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RCOM: Banking on data to revive profitability

November 29, 2013
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In 2013, a couple of infrastructure deals with Mukesh Ambani-led Reliance Jio Infocomm Limited (RJIL) provided a breather to Anil Ambani-promoted Reliance Communications (RCOM), which has been snowed under a debt of over Rs 350 billion. More so, as most of RCOM’s fund-raising initiatives in the past have been unsuccessful. For example, the company failed to sell a majority stake in its tower arm, Reliance Infratel, and shelved its plans for listing Reliance Globalcom, its undersea cable unit, on the Singapore Exchange. Also, recently, merger talks between the Sun Group and the Reliance Anil Dhirubhai Ambani Group for the direct-to-home business collapsed, primarily due to differences over valuation. In effect, the company’s cash flows are not adequate to address the issue of high debt.

As has been the case with most telecom operators in the country of late, RCOM has been facing low ARPUs, dwindling margins and high debt. This has been impacting the company’s efforts to drive growth.

Nevertheless, RCOM has taken steps to put its business in order. It managed to marginally reduce its debt from Rs 388.64 billion as on March 31, 2013 to Rs 384.86 billion as on June 30, 2013; signed major deals to share its infrastructure; initiated action to monetise its assets; revived its attempts to sell stake in its subsidiaries; disconnected inactive subscribers from its network; and chalked out strategies to leverage its strength in the data segment to turn around its fortunes. According to senior company officials, the focus will be on the data segment, which will be the vehicle to strengthen its business prospects in the coming years.

 Performance

In 2003, RCOM entered the mobile space with ambitious plans but has lost its aggression in the past five years. Competition from GSM incumbents and the huge capex on 3G spectrum acquisition and service launch have impacted RCOM’s profitability and overall operations.

RCOM has also been losing market share to other incumbents. As of September 2013, it was ranked fourth in the industry with a market share of 13.35 per cent, behind Bharti Airtel (22.21 per cent), Vodafone India (17.87 per cent) and Idea Cellular (14.61 per cent).  The operator is also lagging behind its peers in terms of operations. Its ARPU for the quarter ended September 2013 stood at Rs 120, lower than that of Bharti Airtel (Rs 192) and Idea Cellular (Rs 160); and the operator reported minutes of usage (MoUs) at 101.5 billion, less than Bharti Airtel’s MoUs of 251.3 billion and Idea’s 138.8 billion.

On the financial front, the company has been reporting a decline in profits for several quarters now. However, riding on a provision write-back of Rs 4.41 billion, RCOM posted a sixfold growth in its consolidated net profit in the second quarter of 2013-14. The net profit increased from Rs 1.02 billion in the quarter ended September 2012 to Rs 6.75 billion in the corresponding quarter in 2013. Excluding the write-back, the net profit for the reported quarter stood at Rs 2.34 billion, an increase of about 1.3 times over the corresponding period in the previous year. Meanwhile, the operating revenues grew by 4 per cent from Rs 52.02 billion for the quarter ended September 2012 to Rs 53.94 billion in the reported quarter. The company’s earnings before interest, taxes, depreciation and amortisation (EBITDA) margin stood at 35 per cent, which is among the highest in the industry.

 Advantages and positive steps

RCOM is an integrated telecom operator delivering a suite of telecom services including mobile and fixed line telephony, national and international long distance services, and broadband and data services.

Its biggest asset is its vast infrastructure. It owns and operates one of the world’s largest next-generation IP-enabled connectivity infrastructures. Through Reliance Globalcom, it owns the largest private cable network in the world with over 277,000 route km of optic fibre cable (OFC) connecting the US, Europe, the Middle East and the Asia Pacific. This includes 68,000 route km of subsea fibre.

Valued as one of the world’s top 10 telecom companies, RCOM serves 2,100 Indian and multinational companies, apart from 800 global carriers that use its network.

