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The Bharti Airtel (Bharti) stock has underperformed the Nifty by 23% YTD.

Most negatives, in our view, are in the price. A likely strong tariff

environment, reduced intensity of competition and regulatory clarity in

the next couple of months, makes us believe that it is time to stock up on

Bharti. A Marginal tweaking of assumptions is leading to a 1% reduction

in EBITDA in FY13 and FY14, but likely forex losses in Q1FY13 is leading to

a 6% cut in FY13 earnings. At 6.1x FY13E EV/EBITDA, nearly the lowest it

has traded historically, we urge investors to partake in the company’s

strong cash flow generation story. Maintain ‘BUY’.

It’s hard to go wrong at this price

Everything that could go wrong has gone wrong for Bharti as well as the sector in the

past couple of years. Over the past couple of years, policy has played havoc, the

company lost share in the domestic market, initial strategy in Africa has come to

naught and the exchange rate too is playing spoilsport. What else can go wrong?

Nothing really, except continuation of the current scenario for a prolonged period.

Ergo, at current valuation, most negatives seem to be priced in.

Where is the upside?

In H2FY12, the industry reported healthy volume growth coupled with ARPU surge, an

indication that the market is still expanding. Supreme Court induced consolidation has

led to market share shifts benefiting larger players. Over the next few months,

uncertainties surrounding spectrum pricing and allotment will clear and investors will

then turn focus on operations. With a strong tariff environment likely and reducing

intensity of competition, Bharti is set to generate FCF of USD 2bn p.a. FY14E onwards.

An increase of 2% in tariffs would lead to INR 19bn NPV accretion to Bharti.

Outlook and valuations: Robust cash flow story; maintain BUY

Bharti’s DCF price adjusting for the policy impact is INR380. We believe an earnings

upgrade is not necessary and the stock will re-rate on cash flow generation certainty.

While it is hard to perfectly time entry into the stock, we believe, Bharti’s cash flow

generation story is compelling and a great opportunity for investors with a long-term

view to ‘BUY’ the stock. Maintain ‘BUY/ Sector Outperformer’ rating.

BHARTI AIRTEL Take the forbidden call

EDELWEISS 4D RATINGS

Absolute Rating BUY

Rating Relative to Sector Outperformer

Risk Rating Relative to Sector Low

Sector Relative to Market Overweight

MARKET DATA (R: BRTI.BO, B: BHARTI IN)

CMP : INR 301

Target Price : INR 380

52-week range (INR) : 448 / 280

Share in issue (mn) : 3,797.5

M cap (INR bn/USD mn) : 1,145 / 20,769

Avg. Daily Vol.BSE/NSE(‘000) : 5,698.2

SHARE HOLDING PATTERN (%)

* Promoters pledged shares

(% of share in issue)

: NIL

PRICE PERFORMANCE (%)

Stock Nifty

EW

Telecommunication

Index

1 month (2.7) (7.7) (5.0)

3 months (12.7) (9.3) (16.4)

12

months (21.6) (13.4) (19.4)

Ganesh Duvvuri

+91 22 4040 7586

[email protected]

India Equity Research| Telecom

June 7, 2012

Promoters*

69%

MFs, FIs &

Banks

8%

FIIs

17%

Others

6%

Financials

Year to March FY11 FY12 FY13E FY14E

Revenue (INR mn) 594,948 714,508 811,599 890,289

Rev. growth (%) 42.2 20.1 13.6 9.7

EBITDA (INR mn) 199,996 236,573 285,518 324,872

Diluted EPS (INR) 16.0 11.2 20.0 23.6

EPS growth (%) (32.3) (30.0) 78.5 17.9

Diluted P/E (x) 18.8 26.8 15.0 12.8

EV/ EBITDA (x) 8.9 7.7 6.1 5.1

ROACE (%) 12.1 8.8 11.6 13.9

Telecom

2 Edelweiss Securities Limited

All negatives well quantified and discounted

In the past couple of years, Bharti has had to grapple with high debt due to the Zain

acquisition and auction of 3G and BWA spectrum. It has lost market share and growth has

lagged even that of ‘weaker’ peers. Policy and spectrum pricing rules are likely lead to

significant cash outflow. Moreover, the Enforcement Directorate is investigating a case of

money laundering against the company and DoT has put up a tax demand for under

reporting of revenue. Further, the INR depreciation against the USD of about 20% in the

past two years will lead to higher cash outflow to repay debt taken to acquire Zain in future.

Thus, all that could go wrong has gone wrong for Bharti over the past couple of years,

leading to the stock’s severe de-rating. In this section we discuss all these negatives

including the proposed policy changes and spectrum pricing norms. The negative impact of

all the regulatory changes including the spectrum cost is INR 100 per share on Bharti.

Table 1: Summary of the impact of proposed policy changes and spectrum charges

INR mn INR per share

One-time excess spectrum to be paid in FY13 65,797 17

PV of cost of spectrum to be paid on l icense renewal between 2014-2025 304,548 80

PV of benefit from reduction in revenue share of license and spectrum fees (86,276) (23)

PV of impact of removing termination charge 45,966 12

PV of impact on imposing Licence fee of 8% on towerco revenues 50,852 13

Net impact 380,887 100 Source: TRAI, Media reports, Edelweiss research

The INR depreciation is expected to raise Bharti’s USD loan liability by 20% at the prevailing

rate of INR 56/USD. We are not taking the impact currently as it is not certain since the loan

maturity is more back ended with 70% of it to be repaid in 2016 and 2017. Also, it is

uncertain if Bharti would refinance that loan or choose to repay it.

Excess spectrum charges to impact FY13 cash flows

TRAI’s proposal and DoT’s policy to delink spectrum from licence will lead to operators

paying for the entire quantum of spectrum in their possession. But, given that the earlier

policy (NTP 2012 was recently cleared by the cabinet) permitted contracted spectrum along

with the licence, DoT will impose charges on spectrum held beyond the contracted amount.

Thus, GSM operators who possess spectrum beyond 6.2MHz and CDMA operators who have

more than 5MHz spectrum will have to shell out excess spectrum charges. In our calculation,

we are using prices recommended by the DoT panel (as per media reports), which are about

15% higher than those recommended by TRAI, as reserve price for auctioning spectrum in

the 1800MHz band. As Bharti holds 8-10 MHz of spectrum in most of the key circles, it

would have to pay about INR 66bn as excess spectrum charges. This payment would have to

be made in FY13 after the auctions are conducted (expected by August 31, 2012 as directed

by the SC).

