Telecommunication services / India 3 June 2011

Reliance Communications
RCOM IN

Target price: Rs105.00 → Rs79.00 Up/downside: -15.9% Share price (1 Jun): Rs93.95

Accounting raises questions
• Disclosure over indefeasible rights of use raises questions • Lacklustre operational outlook; target price lowered by 25% • Despite the YTD pullback in the share price, the stock is still not worth revisiting

How do we justify our view?

Ramakrishna Maruvada

(65) 6499 6543 ramakrishna.maruvada@sg.daiwacm.com

Pratap Parimi

For example, there is no clarity on whether the cash payments for these contracts are paid fully in advance. Otherwise, there could be a mismatch between future revenue and cash flow, and this raises the question of what happens in the event of a customer default. RCOM also said it intended to sign an IRU contract with its subsidiary, Reliance Infratel, in 2009. It is unclear if this contract exists today, and what changes, if any, have been made to the accounting treatment of the corresponding revenue and costs. We believe the use of the EV/EBITDA ratio as a metric to assess relative value among listed Indian telco stocks could wane.
What we recommend

How we differ

Our FY12-14 EPS forecasts are 3356% lower than those of the Bloomberg consensus.
Forecast revisions (%)
Year to 31 Mar Revenue change Net-profit change EPS change
Source: Daiwa forecasts

(91) 22 6622 1011 pratap.parimi@in.daiwacm.com

12E (2.1) (34.1) (34.1)

13E (5.8) (42.9) (42.9)

14E n.a. n.a. n.a.

Share price performance

What's new

We are concerned about the lack of adequate disclosure on the change of accounting treatment for indefeasible rights of use (IRUs) contracts, which effectively boosted Reliance Communications’ (RCOM) FY11 EBITDA by 39%.
What's the impact

12-m onth share-price performance Relative to BSE SENSEX 30 Index

12-month range Market cap (US$bn) Average daily turnover (US$m) Shares outstanding (m) Major shareholder

80.20-201.65 4.32 22.23 2,064 AAA Communications (54.2%)

We believe more disclosure would be welcomed by investors, as accounting for IRUs is complex and has attracted considerable attention in the past following the bankruptcy of Global Crossing in 2002. We are unable to assess objectively how this accounting change – which recognises some IRUs as upfront licence income instead of lease revenue spread over the life the contract – would affect RCOM’s future revenue and cash flow.

We would like to see more disclosure on IRU accounting, as it may improve investor confidence. The 25% cut to our DCF-based target price is, however, due to a downward adjustment to our mobile-revenue outlook, which drove 34-43% downward revisions to our FY12-13 EPS forecasts. We see the key upside risk as tower divestments.

Financial summary (Rs)
Year to 31 Mar Revenue (m) Operating profit (m) Net profit (m) Core EPS EPS change (%) Daiwa vs Cons. EPS (%) PER (x) Dividend yield (%) DPS PBR (x) ROE (%) 12E 220,029 20,413 9,668 4.684 (27.5) (33) 20.1 1.0 0.950 0.5 2.7 13E 232,175 23,033 11,664 5.651 20.6 (43) 16.6 1.1 1.000 0.5 3.2 14E 245,189 26,043 11,521 5.582 (1.2) (56) 16.8 1.1 1.000 0.5 3.0

Source: Bloomberg, Daiwa forecasts

Important disclosures, including any required research certifications, are provided on the last two pages of this report.

Telecommunication services / India
RCOM IN
3 June 2011

How do we justify our view?
Growth outlook Valuation Earnings revisions

Growth outlook
We forecast a 28% YoY drop in net profit for RCOM for FY12, due partly to 3G-related amortisation expenses.

RCOM: revenue and EBITDA growth rates (YoY)
30% 20% 10% 0% (10%) (20%) (30%) FY10 FY11 Revenue growth
Source: Company, Daiwa forecasts

FY12E

FY13E EBITDA growth

FY14E

Valuation
We have lowered our DCF-based six-month target price by 25% to Rs79 from Rs105, due to 34-43% downward revisions to our FY12-13 EPS forecasts. RCOM is trading currently at a one-year forward EV/EBITDA multiple of 6.6x. While this is below its past-three-year mean of 10.2x, we expect the stock to be derated further, due partly to regulatory overhang. In our view, the wide dispersion among the Bloombergconsensus forecasts for RCOM for FY12 underscore the fact that the earnings uncertainty remains high, and investment metrics like PER may not be accurate indicators of value.

FY12E earnings dispersion across ASEAN-India telcos
Co-efficient of variation 40% 30% 20% 10% 0% StarHub XL Globe Axiata Bharti SingTel PT Telkom DTAC Idea M1 Digi AIS TM Indosat RCOM Maxis PLDT Large degree of uncertainty for RCOM's FY12 earnings forecasts

Source: Bloomberg, Daiwa

Earnings revisions
The lacklustre operational performance over the past few quarters has resulted in continuous downward revisions to the Bloomberg-consensus forecasts. We expect further such downgrades as our FY12-14 EPS forecasts are 33-56% lower than those of the Bloomberg consensus.

