India Telecoms
A new era of competition risk
India
Telecoms
Manoj Singla, CFAAC
(91-22) 6639-3017/(44-20) 7325-1191
manoj.singla@jpmorgan.com
J.P. Morgan India Private Limited
Rumit Dugar
(91-22) 6639 3015
rumit.x.dugar@jpmorgan.com
J.P. Morgan India Private Limited
Tim Storey
(852) 2800-8563
tim.storey@jpmorgan.com
J.P. Morgan Securities (Asia Pacific) Limited
See page 112 for analyst certification and important disclosures, including non-US analyst disclosures.
J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may
have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their
investment decision.
Absolute price performance
%
3M 6M 12M
Bharti (18.8) (15.4) (31.4)
Idea (40.5) (44.7) (68.9)
RCOM (30.8) (57.6) (76.9)
Sensex (18.4) (29.7) (54.8)
Source: Bloomberg. (As of January 14, 2009)
Key report highlights
1. PT is 20-30% below
consensus.
2. Full review of industry
capex plan.
3. P&L analysis of Indus
separation.
4. P&L analysis of
Idea/Spice merger.
• We turn incrementally negative on the Indian Telecom sector and
reduce our estimates across the board. We downgrade Bharti to
Neutral (from Overweight), Idea Cellular to Underweight (from
Overweight), and stay Neutral on Reliance Communications
(RCOM). We believe that increasing competition, regulatory issues, and
3G investments will drive down ARPMs/margins for the sector more
than consensus expects in the next 12-24 months. With slowing
subscriber growth as well, we expect a sharp fall in sector EPS growth in
FY10/FY11 to keep share prices under pressure.
• Increasing competitive intensity is one of the key risks for the sector,
in our view, as several incumbents are likely to expand operations in
FY10 and new operator launches are expected to have an effect in FY11.
This is evident from an unprecedented 100%+ increase in industry capex
in FY08; we expect capex to remain high for the next 2-3 years. Higher
competition will drive a sharp fall (12%/11%) in industry ARPMs in
FY10/FY11 and a 4%-5% fall in margins, in our view.
• Regulatory uncertainty is a key issue with regard to the push from
regulators to increase competition (through measures such as MNP) and
move towards higher fees. The timing of the 3G auction and 3G fees is
also a concern in terms of cash outflow from operators.
• Hence, we reduce our estimates across the board; we now expect
18%/-6%/7% EPS CAGR for Bharti/RCOM/Idea in FY09-11: This
is a sharp slowdown from the 30%-50% growth rates in the past 2-3
years. Our estimates are slightly higher than consensus for Bharti, but
significantly lower for RCOM and Idea. The stocks are trading at the low
end of their historical range on a P/E and EV/EBITDA basis, which we
believe is justified given their slowing growth profile.
• Stock-specific views: Bharti remains our top pick in the sector, as we
believe it has the strongest competitive positioning and execution track
record. RCOM continues to face challenges from its GSM launch and
leveraged balance sheet, although the recent share price decline has
factored in most of the negatives, in our view. We expect Idea’s margin
profile to remain weak, pushing down consensus estimates. Also, Idea’s
valuations are expensive on a relative basis, leading to our negative view.

Table of Contents
Investment summary................................................................4
Indian telecom sector: An outperformer in 2008; increasing earnings risk in 2009E..4
Valuations don’t appear cheap on growth-adjusted basis ............................................6
Increasing competition likely to hurt growth and margins...........................................8
Regulation should further help competition...............................................................11
Financial impact: We expect significant fall in APRMs and margins .......................12
Subscriber adds likely to remain healthy in the near term .........................................14
Financials: Sharp slowdown in growth likely............................................................15
Financials: Expect decent revenue traction but at the cost
of margins ...............................................................................18
Sharp slowdown in growth going forward.................................................................20
Already seen a slowdown in 1H09 ............................................................................20
Other business contribution steady ............................................................................21
Revenues: MoUs to increase slightly but offset by falling ARPMs...........................21
Costs: Network costs to increase, no leverage on others ...........................................22
Capital expenditure to remain high............................................................................23
Returns on capital uninspiring ...................................................................................24
FCF: Bharti already positive......................................................................................24
Funding status............................................................................................................25
Foreign currency exposure.........................................................................................26
Already evidenced by the ROCapex model ...............................................................26
Valuation: Not cheap on a growth-adjusted basis...............28
Relative valuation: Bharti’s premium to continue .....................................................29
Comparison with regional peers: The sector looks expensive ...................................30
Bharti: Strong outperformer in a down market; we expect the stock to stay in tight
trading range as it is still not cheap on growth-adjusted charts..................................31
RCOM: Trading close to all-time lows – cheap, but fundamentals look weak..........34
Idea: Weak margins likely to continue; sell on share price bounces..........................36
Increasing competitive intensity ...........................................39
Increasing competition to drive down ARPUs/margins.............................................39
Current landscape ......................................................................................................40
RCOM GSM launch: We expect negative impact on sector ARPMs and incumbents’
market share...............................................................................................................43
Rear view mirror: RCOM CDMA launch led to significant market share gain on
aggressive pricing strategy.........................................................................................44
Expansion plans of other incumbents ........................................................................46
Rear-view mirror: This could hurt Bharti’s market share in the near term ................47
Greenfield operators...................................................................................................49
Regulatory clutter...................................................................53
2G spectrum fees .......................................................................................................54
Reduction in termination charges ..............................................................................55
Reducing interconnect rate (IUC) ..............................................................................55

