Tuesday, October 6, 2009

Should Indian investors switch out of Telecom Sector stocks?

Indian investors have several choices about investing in the Telecom Sector. But should they use the correction in the telecom sector stocks to jump in or bail out? Let us have a look at the players.

There is the behemoth of fixed line services - MTNL, whose stock has promised much and delivered little. BSNL is yet to be listed, but its performance leaves a lot to be desired. Both had misused their earlier monopoly by taking customers for granted and providing atrocious services.

Now they are trying to hang on to reducing market shares in a shrinking market. Both joined the wireless services bandwagon late. Efforts to provide new-age services like broadband (mostly ADSL) and IPTV have been marred by poor technology, slow implementation and lack of a service orientation.

Then there are the myriad wireless service providers, of whom Bharti Airtel has been the clear leader and Reliance Communications (RCom) the follower. This is one area where the Tatas have not done well at all. The other players are fighting to reach critical mass.

The 'hockey-stick' style growth in mobile telephony is showing signs of maturity. While subscriber growth continues to be good, ARPUs (Average Revenues per User) have been steadily falling. Strict government regulations on spectrum allocations, geographical operations, equipment purchase, and high licence fees leave very little room for flexibility in operations.

The service has become commoditised - with every one offering similar call plans and rates. The industry is very capital intensive with low sales to asset ratio. A Rupee needs to be spent for every Rupee earned. Ongoing maintenance and upgradation of technology is a constant drain on resources. Trying to generate new revenue sources through satellite TV services have further added to costs.

The last straw seems to be the entry of new overseas competitors like Virgin and DoCoMo. With per-second billing rates likely to become the industry standard, ARPUs will drop faster. This will benefit consumers but not the service providers. EPS will take an immediate hit, and the stocks are already being derated.

Lastly, there are the fringe players. Handset, network and switching equipment manufacturers are mostly MNCs, unlisted in India. The odd MRO-Tek has been around for years without the stock doing anything remarkable.

The value-added software providers space looks interesting, but has small players. Subex is making losses. OnMobile has good pedigree but the stock is expensive. Geodesic and Tanla seem to be doing well, but it is difficult to assess if their business models are sustainable and scalable.

So, the short answer to the question is: Yes. Why not invest in sectors where growth is visible and the future is less ambiguous?

(Many readers may not agree with my bearish views about the Telecom sector. I would like to hear your counter arguments.)


SG Money Mind said...

Whether others agree or not, my view is "for" your argument.

Over the last one year, the deterioration of the economic characteristics of this industry is clearly visible if you look at the news reports objectively. But several people think that falling ARPU is a short term phenomenon which will turn back as the economy recovers. But I doubt that as I see the economic characteristics of the sector is taking exactly the same direction which the semi conductor industry took over the last one decade. Two months earlier, I made up my mind to move out of this sector before it turns worse, which may happen over several years.

The conclusion is, this will be one sector which will suck out more than what it gives back.

I have already moved out of this sector, except for few stocks of Geodesic which are on their way out soon.

S.Sujai Gangatharan said...

I think still room left for telecom sector stocks, because there are several things like internet penetration is very low in India comparing to the developed countries. The next target will be giving value added services to customers & catching potential customers who is ready to spend some little more for added advantages.

Bharath said...

I do agree with you Master :-) . I have 35+ stocks in my portfolio in range b/w 4-10k , but I dont have one telecom stock now. I am pretty sure if you watch the market ( I am telling about actual local bazaar market ), you can very well understand any further increase in users are not potenial money spenders and ever decreasing call rates , new players popping out every now and then. Well, telecom(mobile) sector will be under pressure. Going forward , markets will be for ones who captures Broadband market.

Bharti/BSNL/Tata is well placed in Broadband sector(though Govt is forcing providers to provide higher bandwidth at lower rates), while VSNL/BSNL/Bharti providing intercompany dedicated networks will increase in near future.

feltra (Raman R) said...

Subhankar ji,

When you are in the mood for it, could you please put down some thoughts on how to identify the "phase" of growth a sector currently is in? Such as "just starting", "in full bloom", "reached maturity" etc [These may not be the correct terms, but I hope you get the picture]...

I understand that such insight could / may differ from sector to sector, but still some general thoughts from you may help.

For example, I think IT is in a "mature stage" and growth from here onwards will be sedate. Whereas "water management" is a "just starting", "nascent" stage..

Thanks & Best Regards,

Subhankar said...

@SGMM: Any sector that has to spend a Rupee to generate a Rupee will have a problem eventually. That is why, a software products business beats a software services business or a hardware business any time. This is evident in IT, and will happen in telecom.

@Sujai: The telecom sector is definitely not 'dead', but the phenomenal growth phase is over. Hence, it should not receive high valuations.

Internet penetration will depend on infrastructure penetration. With basic infrastructure - like roads, electricity, water, sanitation, schools - missing in large areas of the country, I won't bank on 3G services to turn around the telecom sector's fortunes.

@Bharath: The falling ARPU's indicate that the new users being added aren't spending much. Why do you think Rs 10 and Rs 25 top-ups are being advertised?

I'm not convinced that broadband services will enrich the telecom companies a great deal in the near future.

@Raman: Mobile value added services (MVAS) can be a growth area in the future. But only if the service providers share more revenue with the MVAS providers.

Not too sure about water management. As long as water remains free for users, water management can't become a profit center.

Thanks for the suggestion of writing about new growth areas. That would require some research and may take a while. So please bear with me.