Reliance Communications Ltd (RCom) reported a net profit of Rs1,219 crore for the March quarter, around 50% higher than market estimates. According to a Bloomberg poll of 19 analysts, the company had been expected to report a profit of Rs810 crore. But the outperformance of around Rs400 crore is nothing to get excited about. That’s almost entirely accounted for by notional gains owing to forex fluctuations. The firm has foreign-denominated debt of around $3.8 billion (around Rs17,140 crore) and an appreciation in the rupee lowers its debt obligation in rupee terms, leading to notional gains that are accounted for in the profit and loss statement.

Graphic: Paras Jain / Mint

Even so, the notional gains have come as a surprise. In the December quarter, the rupee had gained by around 3% and RCom had reported a net finance income of Rs407 crore. Last quarter, the rupee gained by a slightly higher rate of 3.3%, but the firm reported a net finance income of Rs813 crore.

Some research houses such as ICICI Securities Ltd and Motilal Oswal Securities Ltd were factoring in a net finance charge for the March quarter, and so the net income on the interest account comes as a huge surprise. Analysts have always been confounded by RCom’s accounting of its finance charges, and the fact that the firm doesn’t provide a break-up of interest charges and gains on forex fluctuations has made the task all the more difficult.

Stripped of the notional gains, RCom has done worse than expectations. Operating profit fell by 11.6% sequentially, thanks to a sharp 2.7 percentage points drop in margins. Selling, general and administrative (SG&A) expenses rose by 2.6 percentage points as a percentage of sales. In the December quarter, SG&A expenses had fallen by 4.7 percentage points and the firm had attributed it to cost-cutting measures initiated by it in previous months. The bounce-back in SG&A costs in the March quarter indicates that the benefits of the cost-cutting exercise are not as much as previously anticipated.

RCom’s wireless business performed differently from that of its competitors, Bharti Airtel Ltd and Idea Cellular Ltd. The two GSM incumbents reported a sharp 12.8% and 13.5% jump in total minutes carried on their respective networks. RCom has reported an increase of just 5%, indicating that customer additions isn’t resulting in as much volume growth in terms of minutes usage.

RCom shares have underperformed those of Bharti since the 3G (third-generation) spectrum auction process began last month. This is despite the fact that the latest recommendations by the telecom regulator work against Bharti’s interests and don’t affect RCom as much. Evidently, the high auction prices will hurt RCom more, given its already stretched balance sheet, and this concern seems to be reflected in its share price movement lately.

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