Originally a CDMA operator, RCOM launched GSM services across the country in 2009. This was the largest and possibly the fastest network roll-out by an Indian operator. In 2010, RCOM became the second private operator after Tata Teleservices Limited (TTSL) to launch 3G services. To make good its investment of Rs 85.85 billion in 3G licences for 13 circles, the company aggressively rolled out 3G services including video calling, mobile TV and video streaming on several mobile and personal computing devices at a base speed of 21 Mbps.

With some regulatory and policy clarity and strengthening of overall market fundamentals, RCOM has taken several corrective measures over the past year. For instance, the operator resorted to large-scale subscriber deactivation during July 2012, when it weeded out over 20 million inactive users. In September 2013, it deactivated another 10 million users. Though the company has dropped to the fourth position in the wireless market from second (in June 2012) following the move, it will result in operational benefits and higher ARPUs in the long term. As of September 2013, the company’s active user base accounted for 93.71 per cent of its total subscriber base of 116.26 million. This is a marked improvement over September 2012, when the visitor location register stood at 76.22 per cent.

RCOM also stands to gain from the overall subdued competition in the sector after the 2G controversy as several smaller operators have shut down or scaled down operations. As per Harit Shah, senior research analyst, Nirmal Bang Securities Private Limited, “In the current scenario, RCOM’s pan-Indian network is one of its biggest strengths.” Lower competitive pressure has resulted in pricing power returning to incumbent players, which has improved profitability. The operator, like its peers, has also cut down on free minutes on the network as well as raised call rates to ramp up revenues.

Further, to achieve cost optimisation, RCOM signed deals with telecom operators and vendors during the year. It signed two $1 billion deals with Alcatel-Lucent and Ericsson to reduce the cost of running its networks. As per the deals, Alcatel-Lucent will manage RCOM’s networks in the eastern and southern circles, while Ericsson will be responsible for network management in the northern and western circles. The company expects to achieve a cost reduction of at least 5 per cent through these outsourcing deals. It has also shifted 9,000 employees to these vendors as part of the agreements, thereby pruning its employee strength and, therefore, manpower costs.

For RCOM, the highlight of 2013 has been securing contracts with RJIL. In April 2013, these companies signed an agreement under which RJIL agreed to make an one-time upfront payment of $200 million to RCOM for sharing the latter’s OFC-based intercity network. This was followed by a $2 billion tower sharing deal, under which RJIL will be allowed to use 45,000 of RCOM’s 50,000 ground- and rooftop-based towers for accelerating 4G roll-out. Both the deals allow RCOM reciprocal access to RJIL’s OFC and towers which the latter plans to build in the future. As per a report by Motilal Oswal Financial Services Limited, “The tower rental deal will result in incremental rental revenues of Rs 8 billion per year and an incremental EBITDA  of Rs 7 billion-Rs 7.5 billion per year.” Besides bringing in significant funds, the tower deal will increase RCOM’s average tenancy ratio from about 1.7 per cent to 2.7 per cent. Meanwhile, another deal worth Rs 30 billion-Rs 35 billion for sharing of intra-city OFC between the companies is also on the cards.

 Data as the growth engine

The company has identified data as its key growth strategy. The data segment, together with GSM services, currently accounts for over 60 per cent of wireless revenues. The Indian data market is expected to expand to seven times its current size of Rs 50 billion per year in the next four to five years. The number of smartphones in India is expected to reach 100 million in the next two years and about 25 per cent of these will be used for accessing 3G services. This will open up new business opportunities for RCOM, which has rolled out 3G services in all 13 licensed circles.

To drive 3G uptake and increase service penetration, the company has significantly reduced its 3G tariffs. RCOM is known for its market-disruptive pricing strategies, which has helped it garner a large share in the voice market during its early years of operations. RCOM is now set to replicate this success in the data domain as it has brought 3G prices at par with 2G data rates.

