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Bharti Airtel Limited:Results better than expected,Buy the 2

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Bharti Airtel Limited:Results better than expected,Buy the 2

2024s cheapest on the curve.

The announcement.

    Bharti’s bonds have performed well over the last month, tightening by 30-40bpvs. average tightening of 10-15bp for the rest of India IG. However, despite thiswe think there is still 15-20bps upside potential for Bharti with a view that itwill remain an IG credit. Over the past few quarters, it is becoming clearer thatRJio’s entrance has affected Bharti a lot less than peers. Further, Bharti hasbeen taking advantage of the intense competition to strengthen its competitiveposition in India with successive acquisitions at distressed prices, the latestbeing Tata Teleservices. At the same time it has also deftly managed itsbalance sheet with asset sales and contained its leverage.

    Tata Teleservices (TTSL) and Tata Teleservices Maharashtra’s (TTML) mobilebusinesses will merger into Bharti on a debt free & cash free basis. Bharti willonly acquire a “small” portion of the unpaid spectrum, but will get over 40million customers and Tata’s spectrum and fiber assets. Revenue and EBITDAof the target assets haven’t been disclosed and TTSL’s segmental accountsdon’t break down the mobile business separately. TTSL & TTML’s overallEBITDA was INR13.4 billion and INR7.1 billion respectively in FY17. It seemsthe transaction has been structured like some of Bharti’s past acquisitions,with access to assets & subscribers in return for some of the spectrum liability.

    Considering our view that Bharti remains IG, we compare Bharti to some of thesmaller BBB- names in India like UPL and Adani Ports and see that it stillprovides ~20bp pick up. We also note that the bonds are still trading over50bp wide to Reliance Industries when they traded flat to each other at thetights (2025s). While we don’t think they should trade flat now, given thestrong technicals in the space the spread should be much narrower, in ourview. On the curve, we think the 2024s look the cheapest on a G spread basis;hence, we maintain our Buy on them and maintain Hold on 2023s and 2025s.

    Small credit positive.

    Downside risks include a downgrade to HY or outlook change to negative, pickup in competition again, debt funded acquisitions / mergers, etc while upsiderisk is competitive pressures easing faster than expected.

    Despite lack of complete clarity, we see the deal as potentially a small creditpositive for Bharti. It will increase subscriber & revenue market share, and giveaccess to Tata’s spectrum and fiber assets. More importantly, this dealremoves another weaker player in the sector as we go through the final phaseof consolidation. Per Business Standard, the subscriber, revenue and spectrummarket share of the combined entity will increase to 27-28%, 40% and 28%respectively, and Bharti will assume INR15-20 billion in spectrum liabilities.

    Results.

    Tata’s margins will in all likelihood be lower than Bharti, but we think that canbe scaled up with better efficiencies. We note that past acquisitions likeTelenor India have been viewed favorably by the rating agencies.

    Q2 revenues were flat qoq at INR218 billion and EBITDA actually increased by2% to INR80 billion. Operating cash flows were lower qoq at INR45 billion dueto lower interest income and working capital outflows (vs inflows last quarter)and capex came in at INR52 billion, resulting in a negative free cash flow ofINR7 billion for the quarter before dividends. The company has increased itscapex plan from INR200 billion to INR250 billion for FY18 in order to accelerateits network rollout in India. Net debt (including spectrum liabilities and financeleases) increased from INR934 billion to INR968 billion, resulting in a slightincrease in net leverage from 2.98x to 3.05x (annualizing quarterly EBITDA).

    Other recent developments.

    Segment wise, India mobile operations were weaker qoq, with revenue andEBITDA declines of 5% each. However, strong performance by the Africanoperations offset this with revenue and EBITDA growing 22% and 24%respectively. As a result, India mobile’s EBITDA contribution has declined tojust 51%, a multi-year low. Within India mobile, subscriber growth was low at0.5% and ARPUs (-6%) continue to decline. Further, the 57% reduction of IUCcharges (currently 4% of consolidated EBITDA) from October will likelycontinue to put pressure on its results in the next quarter. Within Africa,subscribers grew by 2.4% and we have seen some stabilization in ARPUs ( 5%qoq).

    Economic Times reported earlier this week that Bharti Infratel may acquirebalance stake in Indus Towers and then a consortium of PE players will acquire40-45% stake in Infratel. We wouldn’t write much on this, given no officialannouncements, albeit just note that any sale of stake in Infratel by Bharti willbe credit positive. Separately, Bharti has partnered with a local handsetmanufacturer (Karbonn Mobiles) to compete Rjio’s feature phone offer, whichwe again see as a marginal positive – please see the note from our equitycolleagues for more details on this. Focus now shifts to 2Q results, whichshould be released towards the end of this month.

    Other important events/news.

    Maintain Buy on the 2024s.

    Bharti Infratel in its most recent board meeting has decided to exploreincreasing its stake in Indus Towers to majority or even 100%. However, at thesame time, Bharti has also stated that it is considering sale of a majority stakein Infratel to a group of global investors. If this were to go through, it would

    We have had a Buy on the 2023s & 2024s since early May when they weretrading around G 200bp. We then downgraded the 2025s to Sell on Sep 21,purely on valuation grounds as they were trading tighter than the 2023s &2024s. This anomaly has now corrected, with the 2025s (G 175bp) tradingwider than the 2023s (G 170bp). Hence, we upgrade them to Hold, while alsodowngrading the 2023s to Hold. Maintain Buy on the 2024s (G 185bp) thatare cheapest on the curve. We retain our view that Bharti should stay an IGcredit, in which case we see the fair value for 2024s around 150bp. Key upsiderisks are competitive pressures easing faster than expected, while downsiderisks include a downgrade to HY, debt funded acquisitions / mergers, etc.

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