Vodafone Idea: The Zombie Company With A Modi Put
Vodafone Idea Ltd.'s current state is a reminder of that grim Ajit joke from the movies. Where the mafia don tells his henchman to chuck a victim in a liquid oxygen tank. “Liquid use jeene nahin dega, aur oxygen use marne nahin dega.”
Events of the last week have put one of India's three remaining private sector telecom companies in a similar zombie-like state. Not quite dead. Not quite alive.
Even as it's about to suck up Rs 16,000 crore of taxpayer money (notionally).
Using the government lifeline extended in September, Vodafone Idea has decided to defer spectrum and AGR payments to the government by four years and to convert the interest dues in that period into equity...giving the government a 36.5% stake in the company.
In doing so, it has bought itself time...four years to raise capital and cashflow to stem the outflow of subscribers, invest in network infrastructure, become 5G enabled, service other debts and somehow be ready to start paying the spectrum, AGR principal amounts (in installments).
Just to be clear, here’s a check on the size of the problem.
Vodafone Idea’s AGR and spectrum dues as of September 2021 is $23 billion versus current market cap of $4.5 billion - Goldman Sachs.
So, can Vodafone Idea come back to life?
First it needs to stem the loss of subscribers. Since October 2018, the company has lost a third of its subscriber market share, falling from 36.5% to 23%, while Bharti Airtel Ltd. has maintained its share and Reliance Jio Infocomm Ltd. has expanded its.
Most analysts expect the bleeding will only moderate, not stop.
A more optimistic Jefferies note points to recent improvements in network quality, tariff hikes...and also to the noone-wants-to-poke-government-bear-syndrome.
Government being the biggest lender and equity holder in VIL, we expect Reliance Jio and Bharti Airtel to shift their focus away from market share gains towards market expansion. The coordinated 20% tariff hikes taken by all three operators signal this strategic shift, in our view.Jefferies - Jan. 11, 2022
Second, it needs to improve earnings. Luckily, the tariff tide has turned after a crippling price war unleashed by Reliance Jio in the past five years. The 20% price hike taken by all three companies in December, will push average revenue per user for the sector to a decadal high of Rs 163 in FY23, according to a Jefferies estimate.
There’s scope for ARPU to rise further to Rs 240 without any risks of down-trading, the brokerage says based on its analysis of ARPU/per capita GDP ratio for 45 countries.
But raising tariffs at a time of pandemic-hurt incomes may cure some Indians of their cheap data addiction. Also, rising tariffs will do little to help subscriber expansion in rural areas where teledensity is 60% versus urban India’s 135%. It may also prompt SIM consolidation among dual SIM users and shrink the market.
Hence, Airtel and Jio will prefer to tread carefully even though Vodafone needs to jump.
By FY27, when the spectrum and AGR principal payments begin, the company’s ARPU needs to more than double to Rs 330 for it to be free cash flow neutral, according to Goldman Sachs.
That’s unlikely to happen. What’s likely, according to Goldman, Kotak Institutional Equities and others, is another conversion of government dues to equity.
...we expect Vodafone Idea’s free cash flow to have an annual shortfall of more than $3 bn starting FY27, which could result in a significant further equity dilution as the government has the option of converting AGR and spectrum principal amount into equity at that point.Goldman Sachs - Jan. 12, 2022
Between this conversion and a potential one five years down, Vodafone Idea needs to find more cash. Large amounts of it.
So third, it needs promoters that believe in ‘no guts, no glory’.
See what the Mittals did at Bharti Airtel. Granted that telecom company is in much better financial shape. But, when faced with a large AGR bill, even before the government announced a rescue package, Bharti Airtel announced a Rs 21,000 crore fundraise via a rights issue (with call option) at a 10% discount to then market price. Both promoters SingTel and the Mittal family offered to buy any unsubscribed rights. That confidence and backing boosted the stock price despite the impending dilution.
In contrast, at Vodafone Idea, one promoter, Kumar Mangalam Birla has for two years spoken only of the company’s slim chances at survival. The other promoter, Vodafone Plc, seems to have had, between the tax and telecom policy vagaries, the worst case of Delhi Belly among foreign investors.
Neither looks keen to spend more.
Then who will?
At this rate nobody, writes Kotak.
Vodafone Idea’s decision to convert the cumulative interest on deferred liabilities into upfront equity exhibits the lack of confidence on proposed large capital raise in the near- term and potential significant improvement in its own cash flows in the medium-term.Kotak Institutional Equities - Jan. 12, 2022
What Vodafone Idea needs is for its promoters to cough up cash, invest in network and technology, hold on to subscribers and prune less-profitable parts of the business even while convincing banks, and eventually in four years the government, to restructure loans and convert as much of the dues into equity as possible.
Confidence is contagious. If the promoters show courage, investors may follow. After all, a business with a fifth of a telecom services market catering to over a billion people is not to be scoffed at.
Of course, this is all easier said than done. But timing is everything and Vodafone Idea has three important things going for it.
The general relief that the Indian telecom market will not be a duopoly. At least on paper it will not.
And yet, coordinated tariff hikes may go through unopposed as Vodafone Idea’s survival is at stake. Just for that, even Bharti Airtel and Reliance Jio would be rooting for the company's survival.
With Rs 16,000 crore of taxpayer money in the company, the Modi government can’t afford to let it fail. After all, it stood by and watched while the AGR circus played out in court and two of three remaining private sector telecom companies in the country were presented with bills they could scarcely afford. Then, it sought to make amends. Now it’s got to make the solution stick. That’s an at least two-year put.
Menaka Doshi is Managing Editor at BloombergQuint. (This seems to be her favourite Ajit joke.)