Security Analysis and Business Valuation

Telecom Sector Bharti Airtel

Ver 1.0, Dated 06-June-2012

Project team Group 4

Manish Bhasin Aryadipta Dash Prince Yadav Yogesh Yadav Samdarsh Nayar

Guided by:
Professor Vivek Bhatia

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Acknowledgement
This project is done purely with an objective of enhancing the learning by leveraging the concepts taught in classroom teaching. We thank professor for guiding on the topic and necessary support to do this study project.

Project Team

DISCLAIMER Many of the inputs here are taken from internet sources (secondary data) which may not be accurate. Any further use of this report needs to be carefully validated by person using it.

Table of Contents
Acknowledgement ........................................................................................................................................ 3 1. Economic Analysis ..................................................................................................................................... 6 1.1 World Economy................................................................................................................................... 6 1.2 Indian Economy................................................................................................................................... 6 1.2.1 Inflation and Interest Rate Scenario ............................................................................................ 7 1.2.2 Political environment/Economic Reforms ................................................................................... 8 1.3 African Economy ..................................................................................................................................... 8 2. Industry Analysis ....................................................................................................................................... 9 2.1 Indian Telecom Sector ........................................................................................................................ 9 2.2 Regulatory Environment ..................................................................................................................... 9 2.3 Porters five forces ............................................................................................................................ 10 2.3.1 Bargaining Power of Buyers ........................................................................................................... 10 2.3.2 Bargaining Power of Suppliers ....................................................................................................... 10 2.3.3 Threat of New Entrants .................................................................................................................. 11 2.3.4 Threat of Substitutes...................................................................................................................... 11 2.3.5 Rivalry among competitors ............................................................................................................ 11 2.4 Expected industry returns ................................................................................................................. 11 2.5 African Telecom Sector ..................................................................................................................... 12 3. Company Analysis ................................................................................................................................... 13 3.1 Business Divisions ............................................................................................................................. 13 3.1.1 India and South Asia................................................................................................................... 13 3.1.2 Africa .......................................................................................................................................... 14 3.1.3 Partners ...................................................................................................................................... 14 3.2 Subsidiary Companies ....................................................................................................................... 14 3.3 Firm SWOT ........................................................................................................................................ 15 Strength .................................................................................................................................................. 15 Weakness ................................................................................................................................................ 15 Opportunity............................................................................................................................................. 15 Threat ...................................................................................................................................................... 15 4. Valuation ................................................................................................................................................. 16 5 Bibliography ............................................................................................................................................. 17

1. Economic Analysis
1.1 World Economy
After almost four years of financial turmoil and instability in the global financial environment, just when the world economy looked to be gaining a measure of stability and confidence, the situation looks to be shaky once again with problems in the Euro-zone. The IMF projects that the global economic growth will decline from 4% in 2011 to 3.5% in 2012, before picking up to 4% in 2013. The Euro zone shows sign of slipping into a recession again, though that is expected to be offset by around 2% growth in the US and 6% in the emerging and developing economies. The economies of Africa, particularly sub-Saharan Africa, are demonstrating structural improvement. Japan is on the road to normalcy after the twin disasters of the tsunami and the Fukushima nuclear reactor accident. The global supply chains, disrupted by the disasters in Japan and the floods in Thailand, have been restored. The financial condition of the large global corporations is extremely strong, and their cash holdings at an all-time high. The worst-case scenarios for the global economy have not come to pass. That, in no small measure, is due to the unprecedented stimulus provided by governments and central banks. Europe has also reached a degree of consensus on fiscal reforms. The ECB has also put in place firewalls to ward off a widespread economic contagion. Clearly, the road ahead is not yet smooth. The bond, inter-bank and sovereign debt markets in Europe remain jittery. The process of financial deleveraging still has a long way to go. Oil prices remain stubbornly high. Unemployment is proving extremely sticky and concerns about inequality are growing. A major worry is the political gridlock in many major countries, that makes it difficult to strike the right trade-offs between growth and fiscal and monetary restraint

