Idea Cellular - Leveraging the scale - Ambit

We had been pricing in greater sensitivity to regulatory whiplash and underestimating Idea's execution. A more benign competitive and regulatory environment leads us to bring cost of equity in line with Bharti (15%). We also expect Idea to continue to enjoy operating leverage as its scale in its non-established circles improves and supports recent EBITDA margin expansion. Lower beta (1 from 1.2; in line with Bharti) and EBITDA margin upgrades of 310-330 bps in FY14/15 drive our target price up 47% to Rs. 182 (6.9x FY15E EV/EBITDA; Rs. 124 earlier). We switch to BUY from SELL.

Competitive position: MODERATE Changes to this position: POSITIVE

EBITDA margin expansion is sustainable: Idea is likely to sustain its 1QFY14 EBITDA margin (up 415bps QoQ) as it continues to enjoy the benefits of industry consolidation through lower churn (down 500bps YoY) that has helped contain selling costs and better voice realisations (up 3% YoY). Moreover, margins are likely to further expand from increasing scale and profitability in its non-established circles. Indeed, Idea has been making steady progress in revenue market share (RMS) in emerging circles such as Rajasthan (84bps YoY in FY13), Bihar (84bps YoY) and Delhi (51bps YoY), with larger gains in circles where its RMS footprint is sub 5%.

Retains the potential to surprise: Improving voice pricing power and growth in data penetration leads us to upgrade revenue and EBITDA estimates by 0/1% and 310-330bps in FY14/15 respectively. Our EBITDA estimates are head of consensus as (1) we expect 1QFY14 EBITDA margins to sustain (we are 60bps ahead) and (2) we expect further margin expansion in FY15 from RPM improvements (we build in 139bps YoY vs consensus expansion of 70bps). RPM growth, even with some dilution of consumption (MoU), is likely to be EBITDA margin accretive. Idea's high operating and financial leverage implies 5/22% EPS upgrades in FY14/15 and materially larger than consensus expectations in earnings growth (59% YoY growth in FY15E vs consensus expectations of 39% YoY).

Valuation and revision in estimates: We significantly upgrade our EBITDA margin assumptions for FY14/ 15 due to the strong performance reported in 1QFY14 and visibility on its sustenance. Our target price of Rs. 182 (earlier Rs. 124) implies a 15% upside from current valuations and an FY15E EV/EBITDA of 6.9x (8.3x FY14E) vs its average (5 year) 1 year forward multiple of 7.0x. ~38% of the upgrade in target price is due to the reduction in cost of equity (15.0% vs 16.4% previously) as we price in lower regulatory risks. Given Idea's comfortable leverage, quality of re-investment of proposed equity raise proceeds and larger than our estimated demand dilution due to RPM increase are the primary risks to our valuation.

Source : Equity Bulls

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