5G Spectrum Auction: Captive Networks Key Bone Of Contention, Say Analysts

The telecom department allowing enterprises to directly obtain spectrum to set up captive non-public networks is a key issue for the upcoming 5G spectrum auction, according to analysts.

The Department of Telecommunications has invited applications for the 5G spectrum auction that will be conducted by July-end, according to a government statement.

A total of 72,097.85 MHz of spectrum with a validity period of 20 years will be put to auction by the end of July. The auction will be held for spectrum in various low (600 MHz, 700 MHz, 800 MHz, 900 MHz, 1800 MHz, 2100 MHz, 2300 MHz), mid (3300 MHz) and high (26 GHz) frequency bands.

The brokerages also see higher reserve prices than those requested by the telecom firms and potentially greater debt for carriers as other challenges.

Shares of telecom stocks fell as spectrum prices remained undiscounted. Bharti Airtel Ltd. dropped as much as 3.9%, the most since May 19, while Vodafone Idea Ltd. fell 2.8%. Reliance Industries Ltd., the parent of Reliance Jio Infocomm Ltd., too, fell as much as 1.5%.

Here’s what brokerages made of the upcoming 5G auctions:

• The DoT has maintained TRAI’s recommended price across bands. The industry has been aggressively pitching for a drastic 80-90% cut in spectrum prices to proactively participate in 5G investments, unlike previous auctions.

• The DoT has also allowed enterprises to directly obtain spectrum from DoT for building CNPN, which could be a key bone of contention as it bypasses telecom companies, depriving them of playing the 5G-led enterprise solutions demand. The DoT plans to undertake demand study and TRAI recommendation, before issuing spectrum, but this could be detrimental to the key demand are of 5G i.e. enterprise solutions.

• With merely three players in the market, of which only two of them looking for serious investments, and the government’s plan to offer spectrum through an annual schedule, there seems limited need to invest at a high price.

• Yet, past experience underscores the risk of telecom companies engaging in heavy investments to match the competition. This could be a key overhang on stocks. Vodafone Idea Ltd. particularly could participate to some extent given the lower initial investment.

• Strong free cash flow for Bharti Airtel/Reliance Jio, and Bharti Airtel’s expected cash (uncalled right issue and Google equity infusion) is sufficient to meet its investments in 5G spectrum, without an increase in debt. But the risk of higher capex toward 5G does increase with the lack of a sharp fall in pricing.

• 5G all set to ring in the next round of technology upgrade; debt levels to increase with upcoming spectrum auctions.

• The operating and financial metrics of the telecom industry are on a consistently improving trajectory.

• The telecom companies implemented the tariff hikes, likely to expand the operating profits to around Rs 1.2-1.3 lakh crore in FY23.

• The industry is in a transition phase toward technology upgrade to 5G. ICRA expects the telecom companies to spend Rs 1.0-1.1 lakh crore in the upcoming auctions, likely to keep the debt levels elevated at Rs 5.7 lakh crore as on March 31, 2023.

• Sees two key issues—reserve prices being higher than that requested by telecom companies and enterprises being permitted to directly obtain spectrum to set up CNPNs.

• The latter a more concerning situation given that the 5G opportunity is a play on enterprise solutions rather than retail consumers; albeit the provision requires the DoT to complete demand studies and seek recommendations from TRAI for the same.

• Though reserve prices are higher than requested, telecom companies are expected to still partake in auctions and take up meaningful quantum of spectrum to enable the rollout of 5G services in India.

• The provision for enterprises remains a worry though given that the 5G opportunity is a play on enterprise solutions rather than retail consumers; the provisions are, however, not finalised yet given that DoT will have to carry out demand studies and seek recommendations from TRAI enabling enterprises to acquire spectrum directly. Cellular Operators Association of India has strongly opposed direct allocation of spectrum to enterprises.

• Notice had few incremental positives for telecom companies, including duration of right-to-use spectrum unchanged at 20 years which restricts total spectrum payouts; payment option eased with the introduction of 20 equal annual instalments; SUC reduced to nil for the upcoming spectrum auction which indirectly reduces the cost of acquiring spectrum; spectrum surrender norms issued without penalties; and allowed spectrum leasing for captive non-public network.

• The DoT has allowed enterprises to obtain spectrum directly to set up their own isolated network, which may concern a few; however, large enterprises will accelerate private network ecosystem and aid telecom companies’ enterprise business growth.