1.2 Indian Economy

The Indian economy was quick off the mark in recovering after the 2008 shocks. But the growth momentum has slowed considerably over the past year. GDP growth in the third quarter of FY 2011-12 was 6.1%, down from 8.3% in the corresponding quarter of FY 2010-11. Some of the key indicators are bearish. Gross fixed capital formation has contracted in recent months. Growth in industrial production in the April 2011-February 2012 period slid to 3.5%, compared to 8.1% during the same period last year. Inflation, particularly in food items, remains high. There have been major slippages on the fiscal side. The current account deficit, in the April-December 2011 period widened to 4.0% of GDP, a clear warning sign. On a trade-weighted basis the Rupee depreciated around 8% in the past year. Given the slippage in growth, RBIs decision to ease monetary policy was timely. Even so monetary policy will not be effective unless it is supported by fiscal restraint. Indias economy is poised delicately. The extended pause in reforms, together with some recent retrograde policy moves, have clouded business sentiment

1.2.1 Inflation and Interest Rate Scenario

Inflation figures and projections paint a mixed picture. RBI report on Macroeconomic and monetary developments (dated Apr 16, 2012) suggests that Inflation in India is likely to remain high, at around the 7% mark, particularly due to high oil prices, sharp rupee depreciation and higher freight rates and taxes (hike in excise duty to 12 per cent from 10 per cent). As per the RBI's "current assessment", Indian basket crude oil prices during the year could average around the current levels of about USD 120 per barrel but both upside and downside risks to this projection remain large. India imports about 80 per cent of its crude oil requirements. The central bank said demand moderation, reflected in the dampening of the pricing power of producers, has also played a role in moderating inflation in the last one year. Although inflation has eased considerably as compared to last couple of years, there are significant upside risks and the current and projected levels still do not permit.

The Reserve Bank cut the repo rate (its main policy rate) for the first time in nearly three years in April 2012 by a steeper-than-expected 50 basis points to 8 %. At the time, the central bank warned that further rate cuts could be difficult because of persistent threats to inflation from food and fuel priceany significant easing of monetary policy to boost growth in the economy. However India's economic growth rate slipped to 5.3 per cent in the fourth quarter of 2011-12, the lowest in nearly nine years, following poor performance of the manufacturing and farm 7

sectors. Slowing growth has put pressure on RBI to reduce interest rates however, a rate cut, if it happens, however, is unlikely to kick-start economic growth all on its own and large economic reforms would be required to bring back India on the high growth trajectory

1.2.2 Political environment/Economic Reforms

The slowing growth, high inflation, high fiscal deficit and the highest ever trade account deficit is raising a lot of concerns on the India growth story. The government is struggling to cope up with its coalition partners when it comes to bringing in reforms like FDI in multi-brand retail, insurance and finance sector reforms, GST etc. And the large number of scams un-earthed in the recent past has brought the entire government machinery and decision making to a complete halt. Policy paralysis is the term being used for future plans not getting approved to bring growth back on track, improve infrastructure and implement welfare policies. Indian markets have been the worst performers amongst all big emerging economies which is clearly a warning sign and suggests that there are internal issues that have to be dealt with and not just an offshoot of the global economic turmoil.

1.3 African Economy

Owing to the high growth potential shown by African economies (even though they may not have reached the level of BRIC countries in terms of growth), for the sake of this valuation exercise, the growth rate has been assumed to be same as the growth rate in the Indian market.

2. Industry Analysis
2.1 Indian Telecom Sector
The telecom sector, undeniably plays a critical role in the economic growth of the country and in its journey towards inclusive growth. Even as the sectors direct contribution is just around 2% to 2.5% of GDP, the manner in which it impacts the lives of over 919 million Indians, is beyond quantification. Regrettably, the sector is going through a phase of uncertain regulatory environment, post the cancellation of licenses by the Honble Supreme Court in February 2012, which were awarded in 2008. Furthermore, the proposed policy changes towards spectrum auctioning, pricing and re-farming, by the regulator, bode ill for the sector. As per Telecom Regulatory Authority of India (TRAI) data, the total telecom subscribers in India (GSM + CDMA + Wire-line) at the end of March 2012 rose by 7.85 mn subscribers to 951.34 mn as compared to February 2012. The total wireless subscriber base (GSM + CDMA) in the metros and 'A' circle as at the end of March 2012 stood at 427.78 mn as compared to 425.21 mn during February 2012, while the total subscriber base in the 'B' and 'C' category circles stood at 372.26 mn and 119.13 mn respectively, up 3.75 mn M-o-M and 1.69 mn M-o-M respectively. As per the TRAI's data, India's total tele-density increased to 78.66% at the end of March 2012. as against 78.10% as at the end of February 2012, while the wireless tele density in the country as at the end of March 2012 rose to 76%, as against 75.42% at the end of February 2012. The urban wireless tele-density increased to 162.82%, while the rural wireless tele-density at the end of March 2012 increased to 38.33%. As per the TRAI's report, the number of actual active subscribers, based on the Visitor Location Register (VLR) at the end of March 2012, was 683.02 mn, as against the total wireless subscriber base as on that date of 919.17 mn. Broadband subscriber base increased marginally from 13.54 mn in February 2012 to 13.79 mn in March 2012.