3G spectrum fees .......................................................................................................55
3G auctions remain an overhang but likely to get delayed ........................................55
MNP (mobile number portability): A mixed experience ...........................................57
Active infrastructure sharing......................................................................................57
Intra-circle roaming ...................................................................................................58
Broadband wireless access (BWA) auctions..............................................................58
Ownership and M&A norms......................................................................................59
Other issues................................................................................................................60
Tower business: Good business in the medium term but
limited near-term value ..........................................................61
Current landscape ......................................................................................................61
The India tower market is expected to grow strongly................................................62
What will happen to tenancy, margins and growth? ..................................................62
Tower valuations: Valuing Indus at US$9.5 billion...................................................63
Subscriber growth: The only silver lining?..........................66
Penetration still low ...................................................................................................66
What does competition do to market share? ..............................................................68
A bit of history: Indian telecom inflection points ......................................................69
Other businesses ...................................................................71
Fixed-line and broadband business ............................................................................71
Enterprise business ....................................................................................................73
DTH: Limited market size .........................................................................................73
Bharti Airtel.............................................................................75
Investment summary..................................................................................................75
Valuation and recommendation .................................................................................75
Risks to our rating and price target ............................................................................78
Financials...................................................................................................................79
Accounting for the tower business.............................................................................83
Estimate revisions ......................................................................................................83
Reliance Communications.....................................................88
Investment summary..................................................................................................88
Valuation and recommendations................................................................................88
Risks to our rating and price target ............................................................................90
Financials...................................................................................................................91
Accounting for the tower business.............................................................................97
Estimate revisions ......................................................................................................97
Idea Cellular ..........................................................................102
Investment summary................................................................................................102
Valuation and recommendations..............................................................................102
Risks to our rating and price target ..........................................................................104
Financials.................................................................................................................105
Estimate revisions ....................................................................................................108

Investment summary
Indian telecom sector: An outperformer in 2008; increasing
earnings risk in 2009E
We turn incrementally negative on the Indian telecom sector as we see increasing
earnings risk to the sector. We believe consensus is pricing in the unabated
subscriber momentum but underestimating the risks to ARPMs and margins arising
from increasing competition.
This is evident from the still-high consensus estimates—Bharti’s FY10
EBITDA/EPS consensus estimates have been stable over past 12 months, despite a
worsening macro situation and increasing competition. While estimates for RCOM
and Idea have decreased, we believe further potential downside is possible.
Hence, we expect share prices of Indian telecom stocks to remain under pressure as
consensus estimates get revised downwards over the next 12-24 months. We note
that the sector was an outperformer in 2008 (+5% return versus the Sensex). This
was entirely due to Bharti’s 26% outperformance with RCOM/Idea underperforming
by 17%/9%.
Bharti Airtel: We downgrade to Neutral from Overweight
While Bharti was a strong outperformer in 2008, the stock has been volatile in the
past month, moving in the Rs600-750 range. While the company’s strong execution
track record, quality management, healthy balance sheet and industry-leading
position appear to provide good defensive support in the current tough period, we
believe consensus estimates are at risk, which could limit the stock’s potential
upside. Hence, we expect the stock to continue to trade range-bound and we
recommend that investors buy Bharti around the Rs600 level. Our new DCF-based
Dec-09 price target is Rs725.
Reliance Communications (RCOM): We remain Neutral
RCOM has seen the steepest decline among the Indian telecom stocks in the past 12
months, with the stock falling 76% on an absolute basis and underperforming the
Sensex by 22%+. This has rendered the stock’s valuations relatively cheap, in our
view. With a 13% potential share price upside implied by our new DCF-based price
target of Rs210, we maintain our Neutral rating on the stock. However, we still
prefer Bharti to RCOM, given Bharti’s management’s superior execution track
record.
Idea Cellular: We downgrade to Underweight from Overweight
Idea’s share price has declined 69% over the past 12 months, falling sharply after a
disappointing 2Q FY09. The recent bounce in the stock was due to the company’s
strong management team and investors’ belief in its long-term fundamentals, in our
view. We believe that consensus is ignoring the margin risks in Idea that arise from
its lower scale, continued losses in new circles, and a potential stretching of the
balance sheet to accommodate 3G auctions and continued expansion. We believe the
stock is expensive, compared to its peers; hence we downgrade the stock to
Underweight. Our new DCF-based Dec-09 price target is Rs40.