• Spectrum prices for key 3,300 MHz and 28GHz are same as TRAI recommendation. This implies telecom companies will spend Rs 31,700 crore for 100 MHz pan-India on 3,300 MHz band and Rs 3,500 crore for 500 MHz on 26 GHz band. This is broadly in-line with our estimates for Bharti and Reliance Jio.

• Spectrum validity has been kept at 20 years, similar to previous auctions but lower than the 30 years recommended by the government. Presumably, this was because telcos were not particularly keen for a longer tenure after TRAI recommended a proportionate increase in spectrum prices to adjust for higher spectrum validity.

• Despite no upfront payment requirements, we remain skeptical of Vodafone Idea's ability to meaningfully participate in the auctions as it would require immediate servicing (unlike 3.5 years of moratorium on the entire existing spectrum debt), which would be difficult given its stretched balance sheet and elusive equity fund raise.

• Direct spectrum allotment to enterprise could be negative for telcos' future 5G monetisation from enterprises even as its use cases are still being developed. Indeed, all the three telcos had publicly expressed strong views against direct spectrum allotment for captive private 5G networks.

• Given the operator's public statements, nascent 5G device penetration and limited use cases, we expect a more gradual 5G roll out by telcos over the next 2-3 years.

• Airtel (Outperform, TP: Rs 900) and Jio (Neutral, TP: Rs 2,510) are well positioned to participate in the upcoming 5G auctions while Vodafone Idea's (Underperform, TP: Rs 5.5) ability to effectively compete in 5G auctions is constrained due to its weak balance sheet. Remains constructive on Airtel as it remains a key beneficiary of the ARPU improvement, improved regulatory environment and organic market share gains.

• On Nomura’s estimates, the pan-India 100 MHz spectrum in 3,300 MHz band would entail Rs 2,800 crore annual spectrum outgo for 20 years.

• Telecom companies can also make full or part upfront payment to reduce the overall outlay on spectrum. Further, scrapping of the spectrum usage charge for future spectrum auctions could lead to Rs 3,000 crore in annual cost savings for Jio/Bharti and Rs 1,400 crore for Vi in the longer term at current annualized run-rate.

• With the shift in data traffic to 5G and further increase in wireless revenue, Nomura thinks 5G is likely to NPV positive with benefits of no spectrum usage charge on 5G spectrum, effectively offsetting the 5G spectrum outgo.

• Despite reserving 40 MHz in the 3,300 MHz band for public sector telecom companies, there is adequate spectrum (330 MHz) for the three operators, as the spectrum cap is set at 40% (or 130 MHz), which would limit the scope for aggressive bidding.

• Direct allocation of spectrum for CNPN has been a key bone of contention between telecom companies and enterprises. DoT will undertake demand studies and thereafter seek TRAI’s recommendation on direct allocation of spectrum to enterprises.

• With the cabinet approving a cut in reserve prices and relaxation in payment timelines and rollout obligations, we think 5G rollouts would commence in the second half of 2022. However, given the nascent 5G ecosystem and evolving use cases, we think 5G rollouts would likely be granular starting with metros and larger cities.

• With organic cash flow, ongoing rights issue, strategic stake sale, improved market structure in India wireless and easier 5G spectrum payment terms, Bharti (buy) remains well-placed to compete with Jio (unlisted) on 5G rollouts

• Despite the cabinet approval for no upfront payment and scrapping of financial bank guarantees, Vi (reduce) could restrict its bid for 5G spectrum to select circles, given its capex constraints, much delayed fund-raising and existing gaps in 4G coverage.

• Bharti and Reliance Jio’s market share gains could likely accelerate further at Vi’s expense and Indian telecom market could end up as a virtual duopoly. Bharti remains our preferred pick among listed Indian telecom companies.

• Don’t expect a bidding war as 330Mhz of the mid band spectrum of 3300MHz is available in every circle and an operator requires only 100Mhz for pan India roll out.

• Estimates annual cash outflow for telecom companies of Rs 28,400 crore if they choose the equal annual payment option over 20 years. To mitigate this impact, ARPUs would have to increase 3% for Bharti/Jio and 6% for Vi from our current ARPU estimates.

• There is no surprise in today's announcement and JPMorgan expects Bharti and Jio to participate. Telecom companies may be selective on the quantum this time given the likely demand supply imbalance and annual auctions.

• Telecom companies have usually bid more than expected so an upcycle in telco capex over FY24-25 could follow from substantial bidding in these auctions and is the key risk to watch for.

• Airtel remains our top ‘overweight’, while overweight-rated Indus Towers could benefit from successful 5G auctions.