2.2 Regulatory Environment

Supreme Court order on quashing of licenses granted in January 2008 The Honble Supreme Court, vide its judgment dated February 02, 2012 quashed the Press Release dated January 10, 2008 issued by DoT and consequent grant of licenses and allocation of related spectrum. This directive which was originally to have come into effect after four months from February 02, 2012 has now been further extended till September 07, 2012. The Supreme Court has also directed TRAI to give fresh recommendations for grant of license and allocation of spectrum in 2G band in 22 Service Areas, as was done for 3G band, by auction by August 31, 2012. Press Statement by Telecom Minister on Telecom Policy The Telecom Minister released a press statement on February 15, 2012. The statement noted that Recommendations of TRAI on Spectrum Management and Licensing Framework of May 11, 2010 along with its further recommendations of February 08, 2011, clarification of May 03, 2011 and response dated November 03, 2011 were considered by the Telecom Commission. Key highlights of the statement are All future licenses will be Unified Licenses and spectrum will be delinked from the license.

 Uniform license fee across all telecom licenses and service areas which will progressively be made equal to 8% of the Adjusted Gross Revenue (AGR) in two yearly steps starting from 201213, subject to a minimum presumptive AGR. To bring IP-I Service Providers under licensing regime. Validity of existing UAS, CMTS and Basic services licenses may be extended for another 10 years at one time. On extension, the UAS licensee will be required to pay a fee of ` 2 crore for Metro and A Circles, ` 1 crore for B circles and ` 0.5 crore for C circles. Need for re-farming of spectrum is accepted in-principle. Prescribed limit of spectrum assigned will be 2X8MHz/ 2X5MHz for GSM/CDMA technologies respectively for all service areas other than in Delhi and Mumbai where it will be 2X10MHz / 2X6.25 MHz. Intra-service area merger of CMTS/UAS licenses will be allowed if the market share by both subscriber base and Adjusted Gross Revenue of the resultant entity is upto 35%. If it is above 35% & upto 60%, transparent criteria will be prescribed/adopted after receipt of TRAIs recommendations. The total spectrum held by the resultant entity shall not exceed 25% of the spectrum assigned, by way of auction or otherwise. Sharing of 2G spectrum (800/900/1800 MHz bands) will be permitted between two spectrum holders in the same service area, with the prior permission of the licensor, for a period of 5 years and can be renewed for a further one term of five years, on terms to be prescribed. Spectrum usage charges will be levied on both the operators individually but on the total spectrum held by both the operators together. Spectrum sharing will not be permitted among licensees having 3G spectrum.

2.3 Porters five forces 2.3.1 Bargaining Power of Buyers

- Many players in the market offering almost similar services. Lack of service differentiation among service providers allows the buyers to choose among different competitors - Mobile number portability provides almost 0 switching cost giving immense power to the buyer - Highly competitive pricing. To increase usage of existing infrastructure, spectrum, licenses etc, companies are wooing customers with attractive price points to take advantage of high price sensitivity of the customer, especially in non-Metro locations.

2.3.2 Bargaining Power of Suppliers

- A number of competitors vying to supply equipment and network management services to the Telecom operators (e.g. Nokia-Siemens, Ericsson, Alcatel Lucent, Motorola, Cisco and so on) - Emergence of Chinese vendors has worsened the competition among suppliers leading to lower price points and competitive offerings.
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An ecosystem exists for sharing of Tower infrastructure among different operators. Codependence. 10

- Medium cost of switching as changing h/w infrastructure can impact deployment architecture.

