India I Equities

Telecommunications Sector Update

4 February 2010

India Telecoms
TeleScan Vol. 2/10
Key themes: 3G delay, Vodafone 3QFY10 results, wireless competition. 3G almost certainly delayed. The government is likely to postpone 3G auctions in our view, after the DoT and the Law Ministry expressed reservations over auctioning spectrum that is currently not in possession of the DoT, but lying with the Defence deptt. There could be legal issues as well, if government is unable to hand over the spectum to the winning bidders by promised date. The likely delay in 3G allows govt./DoT to address other key outstanding issues, such as: allocation and pricing of 2G spectrum, spectrum usage fees and M&A policy. Vodafone reports strong minutes-growth in 3Q. Vodafone has reported 9.2% qoq growth in wireless minutes compared to 6.7%/5.3% reported by Bharti/RCOM. However, VODs traffic growth lagged Ideas (~15%), as the latter appears to have benefited from: base effect, stronger elasticity given higher exposure to low-mid usage and rural subs, and quicker tariff response vs. rivals. However, Vodafones 3Q ARPM drop (5.8%) was the least among peers, suggesting a lower degree of customer adoption of the new (cheaper) tariff plans (especially postpaid subs). Vodafone indicated that around 50% of subs have migrated to cheaper plans. 3Q ARPU was down 6.9% qoq (Bharti: 8.7%, RCOM: 7.6%, Idea: 4.2%), led entirely by a drop in ARPM. Minutes-growth divergence was key to disparate revenue growth trends in 3Q: Idea +6.0% qoq, Vodafone +2.9% qoq (estimated), Bharti -1.7% qoq. Wireless pricing continues to remain under pressure. Tata Tele has launched a new prepaid plan for its CDMA subs with tariffs of Rs1/Rs2 for each local/NLD call of five-minute duration (implied rate of 20p/40p per minute); for short duration call (<1 min), the tariff would be 25p. The new scheme thus combines volume discount on longer calls and small pack benefit on shorter calls. Separately, Idea has introduced SMS tariff packs in Kerala, which offer 350 local/NLD SMS and 200 local SMS, respectively, on monthly payment of Rs36 and Rs14. This is probably the first instance of an incumbent GSM telco responding to RCOMs cheaper SMS tariffs (1p/SMS on monthly payment of Rs11). Investment views: We see limited downside for Bharti/Idea stocks from current levels; nonetheless, we maintain our Sell ratings, given lack of positive catalysts and elevated competition risks. We expect earnings to bottom out in 4Q, before a gradual, volume-led recovery begins. Fig 1 India Wireless: Ratings, Target Prices and Valuations
Price (Rs) Year end Rating ( 4th Feb) Sep-10 TP (Rs) Upside (%) FY11e multiples P/E EV/EBITDA FY11-13e CAGR (%) EPS EBITDA

Sensex: 16225 Nifty: 4845

Sanjay Chawla
+9122 6626 6608 sanjaychawla@rathi.com

Yogesh Kirve
+9122 6626 6731 yogeshkirve@rathi.com

Fig 2 QoQ total minutes growth (%)

Idea 16.0 12.0 8.0 4.0 0.0 4QFY09 1QFY10 2QFY10 3QFY10 9 7 6 4 3 9 11 8 11 9 6 2 1 7 5 VOD Bharti RCOM 14

Source: Company

Fig 3Absolute price performance (%)[a]

1m 3m 6m 12m

Bharti RCOM Idea Sensex

(6.5) (5.9) 0.9 (7.6)

(0.5) (24.1) (2.9) (41.6) 15.2 (25.3) 2.0 2.5

(4.1) 1.1 32.6 76.3

Price performance relative to Sensex (%)

1m 3m 6m 12m

Bharti RCOM Idea Average

Sell Sell Sell

304 165 59

325 170 65

7 3 11

13.5 13.1 30.0 14.3

6.3 6.9 6.8 6.5

16.0 26.6 56.6 20.9

13.8 13.1 23.1 14.9

Bharti RCOM Idea

1.1 1.7 8.5

(2.5) (26.6) (80.4) (4.9) (44.1) (75.2) 13.2 (27.7) (43.7)

Source: Bloomberg, Anand Rathi Research.

