Reliance Jio Infocomm Ltd’s financial performance has been shrouded in mystery, what with the company choosing to capitalise expenses until it concludes that “its assets are considered as being available for (their) intended use, (which is) when the quality of service parameters laid down by the management are met".

But while the wait for this ideal scenario continues, we can make do with Reliance Jio’s annual report for financial year 2016-17, which was published last week by parent company, Reliance Industries Ltd.

The mega project...

The giant Rs2 trillion telecom subsidiary is funded by equity of Rs70,864 crore, debt of Rs1.24 trillion, and a few other liabilities, resulting in a debt-equity ratio of 1.75 times. The equity component includes optionally convertible preference shares worth Rs33,785 crore issued to the parent company, and the debt is inclusive of deferred spectrum liabilities and credit taken from suppliers for capital expenditure.

Analysts at Kotak Institutional Equities point out in a note to clients that Jio’s gross cash invested (GCI) in fixed assets and spectrum, excluding capitalised expenses, stood at Rs1.53 trillion at the end of March. In comparison, market leader Bharti Airtel Ltd’s GCI stood at Rs1.86 trillion, despite having started operations years before. Not surprisingly, Kotak’s analysts call it the mega project.

... with massive expenses...

Thus far, Jio has capitalised expenses worth Rs38,182 crore, about 56% of which were incurred in FY17. About two-third of the expenses that were capitalised last year were on account of operating expenses (Rs14,532 crore), with the rest being made up of interest costs. How does this compare with competitors such as Bharti Airtel Ltd and Idea Cellular Ltd?

Before we get into comparisons, it’s important to normalise Jio’s expenses. Since it launched operations only in September 2016, annual costs aren’t reflected in some areas. Besides, because it didn’t charge customers, it was spared regulatory costs such as licence and spectrum usage fees which add up to around 11% of revenues for competitors.

Also read: The cost of Reliance Jio’s free services

Adjusted for these and other peculiarities, Kotak’s analysts estimate Jio would need to garner around Rs22,400 crore in revenues to break-even at the Ebitda-level. Ebitda stands for earnings before interest, tax, depreciation and amortisation. It’s important to note here this number has been arrived at after making a number of assumptions. “We must emphasize that Jio’s annual report is still that of a ‘project under development’. Any analysis we present should be viewed against that backdrop; there are several unknowns we worked with, especially in the construction of the break-even analyses," the broker’s analysts say in a note to clients. Having said that, the number ties in broadly with some other estimates floating around on the Street.

Jio’s operating costs compare well with Airtel, whose Ebitda break-even for the India wireless business is roughly Rs31,000 crore, and Idea, whose break-even is around Rs24,000 crore at the Ebitda level. This is based on expenses reported by the companies for FY17, and adjusts regulatory fees downward to account for the drop in revenues vis-a-vis reported revenues.

Jio’s lower operating costs fit well with the narrative that it enjoys a low-cost structure and can hence provide its services at a price that’s lower than competition.

But given Jio’s huge debt and high asset base, it makes more sense to look at break-even numbers after accounting for interest and depreciation charges. The picture here is starkly different. Again, based on Kotak’s estimates, Jio would need revenues of Rs44,800 crore to break-even at the PBT (profit before tax) level.

Interestingly, Idea could have achieved break-even at the PBT level with revenues of around Rs37,000 crore, based on its FY17 numbers and after adjusting for regulatory fees upward. In the case of Bharti’s India wireless business, its break-even at the PBT level stood at roughly Rs49,000 crore. In short, when all costs are accounted for, Jio’s business model is anything but low cost.

In fact, Jio is a rare startup, whose costs are nearly as much the market leader in the industry, long before it has reached similar scale in terms of subscribers and revenues.

... but what about revenues?

The $7 billion question is how Jio gets from practically zero revenues currently to PBT break-even levels.

Jio’s balance sheet provides a glimmer of hope. It includes a current liability of Rs1,950 crore, against revenues the company received in advance from customers. A little less than a third of this would be on account of the sale of its Prime membership to 72 million customers. If the balance Rs1,330 crore is from customers who paid for services in April, it suggests a fairly high conversion ratio from free to paid services.

Assuming all of the subscriptions were for the flagship Rs303 plan, it means about 70% of all Prime subscribers made the payment upfront, which is a heartening sign for Jio.

But note that since Jio started charging for its services in April, the rate of growth in its active subscriber base has slowed. Based on the visitor location register (VLR) data, Jio added only 0.4 million subscribers in April, lower than the 0.6 million added by Idea and the 2.6 million added by Airtel. Analysts at Goldman Sachs pointed out in a note to clients last month that this was the first time Airtel added more active subscribers than Jio since its launch last September.

If it plans to milk the existing base of 80 million customers (as of end-April), then average spend by each customer needs to be as high as Rs550 per month to achieve break-even at the PBT levels. With flagship voice plus data plans of incumbents around the Rs350 levels, this is out of the question. But let’s say Jio settles for an Arpu (average revenue per user) that falls between its discounted tariff of Rs100/month and the full price of Rs309/month. In that case, its subscriber base needs to grow about three times from end-March levels to 215 million. That’s a fairly tall order as well; although this may be the only way forward to grow revenues.

Of course, incumbents can’t be expected to take any loss in market share lying down. From the looks of it, the price war in the industry may well continue for some time to come.