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Investment Potential: High growth ensures fund flow in the sector

July 26, 2011
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The Indian telecom sector has seen significant investments, both from domestic as well as foreign players, over the past decade. The expansion plans of operators, entry of new players into the sector as well as the 3G and broadband wireless access (BWA) auctions have all been the catalysts for sector growth. The setting up of an independent infrastructure provider industry and growth of the telecom equipment business have also contributed to the demand for investments. tele.net spoke to industry experts about the investor perspective on the sector, key investment trends, fund sources and future investment drivers…

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What is the investor perspective on the Indian telecom sector? 

Abhishek Chauhan 

The investor perspective on the Indian telecom sector is not very optimistic, especially in view of the 2G scam and the show-cause notices issued to telecom operators for missing rollout obligations. However, the high demand for consumer services is going to bring back optimism.

Gaurav Dixit 

The 2G controversy has cast a shadow on the Indian telecom sector. However, any good investor would look at the underlying value and  growth potential that the sector has to offer before making any investment decision. The sector has witnessed phenomenal growth over the past decade and is expected to continue on that path with the launch of 3G services and the focus shifting from voice to data.

Akshay Grover 

During 2000-11, telecom was among the better performing sectors in terms of investments and accounted for about 8 per cent of the country’s cumulative foreign direct investment (FDI). However, over the past 12-18 months, the view of the sector has been negative owing to the high competition, regulatory uncertainty, 2G spectrum scam and significant investments in 3G and BWA spectrums. Long-term investors would have a positive view of the sector since several of these issues will be addressed in the medium term – including the revised merger and acquisition (M&A) guidelines, resolution of 2G spectrum-related concerns and future growth of broadband and data services.

Rohan Lobo 

The Indian telecom sector has witnessed rapid growth in the past decade, which has been driven by increasing subscriptions and penetration in the wireless segment.  Investors have a lot to be excited about in the next round of growth.

The current telecom penetration levels suggest a huge potential for both the wireless and broadband sectors. 4G services are set to be launched next year and 3G deployment has already begun. Infrastructure to support the growth in telecom usage is urgently needed.

While the unfortunate incidents surrounding the 2G spectrum allocation have made investors and bankers cautious, the growth potential cannot be ignored. The government is heading in the right direction by building consensus on structural policy and the regulatory frameworks that govern the industry. Efforts to liberalise FDI into the sector will boost investor confidence and attract significant investments.

What have been the key investment trends in the Indian telecom sector? 

Abhishek Chauhan 

Major investments in the telecom sector have been made in the areas of licence acquisition and organic/inorganic expansion of operators as well as mobile value-added service (mVAS) players. With the government working on policies to promote telecom equipment manufacturing in the country, more investments are expected in setting up local manufacturing facilities.

Gaurav Dixit 

Over the years, the telecom sector has been attracting significant investments with a number of investors looking to cash in on the telecom growth story. Post-liberalisation, when the sector was opened up to private players, there was a surge in foreign investment in the sector, especially in the wireless services space, which further increased with the relaxation of FDI norms. These investments were primarily committed by foreign telecom companies that were looking to make their presence felt in an emerging market like India. Investments were also made in the telecom equipment manufacturing space with established multinational companies setting up facilities in the country.

FDI norms were relaxed by the government in 2005. After this, the sector witnessed a significant increase in FDI – it grew to $624 million in 2005-06 from $125 million in 2004-05. Today, nearly all new entrants have a significant share of FDI, which also includes investments from foreign governments.

Akshay Grover 

The increase in telecom penetration and  growth of telecom service providers has fuelled the expansion of several key subsegments of the sector – telecom infrastructure, equipment, devices, services companies, etc. Going forward, the sector will see a shift in investments from voice to data and businesses centered around data applications.

Rohan Lobo 

India is the second largest telecom market in the world after China with a reported subscriber base of nearly 860 million in April 2011. The sector is adding around 15 million subscribers on a monthly basis. The wireless segment has contributed significantly to this growth.

Investments of about $11 billion were made in the telecom sector during the Tenth Plan (2002–07). Growth in the next two years could see an addition of 350 million subscribers.  There have been investments in mobile and long distance networks for wireless 2G services, as well as in broadband and 3G. Going forward, broadband and 3G growth will increase investment requirements significantly.

What are the key funding sources for telecom sector projects? What is the mix of foreign and domestic investment in the sector? 

Abhishek Chauhan 

The key funding sources for the organic/ inorganic expansion of telcos have been banks, while venture capitalists have been focusing on the mVAS segment. Private equity investors are not too optimistic about the sector at present.

Gaurav Dixit 

Telecom is a capital-intensive sector and it is important that promoters have the flexibility and capacity to infuse funds as per their requirements. For the debt portion of funding, the source depends on the requirements of the company. For example, a new entrant would require long-term project finance for which it would approach a bank and arrive at terms just like any other infrastructure project company. In the case of funds required for expansion, or for the purchase of spectrum, companies have the choice of either tapping debt markets through the issue of short-term instruments or refinancing the same through relatively low-cost term loans that include external commercial borrowings (ECBs).