RCOM: FY12 EPS forecasts
(Rs) 18 16 14 12 10 8 6 4 2 0 Jun-10

Sep-10

Dec-10 Consensus

Mar-11 Daiwa

Jun-11

Source: Bloomberg, Daiwa

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Telecommunication services / India
RCOM IN
3 June 2011

Financial summary

Key assumptions
Year to 31 Mar Total mobile subs (m) Subscriber net add (m) Total usage (bn min) MOU per sub (min) Blended ARPU (Local curr.) Data as % of total ARPU 2007 28.97 14.29 175 475 348.3 6.2% 2008 45.79 16.83 206 458 339.2 6.5% 2009 72.67 26.87 277 389 244.4 7.3% 2010 102.42 29.76 350 333 158.4 7.7% 2011 135.72 33.30 375 262 116.0 8.0% 2012E 164.78 29.06 430 239 98.6 9.0% 2013E 190.52 25.74 509 239 86.8 10.0% 2014E 213.69 23.17 579 239 79.0 10.0%

Profit and loss (Rs m)
Year to 31 Mar Wireless Global Others Total revenue Other income COGS SG&A Other op. expenses Operating profit Net-interest inc./(exp.) Assoc/forex/extraord./others Pre-tax profit Tax Min. int./pref. div./others Net profit (reported) Net profit (adjusted) EPS (reported) (Rs) EPS (adjusted) (Rs) EPS (adjusted fully-diluted) (Rs) DPS (Rs) EBIT EBITDA 2007 128,479 65,922 (19,999) 174,403 0 (68,077) (27,772) (40,481) 38,073 (1,487) (595) 35,991 (731) 49 35,309 35,899 17.269 17.558 17.558 0.500 38,073 67,266 2008 152,135 54,750 (16,562) 190,323 0 (62,591) (34,059) (39,928) 53,746 128 16,874 70,747 (2,836) (13,901) 54,011 37,122 26.291 18.070 18.070 0.754 53,746 81,798 2009 173,677 67,761 (16,098) 225,340 0 (79,845) (38,599) (52,805) 54,092 (9,725) 17,616 61,983 518 (2,052) 60,449 42,850 29.287 20.760 20.760 0.800 54,092 90,169 2010 166,396 83,187 (30,357) 219,226 0 (92,783) (35,328) (52,466) 38,649 (12,491) 26,044 52,202 (4,454) (1,193) 46,556 20,480 22.556 9.922 9.922 0.850 38,649 76,114 2011 165,762 100,519 (35,205) 231,076 0 (92,764) (32,741) (79,795) 25,776 (10,722) 22 15,076 (118) (1,503) 13,455 13,334 6.519 6.460 6.460 0.850 25,776 90,814 2012E 177,791 76,061 (33,824) 220,029 0 (100,266) (35,205) (64,145) 20,413 (8,074) 0 12,339 (1,481) (1,190) 9,668 9,668 4.684 4.684 4.684 0.950 20,413 67,882 2013E 184,991 80,940 (33,756) 232,175 0 (105,200) (37,148) (17,843) 23,033 (6,775) 0 16,259 (3,252) (1,343) 11,664 11,664 5.651 5.651 5.651 1.000 23,033 71,984 2014E 191,518 85,637 (31,965) 245,189 0 (110,214) (39,230) (18,735) 26,043 (8,657) 0 17,385 (4,346) (1,518) 11,521 11,521 5.582 5.582 5.582 1.000 26,043 77,010

Cash flow (Rs m)
Year to 31 Mar Profit before tax Depreciation and amortisation Tax paid Change in working capital Other operational CF items Cash flow from operations Capex Net (acquisitions)/disposals Other investing CF items Cash flow from investing Change in debt Net share issues/(repurchases) Dividends paid Other financing CF items Cash flow from financing Forex effect/others Change in cash Free cash flow
Source: Company, Daiwa forecasts

2007 34,903 29,193 (1,153) 63,409 2,212 128,564 (52,488) (54,436) 6,550 (100,374) 24,878 0 0 (6,535) 18,342 (44) 46,489 76,077

2008 83,429 28,053 (2,160) (35,837) (29,019) 44,465 (173,928) (29,791) 7,764 (195,955) 100,745 0 (1,183) (10,227) 89,335 (1,071) (63,225) (129,462)

2009 77,693 36,077 (3,926) (21,519) (23,250) 65,075 (122,426) 15,567 6,779 (100,079) 75,084 0 (1,792) (30,861) 42,431 620 8,047 (57,350)

2010 51,859 37,465 (3,122) 25,293 (15,851) 95,645 (74,959) 54,884 1,689 (18,387) (69,898) 0 (1,911) (14,408) (86,217) 316 (8,644) 20,686

2011 15,296 65,038 (73) (69,859) 11,596 21,998 (95,013) 0 0 (95,013) 90,550 0 0 (9,895) 80,655 11 45,087 (73,015)

2012E 12,339 47,469 (2,468) (1,570) 8,384 64,154 (15,402) 0 0 (15,402) (68,906) 0 (2,053) (8,074) (79,033) 0 (30,281) 48,752

2013E 16,259 48,951 (3,252) 3,346 6,435 71,738 (30,183) 0 0 (30,183) 0 0 (2,294) (6,775) (9,069) 0 32,486 41,555

2014E 17,385 50,967 (4,346) 3,585 8,293 75,884 (31,875) 0 0 (31,875) 0 0 (2,415) (8,657) (11,072) 0 32,938 44,010

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Telecommunication services / India
RCOM IN
3 June 2011

