The dynamics of the Indian telecom service industry have changed dramatically since the launch of services by Reliance Jio in September 2016. After a brutal consolidation, only three private operators have been left in the fray (the PSUs Bharat Sanchar Nigam Limited and Mahanagar Telephone Nigam Limited, are both on the verge of bankruptcy). As of January 2019, Bharti Airtel, Vodafone Idea Limited and Reliance Jio hold close to 90 per cent of the market. As per data from the Telecom Regulatory Authority of India, Vodafone Idea holds 35 per cent share, Bharti Airtel 29 per cent and Jio 25 per cent. Vodafone Idea, Jio and Airtel had mobile revenues of Rs 110 billion, Rs 104 billion and Rs 101 billion respectively in the October-December 2018 quarter, implying revenue market shares of 31.6 per cent, 29.9 per cent and 29 per cent respectively, as per JM Financials report. (Jio does not report interconnect revenues on its top line, netting it off versus interconnect payouts, so it may actually have a higher revenue market share.)
The price war continues, and two of those three operators are struggling. Even the third is looking for ways to shore up its balance sheet. The aggregated financials indicate the basic problems for operators. By the July-September 2018, quarter, the industry had aggregated financing costs of Rs 82.8 billion and it was generating only about Rs 73 billion in operating profits (earnings before interest, taxes, depreciation and amortisation [EBITDA]).
There is far too much debt on telecom balance sheets for comfort and due to the continuing price war, revenues are not growing quickly enough to make it possible to service that debt. Moreover, capex must continue. New areas such as digital entertainment are opening up as companies search for new revenue streams. Further, they must strengthen their fibre and 4G networks to exploit these opportunities. Since 5G is already on the horizon, even more capex will be required in the future.
In terms of strategy, it is clear that the data segment is key to future earnings. The Indian appetite for entertainment has already pushed data consumption to global highs. Since about half of Indian subscribers are still not on data-enabled devices, there is room for growth. While tariffs remain low, operators are also trimming subscriber lists to eliminate low-ARPU “missed call” subscribers.
The trio of private operators is also trying various forms of financial engineering to reduce their respective debt-to-equity ratios. They are looking to raise more cash, ideally via the equity route, or by monetisation of non-core assets.
Airtel and Vodafone Idea have both announced large rights issues, which will enable them to retire some of their debt. They are also looking to hive off assets like tower portfolios and fibre networks, in the hope of monetisation at the later stage. Jio is also hiving off its fibre and tower assets and may soon look to monetise them. Airtel is seeking to list its Africa arm, via an initial public offering (IPO), and this too would cut debt.
A brief description of all these developments is as follows…
Monetising tower assets
In March 2019, Jio received permission to hive off its fibre and tower businesses into two separate units, which could be monetised in the future. The fibre and tower businesses will be hived off into Jio Digital Fibre Private Limited and Reliance Jio Infratel Private Limited respectively. These assets could then be monetised by a sale and leaseback process, or by creating an investment trust structure. Market reports indicate that Jio has approached several global funds and Canada’s Brookfield has been mentioned as a potential investor.
Jio operates over 220,000 towers, including third-party ones, and it has a network of over 300,000 route km of fibre. Reliance Communications has already sold 178,000 route km of fibre assets to Jio and is also set to sell its 43,000 towers. These will also be hived off into the subsidiaries mentioned above.
Vodafone Idea and Airtel are, meanwhile, monetising their own tower assets. Prior to their merger, Vodafone India and Idea Cellular separately sold their respective stand-alone tower businesses, totalling around 20,000 towers, to ATC Telecom Infrastructure Private Limited for Rs 78.5 billion.
Airtel and Vodafone Idea co-own Indus Towers, which operates over 123,000 towers and are said to be negotiating to set up a fibre joint venture. Airtel and Vodafone Idea have already hived off their fibre assets of 246,000 route km and 156,000 route km respectively into separate units.
Indus Towers is in the process of merging with Bharti Infratel, the only listed tower company. Infratel owns over 39,000 towers and Airtel holds its stake in Indus through Bharti Infratel. Airtel has already raised over Rs 120 billion over the past two fiscals by selling a part of its stake in Infratel through multiple deals. Vodafone Idea is expected to monetise its stake in the merged entity after the Indus-Infratel merger comes through. The Indus-Infratel merger is scheduled to be completed in the first quarter of 2019-20 (April-June 2019) and a stake sale from Vodafone Idea is expected soon after.