Source: Bloomberg [a] Based on 4th Feb 10 share prices

Anand Rathi Financial Services, its affiliates and subsidiaries, do and seek to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Disclosures and analyst certifications are located in Appendix 1. Anand Rathi Research India Equities

4 February 2010

Tele Scan Vol. 2/10

Competition
Virgin Mobile launches GSM services in southern circles Virgin Mobile has begun offering GSM prepaid services in six southern circles (Karnataka, AP, Chennai, TN, Kerala and Orissa). As in the case of its CDMA services (operational in 17 circles), Virgin is using network of Tata Teleservices to offer its GSM services. Virgin is offering tariffs of 20p/40p/50p per minute for on-net/off-net local/off-net NLD calls. This implies average revenue per minute of 33p, as per our estimates. This compares with ARPM of ~40p under tariff plans of RCOM (Simply Reliance) and Docomo (per second billing). Virgin is also offering per second billing plans with tariffs of 1p/sec for all calls, which is similar those offered by RCOM and Docomo. Virgins target market is urban youth and the company is likely to have selective presence in its circles, unlike leading telcos. (The Hindu Business Line, 21 Jan 10) France based Vivendi considering Datacom stake According to media reports, Vivendi SA, the French media and telecom company, is in exploratory talks to buy a majority stake in Datacom. Officials from Vivendi were reportedly in India recently for the talks. Datacom has start-up GSM spectrum in all circles in India (except Delhi and MP) but yet to commence services. The company is reportedly set to launch operations in Mumbai circle later in the month. N Dhoot, Vice Chairman of Videocon, has said that the company has earmarked investments of Rs90bn and plans to complete pan-India roll out in next 18 months. Videocon owns about 64% equity stake in Datacom, while HFCLs Mahendra Nahata holds the balance. Media reports last year indicated that Nahata has agreed to sell his stake to Videocon. (Business Standard, 3 Feb 10/The Economic Times, 20 Jan 10)

Corporate
Bharti considering outsourcing inter city OFC network to JV Bharti Airtel CEO Manoj Kohli has said that the company has invited bids to outsource the management of its 120,00 km-plus of inter-city optic fibre cable network and hopes to close the deal before the end of this fiscal. Bharti will have a stake in the company to which it awards this contract. The transaction is on similar lines to one in which Bharti outsourced the management of its national wireline network to a jointventure (JV) company, owned by Alcatel-Lucent and Bharti in ratio of 74:26. (The Economic Times, 27 Jan 10) Reliance Infratel considering pre-IPO placement According to media reports, Reliance Infratel is planning a pre-IPO placement of 4-5% stake in the company. RCOM presently holds 95% equity stake in Infratel and plans to offload 10% stake through an IPO (fresh equity issue). The company is reportedly seeking to raise Rs50bn/Rs25bn through IPO/Pre-IPO, implying EV/tower of ~Rs12m, considering the debt of Rs150bn on Infratels books (as per DRHP). R-Infratel presently has ~50,000 towers and tenancy ratio of 1.6-1.7x, almost entirely from RCOM and Reliance Telecom (RTL). Besides, RAnand Rathi Research 2

4 February 2010

Tele Scan Vol. 2/10

Infratel also owns intercity fibre optic network, which was transferred to the company from another RCOM subsidiary. The companys revenues/ EBITDA/ PAT in FY09 were Rs49.3bn/Rss33.8bn /Rs16.8bn. (Business Standard, 19 Jan 10) Tata Comm, Reliance infratel considering raising ECBs Tata Comm and Reliance Infratel are reportedly considering raising ~US$200m dollar each in the form of external commercial borrowings (ECBs). R-Infratel and its parent, RCOM, have significantly scaled down their expansion plans and are possibly considering ECBs to refinance short term/high cost rupee debt and to pay off vendor credit, in our view. The company is reportedly looking at Libor spread of 250-300bps for its proposed 5-year ECB issue. This implies interest rate of 3.0-3.5% (excluding hedging costs) based on current six-month Libor rate. TCOM is considering borrowing at 200-225bps spread. (Financial Chronicle, 28 Jan 10)

The refinancing of rupee debt with the ECB could help RCOM/R-Infratel to save on interest costs; RCOM had prematurely retired rupee loans of ~Rs50bn in 2QFY10

Others
Government lifts ban on prepaid services in Jammu and Kashmir On 21 Jan 10, Indian government has lifted the ban on prepaid services on the sale of new prepaid connections and talk time recharges in Jammu and Kashmir circle. However, the government has stipulated strict measures pertaining to subscriber verification by telecom operators and multiple SIM ownership. The ban was imposed on 1st Nov 09. Indian telcos recorded revenues of Rs2.6bn in J&K circle in 1QFY10, as per TRAI data. Bharti is the largest wireless operator in the circle with the revenues of Rs1.76bn, which is ~2.1% of its total wireless revenues in 1QFY10. Aircel is the second largest operator with the revenues of Rs543m in the circle. (Business Standard, 21 Jan 10) EGOM endorses spectrum usage fee hike The Empowered Group of Ministers (EGOM) headed by finance minister, has reportedly endorsed the DoTs proposal to increase spectrum usage fee rate by 100-200bps from the current 2-6% of adjusted gross revenues (AGR). The DoT had initially proposed the hike to accommodate usage fee on 3G spectrum to be auctioned. It must be noted that a comprehensive report by the DoTs spectrum committee has recommended a uniform spectrum fee rate (3%) irrespective of amount of spectrum held. The report suggested charging for past and future spectrum allocation beyond 4.4MHz, through a one-time fee. The report included many other significant license/spectrum policy changes, on which TRAI is now expected to submit recommendations. (The Economic Times, 21 Jan 10) Noida authorities seal 200-300 towers We believe BTS in a mature market such as Noida, generates revenues of around Rs10,000 per day Local authorities in Noida (part of Delhi telecom circle) have sealed about 200-300 towers in the suburb. The authorities say that they have taken the action due to certain violations on part the telecom operators, such as non-submission structural stability certificate, NOC from resident welfare associations, design approvals, etc. As per media reports, Indus Towers and Tata Quippo have filed petition in Lucknow court, while the industry associations, COAI and AUSPI, too are planning to approach the courts. (The Times of India, 2 Feb 10/Financial Times, 3 Feb 10)