Bharti Airtel


Table 2: Computation of impact of excess spectrum charges

Pro-rata excess

Circle (900 MHz) (1800 MHz) Spectrum

Upto 8Mhz Over 8Mhz Upto 8Mhz Over 8Mhz Charges (INR mn)

A. P. 7.8 2.2 6,689 8,695 3,344 4,348 7,559

Assam 4.4 1.8 202 263 101 131 -

Bihar 6.2 3.0 991 1,288 495 644 1,307

Delhi 8.0 2.0 16,157 21,004 8,078 10,502 17,530

Gujarat 6.2 5,242 6,814 2,621 3,407 -

Haryana 6.2 1,084 1,410 542 705 -

H. P. 6.2 - 181 236 91 118 -

J & K 6.2 - 148 192 74 96 -

Karnataka 7.8 2.2 7,696 10,005 3,848 5,002 8,903

Kerala 6.2 1,522 1,979 761 989 -

Kolkata 6.2 1.8 2,651 3,446 1,326 1,723 835

M. P. 8.0 1,259 1,636 629 818 755

Maharashtra 8.2 6,127 7,965 3,063 3,982 4,085

Mumbai 9.2 15,816 20,561 7,908 10,281 17,716

Orissa 6.2 1.8 473 614 236 307 334

Punjab 7.8 - 1,568 2,039 784 1,020 945

Tamil Nadu 6.2 3.0 7,136 9,277 3,568 4,638 4,495

U. P. (E) 6.2 1.0 1,776 2,308 888 1,154 697

U. P. (W) 6.2 - 2,504 3,255 1,252 1,628 -

West Bengal 4.4 1.8 602 783 301 392 -

North East 4.4 1.8 206 268 103 134 -

Rajasthan 6.2 2.0 1,564 2,033 782 1,016 636

Total 100.40 68.40 81,593 106,071 40,797 53,036 65,797

Spectrum prices as per DoT panel (INR per MHz)

900 Mhz 1800Mhz

Alotted Spectrum

Source: TRAI, Media reports, Edelweiss research

Minimal risk of losing 900MHz spectrum, but payment a certainty

TRAI recently recommended that DoT should take away spectrum in the 900 MHz band

allotted to GSM operators and re-auction it in 2013. However, the latter believes that

spectrum in the 900MHz band should be re-allocated only on licence expiry, else it will lead

to litigation. The first license for Bharti expires in November 2014 in the circles of Delhi (10%

of revenues) and Kolkata (2.2% of revenues). In a market which is likely to consolidate by

the time 900MHz spectrum is auctioned, we believe, existing operators will get an

opportunity to win atleast some of it back when auctions are conducted. Also, with the

proposed spectrum auction in the 700MHz band (which can be used to offer 4G services), it

remains to be seen if a new operator like Reliance Infotel would prefer to be aggressive to

acquire 900MHz spectrum.

We believe, very few operators (apart from Reliance Infotel and the top three GSM

operators) would have the cash flows to bid for the more expensive (~INR 84bn per MHz

pan-India) 900MHz spectrum. Hence, we estimate that Bharti will have to pay INR 304bn

(present value of spectrum payments between 2014 and 2025) to retain 900 MHz spectrum

using the price recommended by the DoT panel. If Bharti is forced to vacate spectrum in the

900 MHz band and is given spectrum in the 1800 MHz band it would have to pay only INR

190bn but incur additional capex to reconfigure its network architecture and improve

coverage. In any case, we believe, INR 304bn (INR 80 per share) is probably the worst case

cash outflow for Bharti for retaining current spectrum.

Telecom


Table 3: Computation of impact of spectrum charges on license renewal

License PV (INR mn) of Spectrum

Circle (900 MHz) (1800 MHz) Date charges to be paid

900 Mhz 1800Mhz at the time of renewal

A. P. 7.8 2.2 12-Dec-95 6,689 3,344 38,782

Assam 4.4 1.8 8-Jul-04 202 101 219

Bihar 6.2 3.0 10-Feb-04 991 495 1,687

Delhi 8.0 2.0 29-Nov-94 16,157 8,078 108,463

Gujarat 6.2 28-Sep-01 5,242 2,621 4,789

Haryana 6.2 28-Sep-01 1,084 542 991

H. P. 6.2 - 12-Dec-95 181 91 709

J & K 6.2 - 10-Feb-04 148 74 198

Karnataka 7.8 2.2 15-Feb-96 7,696 3,848 43,593

Kerala 6.2 28-Sep-01 1,522 761 1,391

Kolkata 6.2 1.8 29-Nov-94 2,651 1,326 13,587

M. P. 8.0 28-Sep-01 1,259 629 1,484

Maharashtra 8.2 28-Sep-01 6,127 3,063 7,404

Mumbai 9.2 28-Sep-01 15,816 7,908 22,284

Orissa 6.2 1.8 10-Feb-04 473 236 725

Punjab 7.8 - 12-Dec-95 1,568 784 7,711

Tamil Nadu 6.2 3.0 29-Nov-95 7,136 3,568 35,604

U. P. (E) 6.2 1.0 10-Feb-04 1,776 888 2,571

U. P. (W) 6.2 - 28-Sep-01 2,504 1,252 4,576

West Bengal 4.4 1.8 11-Feb-04 602 301 690

North East 4.4 1.8 12-Dec-05 206 103 186

Rajasthan 6.2 2.0 22-Apr-96 1,564 782 6,796

Total 100.40 68.40 81,593 40,797 304,439

Spectrum prices as per DoT panelAlotted spectrum

(INR per MHz)

Source: TRAI, Media reports, Edelweiss research

Impact of removing inter-connection charges

TRAI has proposed to cut the inter-connection charge from the current INR0.2 per minute.

In its paper, the telecom authority has discussed various scenarios, including halving the

charge as well as doing away with it. Bharti being the largest operator is a net receiver of

the inter-connection charge. We have assumed that inter-connection charges will be

eliminated and hence the impact on Bharti would be INR 46bn or INR 12 per share.

Bharti Airtel


Table 4: Computation of impact of withdrawal of inter-connection charges (INR mn)

FY14E FY15E FY16E FY17E FY18E FY19E FY20E

Total minutes (mn) 1,101,283 1,184,616 1,241,220 1,282,830 1,318,759 1,352,119 1,386,287

Existing MTC per minute (INR) 0.2 0.2 0.2 0.2 0.2 0.2 0.2

All India incoming ratio (%) 51.0 51.0 51.0 51.0 51.0 51.0 51.0

Assumed incoming ratio (%) 53.0 53.0 53.0 53.0 53.0 53.0 53.0

Assumed outgoing ratio (%) 47.0 47.0 47.0 47.0 47.0 47.0 47.0

Assumed incoming minutes 583,680 627,846 657,847 679,900 698,942 716,623 734,732

Assumed outgoing minutes 517,603 556,769 583,374 602,930 619,817 635,496 651,555

All India on-net cal ls (%) 42.0 42.0 42.0 42.0 42.0 42.0 42.0

Assumed on-net cal ls for Bharti (%) 46.0 46.0 46.0 46.0 46.0 46.0 46.0

Assumed MTC received 63,037 67,807 71,047 73,429 75,486 77,395 79,351

Assumed MTC paid 55,901 60,131 63,004 65,116 66,940 68,634 70,368

Net MTC received 4,781 5,143 5,389 5,570 5,726 5,870 6,019

PV 4,781 4,512 4,147 3,759 3,390 3,049 2,742

Terminal value 19,586

NPV 45,966

No. of shares 3,798

NPV per share (INR) 12 Source: TRAI, Edelweiss research

Imposing license fees on towercos would have a negative impact

TRAI has recommended that towercos should be brought under the purview of licence

conditions and consequently pay recurring licence fees of 8% of revenue. We believe that if

towercos pay license fees they would also get the benefit of Sec. 80IA i.e. tax exemptions for

a period of 10 years. But the net cost would likely be passed on by towercos to the

operators in the form of higher rentals. We estimate the impact of this at INR 51bn or INR

13 per share.

Table 5: Computation of impact of towercos passing on license fees to Bharti (INR mn)

FY14E FY15E FY16E FY17E FY18E FY19E FY20E

Total tower revenues (Bharti Infratel + 42% of Indus towers) 71,372 76,224 82,112 88,140 94,308 100,618 107,068

License fees @8% 5,710 6,098 6,569 7,051 7,545 8,049 8,565

Estimated tax saving 1,784 1,906 2,053 2,203 2,358 2,515 2,677

PV of post-tax l icense fee impact 3,925 3,677 3,475 3,272 3,071 2,874 2,683


NPV 50,852

No. of shares 3,798

NPV per share (INR) 13

Source: TRAI, Edelweiss research

Bharti has been losing market share

Bharti has been losing market share continually. Its revenue market share has declined from

32.8% to 29.8% over the past two years. In early FY12, it hiked tariffs and waited to assess

the impact on volumes. But, Idea and Uninor continued to pursue volume growth and Bharti

continued to lose market share.

