IUC cut to dent margins of Bharti and Idea; bonanza for RJio, say analysts

Telecom stocks continue to trade mixed in noon deals with Bharti Airtel hovering at Rs 396 levels, up 0.4% and Idea Cellular down over 3% at Rs 80 levels. Both these stocks slipped up to 7% after the Telecom Regulatory Authority of India (Trai) cut termination charge for all mobile to mobile calls to 6 paise per minute from 14 paise effective October 1. 

In addition, the telecom regulator has also said that the charges would come down to zero by the year 2020, meaning there won’t be any payment for calls landing on other telcos’ networks.

The move, analysts believe, will negatively impact margins of the incumbent telecom companies- Bharti Airtel and Idea Cellular. Reliance Jio, on the other hand, will stand to gain. They also believe that the ultimate beneficiary of the move will be the consumer that could end up paying less for voice calls. Since the usage is moving more towards data, with interconnect charges seeing a steep cut and sharp growth in data uptake, incumbents will introduce more (data and voice) bundled plans going ahead.

Here is a quick compilation of how leading brokerages and research houses have reacted to the development.

MOTILAL OSWAL RESEARCH

Our workings indicate, the cut in the interconnect usage charge (IUC) could impact Bharti’s revenue by 6-7%. After deducting the IUC outgo, the net EBITDA impact could be less than 5%. For Idea, we believe the impact could be lesser given that it has lower incoming off-net traffic.

We believe, by 2020, a significant proportion (over 70-75%) of subscribers would be data subscribers. Thus in the event of complementary voice offerings, the bundled (data and voice) price plans may protect incumbent’s ARPUs. This shall mitigate the risk of zero IUC, even if RJio offers free voice.

With a major regulatory headwind behind, we think focus may now shift to execution in the market place. Bharti has consistently added active subscriber in the last four months, while Idea has protected its market share. 

We believe RJio’s continued freebie reduction should taper competitive intensity by the end of FY18, driving ARPU accretion in the market. We maintain our Buy ratings on Bharti Airtel with target price of Rs 490 and Idea with target price of Rs 110.

HDFC SECURITIES

IUC’s cut of 57% is steeper-than-expected. Jio will be a major beneficiary of the move, being the net payer of IUC at the cost of incumbents. Jio’s net IUC payout is estimated to be Rs 5000 - 6000 crore. The debatable question is will Jio pass-on the benefits to its subscribers? Savings from IUC would enable Jio to continue with its aggressive GTM (go-to-market) strategy for an elongated time, till it achieves a respectable market share. 

Currently, Jio has around 8-9% subscriber and 3-4% revenue market share. However, by CY20, the IUC rate cut impact should minimise, as Jio gains market share and minutes distribution become more symmetric.

KOTAK INSTITUTIONAL EQUITIES

Implications of mobile termination rate (MTR) cut go beyond immediate EBITDA hit. The direct impact is a 3-5% hit on FY2018E, 6-10% hit on FY2019E and 7-12% hit on FY2020E EBITDA for the incumbents, lowest on Bharti Airtel and highest on Idea Cellular. Indirect impact could be a more aggressive Reliance Jio in the marketplace and this impact is difficult to quantify.

PHILLIP CAPITAL

The market has clearly moved towards bundled plans with voice (read free) being bundled with Data. Jio and incumbents offer bundled plans at different price points. However, we believe that for the incumbents, a large portion of their subscriber base (more than 50% likely) is still on traditional plans pay per minute rates. 

With interconnect charges seeing a steep cut and sharp growth in data uptake, incumbents will introduce more bundled plans – which is likely to protect ARPUs but the near-term impact will be negative as profitability of bundled plans could be lower. Thus, bundling and benefits of ARPU protection (which is the only game now) could provide some respite from the sharp drops in EBIDTA. Historically, telecom operators have managed IUC cuts better than expected; maybe this time, too, they might just scrape through.

FITCH RATINGS

The financial performance of India's main incumbent telcos will be undermined by the regulator's plan to reduce the mobile termination rate (MTR) by 57% with effect from October 2017 and to remove it completely by January 2020. In contrast, the move should bring significant cost-savings and lead to faster-than-expected EBITDA break-even for recent entrant Reliance Jio, a subsidiary of Reliance Industries.

We expect the MTR cut to reduce the EBITDA of the main incumbents - Bharti Airtel, Idea Cellular and Vodafone India - by 3% - 6% in the financial year ending March 2018 (FY18). This will place further pressure on these companies, which are already facing unprecedented competition from Jio. Industry average revenue per user declined by 20% - 22% y-o-y in 1QFY18, reflecting Jio's offer of free voice, text and data services for six months from September 2016 and its subsequent discounts and promotions to win subscribers. Most incumbents have lost subscriber market share to Jio during the last two quarters, with Bharti the exception. 

The removal of the MTR in 2020 is likely to have a much smaller impact. Jio's net payment of interconnections fees to incumbents will fall as its subscriber base grows, and we believe asymmetry will be minimal by 2020.