Financial summary continued …

Balance sheet (Rs m)
As at 31 Mar Cash & short-term investment Inventory Accounts receivable Other current assets Total current assets Fixed assets Goodwill & intangibles Other non-current assets Total assets Short-term debt Accounts payable Other current liabilities Total current liabilities Long-term debt Other non-current liabilities Total liabilities Share capital Reserves/R.E./others Shareholders' equity Minority interests Total equity & liabilities Net debt/(cash) BVPS (Rs) 2007 137,201 4,821 18,316 35,987 196,325 330,422 26,588 11,920 565,254 35,209 44,423 117,059 196,691 139,175 26 335,892 10,223 219,083 229,306 56 565,254 37,183 112 2008 117,431 4,059 27,224 65,753 214,466 523,126 35,654 1,348 774,593 117,137 86,948 113,828 317,913 141,081 1,028 460,021 10,320 279,943 290,263 24,309 774,593 140,786 141 2009 109,671 5,427 39,618 85,271 239,987 727,053 52,215 2,815 1,022,070 118,716 46,471 154,343 319,530 272,906 281 592,718 10,320 412,483 422,803 6,549 1,022,070 281,951 205 2010 48,585 5,446 33,117 74,825 161,972 712,539 49,976 1,200 925,687 80,634 40,899 146,453 267,985 216,520 991 485,496 10,320 423,286 433,607 6,584 925,686 248,569 210 2011 53,272 5,172 40,017 62,323 160,784 679,432 49,976 1,089 891,281 0 50,647 101,114 151,761 373,757 0 525,518 10,320 347,198 357,518 8,245 891,281 320,485 173 2012E 22,991 5,457 36,169 60,636 125,253 647,365 49,976 1,089 823,683 0 48,225 96,280 144,505 304,851 0 449,356 10,320 354,572 364,892 9,435 823,683 281,859 177 2013E 55,478 5,758 38,166 63,189 162,591 628,597 49,976 1,089 842,252 0 50,888 101,595 152,482 304,851 0 457,333 10,320 363,821 374,141 10,778 842,252 249,373 181 2014E 88,415 6,081 40,305 66,054 200,855 609,504 49,976 1,089 861,424 0 53,740 107,290 161,030 304,851 0 465,880 10,320 372,927 383,247 12,296 861,424 216,435 186

Key ratios (%)
Year to 31 Mar Sales (YoY) EBITDA (YoY) Operating profit (YoY) Net profit (YoY) EPS (YoY) Gross-profit margin EBITDA margin Operating-profit margin ROAE ROAA ROCE ROIC Net debt to equity Effective tax rate Accounts receivable (days) Payables (days) Net interest cover (x) Net dividend payout
Source: Company, Daiwa forecasts

2007 n.a. n.a. n.a. n.a. n.a. 61.0 38.6 21.8 15.7 6.4 9.4 14.0 16.2 2.0 38.3 93.0 25.6 2.9

2008 9.1 21.6 41.2 3.4 2.9 67.1 43.0 28.2 14.3 5.5 11.0 14.3 48.5 4.0 43.7 126.0 n.a. 2.9

2009 18.4 10.2 0.6 15.4 14.9 64.6 40.0 24.0 12.0 4.8 7.8 9.3 66.7 n.a. 54.1 108.1 5.6 2.7

2010 (2.7) (15.6) (28.5) (52.2) (52.2) 57.7 34.7 17.6 4.8 2.1 5.0 5.0 57.3 8.5 60.5 72.7 3.1 3.8

2011 5.4 19.3 (33.3) (34.9) (34.9) 59.9 39.3 11.2 3.4 1.5 3.5 3.7 89.6 0.8 57.8 72.3 2.4 13.0

2012E (4.8) (25.3) (20.8) (27.5) (27.5) 54.4 30.9 9.3 2.7 1.1 2.9 2.7 77.2 12.0 63.2 82.0 2.5 20.3

2013E 5.5 6.0 12.8 20.6 20.6 54.7 31.0 9.9 3.2 1.4 3.4 2.9 66.7 20.0 58.4 77.9 3.4 17.7

2014E 5.6 7.0 13.1 (1.2) (1.2) 55.0 31.4 10.6 3.0 1.4 3.7 3.1 56.5 25.0 58.4 77.9 3.0 17.9

Company profile
Reliance Communications (RCOM) is India's second-largest mobile-service provider in terms of subscriber numbers. The company offers wireless services using both CDMA and GSM technology. Its subsidiaries include Reliance Globalcom, which operates an undersea cable and domestic fibre-optic cable network, and Reliance Infratel, which operates a passiveinfrastructure business.

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Telecommunication services / India
RCOM IN
3 June 2011

investors can derive little competitive advantage over their peers through the conventional process of investment research.

Accounting change raises questions
Disclosure needs to improve to gain investor confidence; target price lowered due to lacklustre operational outlook

Dispersion of Bloomberg-consensus one-year-forward EPS forecasts
Co-efficient of variation 40% 30% 20% 10% 0% StarHub Axiata M1 XL Globe Bharti SingTel PT Telkom DTAC Idea Digi AIS TM Large degree of uncertainty for RCOM's FY12 earnings forecasts

Wise to wait on the sidelines
We see several transformational events on the horizon for RCOM: 1) the outcome of the ongoing 2G controversy, 2) the impact and implications of the recent accounting-policy changes for IRUs, 3) tower divestments, and 4) a possible structural decrease in capital intensity. Against this backdrop, we ask ourselves whether it is worth revisiting the stock. This is especially so given the significant year-to-date underperformance of the shares against their listed telecoms peers in the ASEAN region and India.
ASEAN-India telcos: share-price performances YTD
(%) 50 40 30 20 10 0 (10) (20) (30) (40) (50) Axiata Telecom Index* XL DTAC SingTel Bharti Idea Digi AIS M1 PT Telkom StarHub Indosat RCOM TM Globe Maxis PLDT

Source: Bloomberg, Daiwa Note: Dispersion measured by standard deviation of EPS forecasts divided by mean

As a result, given the lacklustre operational outlook for the core mobile business, where RCOM has been losing revenue share to its rivals, we have lowered our DCFbased six-month target price to Rs79 and revised down our FY12-13 EPS forecasts by 34-43%. We recommend investors continue to underweight the stock compared to the local SENSEX index on a six-month time horizon. We also believe its performance is likely to lag that of the MSCI AP Ex-Japan Telecom Index over the period. In this note, we elaborate on our concerns arising from: 1) the change in accounting policy, 2) the possible fallout from the 2G spectrum scandal, and 3) why we believe investors should wait for more details, even if there is renewed talk in the market about tower divestment.

