Bharti Airtel’s move to acquire Zain’s Africa-based telecom operations could put pressure on the former’s resources in the short term.
The markets have given a thumbs down to Bharti Airtel’s announcement that it has entered into exclusive discussions with Kuwait-based Zain to buy out the latter’s African assets for an enterprise value (EV) of $10.7 billion. The stock lost 11.1 per cent since February 11 to Rs 279 with its market cap falling by $3.5 billion. If successful, the move will give the company a foothold in Africa and add 42 million customers to Bharti’s 118 million, taking its total wireless base to 160 million.
Though opinion is divided on the deal, most analysts are bearish on the short-term due to the debt that would be raised and the impact on 2010-11 financials. While Bharti is in a strong position financially with debt-to-equity ratio of about 0.5, it could take substantial resources to turnaround the African business which has debt of $1.7 billion and reported a loss of $49 million for the nine month period ended September 2009.
| SHORT-TERM PAIN | |||
| FY10 estimates in $bn | Bharti Airtel | Zain Africa | Combined entity |
| Sales | 8.29 | 3.59 | 11.88 |
| Ebidta | 3.40 | 1.20 | 4.60 |
| Net profit | 1.76 | -0.05 | 1.71 |
| Wireless subs (mn) | 118.00 | 42.00 | 160.00 |
| Enterprise Value | 26.33 | 10.70 | 37.03 |
| EV/Ebidta (x) | 7.69 | 8.91 | 8.05 |
| EV/Subscriber ($) | 221.00 | 255.00 | 231.00 |
| Cash Profit | 3.53 | - | 3.53 |
| Debt | 0.42 | 1.70 | 2.12 |
| P/E (x) | 12.13 | 13.48 | |
| Enterprise value (EV) based on market price of Rs 314 Source: Companies, Analyst reports | |||
What does Bharti get?
Zain Africa’s wireless telephony services stretches from Sierra Leone in the West to Kenya in the East. Of the 15 countries which are part of deal, the five biggest markets are Nigeria, Democratic Republic of Congo (DRC), Tanzania, Kenya and Uganda and constitute two-thirds of the total subscriber base with penetration rates at about 35 per cent. The average revenue per user (ARPU) for these countries is $5.6, which is lower than the 15-country ARPU average of nearly $8. Except DRC, there are four or less operators in these circles unlike the hyper competition that Bharti has to face back home.
On the competition front, except Nigeria and Uganda where it is number two, Zain dominates the other key areas, with market shares well in excess of 30 per cent. Operating profit margins in Nigeria and DRC, biggest geographies in the 15-country basket, are at 34 per cent and 21 per cent respectively, which is much less than Bharti’s 40 per cent. Because of the difference, analysts say that if Bharti can improve the operational efficiencies at Zain’s African properties and replicate its low-cost model in the acquired entity, there could be a scope to improve profitability.
Short-term concerns
Considering that Zain has about 42 million customers and an estimated CY09 earnings before depreciation, interest, tax and amortization (Ebdita) of $1.2 billion, the deal is valued at EV/subscriber and EV/Ebidta of $255 and 8.91 times, respectively. Most analysts have termed the deal as an expensive one given that they come at a substantial premium to Bharti’s EV/subscriber of $221 and EV/Ebidta of 7.69 times. If Bharti were to raise the money entirely through debt to fund the deal, analysts believe the additional interest costs would reduce the company’s estimated 2010-11 EPS by 6 per cent-10 per cent. In the long run though, a foray into Africa will help Bharti sustain growth rates.
At the current price the stock is trading at 12 times its 2009-10 estimated earnings from Indian operations. Given the uncertainty on the outcome of the deal as well as the price war brewing at home, its earnings will continue to be under pressure.