We expect an adverse impact of 110bps/90bps/40bps on consol. EBITDA margins of Bharti/Idea/RCOM, if the spectrum usage fee rate is hiked

Anand Rathi Research

4 February 2010

Tele Scan Vol. 2/10

Fitch downgrades new and public sector telcos' outlook to negative Despite high competition, relatively easy availability of credit to new entrants is noteworthy Global debt rating agency Fitch has downgraded its outlook for the new entrants in the domestic telecom sector as well as the public sector telcos to negative, following the up tick in competition and sharp tariff declines since Oct-09. Fitch notes that the credit profiles of all operators are subject to the event risk of 3G and broadband wireless access (BWA) spectrum auctions. (PTI, 2 Feb 10)

Anand Rathi Research

Appendix 1
Analyst Certification The views expressed in this research report accurately reflect the personal views of the analyst(s) about the subject securities or issuers and no part of the compensation of the research analyst(s) was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report. The research analysts, strategists, or research associates principally responsible for the preparation of Anand Rathi Research have received compensation based upon various factors, including quality of research, investor client feedback, stock picking, competitive factors, firm revenues and overall investment banking revenues. Anand Rathi Ratings Definitions Analysts ratings and the corresponding expected returns take into account our definitions of Large Caps (>US$1bn) and Mid/Small Caps (<US$1bn) as described in the Ratings Table below. Ratings Guide Large Caps (>US$1bn) Mid/Small Caps (<US$1bn) Buy >20% >30% Hold 5-20% 10-30% Sell <5% <10%

Anand Rathi Research Ratings Distribution (as of 12 Jan 10) Buy Anand Rathi Research stock coverage (116) 61% % who are investment banking clients 4%

Hold 10% 0%

Sell 29% 0%

Other Disclosures This report has been issued by Anand Rathi Financial Services Limited (ARFSL), which is regulated by SEBI. The information herein was obtained from various sources; we do not guarantee its accuracy or completeness. Neither the information nor any opinion expressed constitutes an offer, or an invitation to make an offer, to buy or sell any securities or any options, futures or other derivatives related to such securities ("related investments"). ARFSL and its affiliates may trade for their own accounts as market maker / jobber and/or arbitrageur in any securities of this issuer(s) or in related investments, and may be on the opposite side of public orders. ARFSL, its affiliates, directors, officers, and employees may have a long or short position in any securities of this issuer(s) or in related investments. ARFSL or its affiliates may from time to time perform investment banking or other services for, or solicit investment banking or other business from, any entity mentioned in this report. This research report is prepared for private circulation. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Investors should note that income from such securities, if any, may fluctuate and that each security's price or value may rise or fall. Past performance is not necessarily a guide to future performance. Foreign currency rates of exchange may adversely affect the value, price or income of any security or related investment mentioned in this report. This document is intended only for professional investors as defined under the relevant laws of Hong Kong and is not intended for the public in Hong Kong. The contents of this document have not been reviewed by any regulatory authority in Hong Kong. No action has been taken in Hong Kong to permit the distribution of this document. This document is distributed on a confidential basis. This document may not be reproduced in any form or transmitted to any person other than the person to whom it is addressed. If this report is made available in Hong Kong by, or on behalf of, Anand Rathi Financial Services (HK) Limited., it is attributable to Anand Rathi Financial Services (HK) Limited., Unit 1211, Bank of America Tower, 12 Harcourt Road, Central, Hong Kong. Anand Rathi Financial Services (HK) Limited. is regulated by the Hong Kong Securities and Futures Commission. Anand Rathi Financial Services Limited and Anand Rathi Share & Stock Brokers Limited are members of The Stock Exchange, Mumbai, and the National Stock Exchange of India. 2010 Anand Rathi Financial Services Limited. All rights reserved. This report or any portion hereof may not be reprinted, sold or redistributed without the written consent of Anand Rathi Financial Services Limited. Additional information on recommended securities/instruments is available on request.