Airtel is going to transfer about 32 per cent stake in Bharti Infratel to its subsidiary, Nettle Infrastructure Investments. This could make a subsequent monetisation easier. Airtel and Nettle currently own 50.33 per cent and 3.18 per cent respectively in Bharti Infratel. After the transfer, Airtel and Nettle will own 18.33 per cent and 35.18 per cent respectively, according to filings with the stock exchanges. In another monetisation move, Airtel has sold 20 per cent stake in its DTH arm, Bharti Telemedia Limited, to Warburg Pincus for $350 million.
Airtel rights issue
Bharti Airtel is planning a rights issue of Rs 250 billion to improve its debt-equity ratio and acquire the funds necessary for capex. The company aims to raise a total of Rs 320 billion through the rights issue, combined with issues of overseas perpetual bonds for Rs 70 billion.
The rights issue is priced at Rs 220 per share, a discount of 38 per cent over the prevailing price of Rs 353 on April 10, 2019. Airtel will issue 1.14 billion shares, increasing its equity base by 22 per cent to 5.13 billion equity shares. The rights entitlement ratio is 19 shares for every 67 held. The Singapore government’s investment arm, GIC Private Limited, will invest Rs 50 billion (about $700 million) to pick up 4 per cent stake. This is a part of the entitlement of promoter entity Bharti Telecom, which will renounce it to GIC. The promoter group, including Bharti Telecom, will subscribe Rs 117.85 billion, with the rest being picked up by other shareholders.
Major stakeholder Singtel has said it will subscribe to 170 million new shares for Rs 37.5 billion ($525 million) to maintain its 15 per cent direct stake in Airtel. Singtel also has 48.9 per cent effective interest in Bharti Telecom, which, in turn, holds 50.1 per cent stake in Airtel. The Mittal family’s effective interest in Bharti Telecom is 51.1 per cent.
Post-rights, Singtel’s effective interest in Airtel will drop to 35.2 per cent from 39.5 per cent now, given the renunciation to GIC. Singtel would continue to be the single largest shareholder in Airtel. The Mittal family’s stake will dip to about 27 per cent after the issue.
Airtel Africa IPO
Airtel operates in 14 African markets and is the second largest telco on the continent, with a customer base of over 94 million. It ranks among the top two carriers in most of the 14 markets. Airtel Africa’s operations did well in the third quarter of 2018-19, with net profits rising to $114 million from a net loss of $6 million a year ago. Airtel Africa’s total revenues rose 3.8 per cent year on year to $823 million. In rupee terms, it would have done even better, given the currency weakness.
Bharti Airtel was planning an IPO and a London listing, with an enterprise value of $8 billion. This may happen in the current quarter (April-June 2019) or the next. The company has already raised $1.25 billion for the Africa arm, by issuing fresh shares to six global investors, including Warburg Pincus, Temasek, Singtel and Softbank. It has pulled in Nakul Sehgal, former chief financial officer (CFO) of Telenor’s Malaysian unit, as corporate CFO, to look after the Airtel Africa IPO. The IPO is expected to take place by June-July 2019.
Vodafone Idea rights issue
The Vodafone Idea rights issue for Rs 250 billion opened on April 10 and is scheduled to close on April 24. Foreign investors, including the promoter Vodafone Group, are likely to invest around Rs 180 billion. The required cabinet clearance for any foreign funding above Rs 50 billion was received on February 28. The promoters, the Vodafone Group and the Aditya Birla Group, have committed to contributing up to Rs 110 billion and Rs 72.5 billion respectively. Aditya Birla may also route its contributions from foreign entities. The Securities and Exchange Board of India has also allowed the promoter holding to cross the threshold of 75 per cent. The promoters would have 12 months to bring down their holdings to below the permissible limit.
The issue consists of 20 billion shares at a price of Rs 12.50 per share, a 25 per cent discount over the prevailing market rate of Rs 16.75 on the record date. The rights entitlement ratio has been fixed at 87 equity shares for every 38 shares held by eligible shareholders on the record date of April 2, 2019. This is a huge dilution of 229 per cent.
Debt servicing and financial ratios
Balance sheet analysts often look at debt-to-EBITDA ratios to judge how easily debt servicing is feasible. A ratio of over 3 is generally considered undesirable. All three private operators are well over that threshold.
Of the three, Jio is best placed in terms of having a strong parent and profitability. But it is also burning cash due to its huge capex of over Rs 140 billion in the October-December 2018 quarter. This was more than thrice the combined capex of Vodafone Idea (Rs 11.7 billion) and Airtel (Rs 37 billion) in the same period.
