixed line broadband service segment. Idea has seen negative rerating as profits have dipped and debt risen over the past three quarters. Meanwhile, RCOM’s appears to be a wait-and-watch scenario.

Investors will have plenty of reasons over the next three quarters to review their opinions on the sector. In January 2017, there will be some reassessment of the impact of demonetisation during October-December 2016, and in April 2017, RJIL’s services will go fully commercial, which will give analysts a better handle on the competitive scenario in the telecom space.

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