Why a merger makes sense for Idea

Idea Cellular’s proposed merger with Vodafone to create the country’s largest mobile operator comes as a shot in the arm for the Aditya Birla Group. The venture is a financial drain on group finances, with a steady rise in Idea’s indebtedness and declining profitability. Idea’s gross debt tripled in the last three years as it scrambled to acquire additional spectrum and roll-out services in new circles to compete with incumbents and Reliance Jio. 

The merged entity will gain access to cheaper overseas capital, thanks to Vodafone, allowing it to compete better with Jio, riding on its parent Reliance Industries’ ability to raise money abroad.

The merger will also reduce the Aditya Birla Group’s commitment to its cash-guzzling mobile venture, allowing it to make larger investments in the group’s cement and metal businesses.

Vodafone is the fifth largest mobile operator globally by revenue and the second largest by subscribers.

Vodafone’s annualised global revenue of Rs  4 lakh crore is nearly 10 times that of Idea’s.

“Not only will the combined entity become the industry leader, but also a strong competitor in the data market with 3G spectrum across India and the most 4G spectrum in the 1,800 MHz band,” said CLSA analysts Deepti Chaturvedi and Akshat Agarwal.

Idea has been in the race to emerge as a credible number three in India’s mobile telephony market by investing aggressively in spectrum and 4G services. In the last three years, the company invested nearly Rs 50,000 crore in acquiring new spectrum and fresh capital expenditure financed by a mix of fresh loans and share sale.  The result has been a sharp rise in Idea’s debt. Its gross debt jumped to Rs  41,500 crore at the end of March 2016 on a consolidated basis from a little over Rs  14,000 crore at the end of March 2013. During the period, its debt-equity ratio rose from 1 to 1.6.

The company's interest cost has raced ahead of revenue growth and profitability. Idea’s consolidated revenue was up 7.2 per cent, year on year, during July-September 2016, growing at its slowest pace in nearly a decade, while its net profit was down 88 per cent. This was largely due the company's recent acquisition of spectrum. Idea’s interest obligations more than tripled in the second quarter while depreciation charge grew 36 per cent. Analysts expect Idea will post its first quarterly loss on a net basis in the October-December 2016 quarter since its listing in 2006.

For the Aditya Birla group, Idea is now the second most indebted firm after Hindalco. Brokerages expect a gradual improvement in Hindalco's finances due to rise in international metal prices and plateauing of its capital expenditure cycle. 

The outlook on Idea remains uncertain due to continued price discounting by Jio. A sharp decline in Idea’s share price in the last 12 months has also made it tough for the company to raise fresh equity. The Idea share price is nearly 30 per cent below its 52-week high despite a 25 per cent rally on Monday.