How Reliance Communications' Rs 45,000 cr debt can become an industry-wide disease

The threat of a loan default by billionaire Anil Ambani owned Reliance Communications has sent shock waves in the banking sector.

Company stock has lost around 40% of its value over the past two weeks and its market cap dropped by Rs 3,200 crore with many institutional investors reducing, or even exiting, their stake in the company.

The debt mess

The company, with close to Rs 45,000 crore worth of debt on its books, has failed to service debt of more than 10 lenders, according to media reports. The company's management, however, has assured the lenders of servicing loans to the tune of Rs 25,000 crore by September this year.

But for that to happen, the company must be able to complete its Rs 11,000 crore deal with Brookfield and, as told by the management to brokerage firm analysts, sell parcels of land in Delhi and Mumbai.

The assurances given by the management as well as talks of lenders looking at various options, including strategic debt restructuring (SDR), to resolve the company’s debt issue, has brought some confidence back in the stock price.

But trusting a debtor with negative cash flow, a declining user base and an increasing net debt is more of a compulsion than logic.

Reuters reported that RCom's cash flow from operations turned negative between January and March, while average revenue per user was down 8.4% from the previous quarter. The net debt rose 3.6% from the previous three months to Rs 44,345 crore. 

Moreover, the company functions where the largest players (Airtel) reported its lowest quarterly profit in four years, while the third largest (Idea) incurred a consolidated net loss of Rs 326 crore in the same period.

Cash burners

The Indian telecom sector is witnessing intense competition on the back of unsustainable freebies offered by all the incumbent players. The entry of Reliance Jio (owned by Anil's elder brother Mukesh Ambani) in the telecom sector in September 2016 with free unlimited data and voice call plans made the sector financially unviable for pure telecom players.

Airtel and Vodafone had questioned the validity of Jio's free trial plan that lasted six months and helped the company create a subscriber base of over 100 milion within just 170 days of the launch.

But the telecom regulator thought otherwise.

By the way telecom sector companies are offering freebies today, they are fighting a war of attrition which can be sustained only on the back of a parent company pumping in cash to be burnt until the opponent wears out.

Reliance Jio's cash cow is its oil and gas business, which generates cash equivalents of Rs 77,226 crore in FY 2016-17.

To counter this, Aditya Birla group (owner of Idea cellular) merged Aditya Birla Nuvo into Grasim, a move that would provide the much needed cash flow into the telecom business.

The spectrum war

If the freebies war was not enough between the operators, the costly spectrum war, too played its role in making companies bleed in 2016.

Moody's Investors Service in October 2016 said high-cost of spectrum acquisitions by telecom companies was credit negative as debt levels of their already stretched balance sheets will rise further.

In the 4G spectrum auction, Airtel, Vodafone and Idea spent Rs 14,244 crore, Rs 20,280 crore and Rs 12,798 crore respectively, according to an Economic Times report. Cash rich Jio, spent Rs 13,672 crore to purchase 4G spectrum.

A lesson

Competition is good for any sector as it helps consumers receive better and affordable services from the incumbent players.

But when it reaches a level where incumbent players start bleeding to death, the sector can soon become a duopoly, if not monopoly, allowing the remaining companies to form a cartel. Moreover, the default by the companies would only hurts the banking sector, which at the moment is also on the verge of a collapse. 

Therefore, it is the duty of the telecom regulator to ensure that the competition in the telecom sector is healthy, and not predatory.