IRU accounting raises issues
At its recent 4Q FY11 results announcement, RCOM said that it had changed its accounting policy for some IRU contracts, which are typically used for long-term capacity sales (eg, fibre capacity). This change in accounting policy boosted RCOM’s FY11 revenue and EBITDA by Rs25.45bn and Rs25.3bn, respectively. It appears to be a significant change, in our view, as revenue and EBITDA jumped by around 12% and 39%, respectively, as a result. IRU contracts are used typically where a network provider gives the right to use of specified amount of network capacity or identifiable physical assets to a buyer for an agreed period, while retaining the ownership of the network assets. Typically, they tend to -5-

Source: Bloomberg

On balance, we believe investors would be better off waiting on the sidelines: the regulatory overhang is unlikely is dissipate anytime soon, and we think more clarity is needed from the company on some of the changes to its accounting policies relating to IRUs. The uncertainties over the 2G spectrum controversy and implications of the IRU accounting changes add to the already existing inability of the sell-side analysts (as evidenced by wide dispersion among FY12 earnings forecasts of contributors to Bloomberg consensus) to form a reasonably accurate picture of its future earnings potential. We also now feel that buy-side

Indosat

RCOM

Maxis

PLDT

Telecommunication services / India
RCOM IN
3 June 2011

be long-term contracts, and are on standard industry terms.
RCOM: quarterly financials
(Rs bn) Reported numbers Revenue EBITDA EBITDA margin % EBIT Profit before tax Profit after tax Adjusted numbers Revenue EBITDA EBITDA margin (%) EBIT Profit after tax 4Q10 50.9 16.0 31.5 5.2 14.5 13.4 50.9 16.0 31.5 5.2 13.4 1Q11 51.1 16.3 31.9 6.7 2.3 2.5 51.1 16.3 31.9 6.7 2.5 2Q11 51.2 16.6 32.4 7.0 4.2 4.5 51.2 16.6 32.4 7.0 4.5 3Q11 50.0 16.7 33.3 6.3 5.0 4.8 50.0 16.7 33.3 6.3 4.8 4Q11 78.8 41.2 52.3 5.7 3.6 1.7 53.3 15.9 29.9 5.7 1.7 FY11 231.1 90.8 39.3 25.8 15.2 13.5 205.6 65.5 31.9 25.8 13.5

Our concerns: 1) The motivation for the change (other than the fact that it is legal) is unclear, making us wonder whether it is prudent or an aggressive accounting practise. We need at least a few quarters of data to ascertain the wisdom of this change in policy, and believe the company’s FY12-14 revenue and EBITDA may be rather volatile as a consequence. 2) We believe the disclosure of certain information relating to the nature of the IRU contracts is vital. It is not clear if the new accounting treatment will be applied only to long-term IRU contracts or those that are paid for fully upfront. If the cash payments are spread out over the life of the contract, then there would be an obvious mismatch between revenue recognition and the cash cycle, and this also raises questions over contingencies in the event of customer defaults. 3) As per the draft prospectus of Reliance Infratel (RITL, Not listed), dated 24 September 2009, a memorandum of understanding (MOU) was signed between RITL and RCOM granting RCOM an IRU for up to 80% of the total capacity of the optic-fibre cable (OFC) network. We are not sure if the master service agreement exists today. If indeed it does, and under the terms disclosed originally, we are not sure whether the new accounting treatment has been applied to this specific contract. Furthermore, the impact of the accounting change on revenue and cost recognition between group companies is not clear.
Agreements between RCOM and Reliance Infratel
Scheme of arrangement of demerger Effective from 1 April 2008 Optic-fibre (OF) undertaking transferred to RITL from RCOM RCOM gets a non-exclusive right to use the OFC of RITL Dated 15 March 2009 RITL grants RCOM an exclusive indefeasible right of connectivity through 20 pairs of OFC connecting identified destination points Contractual agreements to be captured in a master service agreement RITL granted RCOM an IRU for up to 80% of the total capacity of the OFC network for a period of seven years RCOM will pay rent annually

Source: Company data, Bloomberg

Prior to FY11, RCOM recognised revenue related to the sale of network capacity on a straight-line basis over the period of the IRU. As of 4Q FY11, RCOM has revised its policy, and now recognises IRU revenue and licence income upfront (upon activation of circuits), similar to the sale of a product, rather than the provision of a service over the duration of a contract.
RCOM: revenue recognition for IRU contract
FY09 Annual Report Accounting policy Network capacity service (IRU) revenue is accounted as operating lease, and recognized over the term of the contract Payments received from customers for long term contracts and for which revenue is not recognised are included in deferred revenue / unearned income. -same as in FY09 RCOM recognises network-capacity revenue upfront, similar to the sale of a product, rather than the provision of a service over the duration of a contract.

FY10 Annual Report For FY11

Source: Company

IRUs are legitimate business tools, but we believe the financial disclosure by RCOM about the nature and type of these contracts (and whether payments are made in advance) is grossly inadequate. We have the following concerns: IRU complexity has proven to be an accounting time bomb in the past IRU accounting is complex and depends pretty much on the commercial substance of the underlying transaction. This subject received widespread scrutiny from the press and analysts in 2002 after the filing for bankruptcy of several telecom companies (including Global Crossing). Particular concerns were expressed about the accounting treatment of ‘capacity swap’ contracts. As a result of this, we believe companies (including RCOM) should raise the level of disclosure, especially when changing accounting treatment related to IRUs. -6-

OFC MOU

Proposed Master service agreement between RITL and RCOM

Source: Draft IPO prospectus of Reliance Infratel dated 24 September 2009

4) We also think the popular investment metric, EV/EBITDA, would be an inferior valuation tool as it could be distorted by accounting changes rather than operational results. The EV/EBITDA metric has been widely used in the Indian context to assess relative value among telcos, and its popularity could wane unless it becomes clear what adjustments need to be made to various companies’ financials.