Telecom


Chart 1: Bharti has been constantly losing revenue market share

26.0

28.0

30.0

32.0

34.0

36.0

Q1

FY

10

Q2

FY

10

Q3

FY

10

Q4

FY

10

Q1

FY

11

Q2

FY

11

Q3

FY

11

Q4

FY

11

Q1

FY

12

Q2

FY

12

Q3

FY

12

(%)

Bharti Revenue market share (%)


Also, Bharti reported revenue growth of 10% YoY in FY12, significantly lower than

Vodafone’s 20% and Idea’s 25%. But, in the past couple of months, it has retaliated, which is

evident in its subscriber addition figures. As the company has over 35% revenue market

share in five of its top seven circles, it is a challenge defending it as the market expands due

to marginal customers. Thus, we expect, Bharti to continue to lose market share, but its

cash flow generation will be stronger than peers.

Chart 2: Bharti has gained incremental market share in the past couple of months

0%

20%

40%

60%

80%

100%

Dec-11 Jan-12 Feb-12 Mar-12 Apr-12

Market share of net subscriber additions

Idea Vodafone Bharti


INR depreciation impact way out in future

Bharti has an outstanding loan of USD8bn taken to acquire Zain in June 2010. The loan is to

be repaid over four years, starting with 10% in 2013, 20% in 2014, 30% in 2015 and 40% in

2016. The loan was taken at a very attractive interest rate of about LIBOR + 195 bps (~2.6%

currently) when the exchange rate was INR 45.8/USD. At the current exchange rate of

INR55/USD, the INR loan of INR440bn has ballooned to INR550bn. As the USD loan will be

partly repaid through Africa cash flows that are in USD and the balance will be refinanced

Bharti Airtel


and repaid over the long term, we believe concerns are overdone. Having said that, we do

agree that refinancing the loan will lead to higher interest outgo of about USD 150mn p.a.

(assuming repayment of USD 3bn by 2016 through USD cash flows generated from Africa

and current rate of LIBOR + 500bps), which we have assumed in our forecasts. In Q1FY13,

we estimate, Bharti will likely report forex loss of INR 2.5bn. Our economics team forecasts

an average exchange rate of INR 50/USD in FY14.

Telecom


Positives tinged with scepticism

The negatives from policy changes, TRAI’s recommendation on spectrum pricing, Bharti’s

acquisition of Zain and its failure to execute as per initial plans and competitive intensity

leading to loss of revenue market share have been quantified, understood and, in our view,

discounted in the stock. But, the positives like higher entry barriers, consolidation and

reduced staying power of operators leading to more price discipline in the market and

strong cash flow generation in the long term are being viewed with scepticism. In H2FY12,

all operators reported surge in ARPU along with strong volume growth, implying that the

market is still expanding and market share shifts are likely to lead to healthy cash flow

generation.

Recurring licence and spectrum fee cuts to trim outgo

DoT has agreed to TRAI’s proposal of imposing a uniform licence fee of 8% of revenue p.a.

instead of the current slab structure of 10% in metros and A circles, 8% in B circles and 6% in

C circles. As Bharti derives 58% revenue from metros and A category circles, it currently pays

about 8.6% of revenue as licence fee. TRAI has also proposed reduction in spectrum fees to

3% of revenue from the current slab structure of 3% for 4.4MHz, 4% for 6.2MHz, 5% for

8MHz and 6% for 10MHz spectrum. Since Bharti possesses 8MHz or more in most circles, it

currently pays about 5.5% of revenue as spectrum fee. With the proposed reduction, the

combined fees will reduce to 11% of revenue from the current 14%. This would lead to

additional generation of INR 86bn of cash flow or add INR 23 per share to Bharti’s DCF.

Table 6: Computation of benefit from lower revenue share of license and spectrum fees (INR mn) FY14E FY15E FY16E FY17E FY18E FY19E FY20E

Bharti India mobile revenues 479,864 525,791 561,523 590,534 614,903 635,512 655,097

Current license and spectrum fees 65,406 71,666 76,536 80,490 83,811 86,620 89,290

as % of revenues (%) 13.6 13.6 13.6 13.6 13.6 13.6 13.6

Proposed l icense and spectrum fee charge (%) 11.0 11.0 11.0 11.0 11.0 11.0 11.0

Proposed l icense and spectrum fees 52,785 57,837 61,768 64,959 67,639 69,906 72,061

Savings 8,456 9,265 9,895 10,406 10,835 11,198 11,544

PV 8,456 8,127 7,614 7,024 6,415 5,816 5,259


NPV 86,276

No. of shares 3,798

NPV per share 23 Source: TRAI, Edelweiss research

Consolidation spurring volumes

The Supreme Court’s order cancelling licences has led to consolidation in the industry.

Operators like Etisalat and S-Tel have already wound up operations while Uninor has

slackened a bit. In the past two months, Uninor’s subscriber additions have more than

halved to 1.1mn in April 2012 compared to 2.5mn in January 2012. Bharti’s subscriber

additions have jumped from less than 1mn per month uptil December 2011 to 2mn in April

2012. The incremental market share for the top three operators (Bharti, Vodafone and Idea)

has surged to 69.2% in March 2012 from 39.5% in January 2012. But Bharti seems to have

been the major beneficiary of this market share shift as its incremental market share

increased from 10.1% in December 2011 to 31.3% in March 2012.

Bharti Airtel


Table 7: Bharti has gained incremental market share in the past three months Dec-11 Jan-12 Feb-12 Mar-12

Bharti Incremental market share (%) 10.1 13.2 24.4 31.3

Bharti subscriber additions 960,143 1,301,349 1,822,966 2,502,165 Source: TRAI, Edelweiss research

The reserve price of 1800 MHz spectrum in the ensuing auction would determine if some of

the new operators like Telenor or Sistema whose license has been cancelled would attempt

to make a comeback. Uninor is the most successful operator among the late entrants

grabbing over 4% subscriber market share since its launch about two years back. We

attribute its success to the dynamic discount offering which offers customers discounted

pricing depending on network utilisation and the higher incentives paid to the sales channel.

We believe, Uninor’s RPM at INR 0.27, which is 28% lower to its larger GSM peers and its

higher operating cost per minute driven by higher distributor commissions are the key

reasons for its market share gain. Its brand loyalty would be put to severe test if it manages

to raise its RPM to the levels of its peers either by withdrawing freebies or by raising tariffs.

Thus, we expect consolidation in the industry not due to fewer operators but due to market

share shifts away from the new operators who would have very limited ability to offer

discounts.

Entry barriers have risen and staying power has reduced

TRAI’s initial recommendation of imposing excess spectrum charges and charge for entire

quantum of spectrum at the time of licence renewal was expected to impact incumbents

like Bharti, Vodafone and Idea and make them less competitive since competitors will own

free spectrum for 17 more years. But, cancellation of new operators’ licences and the high

reserve price set by the DoT has raised the entry barrier for new operators and affected the

staying power of some existing operators like Aircel and Tata Docomo.

The telecom authority reiterated its stand of linking 2G spectrum prices to the 3G auction

price. TRAI has set the reserve price of 1800MHz spectrum at INR36bn per MHz pan-India.

While the licence fee is set at INR250mn compared to INR16.5bn earlier, spectrum price is

steep considering current tariffs. A new operator will have to invest about INR300bn to set

up a pan-India network catering to about 60mn customers. With this investment, assuming

voice RPM of INR0.37 (same as Bharti’s and Idea’s), the business will be negative NPV for

the duration of licence and spectrum i.e., 20 years.

