Market is always smarter than thousands of individual investors like you and me. Major telecom stocks such as Bharti Airtel and Idea cellular have delivered negative returns for the investors in the last five years (Forget about the people who are capable of buying and selling the stocks at its lowest and highest possible levels, I'm talking about the investors who buy the stocks and hold it for the next five to ten years hoping that it will maximize the returns). At the same time Nifty was able to deliver a decent 11 percent compounded returns in the last five years (Refer graph 1 and graph 2).
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| Graph 1 |
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| Graph 2 |
it is therefore important to analyze the underperformance of these companies in the last five years. I have taken ROC, ROE, Profit margin and interest coverage ratio to analyse the fundamental performance.
Observations
ROCE & ROE - ROCE and ROE of Bharti Airtel witnessed a sharp fall in the last five years. ROCE of Bharti Airtel which was 18 percent in FY11 was about 11 percent in FY16. ROE was 9.28 percent in FY16 compared to 19 percent levels in FY11. Even though Idea was able to improve its ROCE and ROE from FY11 levels, it is still below the peak the company has achieved in FY15 (Refer Graph 3 and 4) This observation is consistent with the fact that no company can earn excess returns for a long period of time as the excess returns will bring more competition into the market.
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| Graph 3 |
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| Graph 4 |
Profit Margin - Bharti Airtel taken a serious hit on its profit margin from close to 10 percent in FY11 to 3.28 percent in FY16. Idea improved its margin till FY15 but it started to decline in FY16 (Refer Graph 5 and 6)
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| Graph 5 |
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| Graph 6 |
Interest Coverage Ratio - The interest coverage ratio of Idea was only 3.2 in FY16. On the other hand, the interest coverage ratio of Bharti Airtel which was 27.92 in FY11 went down to 3.82 in FY16 (Refer Graph 7 and 8). The Debt to Equity ratios of both the companies witnessed a sharp increase in the last five years.
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| Graph 7 |
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| Graph 8 |
Market is always smart!!!
From these figures it is clear that the fundamentals of these stocks has been deteriorating significantly. Analysis of the valuation ratios of Bharti Airtel and Idea signifies that market also playing smartly with these stocks in the last several years. For example PE ratio of Bharti Airtel which was 22.56 in FY12 went down to 11.98 in FY15 and currently trading at 15.7 times. Similar kinds of results were observed in Price/book and EV/EBITDA ratios. (Refer Graph 9 and 10)
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| Graph 9 |
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| Graph 10 |
What is there in store for these companies?
I think there are three to four factors which may change the dynamics of the telecom industry in the coming years.
The data will become commoditized (it has already started) and it is going to be a volume game - As per the report by CISCO, global mobile data traffic is expected to grow at a CAGR of 35 percent for the next several years. In this context, India which is one of the fastest growing emerging markets offer unique opportunity. The increasing number of smartphones will enable India to grow its mobile data traffic several times in the years to come. Telecom players therefore have to focus on volume to sustain their business.
Customers will have more bargaining power - The competition in the market has intensified with the recent launch of Reliance Jio. Companies are trying their level best to retain their customers. This will give even more bargaining power to the customers and the usage charges are expected to go down significantly in the coming years.
Operating efficiency will be the key for survival - When customers get more bargaining power and the services become commoditized, only way in which companies can sustain is by bringing operational efficiencies. Currently Indian telecom players are trying to bring these by deploying various IT tools to reduce customer churn and to serve them better.
Government will be there to take excess returns from Telcos - Assets enjoyed by the telecom companies are regulated assets. As a result government will be charging huge fees which in turn will restrict the excess returns of players in the future. Companies have to infuse large amount of capital towards license fees as well as towards capital expenditure. Bharti Airtel is planning to reduce the stake in their tower business to mobilize 36000 crore and parent of Vodafone India is expected to infuse around 48000 crore into its Indian subsidiary.
Is it time for bottom fishing in telecom stocks?
Not really!!! It is better for the investors to adopt a wait and watch policy at this point of time and see how the competition among players is going to change the dynamics of the industry. Data demand will definitely shake up the existing business models of telcos. The response of companies towards this transformation is yet to be seen!!!
Harikrishnan
Views are personal. Comments are welcome. :)
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