Telecommunication services / India
RCOM IN
3 June 2011

5) IRU accounting changes would make the headline FY11 net-debt/EBITDA ratio look a lot better than it would have done otherwise.

Sale of stake in Reliance Infratel
The company has confirmed recently through a press release that it had received offers from several parties to acquire a controlling stake in RITL. Some media reports (on CNBV TV) indicated that US-based American Tower Company (ATC) (Not rated) has put in a bid for Rs195bn to buy out Reliance Infratel. This values each tower at Rs3.9m, based on the company’s latest disclosure of 50,000 towers. The valuation is about 10% lower than deals completed in recent times (Aircel [Not listed]-GTL Infrastructure [GTLI IN, Not rated] deal in January 2010, ATC -Essar Telecom [Not listed] deal in February 2010) in the India telecom space. We believe the current news flow on possible tower divestment, while positive on the surface, should be interpreted with caution, because: 1) RCOM failed in the past to conclude a deal with GTL Infrastructure after announcing initial terms. 2) RCOM remains the main captive customer of Reliance Infratel and conditions that would be imposed by the buyer on future minimum leases and prices are important to ascertain whether there would be long-term value generation. 3) The unfolding developments regarding the recent spectrum controversy is likely to be the overriding share-price driver, in our view, as we believe that any buyer of the tower portfolio would seek to protect themselves from any negative repercussions for RCOM.

Possible fallout of the 2G investigation
As part of the investigation into the 2G scandal conducted by the Central Bureau of Investigation under the direct supervision of India’s Supreme Court, Reliance Telecom (a 100% subsidiary of RCOM), along with three senior officials of the Anil Dhirubhai Ambani (ADA) group, have been charged in connection with the high-profile 2G scandal.
2G scandal timeline
Event Resignation of Telecom Minister, Mr. A. Raja Mr. Kapil Sibal appointed as the new Telecom Minister Comptroller and Auditor General (CAG) report tabled in parliament Arrest of Mr A. Raja and two close aides in the Telecom Ministry Arrest of Shahid Balwa (Swan Telecom) Setting of Joint Parliamentary Committee (JPC) to probe the 2G spectrum scandal CBI files first charges in the 2G scandal Arrest of Sanjay Chandra (Unitech MD), Vinod Goenka (Swan Telecom), Gautam Doshi (ADA Group MD), and two other officials of the ADA group CBI files second round of charges in the 2G scandal Arrest of member of parliament, Ms K. Kanimozhi (same political party as A. Raja)
Source: Daiwa

Date 14 Nov. 10 15 Nov. 10 16 Nov. 10 2 Feb. 11 8 Feb. 11 22 Feb.11 2 Apr. 11 20 Apr. 11 24 Apr. 11 20 May 11

At this stage, we are unable to assess the extent of the financial or other penalties that may be levied against individuals or the company if found guilty. However, we believe that the investigation and possible implications could result in the following scenarios at RCOM. 1) The uncertainty surrounding the investigation could lead to delays in the sale of its tower portfolio or the sale of a stake in RCOM itself to a strategic partner. The company’s earlier efforts to sell stakes to lower its high debt levels on its balance sheet failed. 2) Possible cancellation of licences – This looks like an extreme step, although the Comptroller and Auditor General (CAG) said in its report (published in early-November 2010) that RCOM received the dual-technology licence (for its GSM operations) unfairly. 3) Loan recalls by creditors. While we do not have any details about the loans that were extended to RCOM, any cancellation of its licenses could result in its creditors possibly recalling them. We believe this could drive RCOM to sell its assets for less than their replacement cost. -7-

Forecasts and target price revised
The IRU concern we elaborated on above relates to poor disclosure standards. We are looking for additional information, as we believe it would boost investor confidence in the stock. The change to our target price is driven purely by revisions to our operational forecasts. Some of the key management personnel – including the head of tower business – have left RCOM recently. Aside from this, we think the operational outlook for RCOM remains lacklustre, especially for the mobile division, which has been losing revenue market share. We expect this trend to continue. We forecast an FY1114 mobile-revenue CAGR of 5% for RCOM, compared with our forecast of a 10% CAGR for the telecom industry over this period, indicating a likely decline in RCOM’s share of market revenue.

Telecommunication services / India
RCOM IN
3 June 2011

RCOM: mobile revenue share
(%) 13 12 11 10 9 8 FY10 FY11 FY12E FY13E FY14E

Source: Daiwa forecasts, TRAI

We have lowered our DCF-based target price by 25% to Rs79 (from Rs105) after revising down our FY12-14 EPS forecasts. The downward revisions to our EBITDA forecasts (3-9%) and EPS forecasts (34-43%) for FY12 and FY13 were driven largely by our lower mobilerevenue forecasts.
RCOM: revisions to Daiwa forecasts (Rs bn)
FY12E New Previous % change 220 225 (2) 68 70 (3) 20 26 (20) 10 15 (34) 4.7 7.1 (34) 165 99 154 107 7 (8) FY13E New Previous 232 247 72 79 23 33 12 20 5.7 9.9 191 87 178 99 % change (6) (9) (30) (43) (43) 7 (12)

Revenue EBITDA EBIT Net profit EPS (Rs) Operating metrics Subscribers (m) ARPU (Rs)
Source: Daiwa forecasts

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Telecommunication services / India
RCOM IN
3 June 2011