Telecom


Table 8: Key assumptions for computing the NPV for a new operator

Cost of 4MHz spectrum in the 1800MHz band (INR mn) 144,000

No of cell sites 40,000

No. of subscribers (mn) 65

RPM (INR/minute) 0.37

MOU (minutes per month) 300

License fees and spectrum charges as % of revenues 9%

Access and interconnect (INR/minute) 0.05

Employee cost as % of revenues 6%

SG&A expenses per subscriber (INR p.a.) 250

Tower rental (INR per month per cell site) 30,000 Source: Edelweiss research

Table 9: NPV of a Greenfield mobile business is negative due to high spectrum costs and lower tariffs (INR mn)

FY14E FY15E FY16E FY17E FY18E FY19E FY20E FY25E FY33E

Subscribers 3.3 8.1 16.3 32.5 65.0 66.0 67.0 72.0 80.0

Revenues 4,329 10,823 21,645 43,290 86,580 87,912 89,244 95,904 106,560

Network operating cost 3,600 7,200 14,400 14,400 14,400 14,400 14,400 14,400 14,400

Employee cost 260 649 1,299 2,597 5,195 5,275 5,355 5,754 6,394

l icense fees 390 974 1,948 3,896 7,792 7,912 8,032 8,631 9,590

Access charges 293 731 1,463 2,925 5,850 5,940 6,030 6,480 7,200

SG&A 813 2,031 4,063 8,125 16,250 16,500 16,750 18,000 20,000

EBITDA (1,025) (763) (1,527) 11,347 37,093 37,885 38,677 42,638 48,976

Interest cost 3,601 5,182 6,230 7,278 7,278 5,095 3,566 599 35

Tax 14,071 16,162

Net profit (4,626) (5,946) (7,757) 4,068 29,815 32,791 35,111 27,968 32,779

Spectrum cost 144,000

Capex 20,000 20,000 10,000 10,000 10,000 2,198 2,231 2,398 2,664

Cashflow (173,772) (30,577) (21,873) (9,534) 16,213 28,071 31,115 25,274 30,098

PV (173,772) (27,797) (18,077) (7,163) 11,074 17,430 17,564 8,858 4,921

NPV (61,038) Source: Edelweiss research

All existing operators, except Bharti and Vodafone, are grappling with stretched balance

sheets and the risk of further investment required in the business by way of paying up for

spectrum. Aircel had net debt of about INR160bn and an operating profit of INR2bn in CY10.

It invested about INR100bn for acquiring 3G and 4G spectrum and paid interest of INR10bn

in CY10. Similarly, Tata Teleservices had debt of about INR220bn and incurred operating loss

of INR3bn in FY11. It also incurred interest cost of INR12bn in FY11. Thus, at the current

tariff and even assuming no further investments, some of these operators will find it

challenging to breakeven, let alone generate cash flow.

Bharti Airtel


Table 10: Key financial parameters indicate poor health of smaller operators (INR mn)

Aircel Tata Teleservices

CY10 FY11

Net debt 172,466 174,758

Networth 39,142 174,643

Gross fixed assets incl. WIP 169,133 362,022

Interest payment 12,454 11,861

EBITDA (8,859) (2,992)

Net loss (15,688) (35,088)

Accumulated losses (22,058) (90,432) Source: Annual reports, Edelweiss research

Sowing the seeds of a richer harvest

The India telecom story has so far been about voice, with data still to take off. While

operators derive about 13-15% of revenue from data on mobile with half of that being

accounted for by SMS, voice still rules the roost and remains their bread and butter business.

Bharti has so far invested INR643bn in its India and South Asia mobile business, of which,

roughly a third is its investment in 3G and BWA network, which is currently contributing

minimally to revenue. Also, the company may have to incur excess spectrum charges and

pay for all the 900 MHz spectrum it has. Hence, all these investments are upfront or near

term, but the benefits will accrue over long term. But, due to the negative news flow,

investors are focused on the near term and concerned about the impact on cash flows,

ignoring the strong cash flow generation later as investment requirements will be met in the

next few years.

Table 11: 3G and BWA investments are upfront, cash inflows in future As of March 2012

Cumulative investments in India and SA mobile business (INR mn) 643,292

Total investment in 3G and BWA including spectrum cost (INR mn) 216,098

as % of total investments 33.6 Source: Company, DoT, Edelweiss research

The street is worried that the business is still in investment mode and that spectrum related

payments will erode cash flow generated from operations. Since most of the spectrum

related payments are expected on license renewal, which will happen from 2014 to 2025,

the cash flow situation for Bharti seems reasonable and we don’t see Bharti having to resort

to additional debt to run its business. We have also assumed the investment Bharti would

make to acquire Qualcomm’s stake in its BWA venture by FY14E.

Table 12: Matrix of yearly cash flows for Bharti (INR mn) FY13E FY14E FY15E FY16E FY17E FY18E FY19E FY20E

FCF from operations after capex 85,296 106,281 141,999 180,098 216,773 261,664 263,306 321,927

One-time excess spectrum fees (65,797)

Payment to Qualcomm for its BWA spectrum (9,075) (44,200)

Spectrum price to be paid on license renewal (169,083) (201,925) (11,306) - - -

Benefit from license and spectrum fee reduction 8,456 8,127 7,614 7,024 6,415 5,816 5,259

Impact of removing termination and roaming charges (4,781) (4,512) (4,147) (3,759) (3,390) (3,049) (2,742)

Imposing l icense fees of 8% on towercos (3,925) (3,677) (3,475) (3,272) (3,071) (2,874) (2,683)

Net free cash generation 10,423 61,830 (27,145) (21,835) 205,459 261,618 263,200 321,761 Source: Media reports, Edelweiss research

Telecom


Tariff increases seem more likely in the present environment

Over the past couple of months, voice tariffs have remained stable with sporadic increases

in postpaid tariffs. Vodafone raised postpaid tariffs in Delhi in January 2012 and in Mumbai

in April 2012. Reliance Communications (RCOM) too raised postpaid tariffs in Mumbai in

May 2012. Thus, consolidation in the market is not only leading to market share shifts and

superior volumes for incumbents, but also bringing back some pricing power. The Street

remains sceptical of the sustainability of tariff hikes, going by the recent track record. In July

2011, Bharti took the lead and raised prepaid tariffs 20%, followed by Vodafone, Idea,

RCOM and Tata Docomo in a few circles. Thus, voice RPM rose 1% QoQ in Q2FY12, after

declining for 10 quarters consecutively and 3.5% QoQ in Q3FY12. But, this hurt its volume

growth and Bharti lost market share as some of its competitors like Idea introduced

promotional tariffs (read freebies) to fill up its network and improve margins. Thus, Bharti

had to retaliate, leading to RPM dilution in Q4FY12.

Table 13: RPM increase led to volume slowdown

Voice RPM (INR) Total minutes (bn) Voice RPM (INR) Total minutes (bn)

Q1FY12 0.365 222 0.360 109

Q2FY12 0.369 217 0.370 106

Q3FY12 0.382 219 0.372 114

Q4FY12 0.375 230 0.362 124

Bharti Idea

Source: Companies, Edelweiss research

But, in our view, this time the tariff hikes are sustainable as they are driven by consolidation

in favour of larger operators and also because new operators’ licences have been cancelled

and they will have to make significant incremental investments to retain their business,

forcing them to be more focused on profitability than just volume market share.

