RCVL listing will test valuations

MUMBAI: Anil Ambani’s Reliance Communication Ventures Ltd (RCVL), the second-largest player in the Indian mobile telephony space, will list on the stock exchanges on Monday (today).

What makes the RCVL listing special is that it would be only the second company after Bharti to give investors an exposure to the booming mobile phone market, excluding the two-city MTNL or the one-state Tata Teleservices (Maharashtra) Ltd.

RCVL brings with it a pan-India presence, spread across nearly 4,500 towns, and a total subscriber base of 15.55 million subscribers. 

Of these, 13.82 million subscribers, or about 89%, come from its CDMA technology- based service run by Reliance Infocomm. The balance 1.73 million mobile subscribers are on GSM technology run by Reliance Telecom.

In comparison, Bharti currently has a subscriber base of 17.37 million and BSNL has a base of 15.37 million subscribers, making RCVL a strong second player in the mobile telephony space with close to a 20% market share. Within the CDMA segment, Reliance has a huge 77% share - with Tatas being the distant No 2.

RCVL listing will test valuations

Valuing RCVL

The company is a clear No 2 in the mobile telephony space. But it’s margins are way below that of market leader Bharti. Analysts say its share should be valued at not more than Rs 200

RCVL is the holding company of the two mobile companies and their subsidiaries, as well as Reliance Communications Infrastructure, which offers telecommunication infrastructure services to other telecom service providers.

Besides, apart from the mobile phone business, Reliance Infocomm is also in the fixed-wireless, enterprise broadband, PCO, national and international long-distance (NLD, ILD), and other telecom-enabled businesses. Thus, investors in RCVL benefit from the fortunes of all these businesses.

The problem is RCVL does not own these companies entirely. Its stake in Reliance Infocomm stands at 65.9%, while in Reliance Telecom its ownership is just 35.6%. In Reliance Communications Infrastructure, its holding is 45%.

Thus, unlike Bharti, whose investors benefit from the returns made by the company in total (of course, in proportion to their shareholding), RCVL investors will benefit only to the extent of the stake owned by RCVL in the respective operating companies.

For perspective, the consolidated revenues of the three operating companies stood at Rs 8,654 crore in the nine-month period ended December, 2005. This is actually higher than Bharti’s revenues of Rs 8,252 crore for the same period.

But adjusted for the stake RCVL does not own in each of the operating companies (minority stake), its revenues would be nearly 40% lower at Rs 5,275 crore. Investors need to keep this in mind before getting too excited about the consolidated results or the company’s huge subscriber base.

Also (and this is equally important), investors need to note that the profit margins of Reliance’s telecom businesses are much lower than that of Bharti Telemeters. Based on the numbers attributable to RCVL, that is the results adjusted for minority interests, the company’s EBITDA (earnings before interest, tax, depreciation and amortisation) margin was 16% in the nine-month period ended December, 2005.

Bharti’s margins are much higher at 37%. Optimists point out that RCVL’s margins have been improving by the quarter and were much higher at around 25% in the quarter ended December.

However, the jump in profit margin has been too sharp and too soon (10.6 and 8.4 percentage points in the past two quarters) to just assume that the trend is sustainable. It’s safer to assume that the average for the nine-month period is a truer reflection of the company’s profitability levels.

These comparisons with Bharti are important since it is the only benchmark available to value RCVL. Based on the nine-month results, RCVL’s EBITDA is 72% lower than that of Bharti, but analysts are talking of a 20-30% discount to Bharti’s valuations for RCVL.

More importantly, the Bharti stock itself gets a rather steep valuation of 20 times trailing EBITDA, so it may not be the right benchmark after all. Bharti’s wireless business is being valued at $725 per subscriber, more than 50% higher than what most deals in the telecom space have been done at.

Hutch shares were recently exchanged at a valuation of about $530 per subscriber. Given these concerns, some analysts have put the value of RCVL’s share price below Rs 200 per share, but according to consensus estimates, the share is likely to list at Rs 250 per share.

While it’s likely that the listing price would be in line with consensus estimates, it needs to be noted that at Rs 250 per share, RCVL would get a valuation of 29 times trailing EBITDA, and earnings would have to double next year to keep pace with Bharti’s 2006-07 valuation of 14 times EBITDA, leave alone trade at a discount. True, most shares are now pricey, but telecom shares seem to be the priciest of them all.