Appendix
The following table shows the deals announced by Reliance since June 2009. We have seen very few public announcements relating to IRU contracts. As such, we believe disclosure needs to improve with regard to the change in accounting policy.
Reliance Globalcom: order wins/renewals over the past two years
When? Client 12 Jan' 11 Pimkie 15 Dec' 10 Rieter Automotive 16 Nov'10 CERN Contract details Four-year contract renewal Upgrade and manage the wide area network (WAN) in Europe Automotive supplier Five-year contract extension, worth US$4.5m Global network management, design and provisioning to support expansion into emerging markets European Organization for Nuclear Research One-year contract extension To provide gigabit ethernet connectivity between CERN’s research centre in Europe and the Tata Institute of Fundamental Research in India Textile manufacturer and retailer Five-year contract Design, installation and management of a Pan European WAN solution across over 1,100 sites in five countries Mobile data services player Three-year contract To implement a truly hybrid ethernet, MPLS and Internet VPN solution across 33 locations in 23 countries Integrated tyre service & car maintenance service provider Five-year contract Fully-manage all supporting WAN connectivity, in addition to managed security, tele-presence and VoIP, LAN and fixed voice solutions Morocco based bank 5-year contract Implementation and management of its WAN in Europe, Middle East, and the inter-connection with the corporate headquarters Manufacturer and supplier of interconnect products Upgrade and management of their WAN in Asia Finnish sports equipment company Telecom service providers Inspection, verification, testing and certification company Four-year contract extension Global network management, design and provisioning contract NLD IRU contract worth Rs2.1bn Five-year contract renewal To provide global WAN and global Internet Security Services Five-year contract renewal Design, implement and manage a new global WAN To provide managed Ethernet VPLS services Two-year deal, worth US$3.5m Enable real-time CCTV security camera footage from all sites to be continually transmitted and monitored remotely. GBP1.3m for three-year contract To design, implement and manage its Global WAN 3.5 year contract; to provide data-centre services Three-year contract Design, implementation and ongoing provision of a new regional WAN to link business office locations across 9 countries. To design, implement and manage a business critical MPLS WAN solution across the Middle East Clients' business European fashion retailer

31 Aug' 10 Zeeman Textielsupers

10 Aug' 10 Acision

7 Sept' 10

Euromaster

9 June' 10 Attijariwafa bank

4 Mar' 10

Molex Far East South Management 25 Jan' 10 Amer Sports Dec’ 09 2 Dec' 09 Aircel Société Générale de Surveillance

17 Nov' 09 Süd-Chemie 16 Nov' 09 Richco, Inc 3 Nov' 09 Stena Line IT Services

German specialty chemicals manufacturer Manufacturer of plastic components Global IT service arm of Stena Line

12 Aug' 09 United Biscuits 9 July' 09 Neo Telecoms 26 June' 09 WorleyParsons

Manufacturer of biscuits and snacks Infrastructure and IP transit operators Provides services to global energy & resources industries

10 June' 09 Mott MacDonald
Source: Company

Global management, Engg and development consultancy

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Daiwa’s Asia Pacific Research Directory
Hong Kong Regional Research Head; Pan Asia Research Regional Research Co-head Head of Product Management Product Management Head of China Research; Chief Economist (Greater China) Macro Economy (Hong Kong, China) Regional Chief Strategist; Strategy (Regional) Strategy (Regional) Head of Hong Kong Research; Regional Property Coordinator; Co-head of Hong Kong and China Property; Property Developers (Hong Kong) Automobiles and Components (China) Head of Greater China FIG; Banking (Hong Kong, China) Banking (Hong Kong, China) Insurance Capital Goods –Electronics Equipments and Machinery; IT/Electronics – Tech Hardware (Hong Kong, China) Consumer/Retail (Hong Kong, China) Consumer/Retail (China) Head of HK and China Gaming and Leisure; Hotels, Restaurants and Leisure – Casinos and Gaming (Hong Kong); Capital Goods – Conglomerate (Hong Kong) Regional Head of IT/Electronics; IT/Electronics – Semiconductor and Solar (Regional, Taiwan, Singapore, Hong Kong and China) Nagahisa MIYABE Christopher LOBELLO John HETHERINGTON Tathagata Guha ROY Mingchun SUN Kevin LAI Colin BRADBURY Mun Hon THAM Jonas KAN Jeff CHUNG Grace WU Queenie POON Jennifer LAW Joseph HO Peter CHU Nicolas WANG Gavin HO Pranab Kumar SARMAH (852) 2848 4971 (852) 2848 4916 (852) 2773 8787 (852) 2773 8731 (852) 2773 8751 (852) 2848 4926 (852) 2848 4983 (852) 2848 4426 (852) 2848 4439 (852) 2773 8783 (852) 2532 4383 (852) 2532 4381 (852) 2773 8745 (852) 2848 4443 (852) 2848 4430 (852) 2848 4963 (852) 2532 4384 (852) 2848 4441 (852) 2773 8702 (852) 2773 8782 (852) 2848 4431 (852) 2848 4463 (852) 2532 4341 (852) 2848 4460 (852) 2532 4159 (852) 2773 8715 (852) 2773 8735 (852) 2773 8729 (852) 2773 8730 (852) 2848 4465 (852) 2848 4467 (852) 2532 4349 (852) 2848 4068 (852) 2773 8741 (852) 2773 8714 (852) 2848 4489 nagahisa.miyabe@hk.daiwacm.com christopher.lobello@hk.daiwacm.com john.hetherington@hk.daiwacm.com tathagata.guharoy@hk.daiwacm.com mingchun.sun@hk.daiwacm.com kevin.lai@hk.daiwacm.com colin.bradbury@hk.daiwacm.com munhon.tham@hk.daiwacm.com jonas.kan@hk.daiwacm.com jeff.chung@hk.daiwacm.com grace.wu@hk.daiwacm.com queenie.poon@hk.daiwacm.com jennifer.law@hk.daiwacm.com joseph.ho@hk.daiwacm.com peter.chu@hk.daiwacm.com nicolas.wang@hk.daiwacm.com gavin.ho@hk.daiwacm.com pranab.sarmah@hk.daiwacm.com eric.chen@hk.daiwacm.com calvin.huang@hk.daiwacm.com ashley.chung@hk.daiwacm.com alexander.latzer@hk.daiwacm.com felix.lam@hk.daiwacm.com hongxia.zhu@hk.daiwacm.com kenji.serizawa@hk.daiwacm.com danny.bao@hk.daiwacm.com yannis.kuo@hk.daiwacm.com mark.chang@hk.daiwacm.com john.choi@hk.daiwacm.com marvin.lo@hk.daiwacm.com kelvin.lau@hk.daiwacm.com edwin.lee@hk.daiwacm.com dave.dai@hk.daiwacm.com justin.lau@hk.daiwacm.com philip.lo@hk.daiwacm.com jibo.ma@hk.daiwacm.com

