Turning point within sight

Updated: Nov 26 2012, 10:33am hrs
We upgrade Bharti to Outperform from Underperform with a new target price of R355 (old R225). We believe that with clarity emerging on regulatory problems and reducing competitive intensity in India mobile, the stock should start recovering some of its lost valuation premium vs regional peers, and its 35% underperformance vs the lndian market should start reversing.

We believe that the new regulations (spectrum fee to be paid by all operators, tighter subscriber acquisition norms) and experience from Bhartis aggressiveness during the last 12 months could make the market receptive to tariff hikes. Indeed, our checks indicate that over the past few weeks operators have started testing the market for tariff hikes by reducing discounts. We now build in 1% year-on-year increase in voice RPMs (revenue per minute) over the next three years for Bharti.

While the recent rally in stocks has been led by easing regulatory concerns, we believe the next leg will be driven by tariff increases. Infratel listing could be another near-term catalyst.

We believe the risk-reward for Bhartis stock now seems favourable. Our target price of R355 implies 20% potential upside from the current levels. We upgrade Idea to Neutral (from Underperform) with a target price of R90 (old R55). The biggest risk to our stock call is the potential entry of Reliance Infotel into the voice business.

The governments recent decision to impose a one-time spectrum fee on all operators now implies that the financial burden over the near term will be borne by the entire industry and not just the incumbents. Further, thanks to the recent change in subscriber acquisition rules and Bhartis tariff aggression, we believe that competitors will be less aggressive going forward. We believe both these factors could lead to a benign competitive environment.

Our channel checks indicate that the aggression from Bharti (followed by other operators) has come off in recent months with SIM cards no longer being sold below marked price. Importantly, low retailer commissions have continued into the seasonally strong Oct-Dec quarter, giving us comfort that these changes are here to stay for the long term.

Infratel listing could unlock value: Bharti intends to list its tower subsidiary, Bharti Infratel, over the next few months. Towercos globally command high valuations (one-year forward EV/Ebitda in the range of 12-17x). However, we believe the situation in India warrants a discount to global peers. Low barriers to entry in India resulted in a surge in tower capacity in the past, with the industry now in oversupply (51% capacity utilisation). The current fragmentation leaves little bargaining power with mobile operators. In our DCF (discounted cash flow) model for Bharti Airtel, Bharti Infratel contributes R75 per share. If the listing happens at a higher valuation, there could be some upside to our Bharti Airtel fair value.

Credit Suisse estimates