It's going to be call-waiting for a while on telco stocks

Share prices yet to reflect fund-raising, expansion in infrastructure by companies.

While the bidding for the third-generation or 3G telecom spectrum started today, a number of companies have been raising cash or building infrastructure in anticipation.

There have been mega deals on all fronts, leading to rising valuations. A few months earlier, GTL struck an Rs 8,400-crore deal to purchase Aircel’s tower business. Recently, Quippo Telecom bought Tata Teleservices Maharashtra’s (TTML) tower business for Rs 1,318 crore, thereby valuing each tower at Rs 52 lakh, the highest so far. And, the big deal of Bharti Zain would cost $10.7 billion (Rs 48,000 crore).

However, stock prices are yet to reflect this excitement. While the auction started today, leading telecom stocks did not move significantly, either way. Bharti Airtel and Idea Cellular closed down over one per cent in today’s trade. Reliance Communications was up by almost two per cent.

In fact, most telecom stocks have started giving positive returns only in the past one month. For instance, Bharti Airtel, Idea Cellular and Reliance Communications gave positive returns of 5.73 per cent, 8.91 per cent and 10 per cent, respectively, over the past month. If one takes their three-month or six-month returns, they are all in negative territory, with the exception of Idea Cellular (See table).

Termed a ‘contrarian’ call by most analysts, these stocks are still to see the golden days of 2007. A report by HSBC Global Research last month said, “We retain our cautious view on the sector, given the fragmented nature of wireless space and remote possibility of near-term sector consolidation.”

The research agency gave an underweight rating to Bharti, Reliance Communication, MTNL and TTML and a neutral rating to Idea, saying: “Higher than estimated data take-up and rapid penetration of 3G handsets would be an upside risk to our valuations for 3G spectrum.”

Another big concern is the reducing rate structure, leading to pressure on margins and profitability. Pricing pressure is likely to show on margins and increase the cost for these companies. “So, the profitability of telecom companies will be muted this year, too,” said Rahul Jain of Angel Broking.

Telecom Regulatory Authority of India (Trai) data show the industry’s average revenue per user (ARPU) for GSM-full mobility service declined by 12.4 per cent to Rs 144 in the third quarter, as opposed to Rs 164 in the previous quarter.
 

ROUGH CONNECTIONS
Company	Friday’s close	%1 mth	%3 mth	%6 mth	%12 mth
Bharti Airtel	334.12	5.73	-5.26	-10.23	-7.80
Reliance Comm	211.80	10.00	-1.05	-28.29	-15.58
Idea Cellular	55.20	8.91	10.98	7.69	21.74
Tata Comm	577.79	-1.37	-20.22	-39.17	-49.99
MTNL	73.09	2.92	-9.40	-8.24	3.57
Tata Tele (Maha)	26.45	2.51	-11.53	-25.49	-7.18
HFCL Infotel	8.43	7.28	-3.73	16.45	-14.35

There’s a lot of buzz because of the 3G auction, but the downside is the huge cash outflow. Analysts fear return on this investment would take at least four to five years. “Also, overbidding is most likely to happen, escalating the cost a company would incur,” said Nishna Biyani of Prabhudas Lilladher.

So, even mutual fund managers are taking a contrarian bet on telecom. “The sector is more likely to bounce back in one-and-a-half to two years. And, investors with that kind of horizon and patience will reap benefits after two years,” said a fund manager.

There is good news as well. Nomura prefers Idea Cellular. They say, “Bharti’s outlook appears clouded by the Zain deal and Reliance Communications’ execution still looks questionable.” Jain, on the other hand, is positive on Bharti after the Zain deal. Valuations are also set to rise. The 3G auction is likely to increase the valuations of tower assets. “The tower sector is positive over the long term. Tenancy will go up, as newer service providers will launch and prefer to go for leasing, generating more revenue for the sector,” said Jain.

Most retail investors agree telecom is not the right space, for now. Biyani advises investors to wait for another six to nine months, before taking the plunge. Though there are some upsides seen in the sector, retail investors ought to have a horizon of at least two years. And, only invest five per cent of your portfolio in these stocks.