Reliance Communications (RCom) added 3.38m subscribers in February 2009, retaining the lead in monthly net adds post its 14-circle GSM launch in January 2009.
February additions indicate strong momentum for RCOM despite the rationalization of initial GSM promotional offer, which now requires higher upfront payment and offers lower quantum of free minutes.
Subscriber momentum should remain strong given increased addressable market post GSM expansion.
Our recent meeting with the management indicated strong focus on margin defense. We expect wireless margin to stabilize at 34-36% (37.7% in 3QFY09) in FY10/FY11.
The company is currently focusing more on localized promotions and utilization of spare network capacity while limiting mass media advertising (especially electronic media).
A significant 114% increase in network expenses over the past four quarters indicates that the bulk of network cost hike due to GSM expansion is likely built into the current cost structure.
Recent regulatory developments have been favorable. RCom is a net gainer from the reduction in termination charges and should also benefit from MNP implementation. Telecordia and Syniverse were recently selected as the third party MNP operators; implementation is likely by end of CY09.
RCom’s debt programme was recently assigned the highest rating by ICRA. Out of the total gross debt of Rs267 billion, ECB/FCCB constitutes Rs178 billion and is repayable from FY11 end/FY12; balance Rs88 billion is revolving INR loan (cost of borrowing estimated at 9-10%).
Despite highest leverage among listed telecom majors, balance sheet position is comfortable with a net debt/EBITDA of 2x and net debt /equity of 0.65x. 3G auction postponement would provide relief on near-term capex.
We upgrade monthly wireless net adds assumptions to 3.7m (v/s 2.04m) for 4QFY09 and 3m (v/s 2.3m) for FY10, implying a 7-14% increase in FY09 and FY10 subscriber estimates.
Revenue, EBITDA and PAT estimates are largely unchanged as we lower our ARPU assumptions by 5-10% on lower quality of incremental subscribers and free promotional minutes.
RCOM is down 72% over the past one year, underperforming the Sensex by 28% and Bharti by 44%.
At 6.1x FY10E P/E and 5.1x EV/EBITDA, it trades at 15-40% discount to Bharti Airtel. We maintain BUY recommendation on likely operational turnaround post GSM launch and sharp reduction in capex intensity.
Key risks: higher-than-expected pressure on wireless RPM, upward risk to finance costs given significant net debt, and any adverse findings in the licence fee investigation.