The successful spectrum auction in March 2022 means Vodacom will rely less on Rain for its 4G network capacity, which can significantly impact Rain\u2019s roaming revenue and valuation.<\/p>\n
African Rainbow Capital Investments (ARC Investments) holds a 20.2% stake in Rain, which it values at R3.372 billion.<\/p>\n
Rain accounts for 24% of ARC Investments\u2019 total portfolio, meaning its valuation is crucial to assess the investment firm\u2019s prospects.<\/p>\n
The challenge for investors is that neither Rain nor ARC Investments has released financial or operational data, making a proper analysis impossible.<\/p>\n
It is because ARC Investments is not required to report these figures as they are classified as an investment entity, not a consolidated group.<\/p>\n
Over the last four years, Rain\u2019s valuation increased from R9.460 billion to R16.643 billion, raising eyebrows among investors.<\/p>\n
This valuation is based on a multistage discounted free cash flow method with a weighted average cost of capital (WACC) of 15.58%.<\/p>\n
It further uses undisclosed supernormal growth rates \u2013 based on Rain\u2019s subscriber growth \u2013 with a terminal value calculated at a terminal growth rate of 3%.<\/p>\n
Discounted cash flow valuations are notoriously sensitive to terminal growth rate forecasts as the greatest weighting of the valuation is determined by this metric.<\/p>\n
ARCs indicated that a 1% increase and decrease in the terminal growth rate would cause a R210 million increase and R179 million reduction to the fair value, respectively.<\/p>\n
It means that Rain is valued at a premium because of its expected future growth.<\/p>\n
Should the growth slow or its revenue take a knock because of a sudden change in the market, it can significantly impact Rain\u2019s valuation.<\/p>\n
Rain has enjoyed rapid growth as demand for broadband access and mobile data spiked during the lockdown.<\/p>\n
Over the last two years, the mobile operator recorded a rapid increase in 5G subscribers and roaming revenue from Vodacom \u2013 which uses Rain\u2019s network to serve its 4G data customers.<\/p>\n
The increased demand for data had helped Rain to exceed R1 billion in earnings before interest, taxes, depreciation, and amortisation (EBITDA) for the year ended February 2022.<\/p>\n
Rain continues to meet targets with strong demand for its 4G and 5G services, while its 5G rollouts across the country are progressing well.<\/p>\n
However, South Africa\u2019s successful spectrum auction in March has changed the mobile data landscape.<\/p>\n
Rain derives a large part of its R1 billion EBITDA from roaming revenue from Vodacom.<\/p>\n
The reason Vodacom partnered with Rain to roam on its network is that it lacked spectrum.<\/p>\n
Rain had valuable broadband spectrum \u2013 34MHz in the 1,800MHz band and 20MHz in the 2,600MHz band \u2013 and capitalised on this valuable resource to sign a favourable deal with Vodacom.<\/p>\n
The deal helped Rain to roll out a new 4G network with very little capital expenditure (Capex) and at a rapid rate.<\/p>\n
Rain also benefitted tremendously financially from its Vodacom partnership. ARC co-CEO Johan van Zyl said roaming revenue from Vodacom contributed around 80% of Rain\u2019s valuation in 2019.<\/p>\n
In March 2021, Van Zyl said a big part of the existing value which \u201cyou can put a price-to-earnings ratio (PE) on\u201d, came from Vodacom.<\/p>\n
In June 2022, Rain CEO Brandon Leigh said their 5G revenue contributes a much larger part to their EBITDA (earnings before interest, taxes, depreciation, and amortization) than previously.<\/p>\n
He said Rain\u2019s risk profile, where it was largely dependent on wholesale revenue from Vodacom for its EBITDA, changed significantly over the last three years.<\/p>\n
Although a larger portion of Rain\u2019s business comes from its 5G broadband and 4G today, roaming payments from Vodacom remains a core part of Rain\u2019s revenue.<\/p>\n
It brings us to the potential impact of the spectrum auction.<\/p>\n
Vodacom acquired 80Mhz spectrum in the 2,600MHz band, 10MHz in the 3,500Mhz band, and 20MHz in the 700MHz band.<\/p>\n
Vodacom is no longer in the same spectrum-starved situation when it signed a deal with Rain. In fact, it now has far more spectrum than Rain in the valuable 2,600Mhz band.<\/p>\n
It means Vodacom can move all its Rain roaming traffic to its own network without any deterioration in performance.<\/p>\n
Should this happen, Rain would be in trouble. It will lose a large part of its revenue and struggle to maintain its 4G network growth.<\/p>\n
Industry speculation suggests that Vodacom and Rain signed a new agreement which is more balanced and puts Rain at more risk.<\/p>\n
As the agreement remains secret, it is not clear if Vodacom has financial obligations and whether it is allowed to significantly cut its roaming on Rain.<\/p>\n
What is clear is that Rain faces a significant threat after the spectrum auction and that the tables have turned. Rain is now more reliant on Vodacom than the other way around.<\/p>\n
Daily Investor asked Vodacom and Rain for comment about the impact of the spectrum auction on their roaming agreement, but they are tight-lipped about the issue.<\/p>\n
Vodacom would not comment on whether it will reduce its roaming on Rain because it now has its own 2,600MHz spectrum. It only said its agreement with Rain is long-term in nature.<\/p>\n
\u201cWe will use a combination of our own spectrum, roaming arrangements, and capital investment to reach the most efficient capital allocation and best customer experience,\u201d Vodacom said.<\/p>\n
Rain would also not comment on the impact of the spectrum auction on its roaming revenue from Vodacom.<\/p>\n
It said it has a long-term agreement with Vodacom and has always planned for the auction.<\/p>\n
\u201cWe have successfully acquired 20MHz in the 700MHz band and an additional 20MHz in the 2600MHz band, taking us to 40MHz in the 2600MHz band,\u201d Rain added.<\/p>\n