As far as the mix of foreign and domestic investment is concerned, the telecom sector has played a crucial role in attracting FDI into the country, which has been significant over the years. The total FDI inflow into the telecom sector in 2010-11 was Rs 75.46 billion, which constituted 8 per cent of the total FDI inflow into the country. Domestic investments, which include contributions from private equity firms in mobile services and supporting industries, have also been on the rise. Investments in telecom infrastructure, equipment manufacturing and value-added services are likely to witness further growth following the launch of 3G and BWA services.

Akshay Grover 

The telecom sector includes infrastructure, equipment and the services business, wherein the funding is largely dependent on the type of business. Telecom infrastructure tends to be funded significantly through debt with the average net debt/ EBITDA ratios ranging from 4.0x to 6.0x. Telecom operators have a reasonable level of debt with an average net debt/EBITDA of 1.5x-2.0x. However, ancillary service and device companies have struggled to raise debt owing to limited assets on their balance sheets as well as scale. These players have raised funds mostly through the equity route and from large international companies.

Rohan Lobo 

The FDI flow into the telecom sector during April 2000 to April 2011 was about $10.6 billion, comprising 8 per cent of the total FDI. Estimates indicate that FDI accounts for 45-50 per cent of the total investment in the sector.

About two-thirds of the total investment in the industry comes from the private sector. Most of the key private providers have approached capital markets for funding. Clarity on policy and relaxation of M&A rules governing the telecom sector could attract significant global private equity investments, especially for the new operators.

What will be the key drivers for investments going forward? 

Abhishek Chauhan 

Future investments would be required in the telecom infrastructure space and local manufacturing of telecom equipment.

Gaurav Dixit 

The key investment driver for the sector will be the 3G service rollout, which will drive the VAS market. The launch of 3G services as well as the entry of operators in the rural and semi-urban segments will provide major opportunities for infrastructure providers. To capitalise on the opportunities presented by the rollout of new services, the union government has increased its focus on developing the domestic telecom equipment manufacturing industry. Needless to say, the launch of 3G and BWA services is expected to result in an increase in investments in supporting segments like VAS, telecom equipment manufacturing and telecom research and development.

Akshay Grover 

The telecom sector will require significant investments going forward. A key growth driver is broadband and internet penetration, which is likely to grow from about 4 per cent currently to nearly 40 per cent in the next five years.

Rohan Lobo 

High-bandwidth-dependent content services, telecom-enabled services and declining tariffs are set to drive future growth.  The National Telecom Policy, 2011 is built on consensus, a transparent regulatory framework and favourable tax and investment regime that will drive investments in the future. More investments are required to support the entire telecom ecosystem, which also includes infrastructure providers, equipment manufacturers and content providers.

What are your views on the current debt- equity mix in the investment portfolio of telecom players? How is it likely to change in the future? 

Abhishek Chauhan 

Currently, most operators have high debts on their balance sheets as a result of the high 3G and BWA spectrum fees. The debt-operating EBITDA ratio for most telcos is expected to increase by 1x to 2.5x. This has led to a negative impact on their credit ratings in the short term. In the near future, most operators will try to reduce the debt-equity ratio by reducing debts through consistent paybacks.

Gaurav Dixit 

Currently, most operators have a significant amount of debt in their portfolios owing to the debt raised for the 3G auctions. Operators like Bharti airtel also raised high debts for their overseas acquisitions. Most operators raised high-cost short-term debt to fund 3G spectrum fees. This amount is now being refinanced using low-cost long-term loans including ECBs. There has been an increase in ECBs as several operators have used this route to refinance their short-term borrowings. In addition, the operator capex for upgrading infrastructure to support 3G services will also increase. Fund-raising has become an uphill task for operators after the 2G scam and, therefore, they might look for equity infusion through the sale of passive infrastructure assets; not only to repay their existing debt but also to fund future network upgradation.

Akshay Grover 

In general, global telecom players have been more leveraged than their Indian counterparts. However, recently, the level of debt on the account books of a few Indian players crossed the global average, which had a negative impact on their stock prices. In the short term, the level of debt is likely to remain high owing to the high investment requirements. The situation will improve once there is consolidation in the sector and revenue growth from data and related services is realised.

Rohan Lobo 

The debt-equity ratio of listed Indian telecom operators is below 0.5 with Bharti airtel being the most comfortable. Investors are cautious about investing in tower companies given the significant investments still required for tower rollout to keep pace with demand and their heavy dependence on debt. 

Clarity in policy, and tax and investment sops would increase debt funding in the sector. While inflation and global monetary tightening could affect fund flows, bankers and investors could find it difficult to resist the Indian telecom growth story.

 
 
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