Uninor has been the most successful amongst the new operators, gaining significant market

share and brand awareness in the past 24 months. It generated revenue of INR29bn in the

past 12 months and incurred an EBITDA loss of INR24.9bn. Its RPM is INR0.272 and

operating cost per minute is INR0.45. Bharti is the lowest cost producer in India given its

unique outsourcing model and due to scale benefits with an operating cost per minute of

INR0.301. Even if we were to assume that Uninor will be able to bring cost of operations a

little lower than Bharti, it will still need to raise RPM from the current level to make money

on the operating front, notwithstanding its incremental investment in the business for

spectrum. Thus, in our view, even if new operators win spectrum in ensuing auctions, we

expect them to be more disciplined than before and hence, tariff hikes seem to be more

sustainable.

Table 14: Uninor will not make profits even if its cost reduces to Bharti’s level

Voice RPM Operating cost EBITDA

Bharti 0.375 0.301 0.155

Idea 0.362 0.338 0.097

Uninor 0.272 0.449 (0.171)

Per minute (INR)

Source: Companies, Edelweiss research

The earnings and cash flows are highly sensitive to RPM increase. Bharti carried about

890bn minutes on its network in FY12. For every increase in tariff of INR 0.01 (~1.7%

Bharti Airtel


increase), its revenues increase by over INR 5bn each year and NPV rises by INR 19bn (INR 5

per share).

Table 15: Bharti’s cash flow sensitivity to RPM increase

Particulars FY13E FY14E FY15E FY16E FY17E FY18E FY19E FY20E

Total minutes in India (bn) 1,006 1,101 1,185 1,241 1,283 1,319 1,352 1,386

Outgoing/Incoming ratio 53% 53% 52% 52% 50% 50% 50% 50%

Outgoing minutes (bn) 533 584 616 645 641 659 676 693

Assumed increase in tariff (INR/minute) 0.01 0.01 0.01 0.01 0.01 0.01 0.01 0.01

Revenues (INR mn) 5,334 5,837 6,160 6,454 6,414 6,594 6,761 6,931

EBITDA margin 60% 60% 60% 60% 60% 60% 60% 60%

EBITDA (INR mn) 3,200 3,502 3,696 3,873 3,848 3,956 4,056 4,159

Post-tax profit (INR mn) 2,144 2,346 2,476 2,595 2,578 2,651 2,718 2,786

WACC 14% 14% 14% 14% 14% 14% 14% 14%

PV (INR mn) 2,058 1,905 1,751 1,527 1,377 1,238 1,114

PV of Terminal value (INR mn) 7,954

NPV (INR mn) 18,924

NPV per share (INR) 5.0

Source: Company, Edelweiss research

Brand seems to matter for scale benefits

The high competitive intensity and lack of pricing power gives a sense that the telecom

business is a commodity business in India. The markets associate brand power with pricing

power i.e. the ability to charge a premium. In the past couple of years, since the DoT

awarded more licenses, new operators have used discounts to create brand awareness and

gained subscriber market share. Strong brands such as Bharti, Vodafone and Idea have had

no choice but match discounts to defend market share. In the Indian telecom context,

strong brand doesn’t provide pricing power but enables to attract volumes and hence

provide scale benefits. As mentioned in our earlier observation, Uninor is able to attract

lower volumes compared to Idea even though it is offering discounted pricing. Similarly,

Bharti and Idea are able to attract similar volumes despite Idea being more aggressive. Thus,

Bharti’s strong brand may not provide it the pricing power but provides scale benefits and

hence better margins. Bharti, due to the scale, is able to eke out better deals from its

vendors, which explains the near 11% lower operating cost per minute compared to Idea.

Telecom


Outlook and valuations: Strong cash flow story

Industry trend in Q4FY12 was encouraging. While RPM declined, operators reported strong

volume growth and increase in ARPU, for the second straight quarter and after nearly nine

quarters of decline. This indicated that the market is still not mature as most on the Street

believe and there is propensity of marginal customers, who have been added in the past

year or so, to pay for usage (against just use free minutes if it is offered). With consolidation

in the industry, market share shifts will benefit leading operators including Bharti. The

company has already reported incremental share of 31.3% in March 2012 compared to

10.1% in December 2011. While Bharti has disappointed the Street in the past four-six

quarters by missing analysts forecasts, we believe the stock will get re-rated if there is policy

certainty as most negatives seem to be priced in. Maintain Buy with a target price of IINR

380 (DCF price adjusted for policy impact).

Bharti has disappointed Street in the past three years

The explosive growth in subscriber additions, low base effect and margin expansion led to

Bharti beating Street forecasts year after year till FY08. The company beat the Street’s

forecast made at the beginning of the financial year by an average of 15% in FY06, FY07 and

FY08. This created high expectations and analysts pegged their forecasts even higher. These

high expectations led to a downgrade cycle starting FY10. Bharti’s FY10 reported net income

was 9% lower than original estimate, as margins cracked due to intense competition and

with the introduction of per second billing plan significantly denting RPM. The company

reported FY12 net income 49% lower than Street forecasts made 12 months earlier due to

lower margins and forex losses.

Table 16: Bharti has missed street estimates in the last three years (INR bn)

Estimate Actual Variation (%) Estimate Actual Variation (%) Estimate Actual Variation (%)

Sales 445 418 (6.0) 534 595 11.5 707 715 1.1

EBITDA 177 168 (5.4) 197 200 1.4 250 237 (5.2)

EBIT 120 105 (12.6) 106 98 (7.7) 130 103 (20.9)

Net Income 99 90 (9.0) 76 61 (19.5) 83 43 (49.0)

FY10 FY11 FY12

Source: Company, Bloomberg, Edelweiss research

Delivery on forecasts rather than earnings upgrade to lead to re-rating

The downgrade cycle of the past three years has dented investor confidence in forecasts

and cast a doubt on Bharti’s ability to deliver. This has led to significant de-rating of the

stock. In our view, current valuations seem attractive if the company meets estimates.

Going by the trend in the past three years, the market perceives a risk in Bharti missing

these estimates and the stock not being so cheap. We believe, if the company delivers on

current market expectations, that alone will lead to a re-rating of the stock. We believe, the

key trigger for the stock is policy uncertainty clearing away. Once, auctions are completed,

even if the spectrum price is set at the level recommended by the DoT panel and assumed in

our calculation, it would lift all uncertainties and stop being an overhang on the stock. The

focus would then shift on operations and cash flow generation.

Bharti Airtel


Trading at historically low level of EV/EBITDA (x)

The Bharti stock was a favourite of many investors uptil 2008 before new licences were

awarded as it was expected to generate strong FCF, had high margin of over 40%,

generated ROCE of 33% and was growing at over 30% YoY due to limited competition. Thus,

it was trading at premium valuations. But, intense competition and adverse policies led to

significant de-rating of the stock. It is trading at 6x FY13E EV/EBITDA, close to the lowest

level it has ever traded at. The Street expects Bharti to report CAGR in EBITDA of 18% over

the next two years. In the past two months, Bharti has upped the ante and garnered

incremental subscriber market share of 31.3%. Thus, at the current levels, we believe,

downside is limited but if it poses a positive surprise then the upside is significant. The key

trigger for the stock is regulatory uncertainties clearing away and tariff hikes. Since, every

increase of INR 0.01 per minute in tariff would lead to cash flow generation of INR 19bn over

the license period, we believe, medium term triggers are in place.

