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Bharti Airtel: Will returns compensate for the risks? - Views on News from Equitymaster
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  • Mar 26, 2013 - Bharti Airtel: Will returns compensate for the risks?

Bharti Airtel: Will returns compensate for the risks?
Mar 26, 2013

We had recommended a Buy on Bharti Airtel in December 2012 at a price of Rs 323 per share. At that time we had mentioned in the investment concerns that the company was facing a major issue on the regulatory front. We had also warned investors that the telecom sector is one of the most regulated sectors in the country. The regulator (TRAI) and the government have been regulating the costs through spectrum charges, spectrum fees, license fees, access charges, etc. At the same time, there was no clarity on issues like one time spectrum fee, spectrum refarming charges, etc.

Since our recommendation, things have not gone too well with the company. The regulator has slapped Bharti Airtel with an enormous onetime fee of Rs 5.2 bn. The company can pay the fee as monthly installments over the balance period of its license. To add to this, TRAI has also stated that the company's license in some of the key circles will not be renewed automatically. Bharti will have to bid for them in the next auction. And not making things easy, Bharti Airtel has also been asked to stop 3G services in circles where it does not have a license but a roaming agreement with other operators. Though the company has contested these in the court of law, none of these issues are likely to be sorted out in the short term.

The stock price of the company took a further hit when a special court summoned the company's Chairman, Mr Sunil Mittal. The summon was related to the allegations of corruption in the allocation of additional spectrum in 2002. To this the company has responded that there is no evidence of conspiracy against any individual. It has further stated that it expects to be able to counter all allegations and come out of this with a clean chit.

Now there are two questions to be answered here. Does our view on the management quality change in the light of the accusations? Given the messy state of proceedings in the 2G scam and the government's predatory stance on the sector, we would rather wait for the court's judgment before changing our view. Secondly, does the spectrum in question form a very significant part of the total spectrum held by the company? Fortunately, it does not. So in the worst case scenario, if the spectrum is cancelled, the impact on the company's fundamentals will not be very significant. Nevertheless, the downside risks to the company's growth and profitability estimates do remain.

To provide for the additional regulatory risks, the company has raised funds through two international bond issues. Earlier in March 2013, the company raised US$ 1 bn of funds through a 10 year bond issue. Later during the month it has announced plans to raise an additional US$ 500 m which is to be merged with the first issue. This would take our estimate debt to equity ratio to 1.4 times in FY13.

The abovementioned points make one thing clear that the risk profile for the telecom sector as a whole and for Bharti Airtel in particular has worsened. Therefore expecting the stock to deliver healthy returns in short term or even in the medium term would be unreasonable. However, one thing is for sure, that mobile communications is a necessity in the country. And the company that is best positioned to reap benefits from the opportunity presented by the sector is Bharti Airtel. For investors it is important to understand that the risk profile of the company is unusually higher than in the case of most blue chip stocks. However, it would not be wise to speculate on news. In our opinion, the stock of Bharti Airtel is unlikely to deliver spectacular returns anytime within 2 to 3 years. However, if an investor is willing to hold on to the stock for over 3 years, the current discounted valuations of the stock could provide returns commensurate with the increased risk. Our view and target price for the stock remains unchanged.

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