Telecom: Two quarters of Jio - assessing the impact - Kotak

Two quarters of Jio - assessing the impact. Industry's adjusted gross revenues* for the March 2017 quarter came in at Rs309 bn, down 17% or Rs63 bn in absolute terms from Sep 2016's Rs372 bn levels. Incumbents fared only marginally better than the overall industry as a pack with Idea performing better than Bharti and Vodafone on this metric. As many as eight circles saw >20% AGR decline over this timeframe while the challenger private operators (Aircel, RCOM and TTSL) bore the brunt with 26-34% decline. Incumbents' ex-Jio AGR share stood at an all-time high 77.8% (+304 bps yoy). Jio's interconnect bill for the quarter appears as high as Rs15 bn.

*Adjusted gross revenues = gross revenues less interconnect costs less other deductions; this is the best available proxy for consumer-level spending (net of service tax).

Jio impact - monumental in a short span of six months

TRAI's 4QFY17 industry revenue report emphatically shows how 'free' services can impact an industry. Industry's quarterly adjusted gross revenue base for 4QFY17 (Rs309 bn) was nearly 17% lower than the last pre-Jio quarter, i.e. 2QFY17. Annualized revenue loss (4QFY17 less 2QFY17) works out to nearly Rs250 bn; massive for an industry that was generating just about Rs500 bn in annual EBITDA pre-Jio-impact. While we will let a long series of charts present a detailed picture, we discuss some interesting observations below We note that our discussion focuses on the cumulative 2-quarter movement in revenues and market share (pre-Jio 2QFY17 to 4QFY17); the usual qoq and yoy movements are presented in the exhibits that follow the discussion.

- Even as Idea saw the highest 11% decline in gross revenues in 4QFY17 versus 2QFY17 among the incumbents, its 12.5% AGR decline was lower than the 17% decline levels for Bharti and Vodafone. We believe this reflects lower level of aggression from Idea in response to Jio. Aggressive unlimited voice offers in response to Jio perhaps resulted in higher interconnect payouts for Bharti and Vodafone. Idea's aggression was limited to circles where they had a strong LTE offering - this reflected in similar AGR-decline-higher-than-GR trend in all of Idea's leadership circles - AP, Gujarat, Kerala, UP (West), Punjab, MP, Haryana and Maharashtra. In other words, this aspect (AGR decline higher than GR) reflected the selective aggression from incumbents in circles where they had a higher proportion of mid/high-end subs they wanted to retain; Idea was in this position in fewer circles.

- Even as the Jio impact was felt across the industry, the middle-of-the-pack private operators, i.e. RCOM, Aircel and TTSL suffered the most. RCOM's cumulative 2Q-4QFY17 revenue decline was 34% at the AGR level while the same was 26% for TTSL and 29% for Aircel. That such level of revenue decline would have led to a complete collapse in these companies' already-weak P&Ls goes without saying. RCOM's struggles have been reported enough in the public domain; we doubt if things are materially better at Aircel or TTSL.

- BSNL shows up as an outperformer with only a 2.5% lower AGR in 4QFY17 as compared to 2QFY17. The company in fact grew its reported AGR in 11 out of 22 circles during this timeframe. While this may have been driven by BSNL's extremely aggressive response to Jio in the form of high-ARPU bundles that perhaps were accretive to BSNL given its low ARPU base, we do note that BSNL's quarterly revenues reported to TRAI have been far too volatile in the past for us to derive any concrete conclusion.

- RCOM + Aircel + SSTL AGR for 4QFY17 stood at just Rs22.5 bn (Rs90 bn annualized). Pre-synergy starting point on EBITDA for the combined entity is unlikely to be in the positive zone at such revenue levels.

Jio's gross interconnect bill - Rs15 bn for 4QFY17?

Jio reported GR of Rs3.2 bn for 4QFY17. AGR (GR less interconnect payouts less other deductions) was a negative Rs11.8 bn. Gross revenue figure suggests that Jio clearly did not include the Prime membership upfront payment (Rs99/sub, collected in the month of March from 72 mn subs) as part of reported GR; this alone would have meant GR of Rs7.13 bn.

Now, if we were to assume that the gross revenues reported by Jio essentially reflect interconnect revenues from other operators (for off-net incoming minutes into Jio's network), the Rs3.2 bn gross revenues reported by Jio suggest that the company saw roughly 23 bn off-net incoming minutes in 4QFY17.

On the same lines, if one were to assume that the difference between GR and AGR (of Rs15 bn) were to reflect gross interconnect costs (payout to other operators for off-net outgoing minutes originating from Jio's network) for Jio, this would imply that Jio carried nearly 107 bn off-net outgoing minutes in 4QFY17.

Computation above on off-net incoming and outgoing volumes looks just right in light of Jio's own reported metric of 2 bn total voice minutes per day. Off-net minutes (incoming + outgoing) computed by us above sum up to 130 bn minutes for 4QFY17 or 1.44 bn minutes per day; the balance 0.56 bn minutes per day could be on-net Jio-to-Jio minutes.

Important takeaway from this is that Jio's gross 4QFY17 annualized interconnect cost works out to Rs60 bn. We note that our R-Jio model bakes in an interconnect cost of Rs29.2 bn and Rs47.6 bn for FY2018E and FY2019E, respectively. While Jio's absolute interconnect costs will likely trend down in FY2018E as on-net share of voice traffic rises, the starting point (Rs60 bn annualized) is a tad higher than what we would have anticipated. We note that a similar math for 3QFY17 suggests - (1) interconnect revenues (= GR) of Rs1.3 bn, (2) interconnect payout (= GR less AGR) of Rs4.71 bn, and (3) outgoing off-net minutes base of 33.6 bn and incoming off-net minutes base of 9.2 bn.

Market share movements - Idea and BSNL the big gainers on AGR market share; Aircel, RCOM and TTSL the key losers

Idea and BSNL stand out as AGR market share gainers in the period since Jio launch with Idea gaining 109 bps (to 20.7%) and BSNL/MTNL gaining 100 bps (to 6.7%). As discussed earlier, the last two quarters have seen a wide variation in GR and AGR performance across operators. At a GR level, Idea has gained just 23 bps while BSNL has gained 33 bps. On similar lines, Bharti and Vodafone gained 115 bps and 48 bps respectively on a GR basis but their AGR market share was broadly flat. Top-3 players' GR market share and AGR market share stood at 77.1% and 77.8% respectively for 4QFY17, a gain of nearly 300 bps each on a yoy basis. Ex-Jio consolidation theme continues to gain momentum.

Source : Equity Bulls

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