Co-head of Regional IT/Electronics; IT/Electronics – Semiconductor/IC Design (Regional) Eric CHEN IT/Technology Hardware – PC Hardware (Taiwan) IT/Electronics - Semiconductor/IC Design (Taiwan) Regional Head of Materials; Materials/Energy (Regional) Materials (China) Pan Asia Research, Consumer, Pharmaceuticals and Healthcare (China) Pan Asia Research Head of Hong Kong and China Property; Property Developers (Hong Kong, China) Property (Hong Kong, China) Regional Head of Small/Medium Cap; Small/Medium Cap (Regional) Small/Medium Cap (Regional) Regional Head of Telecommunications; Telecommunications (Regional, Greater China); Internet (China) Transportation – Aviation, Land and Transportation Infrastructure (Regional) Transportation –Transportation Infrastructure; Capital Goods – Construction and Engineering (China) Regional Head of Clean Energy and Utilities; Utilities; Power Equipment; Renewables (Hong Kong, China) Head of Custom Products Group; Custom Products Group Custom Products Group Custom Products Group Calvin HUANG Ashley CHUNG Alexander LATZER Felix LAM Hongxia ZHU Kenji SERIZAWA Danny BAO Yannis KUO Mark CHANG John CHOI Marvin LO Kelvin LAU Edwin LEE Dave DAI Justin LAU Philip LO Jibo MA

South Korea Head of Research; Strategy; Banking/Finance Regional Head of Automobiles and Components; Automobiles; Shipbuilding; Steel Banking/Finance Capital Goods (Construction and Machinery) Consumer/Retail IT/Electronics (Tech Hardware and Memory Chips) IT Electronics (Tech Hardware) Materials (Chemicals); Oil and Gas Pan Asia Research; Small/Medium Caps Telecommunications; Software (Internet/Online Games) Custom Products Group Chang H LEE Sung Yop CHUNG Anderson CHA Mike OH Sang Hee PARK Jae H LEE Steve OH Daniel LEE Yumi KIM Thomas Y KWON Shannen PARK (82) 2 787 9177 (82) 2 787 9157 (82) 2 787 9185 (82) 2 787 9179 (82) 2 787 9165 (82) 2 787 9173 (82) 2 787 9195 (82) 2 787 9121 (82) 2 787 9838 (82) 2 787 9181 (82) 2 787 9184 chlee@kr.daiwacm.com sychung@kr.daiwacm.com anderson.cha@kr.daiwacm.com mike.oh@kr.daiwacm.com sanghee.park@kr.daiwacm.com jhlee@kr.daiwacm.com steve.oh@kr.daiwacm.com daniel.lee@kr.daiwacm.com yumi.kim@kr.daiwacm.com yskwon@kr.daiwacm.com shannen.park@kr.daiwacm.com

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Taiwan Head of Taiwan Research; Pan Asia Research Co-head of Research; Strategy Banking/Diversified Financials Consumer/Retail IT/Technology Hardware (Communications Equipment); Software; Small/Medium Caps IT/Technology Hardware (Handsets and Components) IT/Technology Hardware (PC Hardware - Panels) IT/Technology Hardware (PC Components) Materials; Conglomerates Hirokazu Mitsuda Alex YANG Ling TANG Yoshihiko KAWASHIMA Christine WANG Alex CHANG Chris LIN Jenny SHIH Albert HSU (886) 2 2758 8754 (886) 2 2345 3660 (886) 2 8789 5158 (886) 2 8780 5987 (886) 2 8788 1531 (886) 2 8788 1584 (886) 2 8788 1614 (886) 2 8780 1326 (886) 2 8786 2212 h.mitsuda@daiwacm-cathay.com.tw alex.yang@daiwacm-cathay.com.tw ling.tang@daiwacm-cathay.com.tw y.kawashima@daiwacm-cathay.com.tw christine.wang@daiwacm-cathay.com.tw alex.chang@daiwacm-cathay.com.tw chris.lin@daiwacm-cathay.com.tw jenny.shih@daiwacm-cathay.com.tw albert.hsu@daiwacm-cathay.com.tw

India Head of India Equities Strategy Deputy Head of Research; Strategy; Banking/Finance All Industries; Pan Asia Research Automobiles Capital Goods; Utilities Materials Oil & Gas; Construction; Small/Medium Caps Pharmaceuticals and Healthcare; Consumer Real Estate Jaideep GOSWAMI Punit SRIVASTAVA Fumio YOKOMICHI Ambrish MISHRA Jonas BHUTTA Vishal CHANDAK Atul RASTOGI Kartik A. MEHTA Amit AGARWAL (91) 22 6622 1010 (91) 22 6622 1013 (91) 22 6622 1003 (91) 22 6622 1060 (91) 22 6622 1008 (91) 22 6622 1006 (91) 22 6622 1020 (91) 22 6622 1012 (91) 22 6622 1063 jaideep.goswami@in.daiwacm.com punit.srivastava@in.daiwacm.com fumio.yokomichi@in.daiwacm.com ambrish.mishra@in.daiwacm.com jonas.bhutta@in.daiwacm.com vishal.chandak@in.daiwacm.com atul.rastogi@in.daiwacm.com kartik.mehta@in.daiwacm.com amit.agarwal@in.daiwacm.com

