>RELIANCE COMMUNICATIONS (MACQUARIE RESEARCH)

From ugly duckling to top flight eagle

Event
■ We upgrade our target price for RCOM to Rs360 from Rs275 (even with 50bp higher WACC of 13%), following solid 1Q results, a cut in capex guidance and forecasts despite higher subs and a new tower deal. We reiterate our Outperform rating with potential upside of 36.4% to our new target price.

Impact
■ We increased our target price. This is driven by reduced capital intensity, higher subscriber forecasts, the launch of EVDO data cards and introduction of third-party revenues in Reliance Infratel on the back of the tenancy deal with Etisalat DB Telecom. RCOM has cut its FY3/10 capex guidance by 33% to Rs100bn. In addition, FY3/09 capex of Rs190bn was 37% lower than the original guidance of Rs300bn given in January 2008. As such, we have cut our capex forecasts for FY3/10–12 by 21–39% as pop coverage maxes out.

■ Consensus estimate of 15% YoY drop in FY3/10 EPS is aggressive, in our view. Our EPS estimates for FY3/10 and FY3/11 are 32% and 41%, respectively, ahead of the Street. We expect upgrades to drive a re-rating and outperformance in RCOM (see Figure 3).

■ Mobility: Uplift from wireless broadband key reason for 4% increase in wireless revenues. Our FY3/10 wireless revenue forecast is flat with our earlier estimate, as an increased sub estimate has been offset by reduced ARPU to take into account the termination rate cut. Even so, our FY3/11 and FY3/12 revenue estimates have increased by 4% to capture upside from
wireless broadband. We expect FY3/10 wireless revenue growth of 19.8% and attribute approximately 6% YoY growth contribution from wireless broadband (Rs12.3bn revenue opportunity).

■ Broadband and Global business: Minor change in top line but reducing capex forecasts. We have significantly reduced our capex forecasts on the back of a sharp cut in capex guidance by management.

■ Towers: Rolling in contribution from Etisalat DB Telecom deal, potential upside from S Tel and Aircel deal yet to be factored into our estimates. The share of revenue from external tenancy on Reliance Infratel towers is insignificant in FY3/10 (roughly 1% of total revenues). However, Reliance Infratel has signed a deal with S Tel to provide passive infrastructure services, and media reports have hinted at a similar deal with Aircel (Not Listed). The
potential contributions from these deals are yet to be factored in our model.

Earnings and target price revision
■ We raise our FY3/10E, FY3/11E and FY3/12E EPS by 17%, 20% and 21%, respectively. We increase our target price to Rs360 from Rs275.

Price catalyst
■ 12-month price target: Rs360.00 based on a DCF methodology.
■ Catalyst: Launch of postpaid GSM service in 14 new circles.

Action and recommendation
■ RCOM is a favoured beta play in the sector and, in our view, has the potential to deliver outsized returns, if new tenancy deals are incrementally signed by Reliance Infratel.

To see full report: RELIANCE COMMUNICATIONS