Unmasking the Mystery: What PPFAS Saw in Bharti Airtel

As a dedicated value investor, I closely follow the strategies of other prominent investors in the field. In India, PPFAS is a name that immediately comes to mind when discussing value investing.

Recently, while researching PPFAS's latest stock acquisitions, I discovered several reports indicating their significant purchase of Bharti Airtel shares.

The fund has acquired nearly 20 million shares, valuing their current holding at approximately 40 billion (bn).

While this position isn't exceptionally large for the fund's size, it's certainly not small. Also, it doesn't matter anyway because the true essence of value investing lies not in a stock's portfolio weight but in the company's fundamentals.

Bharti Airtel's historical performance has been notably volatile.

Between FY16 and FY25, its net profits fluctuated wildly, from as low as Rs 17 bn to as high as Rs 374.81 bn.

This dramatic swing, coupled with substantial losses of Rs 300 in FY20 and Rs 120 bn in FY21, makes it challenging to ascertain the company's sustainable earnings potential.

Beyond the volatile earnings, another significant concern is Bharti Airtel's highly leveraged balance sheet.

The company's debt to equity ratio has consistently exceeded 2, meaning it has Rs 2 in debt for every Re 1 in equity. This is considerably higher than the "safe zone" of below 1.

Furthermore, the Bharti Airtel trades at a price to earnings (PE) ratio of around 40 (excl. exceptional income), which is far from cheap. On an EV/EBITDA basis, its current multiple of nearly 15 is also higher than its long-term median of 9.5.

Considering these factors - volatile earnings, high leverage, and elevated valuations - it initially seemed unlikely that a value investor, particularly at the current stock price, would invest in Bharti Airtel.

This led me to ponder: What did PPFAS see that I might have overlooked?

I believe two key factors might have driven PPFAS's investment despite Bharti Airtel's seemingly below-average fundamentals:

1. The strength of the company's cash flows.
2. The prospect of a significantly improved future for Bharti Airtel.

Let's delve into the first reason: strong cash flows.

Consider these impressive figures: Rs 500 bn, Rs 550 bn, Rs 650 bn, Rs 800 bn, and Rs 1,000 bn. These represent the cash flow from operations that Bharti Airtel has generated over the last few years.

While the company has struggled with consistent profit growth, its cash flow generation has been remarkably steady. These strong cash flows have enabled Bharti Airtel to reinvest in its business, cover interest expenses, and even pay dividends.

As long as these robust cash flows persist, Bharti Airtel should comfortably meet both its capital expenditure needs and the interest payments on its substantial debt.

This brings me to an important metric: free cash flow yield.

To calculate free cash flow, you subtract the total capital expenditure for the year from the company's cash flow from operations. Then, divide this free cash flow by the company's market capitalisation to arrive at the free cash flow yield.

For example, if a company has a cash flow from operations of Rs 1,000 m and capital expenditure of Rs 500 m, then its free cash flow is Rs 500 m. If its market capitalisation is Rs 10,000 m, the free cash flow yield is 5% (Rs 500 m / Rs 10,000 m).

Think of free cash flow as the cash available to the company for either dividend payouts or debt repayment.

Many investors prefer using free cash flow yield over the PE ratio because it offers a clearer picture of how much cash a company generates after covering its capital expenditure and working capital needs.

Consistent negative free cash flow, even with positive earnings, is a red flag.

Conversely, consistently positive free cash flow indicates a profitable company generating surplus cash that can be used for dividends or debt reduction.

I created a model portfolio of 20 stocks from the top 100 companies by market capitalisation, selecting those with the highest free cash flow yield.

This portfolio delivered a Compounded Annual Growth Rate (CAGR) of 24% over five years, significantly outperforming the BSE 100 index's 15% CAGR.

Between 2020 and 2024, this simple, annually rebalanced portfolio effectively tripled investor money compared to the benchmark's twofold return. That's the undeniable power of free cash flow.

Let's reiterate the formula:

Free Cash Flow Yield = (Cash Flow from Operations-Investments in Fixed Assets?) / market capitalisation

As a rule of thumb, avoid companies with a free cash flow yield of less than 3%. Investing in stocks with a yield of 2% or 2.5% often means you're paying too much, increasing the likelihood of underperformance.

So, what about Bharti Airtel's free cash flow yield?

It currently stands at around 4.5%.

A portfolio of 20 large-cap stocks with free cash flow yields of 3.5% or higher has a good chance of outperforming the benchmark index long-term.

While my backtested portfolio included exceptions with yields as high as 10-12%, Bharti Airtel has a strong chance of being a part of a high free cash flow yield portfolio.

This attractive free cash flow yield likely compelled PPFAS to consider it for their portfolio.

The second major reason supporting Bharti Airtel is the potential for a significant improvement in its future fundamentals.

• Average Revenue Per User (ARPU), a crucial metric for Bharti, has steadily risen over recent quarters.
• There's further room for tariff hikes as 5G adoption grows and market competition stabilizes.
• Capital expenditure is projected to fall from about Rs 400 bn to Rs 300 bn.
• The Indian telecom industry has largely consolidated into a near-duopoly, dominated by Bharti Airtel and Reliance Jio.

Thus, Bharti Airtel's appealing valuations from a free cash flow yield perspective, combined with improving fundamentals, likely pushed PPFAS to invest in the stock.

Do you believe PPFAS made a safe bet with Bharti Airtel, or have they taken on more risk than usual?

Let me know your thoughts.

Happy investing.

Warm regards,


Rahul Shah
Editor and Research Analyst, Profit Hunter
Equitymaster Research Private Limited (formerly Equitymaster Agora Research Private Limited) (Research Analyst)