Dial M' For Money

Buying the shares of the parent companies could be one excellent way for investors to grab a piece of the hot cellular phones licensees.

Ever wondered why so many companies are still vying for business in the telecom sector despite all the furore? Because world over, business in the telecom sector is highly profitable even after cut throat competition. And if India is another growth story, as we have been so far led to believe, then the telecom sector holds immense investment opportunities. The cellular business is one of them.

Ask C Sivasankaran, the main promoter of Sterling Computers. After selling computers unprofitably for several years, Sivasankaran hit the jackpot when a subsidiary floated by Sterling Computers bagged one of the two cellular licenses for Delhi circle. And the Essar group paid Rs 212.80 crore or Rs 532 per share for Sivasankaran's 80 per cent holding in the company.

 

The value would not have been realised so much ahead in time, if it was not for the Essar group's bid. But look at it this way. The minority shareholders of Sterling Computers are also to receive Rs 532 per share by the open offer made in February. A 76 per cent compounded return till date if you had bought the shares in the Sterling Computers IPO in 1990. Nobody knew it then, but for those who missed this ride, there are four companies which can still offer above average returns, if not a similar return. Of course, patience will have to be a necessary virtue. The companies being talked about are: Bharti Telecom, Max India, Crompton Greaves and Usha Beltron.

Just like FMCG companies that invest huge sums initially to build brands, cellular operators too invest in capital equipment and in marketing to provide the service and build a subscriber base. The amounts involved differ and so does the payback period, but the basic idea remains the same. Once a brand has been established, it not only keeps on paying back for itself but does it several times over. Similarly, after attaining a critical mass, revenues from the cellular business keep on growing over a period on time. And revenues are recurring in both the cases.

However, while brands could lose patronage over a period of time, cellular operators are unlikely to lose business. Competition has also restricted to a healthy two players per circle. And as has been observed world wide, competition has only helped the business to expand faster and as subscriber base has expanded, tariff levels have declined.

Globally, Asia has been the growth engine for the cellular business while developed nations like the US and European countries have faced stagnation. Asia's share of the global cellular business has risen from less than 20 per cent in December 1993 to close to 30 per cent till June 1996. Out of 140 million subscribers as on September 1996, Asia's share was 36 million. Much of the future expected growth will come from Asian countries (see chart: Factors influencing cellular penetration). Back home the four circles have seen the subscriber rising from over 38,000 in January 1996 to 326,213 in March 1997, Delhi and Mumbai being the main contributors.

There is one point that needs to be clarified at this juncture. Here, we have only focused on the investment potential of the cellular business. While there are several studies conducted on relative valuations of the cellular licenses of various operators, no one is willing to part with the figures for competitive reasons and the fact that most of the operators have yet to raise large sums for financing.

However, a rough valution of $400 million for Hutchison Max (Mumbai circle) and Bharti Cellular (Delhi circle) appears to be reasonable. Estimates for Calcutta and Chennai were not at all available since these are not considered to be as lucrative.

The idea of investors profiting from investing in companies with an indirect exposure to cellular licenses follows like this. Assuming a $400 million valuation for Hutchison Max, Max India's 49 per cent holding could be worth $196 million. And yet, Max India's current market capitalisation (with fully diluted equity) is roughly $50 million! Or consider a similar valuation of Bharti Cellular and we get a value of $163 million for Bharti Telecom's holding. Compare this with its market capitalisation of $48 million. An idea of how undervalued the Bharti Telecom share is can be gauged from the fact that in 1995-96 STET of Italy paid $58 million for a 20 per cent equity stake in the Bharti Tele-Ventures.

The massive differences in the market capitalisation of the parent company and the underlying value of its cellular license does throw up a profitable opportunity, but only in the long term. And as long as the value is realised to the parent company through the sale of equity of the cellular venture after the end of the license period or through dividend flow, this gap will definitely narrow. There does exist some uncertainity regarding the renewal of licenses. However, that should not be a worry. A look at the current status of the players involved.

Bharti Telecom

Otherwise a staid company manufacturing telephones, the Rs 81-crore Bharti Telecom's fortunes have undergone a massive change in the last two fiscal years. Perhaps at Rs 102 with a discounting of 23 times, the stock price already reflects some of this. The company certainly has done well for itself by winning one of the licenses for Delhi. It was also awarded the cellular license for Himachal Pradesh and Madhya Pradesh. More importantly, the company bid for the licenses through subsidiaries with majority holdings, thus retaining value for its minority shareholders and also creating value for the parent company once consolidation of accounts is permissible.

Bharti Tele-Ventures (BTVL) is its 80-per cent owned subsidiary which holds a 51 per cent stake in both Bharti Cellular and Bharti Telenet. BTVL is expected to float an American Depository Receipt (ADR) to fund its ventures. After the ADR, Bharti Telecom's stake in BTVL will fall to some extent. The total paid-up capital of BTVL would be Rs 50 crore. The equity capital of Bharti Cellular is proposed to be Rs 105 crore. BTVL is expected to invest about Rs 175-200 crore in the next 4-5 years in Bharti Cellular.

The total equity capital of Bharti Telenet was Rs 5 crore as on December 1996. But this would increase significantly over a period of time as it implements the state cellular projects. Bharti Telecom is an excellent play on the telecom sector, with exposure to both manufacturing and service side. At Rs 102, the stock is a great long term buy.

Max India

Max India's value too lies in its holding companies in the pharma and telecom sector. However, it has a unique holding structure for its subsidiaries. Nowhere does it own a majority. For instance, in Hutchison Max Telecom, its 100 per cent subsidiary Max Telecom Ventures holds 50 per cent only and one per cent was alloted to Liquid Investment and Trading Company (LITC), one of the holding companies of Max India.

According to the company, Because of the original understanding, as

is the case with all our joint ventures, we were to have an equal partnership between Max India and Hutchison Telelcom. But subsequently the policy changed and foreign direct investment was restricted to 49 per cent. Therefore in the spirit of our original understanding one per cent was alloted to LITC.

There is a possibility that a new holding company may have to be created if Hutchison Max were to make a foreign offer of its equity to maintain the basic understanding of equal shareholding. Hutchison Max is doing excellent cellular business in Mumbai (see chart) and at Rs 152, its stock holds value. But much is also going to depend on how its pharma ventures and paging business performs.

Usha Beltron

At Rs 47, there are some analysts who are willing to bet on the company for two reasons. One, that it is cash surplus. Two, the value of its equity in Usha Martin Telekom. This is despite the fact that its main business of jelly filled telephone cables is not looking so hot. Fifty-one per cent of Usha Martin Telekom's Rs 40-crore equity is held by the Usha Martin group, most of which is held by Usha Beltron.

Crompton Greaves

A 40.5 per cent investment in Skycell Communications was perhaps the best investment decision that Crompton Greaves has made in recent times. Though not the most lucurative license, sources in the cellular venture feel that Chennai is probably the best cellular licence in India because of the low level of investment required to achieve coverage in the designated area and the potential subscribers. Thus, the return investment in Chennai is very favourable.

The company estimates that Chennai has a potential of 250,000 subscribers in the next five years. Skycell Commu-

ications has so far spent Rs 124 crore, with a debt-equity ratio of 1:1. It expects an additional investment of Rs 100 crore over the next five years funded equally through debt and equity. While this license should benefit Crompton Greaves's shareholders over the long term, a lot is going to depend on how its main business of electrical equipment performs. It quotes at Rs 76 on the BSE.