2.3.3 Threat of New Entrants

- Strong entry barriers. High infrastructure cost and License Cost. Though some arrangements of

spectrum sharing now coming into place - Strong brand pull of existing players like Vodafone, Airtel and Idea makes it difficult for new players to gain a firm footing easily. - New connection cost is low and also number portability provides almost 0 switching cost. New players could make use of this to gain subscribers by throwing attractive offers. - Stringent Govt Policy for Spectrum and License allocation

2.3.4 Threat of Substitutes

- No major threat from any substitutes (like Satellite phone). - Upgrade of technology is a concern though like 2G-> 3G -> 4G

2.3.5 Rivalry among competitors

- Hyper-competition, especially in the wireless market to gain customer share. Price wars and competing for new and better services - Huge Exit Barriers - 5-6 players in each region, with big players present in majority of region. - Innovations are replicated fast and all use network elements from fixed vendors

2.4 Expected industry returns

After the spectacular performance for more than a decade, subscriber growth has been shrinking in the last few months, with net subscriber addition declining from 23 million in November 2010 to just 3 million in November 2011. Researchers believe (CARE research) that subscriber growth will be sluggish in the next couple of years, due to factors like saturation in urban areas, expected rise in tariff, increased uncertainty in the sector leading to reduced expansion plans by the operators etc. With the uncertainty surrounding the cancellation of 122 licences by the Supreme Court, it is believed that tariffs will reverse the trend inching-up marginally and as a result Average Revenue per User (ARPU) will see a marginal improvement over the next 2-3 years. Overall, the sector will see marginal improvement in operating profitability in the next 2-3 years The Indian wireless subscriber base was growing at the rate of 40-45% per annum till 2011-12 happened. And with the global and local factors likely to persist for a couple of years, the growth is 11

likely to remain stagnant for 2 more years before a possible bounce-back. But it is still unlikely that the growth of 40-50% can be achieved and our estimate is a modest 10-20 % for the next 5 years and a stable 6.5% thereafter (Please see attached excelsheet in next chapter for details)

2.5 African Telecom Sector

Year 2011 continued to experience growth in African telecom market. The total customer base grew 17% over the 12-month period. The total telecom customer base stood at 205 Mn as at end of March 2011. Though a few countries have very high penetration, due to higher GDP per capita and relatively smaller population or multi sim environment, penetration in outer markets where the Company operates is still low. Of 16 African countries where Airtel operates, only 7 countries (Congo B, Gabon, Ghana, Kenya, Nigeria, Seychelles and Sierra Leone) have crossed 50% SIM penetration mark. The competitive intensity in each of the sixteen countries varies from 2 to 10 players. There have been no major competition launches during the year.

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3. Company Analysis
Business Description Bharti Airtel is one of the worlds leading providers of telecommunication services with presence in 19 countries including India & South Asia and Africa. The Company served an aggregate of 220.9 Mn customers as on March 31, 2011. The Company is the largest wireless service provider in India, based on the number of customers as of March 31, 2011. The Company offers an integrated suite of telecom solutions to its enterprise customers, in addition to providing long distance connectivity both nationally and internationally. The Company also offers Digital TV and IPTV Services. All these services are rendered under a unified brand airtel either directly or through subsidiary companies. The Company also deploys, owns and manages passive infrastructure pertaining to telecom operations under its subsidiary Bharti Infratel Limited. Bharti Infratel owns 42% of Indus Towers Limited. Bharti Infratel and Indus Towers are the largest passive infrastructure service providers for telecom services in India Listings Bombay Stock Exchange Limited (BSE) National Stock Exchange of India Limited (NSE) Customer Base (status as on March 31, 2012) India & South Asia: - 188,008,000 GSM mobile - 3,270,000 Telemedia customers and - 7,228,000 Digital TV Services Africa: 53,140,000 GSM mobile customers.

3.1 Business Divisions

3.1.1 India and South Asia

The operations of Bharti Airtel in India and South Asia are divided into two distinct Customer Business Units (CBU) with clear focus on B2C (Business to Customer) and B2B (Business to Business) segments. The B2C organization consists of Consumer Business and Market Operations. The B2B business unit focuses on serving large corporates and carriers through Bharti Airtels wide portfolio of telecommunication solutions B2C Services Mobile Services (India & South Asia): They offer mobile services using GSM technology in South East Asia across India, Sri Lanka and Bangladesh, serving a total of 188 million customers in these geographies. Digital TV Services Airtel digital TV has 7.2 million customers on its Direct-To-Home (DTH) platform. They also offer High Definition (HD) Set Top Boxes and Digital TV Recorders with 3D capabilities delivering superior customer experience.