The company says it has been receiving an overwhelming response to its 3G services and has doubled its 3G customer base in the past year. It has introduced programmes to educate users about 3G services and has tied up with leading device manufacturers to provide a robust device ecosystem for its customers. RCOM’s total data traffic increased by 116 per cent between September 2012 and September 2013, driven by 30.8 per cent growth in the data subscriber base. As of September 2013, RCOM’s data users stood at 34 million, of which 9.1 million were 3G customers.

RCOM has prepared a strategy to optimise its CDMA spectrum. The company is now shifting the majority of its voice subscribers to the GSM network and is using CDMA spectrum to provide high speed data services. “The data experience on a CDMA network is far superior to that on a 3G network. In many cases, TATA Photon and Reliance’s NetConnect provide much better data services than those provided by some GSM operators,” says a telecom expert at PricewaterhouseCoopers.

RCOM aims to lead the large screen broadband access segment through dongles by converting CDMA into a high speed data network. Further, scaling down of operations by rivals such as Sistema Shyam TeleServices Limited and TTSL has helped RCOM establish itself as a strong player in the dongle business.

 Challenges

RCOM continues to face major financial issues. As of September 2013, the company’s net debt stood at Rs 411.69 billion (including Rs 38.42 billion on account of exchange rate variance as on September 30, 2013). Ankita Somani, analyst at Angel Broking, states, “The majority of the company’s debt (almost 70 per cent) is in foreign denomination and with the weakening of the rupee, it has serious implications for the company.” Interest payments will become more expensive and the company has to dig deep into its reserves to make these payments.

In a key move to reduce its debt, RCOM securitised the proceeds from its OFC deal with RJIL in July 2013 and utilised the amount to repay its rupee debt, thereby saving significant interest costs. The company is now planning to securitise the proceeds from the tower sharing deal with RJIL to pare its debt.

RCOM does not have a large high-paying post-paid customer base. These users rank higher in terms of the loyalty factor and tend to generate five to six times higher ARPUs than prepaid customers. However, RCOM has not been as aggressive as its peers in this space. “RCOM’s main disadvantage is its large share of marginal customers. It needs to rebrand itself to net high-end customers,” notes Dr Mahesh Uppal, director, ComFirst.

Overall, a broad challenge faced by the company is that most of its strategies are too future focused and will not provide immediate results. For instance, cash accruals from its deals with RJIL are subject to the launch of 4G services by the latter. Similarly, while the 3G subscriber base has been growing rapidly, these users are yet to make a major contribution to operators’ service revenues. Industry analysts believe that the non-voice component of total revenues for Indian operators is around 15 per cent on an average, as against 25 per cent and 30 per cent recorded in China and the US respectively. It will take another three to four years for 3G services to make a significant impact on operator revenues.

 The road ahead

Leveraging and monetising its existing assets are an important part of the company’s strategy to unlock value. RCOM has already received in-principle approval for the demerger of its real estate business into Reliance Properties Limited, which will be listed separately, thereby enhancing shareholder value. The preliminary and indicative value of two of RCOM’s real estate assets – the 135 acre Dhirubhai Ambani Knowledge City in Navi Mumbai and a 4-acre property near New Delhi’s Connaught Place – is estimated at over $2 billion. Besides, the operator has several other properties in Hyderabad, Kolkata and Chennai, among other cities.

For future growth, RCOM is banking on the data segment. It is focused on leveraging its high spectrum holdings across GSM, CDMA and 3G networks, and has issued a pan-Indian capex guidance of around Rs 15 billion for 2013-14 for expansion of its 2G, 3G and high speed data networks.

Going forward, the enterprise business will emerge as a key focus area for the company and is expected to contribute 30 per cent to its annual revenue growth over the next five years. RCOM currently serves 45,000 large, medium and small enterprises including 880 of the top 1,000 corporates, and is aiming to increase its reach in the future. RCOM will continue to pursue its strategy of aggressive data pricing, which will help in increasing its internet penetration in rural areas as well.

However, being a late entrant in the GSM space, the company needs to catch  up with its peers. And above all else, it will have to find ways to pare its huge debt.

 
 
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