Idea: Well prepared for spectrum auction

Disruptive pricing by Reliance Jio remains biggest risk

Idea Cellular’s stock has underperformed the broader markets in the recent past, on worries of increasing competition and high spectrum pay-out in the upcoming auctions. Competition is stiff in some rural markets, leading to lower price realisations for Idea. Analysts say a pan-India price war waged by a new player such as Reliance Jio to quickly grow its base would be a structural change that has not been priced in.

Reliance Jio’s pricing strategy is not known. However, the negative impact can be gauged from the fact the earlier time new competition came into the market (2009), market leader Bharti Airtel’s margins stayed flat for three years before recovering in FY14, point out Credit Suisse analysts. Reliance Jio’s capacity addition at launch will be two or three times the combined capacity added by all the new entrants in 2009, say analysts, who have an ‘underperform’ rating on Idea.

Disruptive pricing could reverse some of the revenue-market share gains made by the ‘Big Three’ (Bharti Airtel, Vodafone and Idea) in the March quarter. At 70.6 per cent, their combined share was at an all-time high. Idea was the highest revenue market-share gainer in both the March quarter and in FY14 (full-year), gaining 50 basis points sequentially and 90 basis points year-on-year, increasing its gross revenue market share to 16.6 per cent. The highest rise in revenue market share (over the past three years) has come from 900 MHz circles, which contribute 80 per cent of Idea’s aggregate gross revenues.

Analysts at IIFL say the gains underscore the importance of 900 MHz and the need for Idea to retain them in upcoming auctions. Idea has already won 1,800 MHz spectrum in seven of nine circles up for renewal. If the 900 MHz metro auctions are taken as a benchmark, Idea would have to cough up about Rs 13,000 crore, which could impair its balance sheet, according to earlier estimates of analysts at HDFC Securities.

Idea is well prepared for the auctions, having successfully raised Rs 3,750 crore from a qualified institutional placement and preferential issue. While the telco does not need the cash immediately as it had a free cash flow of Rs 3,000 crore for FY14 and only a third of the final bid value is needed upfront to fund spectrum wins, cash will come handy for aggressive bidding, as well as sustaining a potential pricing war with a new player.

Given Idea’s revenue market share gains, excellent execution capabilities and pricing power of incumbent operators, as of now a majority of analysts (58 per cent) continue to have a ‘buy’ on the stock, with a consensus target price of Rs 157. The only caveat: Watch for Reliance Jio.