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Rel. Comm.: Profitability takes a hit - Views on News from Equitymaster

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Rel. Comm.: Profitability takes a hit
Oct 31, 2008

Performance summary
  • Net sales grow by 21% YoY apiece in 2QFY09 and 1HFY09. Mobile services revenues grow by 17% YoY during the quarter. Growth impacted by decline in average revenue per user (ARPU) and stable minutes of usage (MoU).

  • Operating margins decline by 3.4% YoY during the quarter on the back of substantially higher other costs.

  • Net profits grow by 17% YoY during the quarter, aided by higher interest income and a tax write-back.



Consolidated financial performance snapshot

(Rs m) 2QFY08 2QFY09 Change 1HFY08 1HFY09 Change
Sales 41,491 50,263 21.1% 80,688 97,621 21.0%
Expenditure 26,166 33,434 27.8% 51,061 64,155 25.6%
Operating profit (EBDIT) 15,325 16,829 9.8% 29,627 33,465 13.0%
Operating profit margin (%) 36.9% 33.5%   36.7% 34.3%  
Other income 4,294 6,187 44.1% 8,134 12,051 48.2%
Interest expense/(income) (1,125) (2,353) 109.2% (2,399) (4,692) 95.6%
Depreciation 6,754 9,180 35.9% 12,945 17,818 37.6%
Profit before tax 13,989 16,188 15.7% 27,215 32,391 19.0%
Miscellaneous income/(expenditure) 12,203 (647)   12,217 (1,286)  
Tax 698 (567)   1,730 (760)  
Minority interest 12,444 798   12,444 1,428  
Share of associates (4) (2)   (8) (7)  
Profit after tax/(loss) 13,046 15,308 17.3% 25,250 30,429 20.5%
Net profit margin (%) 31.4% 30.5%   31.3% 31.2%  
No. of shares       2,044.5 2,063.8  
Diluted Earnings per share (Rs)*         28.7  
P/E ratio (x)*         7.7  
* On a trailing 12 months earnings

What has driven performance in 2QFY09?
  • Reliance Communications’ (RCL) grew its net sales by 21% YoY during 2QFY09. Mobile services revenues grew by 17% YoY. This growth was largely a result of a strong performance on the subscriber addition front. RCL added a net of 5.5 m wireless subscribers during the quarter, taking its total base to over 56 m.

  • Talking about ARPU, the same declined by a whopping 25% YoY during 2QFY09. Against an ARPU of Rs 361 per month in 2QFY08, RCL earned only Rs 271 during the latest completed quarter. Apart from lower ARPU, RCL also got hit on the minutes of usage (MoU) front, which declined by 14% YoY during the quarter. This is interesting as lower telecom tariffs have not really resulted in higher calling by subscribers, which is unlike what happened in the past. We had indicated in last quarter’s analysis of RCL’s results that if this continues (MoU fall further), RCL’s profitability could be hit. The impact was clearly seen in this quarter.

  • RCL’s second services line of Global (inclusive of national and international long distance telephony), reported a growth of 29% YoY growth in sales during the quarter. As for the third business segment of ‘Broadband’, sales grew by a robust 38% YoY.

    Segment-wise performance
      2QFY08 2QFY09 Change 1HFY08 1HFY09 Change
    Wireless            
    Revenue (Rs m) 37,231 43,356 16.5% 70,981 84,543 19.1%
    % of total revenues* 68.0% 65.4%   67.4% 65.9%  
    EBIT margin 27.5% 23.8%   27.5% 24.6%  
    Global (ILD & NLD)            
    Revenue (Rs m) 13,161 16,915 28.5% 26,194 32,175 22.8%
    % of total revenues* 24.0% 25.5%   24.9% 25.1%  
    EBIT margin 14.5% 10.4%   14.5% 10.4%  
    Broadband            
    Revenue (Rs m) 4,372 6,023 37.8% 8,204 11,626 41.7%
    % of total revenues* 8.0% 9.1%   7.8% 9.1%  
    EBIT margin 34.5% 35.9%   33.9% 35.6%  
    * Excluding interest and other revenue

  • Higher other costs (as percentage of sales) dented RCL’s operating margins by 3.4% YoY during 2QFY09. These costs increased from 32.2% of sales in 2QFY08 to 40.8% in 2QFY09. Based on business segments, while wireless and long distance businesses recorded decline in profitability, broadband business witnessed a marginal expansion in the same.

  • RCL’s net profits grew by 17% YoY during 2QFY09. This was chiefly led by higher interest income and tax write backs.

What to expect?
    At the current price of Rs 220, the stock is trading at a multiple of 7.7 times its trailing 12 months earnings. RCL has seen pressure on its wireless business growth over the past three quarters and this has been brought about by a decline in both ARPU and MoU. While wireless net additions have remained robust, there are increased chances that the company’s profitability could be impacted due to a fall in these two variables. The management seems confident of raking in a strong growth and ARPU upside from its GSM foray (plans to roll our GSM services in 14 circles by the end of this calendar year). However, we believe that execution will be the key to growth, especially considering that the GSM market is already so competitive.

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