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B2B Services Airtel Business Airtel Enterprise Services has recently changed its identity to airtel business. Airtel business offers wide portfolio of services that include voice, data, network integration, data center & managed services, enterprise mobile applications and digital media. It is Indias leading and most trusted provider of communication and ICT services to large Enterprise, Government, Small & Medium businesses and carrier customers. Passive Infrastructure Services Bharti Infratel provides passive infrastructure services on a non-discriminatory basis to all telecom operators in India. It deploys, owns and manages passive infrastructure in 11 circles of India. Bharti Infratel also holds 42% share in Indus Towers (a Joint Venture between Bharti Infratel, Vodafone and Idea Cellular). Indus Towers operates in 15 circles (4 circles common with Bharti Infratel, 11 circles on exclusive basis).
3.1.2 Africa

Mobile Services They offer mobile services in 17 countries across Africa, namely: Nigeria, Burkina Faso, Chad, Congo B, Democratic Republic of Congo, Gabon, Madagascar, Niger, Ghana, Kenya, Malawi, Seychelles, Sierra Leone, Tanzania, Uganda, Zambia and Rwanda. This makes Airtels footprint across Africa, the largest amongst all telecommunication service providers in the continent. They continue to grow as the most loved brand and currently serve 53.1 million customers across these geographies. They offer wide range of services to like postpaid and pre-paid, roaming, One-Network, Airtel Money, internet services, content, media & entertainment and other non-voice services. They have accelerated the rollout of 3G services by launching the services in 5 more countries this quarter; namely, Ghana, Sierra Leone, Kenya, Nigeria and Tanzania. The company is now offering 3G services in 7 countries.
3.1.3 Partners

Strategic Equity Partners - They have a strategic alliance with SingTel, which has enabled them to further enhance and expand Their telecommunications networks in India to provide quality service to Their customers. The investment made by SingTel in Bharti is one of their largest investments made in the world outside Singapore. Equipment and Technology Partners - They have long term strategic partnerships in all areas including network equipment, information technology and call center technology building upon the unique outsourcing business models They pioneered. Their business models have enabled them to partner with global leaders who share Their drive for co-creating innovative and tailormade solutions for the markets They operate in. For 2G/2.5G & 3G network equipments, They have partnered with Ericsson, Nokia Siemens Networks (NSN) and Huawei for the markets in India, Africa, Sri Lanka and Bangladesh.

3.2 Subsidiary Companies

As on March 31, 2011, Bharti Airtel has 113 subsidiary companies, in different countries across the globe. These subsidiaries can be broadly classified into the following categories - Telecommunication Service Companies - Infrastructure Sharing companies - Mobile commerce service companies - DTH services - Investment companies

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3.3 Firm SWOT Strength

Operations in 23 circle in country. Maximum subscriber base way ahead of competitors Highest no of towers by Airtel making it easier to launch 3G/4G services using the same passive infrastructure making it cost competitive Strong brand pull Strategic partnership (e.g. with SingTel that enables it to expand rapidly and get investment) and others like technology, networks and infrastructure partnerships Quick to introduce technologies like 3G and Airtel Money and gaining first mover advantage

Weakness
Still majority of revenue from domestic market, need to globalize more

Opportunity
Large untapped landscape Huge scope for growth in Rural India as well as Africa New technologies like 3G/4G opening up new avenues for growth using VAS Indian telecom industry is one of the fastest growing telecom market in the world and Airtel is already market leader. Positioned for growth

Threat
Regulatory environment Increased competition may reduce market share and/or revenue 2G spectrum re-allocation Change in Govt policy on FDI in telecom sector, may allow big global players to enter Indian market. Number portability has enable competitors to switch customers at low cost.

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4. Valuation
Valuation_Airtel.xlsx

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5 Bibliography
1. 2. 3. 4. 5. 6. 7. 8. 9. Bharti Airtel Annual Reports (2011, 2010, 2009, 2008, 2007) Bharti Airtel Quarterly Report (Q4 2012) Idea Cellular Annual Report (2012) Reliance Communications Quarterly Report (Q4 2012) www.moneycontrol.com www.nse.co.in
www.economictimes.com www.tradingeconomics.com

Investment Analysis and Portfolio Management Reilly and Brown, 8th edition

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