Source: The Hitavada      Date: 26 Mar 2017 09:28:38

THE Idea Cellular board approved the merger of Vodafone India Ltd along with its subsidiary Vodafone Mobile Services Ltd with Idea Cellular Ltd to create the largest wireless telecom company in India with a revenue market share of 41%. The deal will not include Vodafones Indus tower stake of 42%, but will include Ideas 11.15% stake in Indus. As per the agreements, Ideas promoters will buy 4.9% in the combined entity at Rs 110 per share in cash, translating into Idea Cellular promoter holding of 26%; Vodafone group will hold 45.1% and Ideas other shareholders will own the remaining 28.9%. The NPV of synergy benefits is estimated to be about Rs 700bn with operating costs accounting for 60% of the expected savings. With a merger of such a huge scale in the Indian telecom industry underway, the long-term consolidation benefits are immense and are more likely to exceed expectations. While short-term challenges will continue to be high, improving industry structure will help valuations persist at elevated levels.

Our key takeaways on the merger and conference call are as follows: The combined entity will have 40.7% RMS. It will be either a #1 or #2 operator in 21/22 circles. It will be a market leader in 12 circles. In all circles except for J&K, the combined entity will have a market share of more than 20% which will make all its circles profitable; The combined company will have sufficient spectrum to compete effectively with the other major operators in the market. It would hold 1,850 MHz, including 1,645 MHz of liberalised spectrum acquired through auctions. As the entity will combine spectrum holdings, the amount of spectrum needed for voice will reduce to 400MHz from 600MHz freeing 200MHz, which will be used for wireless broadband thus reducing both opex and capex requirements; It will be capable of building substantial mobile data capacity, utilising the largest broadband spectrum portfolio in India at 34 3G and 129 4G carriers.

The combined entity will be capable of enhancing capacity by ~25x from current levels; Vodafone India’s strong presence in metro circles and Idea’s leadership in semi-urban and rural telecom markets will allow for nationwide leadership within Indian M&A guidelines. In circles where both Idea and Vodafone India currently have a limited presence, the combined entity will become the leading challenger with the scale to compete more effectively and enhance consumer choice; Until the merger is approved, both entities will operate independently. Capex for Idea in FY17 will be lower than FY16; Duplication of assets -- the combined entity will have 2,75,000 sites out of which nearly 20% are overlapping, which will be used to increase capacity. Similarly, the combined entity will have 190K broadband sites out of which 20-25% are duplications, so the equipment will be redeployed to increase coverage; Not looking at buying spectrum in 700MHz band as of now; have enough broadband carriers.

Upgrade to BUY: The big merger comes with even bigger synergy benefits, which the market has not factored into the current price. Even though synergies will take time to evolve, the industry profitability and return ratios are set to improve in the long term, which will provide a boost to valuations. We maintain our constructive stance on the sector and Idea Cellular. Also, considering the better-than-expected synergies, favourable deal structure and significant upside, we upgrade the stock to BUY.