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Tenancy additions remains steady; upcoming renewals could pose a challenge

* Revenue/EBITDA grew by 1%/3%, led by the fifth quarter of healthy tenancies to 3.6k additions and lower OPEX.

* While net tenancies have improved, along with consistent lower exits over the last few quarters, reducing penalty receipts from VIL in FY23E, upcoming tenancy renewal in Mar’22, and weak liquidity position of VIL could pose an earnings risk. We estimate a consolidated FY21-23E EBITDA CAGR of 6.7%. We maintain our Neutral rating.

EBITDA up 3% QoQ (in line)

* Consolidated revenue grew marginally by 1.2% QoQ (in line) to INR68.7b. Rental/Energy revenue grew 1%/1.4% sequentially. Net tenancy (adjusted for an accounting change) remained healthy for the fifth quarter at 3.6k (v/s 2.9k in 1QFY22), with flat rental rates QoQ of INR42.8k/month.

* Consolidated EBITDA rose 3% QoQ to INR36.2b (in line), aided by a sharp drop in OPEX and a 1% growth in revenue.

* Rental EBITDA grew 2.1% QoQ to INR36.5b, aided by a decline in other expenditure (-37%) due to provision write backs. Adjusted for the oneoffs, EBITDA growth stood at 1.5%. Rental EBITDA margin improved by 90bp to 85.8% in 2QFY22. Operating loss in the Energy segment narrowed to INR282m v/s INR606m in 1QFY22.

* PBT/PAT rose 8.3%/10.1% QoQ to INR20.3b/INR15.6b (4.5%/7% beat) on the back of an improvement in other income.

* Capex stood at INR8.3b in 2QFY22 (v/s INR7.5b in 1QFY22).

* It added 2,465 towers in 2QFY22 (v/s 1,772 in 1QFY22) to 183,462. The company has a net debt of INR51.8b as of 30th Sep’21.

Highlights from the management commentary

* Opportunities: The management expects opportunities from overhead and underground fiberization and Smart City in non-Telecom segments.  Receivable days: It expects a speedy recovery to a steady state rate of 40-50 days in 2HFY22, aided by improved collections and the government’s relief package.

* Conversion to the Fixed Energy Margin (FEM) model: The management expects one out of two telcos to shift to the FEM model in 3QFY22. It expects an improvement in Energy margin with the shifting from pass through to the FEM model.

* Change in methodology: Reporting of towers and colocations changed to an actual exit basis from a notice basis, with effect from 1 st Jul’21. This led to a one time addition of 3,630 colocations on a closing basis.

Valuation and view

* Investment in network densification to match data growth and technology upgrade towards 5G, along with fiberization, small cells, and indoor coverage offer a good opportunity in the Telecom passive infrastructure industry. Recovery in tenancy additions and a reduction in exits have helped stabilize earnings.

* The passive infra industry earns a strong EBITDA margin, with a healthy Balance Sheet, despite VIL being under severe stress. Historically, this has not been any impact on tower companies due to the long term nature of contracts. But with the renewal of contracts in Mar’22, it could put pressure on tower companies. Increase in receivable days and completion of the exit receipt period too will impact earnings. With VIL not holding any stake in Indus Towers and availability of alternatives like RJio’s towers, it gives telcos a better bargaining power.

* Despite VIL receiving relief from the government in the form of a four-year payment moratorium, its situation remains precarious, with ballooning debt and its inability to raise funds, improve its liquidity, to spend on capex, and make non-government debt payments. This remains the biggest overhang on Indus Towers as VIL remains a large client, and its tower sharing business has limited business case for single tenancy operations.

* We factor in a revenue/EBITDA CAGR of 5.3%/6.7% over FY21-23E to arrive at our TP of INR285/share, implying an EV/tenancy of INR2.2m and EV/EBITDA of 6.3x. The stock garners a healthy dividend yield of 8.6% (FY21), which could cushion against a further downside. We maintain our Neutral rating.

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