Chart 3: Bharti trading at close to the bottom end of valuation (EV/EBITDA) level

0.0

3.6

7.2

10.8

14.4

18.0 M

ay

-06

No

v-0

6

Ma

y-0

7

No

v-0

7

Ma

y-0

8

No

v-0

8

Ma

y-0

9

No

v-0

9

Ma

y-1

0

No

v-1

0

Ma

y-1

1

No

v-1

1

Ma

y-1

2

(x)

Source: Bloomberg

Timing difficult, but downside limited and 27% upside potential

The regulatory uncertainty and high competitive intensity have led to severe under

performance and de-rating of the stock. Most investors believe that the worst is factored in

as its strong cash flows enable it to bear the brunt of high regulatory costs proposed to be

imposed. We note that institutional investors raised their holding in Bharti after the

company hiked tariffs in June 2011 but investors reduced their holding after the company

indicated in February 2012 that it would retaliate strongly to stem the decline in its market

share.

Telecom


Chart 4: Institutional investors exposure to Bharti reduced in Q4FY12

1.0

1.8

2.6

3.4

4.2

5.0

Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12

(%)

Wt of BHARTI in FII Wt of BHARTI in DII

Source: Stock exchanges, Edelweiss research

In our interactions with investors we are often asked the timing to buy the stock. We believe

it is difficult to time the stock given the uncertainty on spectrum pricing and timing of

refarming of 900 MHz spectrum. But, given the current available information on the two

issues, we believe from the stock price level, there is not much downside, whereas upside

will be realised as soon as there is certainty. We believe the auction of 1800MHz spectrum

(expected by August 31, 2012, as per Supreme Court order) and announcement of policy

will bring in significant clarity on pricing of and demand for spectrum, competitive intensity

going forward based on the number of operators who will continue in the business and

modalities on spectrum sharing (hopefully rules will be relaxed).

In our worst case scenario we assume tariff wars and margin contraction in the domestic

business and Africa business targets set by the company getting delayed by five years. We

assume that voice RPMs will decline by 5% from the Q4FY12 levels and margins will remain

flat at 34% till perpetuity. Also, in Africa we assume RPM to decline by 5% in FY13, 3% in

FY14 and 2% in FY15 and expect EBITDA margins to remain flat at 28%. Under these

assumptions, the DCF after adjusting for the regulatory impact comes to INR290. Whereas,

on our current assumption of flat RPM and margin improvement due to domestic business,

our realistic DCF comes to INR380 after adjusting for the proposed regulatory charges. Thus,

there is hardly any downside but the stock offers a potential upside of 27%.

Bharti Airtel


Table 17: Key Assumptions in the worst case scenario

Year to March FY12E FY13E FY14E FY15E FY15E FY15E FY15E FY15E FY15E

India mobile business

Total subscribers 181 202 216 224 228 230 232 233 234

growth 11.8 11.3 7.1 3.9 1.6 1.1 0.5 0.5 0.5

MOU 424 424 424 424 424 424 424 424 424

RPM (INR) 0.436 0.432 0.423 0.433 0.444 0.454 0.463 0.469 0.475

growth (1.4) (0.8) (2.1) 2.3 2.5 2.4 1.9 1.4 1.1

EBITDA margin 33.9 34.0 34.0 34.0 34.0 34.0 34.0 34.0 34.0

Africa business


growth 20.2 13.5 11.9 8.9 6.5 6.1 5.8 5.5 3.9

ARPU (USD) 7.0 6.5 6.3 6.3 6.5 6.9 7.1 7.4 7.7

growth (7.2) (3.0) 0.9 3.0 5.1 4.0 4.0 4.0

EBITDA margin 26.4 28.0 28.0 28.0 28.0 28.0 28.0 28.0 28.0 Source: Edelweiss research

Table 18: Assumptions for worst case DCF

WACC Calculation

Rf (%) 8.0

ERP (%) 6.0

Beta (x) 1.1

COE (%) 14.6

Cost of Debt (%) 4.7

WACC (%) 14.1

Growth assumptions Years

Explicit forecast period 7

Second stage growth (FY20-24) (%) 8.0

Terminal growth (%) 0.0

Table 19: Worst case DCF calculation (INR mn) Particulars FY14E FY15E FY16E FY17E FY18E FY19E FY20E

EBITDA 296,640 326,377 354,435 383,218 413,511 440,749 468,292

Tax on operating income 45,307 50,702 54,789 59,087 63,875 (1,024) (5,446)

Operating income net of tax 251,334 275,675 299,646 324,131 349,636 441,772 473,738

Delta working capital (153) (3,476) (7,233) (5,878) (10,537) (20,777) (37,696)

Cash from operations 251,487 279,151 306,879 330,010 360,173 462,549 511,434

Capex 150,000 144,000 144,000 144,000 144,000 144,000 144,000

Dividend distribution tax 630 630 630 630 1,261 2,522 5,046

FCFF 100,857 134,521 162,249 185,379 214,912 316,027 362,388

Discounted FCFF 88,365 103,262 109,120 109,235 110,952 142,946 143,614

Sum of Disounted FCFF 1,308,776

PV of Terminal value 816,270

Firm value 2,125,046

Less : Net Financial obligations 602,554

Equity Value 1,522,492

No. of shares O/S 3,798

Intrinsic value/share 401 Source: Bloomberg, Edelweiss research

Telecom


Sum-of-the-parts value at INR 399 per share

So far, we have refrained from valuing Bharti based on sum-of-the-parts methodology of its

various businesses as we believe apart from towers, the company is unlikely to divest any

other business. But, given the stock’s underperformance, we attempt to use certain market

benchmarks and apply a significant discount to carrying value of some assets to value its

various businesses.

We have conservatively assigned 6x (the lowest band it has ever traded at historically)

EV/EBITDA valuation to Bharti’s FY14E mobile business EBITDA. We have assigned 8x to

Bharti Infratel’s FY14E EBITDA, which is at a significant discount to global peers who trade at

16-18x. For its DTH business, we have taken 50% discount to Dish TV’s current EV of INR

67.4bn (v/s target EV of our analyst is INR 85.4bn in FY14), although Bharti has over 7mn

DTH customers compared to Dish TV’s 10mn. We are valuing Bharti’s Africa business at 4x

FY14E EBITDA, a 10% discount to African peers. We are assigning 50% discount to the

carrying value of Bharti’s enterprise and Telemedia business in its balance sheet. We believe

Bharti will eventually monetise its tower assets in Africa. In December 2011, MTN shifted

1,000 towers in Uganda into a JV with American Towers valuing it at USD 175mn (i.e. USD

175,000 per tower). We are assigning ~50% discount to Bharti’s Africa towers. The sum of

the value of these various businesses will be INR399 per share at FY14E end.

Table 20: Bharti's sum of the value of various businesses

INR mn Comments

Bharti FY14 mobile EBITDA 180,810

Bharti EV/EBITDA (x) 6.0 Nearly the lowest band it has traded at historically.

Mobile EV 1,084,862

Bharti Infratel FY14 EBITDA 45,806

Infratel EV/EBITDA (x) 8.0 A 50% discount to American towers and other independent towercos.

Infratel EV 366,449

Dish TV EV 67,392

Bharti DTH EV @50% discount 33,696 A 50% discount to Dish TV's current EV. Bharti has 7.2mn subscribers compared to

9.4mn for Dish.

Bharti Africa EBITDA 81,989

Africa EV/EBITDA (x) at a discount to peers 4.0 A marginal discount of about 10% to operators l ike MTN and about 30% to Vodacom.

