1. Reduce rating on Idea Cellular; Q4: What does the result mean?

Reduce rating on Idea Cellular; Q4: What does the result mean?

It’s not easy to extrapolate from good operational numbers given certain factors

By: | Published: May 9, 2016 6:00 AM

IDEA’s 5% revenue and 16% Ebitda growth q-o-q were strong resulting in 340bp Ebitda margin improvement which is one of the highest in recent history. But the problem is that it is not easy to extrapolate this quarter into the next and beyond. Some of the cost reduction items may not be sustainable and its high gearing levels are starting to impact its P&L more (below Ebitda, it was a messy result).
* On the core business, it did well on voice with 4% improvement in prices and 1% in volumes. This is somewhat different to Bharti’s result—but both did well. Data trends are slow and steady—revenue rose 5%, ARPU 1% and 1.7 mn 3G adds growth.
* Another key observation is the increase in non-operating expenses—D&A rose to 21% of sales versus 17-18% previously, which was likely due to the impact of higher capex and spectrum amortisation; and interest costs rising to R8 bn (v/s R3-4 bn earlier). The total gross debt was R415 bn and net debt R407 bn which is ~3x net debt to Ebitda.
* Given the market conditions, telcos’ voice and data strategy will keep changing q-o-q as needed, and it is not clear what will work and what won’t. And stock prices will keep reacting to quarterly results a fair bit. For us, the fundamental issues for the market have not changed—which remain around uncertain competition ahead, poor networks which will keep capex higher for the foreseeable future, stretched balance sheets, ongoing spectrum uncertainty and valuations. We maintain our Reduce rating for now.

Key financials
* Operational numbers were good and IDEA had 5% sequential service revenue growth and 340bp Ebitda margin improvement in Q4. However, higher D&A and interest costs impacted earnings which were down ~25%-40% q-o-q/y-o-y.
* IDEA added 6.8k new sites in Q4, which was a lower run-rate than the 10-11k site additions in the previous two quarters. This might have benefitted network opex somewhat. Further, the roaming and access costs as well as/marketing costs have come off, which benefitted margins.
* D&A costs rose to 21% of sales (17-18% previously) due to higher capex. Interest costs were high too (R8 bn versus Rs 3-4 bn earlier) due to additional charges on account of renewal of existing licences for seven circles. As a result, NPAT was down by 25% q-q. Balance sheet remains stretched at ~3x net debt/Ebitda.
* Capex guidance for FY17 is for Rs 65–70 bn excluding cost of any new spectrum. This appears lower than the R78 bn capex in FY16, and there could be upside risks.
* Sequential growth in data revenues slowed to 5% in Q4 versus 7-10% previously. Data ARPU increased by 1% q-o-q while data usage per customer was down 5%. Note that Bharti’s ARPU declined 2% with a 2% increase in data usage per customer. During its conference call, Bharti said that it had not been able to increase data penetration for the last 3-4 months.
* Data subs increased by 2.7 million to 44 million. More than 50% of data subscribers are on 3G now.
* Capex for the quarter was Rs 24 bn (R78 bn over FY), which is 25% of sales.
* The company has recommended a dividend at 6% of face value, an overall payment of Rs 2.6 bn including dividend distribution tax.

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