> Q1FY2013 Telecom earnings review

Competition intensifies, regulatory risk persists; cautious view maintained 

• Weak results fail to meet expectations: The Q1FY2013 results of the telecommunications (telecom) companies tracked by us, ie Bharti Airtel and Idea Cellular, were below expectations on all the fronts, viz revenue, margin and earnings. Bharti Airtel's performance was weak in both South Asia (including India) and Africa. The company's consolidated top line grew at 3.3% on a quarter-on-quarter (Q-o-Q) basis, with the operating profit and the net earnings showing a sequential decline of 6.2% and 24.2% respectively. For Idea Cellular, the top line grew at 2.5% quarter on quarter (QoQ) while the adjusted operating profit and the earnings witnessed a sequential decline of 4.8% and 1.5% respectively. The margin of both the players took a solid hit-Idea Cellular's margin was down 200 basis points QoQ (from 28.1% in Q4FY2012 to 26.1% in Q1FY2013) while Bharti Airtel's consolidated margin contracted by 310 basis points QoQ from 33.3% in Q4FY2012 to 30.2% in the quarter under consideration. 
• Volumes expand; profit contracts: As expected the traffic momentum remained strong during the quarter, with both Idea Cellular and Bharti Airtel registering a sequential volume expansion of 3.9% and 5% respectively. This good volume growth was achieved on the back of the already solid Q4FY2012 volumes, but at the cost of profitability. Both the players experienced a decline of 2.5% in the average realised rate on a sequential basis which was the prime reason for the fall in the profitability, as visible in the report card.
• Business competition intensifies, this time the leader leads: The competition in the Indian wireless industry has intensified. The price increases taken by the players earlier have not been sustainable and the price war has started again in the market, this time led by the industry leader itself, ie Bharti Airtel.
• Bharti Africa-targets realigned with reality: On the African business front as well, Bharti Africa's Q1 performance was dissatisfactory with a flat revenue growth and a 200-basis-point Q-o-Q contraction in the margins. In the conference call of Bharti Airtel, the management confirmed that the business environment in Africa is also facing challenges on multiple counts, ranging from the euro zone crisis and volatile commodity prices to the general political environment in each African country. It echoed our longstanding stance that it would be difficult for the African business to achieve its stated revenue and EBITDA guidance of $5 billion and $2 billion respectively in FY2013 and postponed the guidance.
• Regulatory environment weighs heavy on fundamentals and stock price movement: The Indian telecom sector is passing through a phase of high policy uncertainty, where various contentious issues that could affect the earnings/cash flow and competitive positioning of the players remain unsettled (read, licencee renewal norms, spectrum refarming process etc). Further, the cabinet's decision of fixing the all-India 2G base price at Rs14,000 crore would hurt the operators, investors and consumers. We believe that the news flow in this sector would be very fluid. Hence, any positive or negative development would swing a stock's performance in the northward or southward direction respectively.
• Reduced estimates and downgraded rating: Taking cognisance of the changing business environment and the unhealthy regulatory developments, we have reduced our estimates for both Bharti Airtel and Idea Cellular. Bharti Airtel has missed analysts' expectations for around seven to eight quarters in a row for various reasons ranging from a competitive environment to regulatory issues. We expect Bharti Airtel to continue to safeguard its subscriber base and revenue market share at the cost of profitability. This is likely to keep the South Asian business' margin under pressure in FY2013. Further, the African business is also not showing the required elasticity and agility. Thus, we have downgraded our EBITDA and earnings estimates for FY2013 and FY2014. Our new earnings per share (EPS) estimates for FY2013 and FY2014 are Rs11.9 (vs Rs14.3 earlier) and Rs15.7 (vs Rs18.8 earlier) respectively. Based on the new estimates and looking at the tough competitive as well as ambiguous regulatory environment, we reduce our target EV/EBITDA multiple for Bharti Airtel from 7x to 6.5x its one-year forward FY2014E earnings to arrive at a new price target of Rs310 (against Rs362 earlier) and downgrade our rating on the stock from Buy to Hold.

RISH TRADER