As a subsidiary, Jio’s financials are difficult to analyse. But its net debt is estimated at Rs 1.12 trillion, including Rs 211 billion in spectrum liabilities at end December 2018. Jio had an EBITDA of Rs 40.53 billion in the third quarter. This annualises to over Rs 160 billion. The debt-to-EBITDA ratio is thus around 7x. While this is very high, access to the parent Reliance Industries’ balance sheet gives comfort to lenders.
Vodafone Idea had a consolidated debt of Rs 1.15 trillion and, even assuming a realisation of Rs 50 billion from the sale of stake in Indus, the company’s debt-to-EBITDA ratio would remain at an astronomical 11x. Vodafone Idea posted a loss of Rs 50 billion in the third quarter of 2018-19 when its EBITDA was at Rs 11.37 billion. The rights issue is, therefore, vital for Vodafone Idea, which could otherwise run into deep trouble before synergies from the merger kick in. Major expansion of the equity base means that returns would be low, as and when the company turns profitable. Even if the entire Rs 250 billion is used to service debt, the company will be left with a debt of Rs 920 billion by the end of fiscal year 2019-20.
Opinion is divided on whether the Vodafone Idea rights issue plus the asset monetisation will be enough to keep the company adequately funded. At least two major brokerages estimate that there will still be a gap in terms of funding, keeping the capex needs in mind. Obviously this depends on assumptions of variables such as profitability, capex needs and debt servicing.
Airtel’s consolidated debt is over Rs 1.06 trillion. The Indian operations’ borrowings amount to about Rs 800 billion including outstanding spectrum payments of Rs 460 billion. Bharti Airtel’s consolidated net debt-to-EBITDA is 4.2x. Bharti Airtel’s profit plunged 72 per cent to Rs 860 million in the third quarter from Rs 3.06 billion a year earlier. Its EBITDA was at Rs 19.49 billion. The company would have been deep in loss, except for a one-time exceptional gain of Rs 10.17 billion. The debt-to-EBITDA ratio was at 4.3 by end December 2018 and it could be reduced to below 3.5 by the end of 2019-20. Most analysts concur that, assuming the rights issue and the Africa IPO receive reasonable responses, Airtel would be adequately funded.
Policy issues
Given the aggregated outstanding debt of Rs 8 trillion and the shaky financials of the three majors, the government is likely to defer spectrum auctions until the 2020-21 fiscal. There are also pleas from the telecom industry to defer spectrum payments since that is responsible for a large chunk of the debt. The industry is also disappointed that licence fees have not been reduced in the Interim Budget for 2019-20. There is still hope that the full-year budget will reduce fees or defer spectrum payments.
Opportunity
Growth in the industry has, in one sense, stabilised since the subscriber base is unlikely to grow much. Indeed, telcos are trying to actively weed out low-end subscribers. In another sense, there is still a large opportunity in the sector and most of that opportunity lies in the data segment.
Data consumption has grown at breakneck speed since Jio launched its initial “free schemes”. In June 2016, data consumption was at 1 GB per month per user. It hit 8.3 GB by September 2018. At the same time, ARPU has fallen from $2.3 (September 2016) to $1.6 (September 2018), assuming a constant $1=Rs 71 rate.
There were signs of ARPU stabilisation in the third quarter of 2018-19 and there could be a recovery if data consumption grows. Airtel and Vodafone Idea improved mobile ARPUs to Rs 104 and Rs 89 in the third quarter from Rs 100 and Rs 88 respectively in the second quarter. Jio’s ARPU declined marginally to Rs 130 from Rs 131.
Only about 50 per cent of active subscribers are on 4G mobile broadband – 46 per cent of Vodafone Idea’s subscribers are not on broadband and about 38 per cent of Airtel’s subscribers are also not in this segment. Persuading this segment to scale up represents the best opportunity. Vodafone Idea and Airtel added 9.5 million and 11.3 million 4G customers in the third quarter respectively. So, this is possible.
Airtel’s data usage per subscriber hit 10.5 GB in the third quarter, which is close to Jio’s 10.8 GB. Vodafone Idea’s data usage lagged at 6.2 GB. While Vodafone Idea is clearly behind on this metric, it also has the best growth opportunity if it can aggressively market 4G to its subscribers and persuade them to migrate to higher-rated data plans.
The next phase of the telecom war will be very interesting. Jio obviously has an advantage since its cash-rich parent can spend to grab market share. But if Airtel and Vodafone Idea can shore up their balance sheets, they could fight back.
Devangshu Datta
