What next for telecom investors

The telecom price war triggered by the launch of Jio has forced drastic consolidation. In effect, three service providers are left. There's a trend of lower ARPU (average revenue per user). Two of the three are suffering falling revenues. All three may be cash-flow negative. Each must be prepared to spend more.

Reliance Jio Infocomm (RJIL), a subsidiary of Reliance Industries (RIL), declared a net profit of Rs 6.12 billion in April-June 2018. Numbers are hard to decode. RJIL has an unusually low rate of depreciation. The multiple "schemes", structured with one-time payments for long-term subscriptions, makes for flexibility in recognising income. Cash flow is impossible to judge.  

Of the others, Bharti Airtel made losses of over Rs 14 billion on standalone India operations in first quarter (Q1) and it declared a consolidated net profit of Rs 970 million only due to a deferred tax gain. Idea had standalone net profit of Rs 2.6 billion, thanks to a one-off realisation of Rs 33.6 billion on tower sales. Losses would have been over Rs 31 billion without that. Vodafone India saw revenues declining 31 per cent.

ARPU dropped. RJIL claims the best ARPU at Rs 134. Vodafone is at Rs 102, Airtel is at Rs 105, Idea is at Rs 100. Revenues declined for Vodafone-Idea and Airtel. In revenue market share (RMS), RIL is at 23 per cent, while Vodafone-Idea would probably be at 37 per cent post-merger. Airtel is around 31 per cent. About 9-10 per cent RMS is up for grabs. In the key data segment, RJIL is the boss, claiming 75 per cent of the market. RJIL is also the fastest in terms of overall subscriber growth, hitting the 215 million mark.

The price war will continue. Jio has spent over $31 billion and it will spend another $7-8 billion on its fibre rollout. RIL's balance sheet is big enough to find that cash, and Jio doesn't need to hike tariffs. Voda-Idea and Airtel would dearly love to push tariffs up. But the best they can hope for is that tariffs will not fall any further, now smaller players have been forced out. Airtel reckons cumulative investments will be in the range of $39 billion by March 2019. India's rollout of 5G networks is likely to be delayed by about three-four years compared to the rest of the world, just as 4G rollout was delayed. 

The dynamics of the telecom business are unusual: Service providers make huge front-loaded investments to get spectrum, create infrastructure and set up service personnel. After that, as subscription and revenues grow up, service providers hope to enjoy steady cash-flows without major additional investments. This is the global model. 

In India, the disruptive entry of Jio, and earlier complications caused by the fallout of the 2G scam such as a huge jump in auction prices have meant unending cash outflows and a price war where ARPU has crashed. Subscriber growth is flat. The only potential new subscribers are low-end rural users. Migration up the ladder to data services is the only obvious means of growth. RJIL has pole position there. 

Investors will have to be cautious about the sector for a long while. Jio is the only gainer at this instant. But Jio is a subsidiary of a larger conglomerate and investors who want telecom exposure might not want it bundled with petro.

Refining margins inevitably fall if crude prices trend high and RIL’s profitability depends on high gross refining margins (GRMs). In Q1, GRMs fell over 15 per cent for RIL. If GRMs do drop further, it might eventually force tariff hikes, or a spin off for Jio into a separate listing.