Bharti Africa EV 327,956

Bharti Telemedia and Enterprise business 85,689 at a 50% discount to the carrying value in the balance sheet

No. of towers in Africa 14,831

Value per tower 5.7 at a 50% discount to deals happened on the street in the past six months

EV of Africa towers 84,590

Total EV 1,983,242

Debt in FY14 467,308

Total market cap 1,515,934

Total no. of shares 3,798

Fair value per share (INR) 399 Source: Edelweiss research

Bharti Airtel


Good level to stock up

We believe the current price level offers a great opportunity for investors to stock up Bharti

and play the upside as regulatory uncertainty clears away in the next few months and focus

will be back on operations. With entry barriers increasing and staying power of weaker

operators becoming difficult due to high prices of spectrum, we believe, tariff hikes are

more sustainable and market share shifts towards stronger operators like Bharti would

reduce the possibility of further disappointment. Bharti is expected to generate FCF of over

USD 2bn p.a. FY14E onwards and based on our DCF, adjusting for the policy impact, we set

our target price on Bharti at INR 380 per share, offering an upside of 27% over the next 12

months. We reiterate BUY/Sector Outperformer rating on the stock.

Telecom


Table 21: Key Assumptions in our current model

Year to March FY12 FY13E FY14E FY15E FY16E FY17E FY18E FY19E FY20E

India mobile business

Total subscribers (mn) 181 202 216 224 228 230 232 233 234

growth 11.8 11.3 7.1 3.9 1.6 1.1 0.5 0.5 0.5

MOU 424 431 439 448 457 466 476 485 495

RPM (INR) 0.436 0.431 0.436 0.444 0.452 0.460 0.466 0.470 0.473

growth (1.4) (1.0) 1.0 1.9 1.9 1.8 1.3 0.8 0.5

EBITDA margin 33.9 35.3 36.0 36.5 37.0 37.5 38.0 38.5 39.0

Africa business


growth 20.2 18.1 11.5 8.6 7.9 7.3 6.8 6.4 6.0

ARPU (USD) 7.0 6.4 6.2 6.3 6.5 6.8 7.1 7.4 7.7

growth (7.7) (3.0) 0.9 3.0 5.1 4.0 4.0 4.0

EBITDA margin 26.4 29.5 33.0 34.0 34.0 36.0 37.0 38.0 38.0 Source: Edelweiss research

Table 22: Assumptions for current DCF

WACC Calculation

Rf (%) 8.0

ERP (%) 6.0

Beta (x) 1.1

COE (%) 14.6

Cost of Debt (%) 4.7

WACC (%) 14.1

Growth assumptions Years

Explicit forecast period 7

Second stage growth (FY20-24) (%) 8.0

Terminal growth (%) 0.0

Table 23: Current DCF calculation (INR mn) Particulars FY14E FY15E FY16E FY17E FY18E FY19E FY20E

EBITDA 324,872 362,083 401,406 437,556 475,492 513,068 551,228

Tax on operating income 54,621 62,477 70,275 76,997 84,301 (4,372) (9,051)

Operating income net of tax 270,252 299,606 331,131 360,558 391,191 517,440 560,279

Delta working capital (6,871) (6,274) (10,700) (10,047) (14,720) (24,166) (41,013)

Cash from operations 277,123 305,879 341,831 370,605 405,911 541,606 601,292

Capex 150,000 144,000 144,000 144,000 144,000 192,000 192,000

Dividend distribution tax 630 630 630 630 1,261 2,522 5,046

FCFF 126,493 161,250 197,201 225,975 260,650 347,084 404,246

Discounted FCFF 110,826 123,779 132,627 133,155 134,565 156,994 160,202

Sum of Disounted FCFF 1,511,332

PV of Terminal value 910,554

Firm Value 2,421,886

Less : Net Financial obligations 598,726

Equity Value 1,823,160

No. of shares O/S 3,798

Intrinsic value/share 480 Source: Bloomberg, Edelweiss research

Bharti Airtel


Company Description

Bharti is India’s largest integrated telecom operator providing mobile, broadband &

telephone (B&T) and enterprise services. It is India’s largest wireless operator with a pan-

India mobility network spanning all 22 telecom circles. It had a wireless subscriber base of

~181 mn in Q4FY12, implying wireless subscriber market share of ~20%. The enterprise

services division provides carrier (long distance services) and other services to corporates.

Bharti offers 2G and 3G services as the fifth mobile operator in Sri Lanka. It recently

launched 4G services in Kolkata and Bangalore.

Investment Theme

The telecom sector is going through uncertain times as there are pressures on all counts

regulatory, operationally and financially. The TRAI recommendations on spectrum pricing

would lead to severe stress on the balance sheets of operators. On the operational front,

due to high competitive intensity, the yields are under pressure and distributor commissions

are rising. Given the loans related to 3G spectrum funding and further requirements to pay

for 2G spectrum, the sector is going through financial challenges. Bharti has retaliated

impressively to regain lost market share. We expect Bharti’s cash flows to improve from

FY14 as capex moderates and growth picks up. Since it has the best cash flows to tide over

the crisis created by the TRAI with its recent spectrum pricing recommendations, Bharti

remains our top pick in the sector.

Key Risks

If the government accepts the Telecom commission’s recommendation of charging for

entire spectrum upfront in FY13 instead of at the time of renewal then Bharti would see a

significant cash outflow of INR 555b. Also, if the INR continues to depreciate further then

Bharti would incur forex losses leading to earnings cut.

+


Telecom

Financial Statements

Income statement (INR mn)

Year to March FY10 FY11 FY12E FY13E FY14E

Gross revenues 486,904 667,592 794,266 897,755 983,744

Inter segment 68,432 72,644 79,758 86,156 93,456

Net revenue 418,472 594,948 714,508 811,599 890,289

Direct costs 175,712 254,421 316,058 352,528 380,236

Employee costs 19,028 32,784 35,159 35,474 38,282

Other Expenses 56,099 107,747 126,718 138,079 146,898

Total operating expenses 250,839 394,952 477,935 526,081 565,416

EBITDA 167,633 199,996 236,573 285,518 324,872

Depreciation & Amortization 62,832 102,066 133,681 146,088 159,668

EBIT 104,801 97,930 102,892 139,430 165,204

Other income 4,498 2,939 3,053 2,404 1,892

Interest expenses 4,208 23,751 40,784 33,164 33,273

Profit before tax 105,091 77,118 65,161 108,671 133,823

Provision for tax 13,453 17,790 22,602 32,601 44,162

Core profit 91,638 59,328 42,559 76,070 89,662

Profit After Tax 91,638 59,328 42,559 76,070 89,662

Minority interest 1,870 (1,475) (13) 84 84

Profit after minority interest 89,768 60,803 42,572 75,986 89,578

Basic shares outstanding (mn) 3,798 3,798 3,798 3,798 3,798

Basic EPS (INR) 23.6 16.0 11.2 20.0 23.6

Diluted equity shares (mn) 3,798 3,798 3,798 3,798 3,798

Diluted EPS (INR) 23.6 16.0 11.2 20.0 23.6

CEPS (INR) 40.2 42.9 46.4 58.5 65.6

Dividend per share (INR) 1.0 1.0 1.0 1.0 1.0

Dividend payout (%) 4.8 7.5 10.4 5.8 4.9

Common size metrics - as % of net revenues


Operating expenses 59.9 66.4 66.9 64.8 63.5

Depreciation 15.0 17.2 18.7 18.0 17.9

Interest expenditure 1.0 4.0 5.7 4.1 3.7

EBITDA margins 40.1 33.6 33.1 35.2 36.5

Net profit margins 21.9 10.0 6.0 9.4 10.1

Growth ratios (%)


Revenues 13.2 42.2 20.1 13.6 9.7

EBITDA 10.5 19.3 18.3 20.7 13.8

PBT 12.9 (26.6) (15.5) 66.8 23.1

Net profit 6.0 (32.3) (30.0) 78.5 17.9

EPS 6.0 (32.3) (30.0) 78.5 17.9


Bharti Airtel

Balance sheet (INR mn)