Singapore Head of Research; Pan Asia Research Chief Economist, Asia Ex-JP; Macro Economy (Regional) Global Director of Quantitative Research; Quantitative Research Quantitative Research Quantitative Research Regional Head of Banking/Finance; Banking; Property and REITs Banking (ASEAN) Consumer; Food and Beverage; Small/Medium Cap (ASEAN) Tatsuya TORIKOSHI Prasenjit K BASU Deep KAPUR Josh CHERIAN Suzanne HO David LUM Srikanth VADLAMANI Pyari MENON (65) 6321 3050 (65) 6321 3069 (65) 6321 3079 (65) 6499 6549 (65) 6499 6545 (65) 6329 2102 (65) 6499 6570 (65) 6499 6566 (65) 6499 6548 (65) 6499 6543 tatsuya.torikoshi@sg.daiwacm.com p-k.basu@sg.daiwacm.com deep.kapur@sg.daiwacm.com josh.cherian@sg.daiwacm.com suzanne.ho@sg.daiwacm.com david.lum@sg.daiwacm.com srikanth.vadlamani@sg.daiwacm.com pyari.menon@sg.daiwacm.com adrian.loh@sg.daiwacm.com ramakrishna.maruvada@sg.daiwacm.com

Regional Head of Oil and Gas; Oil and Gas (ASEAN and China); Capital Goods (Singapore) Adrian LOH Head of ASEAN & India Telecommunications; Telecommunications (ASEAN & India) Ramakrishna MARUVADA

Australia Resources/Mining/Petroleum David BRENNAN (61) 3 9916 1323 david.brennan@au.daiwacm.com

Japan Industrials (Regional); Pan Asia Research Industrials (Regional); Pan Asia Research Taiki KAJI Daijiro HATA (81) 3 5555 7174 (81) 3 5555 7178 taiki.kaji@jp.daiwacm.com daijiro.hata@jp.daiwacm.com

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Ownership of Securities For “Ownership of Securities” information please visit BlueMatrix disclosure Link at http://www2.us.daiwacm.com/report_disclosure.html. Investment Banking Relationships For “Investment Banking Relationships” please visit BlueMatrix disclosure link at http://www2.us.daiwacm.com/report_disclosure.html. DCMA Market Making For “DCMA Market Making” please visit BlueMatrix disclosure link at http://www2.us.daiwacm.com/report_disclosure.html. Research Analyst Conflicts For updates on “Research Analyst Conflicts” please visit BlueMatrix disclosure link at http://www2.us.daiwacm.com/report_disclosure.html. The principal research analysts who prepared this report have no financial interest in securities of the issuers covered in the report, are not (nor are any members of their household) an officer, director or advisory board member of the issuer(s) covered in the report, and are not aware of any material relevant conflict of interest involving the analyst or DCMA, and did not receive any compensation from the issuer during the past 12 months except as noted: no exceptions. Research Analyst Certification For updates on “Research Analyst Certification” and “Rating System” please visit BlueMatrix disclosure link at http://www2.us.daiwacm.com/report_disclosure.html. The views about any and all of the subject securities and issuers expressed in this Research Report accurately reflect the personal views of the research analyst(s) primarily responsible for this report (or the views of the firm producing the report if no individual analysts[s] is named on the report); and no part of the compensation of such analyst(s) (or no part of the compensation of the firm if no individual analyst[s)] is named on the report) was, is, or will be directly or indirectly related to the specific recommendations or views contained in this Research Report. The following explains the rating system in the report as compared to relevant local indices, based on the beliefs of the author of the report. "1": the security could outperform the local index by more than 15% over the next six months. "2": the security is expected to outperform the local index by 5-15% over the next six months. "3": the security is expected to perform within 5% of the local index (better or worse) over the next six months. "4": the security is expected to underperform the local index by 5-15% over the next six months. "5": the security could underperform the local index by more than 15% over the next six months. Additional information may be available upon request. Japan - additional notification items pursuant to Article 37 of the Financial Instruments and Exchange Law (This Notification is only applicable where report is distributed by Daiwa Securities Capital Markets Co. Ltd.) If you decide to enter into a business arrangement with us based on the information described in materials presented along with this document, we ask you to pay close attention to the following items. • In addition to the purchase price of a financial instrument, we will collect a trading commission* for each transaction as agreed beforehand with you. Since commissions may be included in the purchase price or may not be charged for certain transactions, we recommend that you confirm the commission for each transaction. • In some cases, we may also charge a maximum of ¥ 2 million (including tax) per year as a standing proxy fee for our deposit of your securities, if you are a non-resident of Japan. • For derivative and margin transactions etc., we may require collateral or margin requirements in accordance with an agreement made beforehand with you. Ordinarily in such cases, the amount of the transaction will be in excess of the required collateral or margin requirements. • There is a risk that you will incur losses on your transactions due to changes in the market price of financial instruments based on fluctuations in interest rates, exchange rates, stock prices, real estate prices, commodity prices, and others. In addition, depending on the content of the transaction, the loss could exceed the amount of the collateral or margin requirements. • There may be a difference between bid price etc. and ask price etc. of OTC derivatives handled by us. • Before engaging in any trading, please thoroughly confirm accounting and tax treatments regarding your trading in financial instruments with such experts as certified public accountants. *The amount of the trading commission cannot be stated here in advance because it will be determined between our company and you based on current market conditions and the content of each transaction etc. When making an actual transaction, please be sure to carefully read the materials presented to you prior to the execution of agreement, and to take responsibility for your own decisions regarding the signing of the agreement with us. Corporate Name: Daiwa Securities Capital Markets Co. Ltd. Financial instruments firm: chief of Kanto Local Finance Bureau (Kin-sho) No.109 Memberships: Japan Securities Dealers Association, Financial Futures Association of Japan Japan Securities Investment Advisers Association

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