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Reliance Comm.: Bridging the gap?

Apr 30, 2007

<>Reliance Communications (RCom) has announced strong results for the fourth quarter and full year ended March 2007. For FY07, the company's topline recorded growth of 34% YoY, aided by strong expansion in subscriber base. Over that, on the back of decline in interest expenses, its net profits soared 7 times. Operating margins expanded by over 16% during FY07, mainly due to lower (as percentage of sales) direct operating costs. The company's actual FY07 performance has not been too way off from our estimates with revenue lower by 4% and net profits higher by 12% (mainly due to unprecedented fall in interest costs).

Financial snapshot
Particulars 4QFY06 4QFY07 Change FY06 FY07 Change
Net sales 29,076 38,736 33.2% 106,273 142,625 34.2%
Expenditure 19,282 23,017 19.4% 82,311 87,477 6.3%
Operating profit (EBIDTA) 9,794 15,719 60.5% 23,961 55,148 130.2%
Operating profit margin (%) 33.7% 40.6%   22.5% 38.7%  
Other income 628 633 0.8% 1,391 2,058 48.0%
Depreciation 5,457 6,378 16.9% 16,987 24,653 45.1%
Interest 425 (392) NA 3,215 4 -99.9%
Extraordinary Expenses/(Income) 374 (28) NA 374 302 -19.2%
Profit before tax 4,167 10,394 149.5% 4,776 32,247 575.1%
Tax 138 149 8.3% 337 616 82.5%
Profit after tax / (loss) 4,029 10,244 154.3% 4,439 31,632 612.6%
Net profit margin (%) 13.9% 26.4%   4.2% 22.2%  
No. of shares (m)         2,045  
Diluted earnings per share (Rs)         15.5  
P/E ratio (x)         30.8  

What is the company's business?
Reliance Communication Ltd. (RCL) is the second largest private sector mobile telephony operator in India with a wireless (CDMA and GSM) subscriber base of 28 m across its 23 circles of operation. The business of the company is spread across three segments - Global, Enterprise and Personal. The 'Global' business caters to voice and data market. In the voice market, it is the carrier of national and international voice traffic for telecom operators, telecom service providers and its internal customers. The data business owns the largest private submarine cable system in the world, which carries data across six continents. The 'Enterprise' segment serves 750 of the top 1,000 enterprises in India, by offering a wide array of products that comprise of voice, data, Internet, and IT infrastructure management services. The 'Personal' segment offers voice, data and value added services for the individual consumers and enterprises, via its CDMA and GSM-based mobile and fixed wireless services.

What has driven performance in FY07?
Subscriber growth continues: The growth in subscriber base has continued during the past quarter as also for the full year ended March 2007. The company added a net of 7.6 m wireless subscribers (inclusive of GSM and CDMA) during the fiscal (taking into account the connections that were terminated in 4QFY07 in the process of customer verification). The rapidly expanding subscriber base is reflected in the topline growth registered by the company, both for the last quarter as also for the full year ended March 2007.

Segment-wise performance
Particulars 4QFY06 4QFY07 Change FY06 FY07 Change
Wireless 21,206 29,686 40.0% 73,640 107,276 45.7%
As % of revenues 72.9% 76.6%   69.3% 75.2%  
EBIT margins 19.6% 23.5%   13.8% 21.0%  
Global 14,155 12,940 -8.6% 51,860 51,770 -0.2%
As % of revenues 48.7% 33.4%   48.8% 36.3%  
EBIT margins 5.9% 14.6%   2.5% 14.2%  
Broadband 1,946 3,291 69.1% 5,130 11,441 123.0%
As % of revenues 6.7% 8.5%   4.8% 8.0%  
EBIT margins 4.5% 33.3%   -8.3% 31.0%  

Wireless: The wireless business that constitutes the core business of RCom continued to drive growth during the fourth quarter as also the full year ended March 2007. The performance in this segment was abetted by the growth in its wireless subscribers as the company continued its drive of adding on more subscribers, which was aided by the fall in the cost of entry-level handsets.

Global: The performance of the company in the global segment was not very encouraging as revenues registered a decline for the quarter as also the full year ended March 2007. However, a curtailment of its costs saw the company improve its EBIT margins substantially. The share of global segment's revenues in the overall revenues of the company has also registered a steady decline both for the quarter as also the full year ended March 2007.

Broadband: RCom continued to perform well in this segment as its share increased significantly (on a YoY basis) for the quarter as also the full year ended March 2007. The EBIT margins of the company have also risen significantly. Although the segment is not a significant contributor to the overall revenues at present, it however does display a tremendous potential for growth.

Opex registers marginal growth: Despite a rapid growth in it s core business activity, RCom was abler to constrain the growth in its operating expenditure, which has yielded a hefty growth in the company's operating profits. The operating profit margin has expanded by 16% YoY for the full year concluded March 2007.

Bottomline picture: The benefits of higher operating profits and a growth in other income coupled with a substantial reduction in interest cost have accrued to the swelling of the company's bottomline that registered a growth of seven folds for the full year ended March 2007. The bottomline for the fourth quarter registered a growth of 154% YoY that came mainly on account of a steep reduction in interest expenses.

What to expect?
At the current price of Rs 476, the stock is trading at a multiple of 15.1 times our estimated FY09 earnings, which we believe make it an attractive proposition from a 2-year perspective. Considering the benefits that the company has so far been able to derive owing to operating leverage and also taking into account the immense growth potential that lies ahead, we maintain our positive recommendation on the stock from a long-term perspective.

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