As on 31st March FY10 FY11 FY12E FY13E FY14E

Equity capital 18,988 18,988 18,988 18,988 18,988

Reserves & surplus 402,952 468,680 487,124 558,666 643,806

Shareholders funds 421,940 487,668 506,112 577,654 662,794

Minority interest (BS) 25,285 28,563 27,695 27,779 27,863

Secured loans 81,474 532,338 497,154 422,581 359,194

Unsecured loans 20,424 84,370 193,078 173,770 147,705

Borrowings 101,898 616,708 690,232 596,351 506,898

Sources of funds 549,123 1,132,938 1,224,039 1,201,784 1,197,556

Gross block 678,122 931,873 1,065,748 1,215,748 1,365,748

Accumulated depreciation 195,493 280,447 390,817 513,594 649,122

Net block 482,629 651,426 674,932 702,155 716,626

Total fixed assets 482,629 651,426 674,932 702,155 716,626

Goodwill 59,890 637,317 660,889 637,578 613,438

Investments 52,419 6,224 18,132 9,066 9,066

Inventories 484 2,138 1,308 1,444 1,559

Sundry debtors 35,711 54,929 63,735 71,154 73,174

Cash and equivalents 25,323 9,575 20,300 13,838 26,860

Other current assets 41,995 58,393 80,043 79,391 78,550

Total current assets 103,513 125,035 165,386 165,827 180,143

Sundry creditors and others 153,427 312,373 320,119 307,857 305,178

Provisions 4,243 6,085 7,240 37,044 48,599

Total current liabilities & provisions 157,670 318,458 327,359 344,901 353,777

Net current assets (54,157) (193,423) (161,973) (179,075) (173,634)

Net Deferred tax 8,342 31,394 32,060 32,060 32,060

Uses of funds 549,123 1,132,938 1,224,039 1,201,784 1,197,556

Book value per share (INR) 111.1 128.4 133.3 152.1 174.5

Free cash flow (INR mn)


Net profit 91,638 59,328 42,559 76,070 89,662

Depreciation 62,832 102,066 133,681 146,088 159,668

Others 16,236 18,577 (11,908) 9,066 -

Gross cash flow 170,706 179,971 164,332 231,224 249,330

Less: Changes in WC 12,227 9,577 8,816 (1,572) (7,583)

Operating cash flow 158,479 170,394 155,517 232,796 256,913

Less: Capex 128,312 831,178 133,875 150,000 150,000

Free cash flow 30,167 (660,784) 21,641 82,796 106,913

Cash flow metrics


Operating cash flow 158,479 170,394 155,517 232,796 256,913

Investing cash flow (124,405) (651,085) (133,875) (150,000) (150,000)

Financing cash flow (5,498) 418,748 69,081 (98,324) (93,890)

Net cash flow 28,576 (61,943) 90,722 (15,529) 13,023

Capex (121,787) (109,169) (133,875) (150,000) (150,000)

Dividends paid (4,442) (4,428) (4,443) (4,443) (4,438)


Telecom

Profitability & efficiency ratios


ROAE (%) 24.7 13.4 8.6 14.0 14.4

ROACE (%) 23.5 12.1 8.8 11.6 13.9

Debtors days 24 28 30 30 30

Current ratio 0.7 0.4 0.5 0.5 0.5

Debt/EBITDA 0.6 3.1 2.9 2.1 1.6

Average working capital turnover (7.6) (4.8) (4.0) (4.8) (5.0)

Debt/Equity 0.2 1.3 1.4 1.0 0.8

Adjusted debt/equity 0.2 1.3 1.4 1.0 0.8

Operating ratios


Total asset turnover 0.9 0.7 0.6 0.7 0.7

Fixed asset turnover 0.9 1.0 1.1 1.2 1.3

Equity turnover 1.2 1.3 1.4 1.5 1.4

Du pont analysis


NP margin (%) 21.5 10.2 6.0 9.4 10.1

Total assets turnover 0.9 0.7 0.6 0.7 0.7

Leverage multiplier 1.4 1.8 2.4 2.2 1.9

ROAE (%) 24.7 13.4 8.6 14.0 14.4

Valuation parameters


Diluted EPS (INR) 23.6 16.0 11.2 20.0 23.6

Y-o-Y growth (%) 6.0 (32.3) (30.0) 78.5 17.9

CEPS (INR) 40.2 42.9 46.4 58.5 65.6

Diluted PE (x) 12.8 18.8 26.9 15.1 12.8

Price/BV (x) 2.7 2.3 2.3 2.0 1.7

EV/Sales (x) 2.8 3.0 2.6 2.1 1.8

EV/EBITDA (x) 7.1 8.9 7.7 6.1 5.1

Dividend yield (%) 0.3 0.3 0.3 0.3 0.3


Company Absolute

reco

Relative

reco

Relative

risk

Company Absolute

reco

Relative

reco

Relative

Risk

Bharti Airtel BUY SO L Idea Cellular BUY SP M

Mahanagar Telephone Nigam Ltd HOLD SU M Reliance Communication HOLD SU H

Tulip Telecom HOLD SU H

RATING & INTERPRETATION

ABSOLUTE RATING

Ratings Expected absolute returns over 12 months

Buy More than 15%

Hold Between 15% and - 5%

Reduce Less than -5%

RELATIVE RETURNS RATING

Ratings Criteria

Sector Outperformer (SO) Stock return > 1.25 x Sector return

Sector Performer (SP) Stock return > 0.75 x Sector return

Stock return < 1.25 x Sector return

Sector Underperformer (SU) Stock return < 0.75 x Sector return

Sector return is market cap weighted average return for the coverage universe

within the sector

RELATIVE RISK RATING

Ratings Criteria

Low (L) Bottom 1/3rd percentile in the sector

Medium (M) Middle 1/3rd percentile in the sector

High (H) Top 1/3rd percentile in the sector

Risk ratings are based on Edelweiss risk model

SECTOR RATING

Ratings Criteria

Overweight (OW) Sector return > 1.25 x Nifty return

Equalweight (EW) Sector return > 0.75 x Nifty return

Sector return < 1.25 x Nifty return

Underweight (UW) Sector return < 0.75 x Nifty return


Telecom

Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai – 400 098.

Board: (91-22) 4009 4400, Email: [email protected]

Vikas Khemani Head Institutional Equities [email protected] +91 22 2286 4206

Nischal Maheshwari Co-Head Institutional Equities & Head, Research [email protected] +91 22 4063 5476

Nirav Sheth Head Sales [email protected] +91 22 4040 7499

Coverage group(s) of stocks by primary analyst(s): Telecom

Bharti Airtel, Idea Cellular, Mahanagar Telephone Nigam Ltd , Reliance Communication, Tulip Telecom

Distribution of Ratings / Market Cap

Edelweiss Research Coverage Universe

Rating Distribution* 104 60 18 183

* 1 stocks under review

Market Cap (INR) 114 58 11

Date Company Title Price (INR) Recos

Recent Research

29-May-12 RComm. Poor operating metrics;

Result Update

67 Hold

22-May-12 Vodafone

Group

Profitable growth;

Global Pulse

16-May-12 Tulip

Telecom

Stretched on all counts;

Result Update

79 Hold

> 50bn Between 10bn and 50 bn < 10bn

Buy Hold Reduce Total

Rating Interpretation

Buy appreciate more than 15% over a 12-month period

Hold appreciate up to 15% over a 12-month period

Reduce depreciate more than 5% over a 12-month period

Rating Expected to


Bharti Airtel

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