In line with India Ratings & Research's (Ind-Ra) expectation, the incumbent operators Bharti Airtel, Idea Cellular and Vodafone India bid aggressively in the February 2014 telecom spectrum auction. This may impact the balance sheet leverage of these entities, which will be countered to an extent by the expected increase in data volumes and the likely sector consolidation over the short to medium term.
However, the immediate concern for the auction winners would be to identify an optimal funding mix to meet the upfront and subsequent amounts. Despite growing concerns within the banking sector to increase exposure to the telecom sector, the three incumbent operators along with Reliance Jio have existing balance sheet strength to raise these amounts from the domestic or global markets. However, the key would be to identify the right funding mix to optimize the cost of funds and long-term cash flows. This could have a bearing on their credits profile and long-term shareholder value.
Of the total auction receivables of R 611.62 billion due to the government of India, around 98% will come from Vodafone India, Bharti Airtel, Reliance Jio and Idea Cellular. The big three existing players account for around 81% of the auction receivables. While all the players concerned have a strong credit profile on a standalone basis, most of them also have the benefit of strong parents as majority or key shareholders.
The other existing players namely Uninor, Aircel and Reliance Communications account for the remaining 2% of the auction receivables.
About Rs 183 billion of the auction amount is due upfront, 25% for 900Mhz and 33% for 1,800Mhz. The successful auction participants have the option to pay the residual amount as 10 annual installments, post a moratorium of two years. However, an interest of 10% will be charged. A majority of the four large winners have a cost of debt below 10%. This consideration may prompt some of them to raise debt so as to pay the entire amount due at one go which may be beneficial from the long term cash flow generation perspective.
Two of the four players have detailed financial statements available in public domain. If these players decide to pay the entire auction amount upfront, their debt level may increase in the range of 25%-70%. However, equity funding from existing sponsors may also be an option which could reduce the extent of debt. On the contrary, if the players decide to pay only the upfront fees by way of debt, the immediate balance sheet debt would only increase by 8%-25%.This option may provide more elbow room to the corporates, however the residual dues to the government would remain an economic liability which still needs to be honoured.
The three large existing players have positive cash flow from operations. Thus, the amounts that will be due to the government post a moratorium of two years need not necessarily be funded by debt. However, the overall debt reduction may not also happen at the same pace unless benefits of data volumes and pricing power overweigh incremental cash outflow. Of course, the overall cash outflow under this scheme may be higher. This presents the players with a dilemma where they have to choose between an immediate rise in balance sheet debt or higher cash outflow.
According to regulations, the successful bidders may raise external commercial borrowings (ECB) for supporting the payments with respect to the telecom auction to the tune of USD 750 million per year. On a fully hedged basis, the overall interest rate differential between ECB loans and domestic loans may have reduced significantly than was the case in the past. However, given the credit profile of the big four players, the ECB option may continue to be cheaper than domestic funding. The ECB annual limit may be sufficient for Reliance Jio and Idea to meet the entire upfront payment requirement, whereas Bharti Airtel and Vodafone may be able to cover around 80% of the upfront payment requirement.
Among the big three existing players, a substantial number of non-metro circles would face license expiry during December 2015 to April 2016. A majority of the expired spectrum will in the operationally efficient 900Mhz spectrum. In the current round of auction, for a comparable circle the 900Mhz fetched prices that were 10x-14x higher than that in 1,800Mhz.
Players such as Bharti Airtel may be less motivated for aggressive bidding in the next rounds for 900Mhz (in non-metro), given the sufficient acquisition of 1,800Mhz in the current rounds. However, pan-India players, who were marginal participants in the recently concluded round of bidding, may experience a significant cash outflow if they are to maintain their current level of service coverage.
Ind-Ra expects at least some players, particularly the ones with strong parent or group support, to pay an amount higher than the upfront fees, with the objective of improving net cash flow.
