Going by the whispers in the corridors of power, the government is likely to act on a proposal to allow BSNL and MTNL to buy a stake in the $8.5 bn telecom firm Zain which has operations in 22 countries in Africa and Central Asia. There is no formal Cabinet note yet, but how seriously the government is taking the matter can be seen from the fact, as reported by this newspaper, that though a joint committee of both PSUs rejected the idea of investing in an SPV controlled by the little-known Vavasi Group, both later wrote to Vavasi saying they were keen to take a majority stake in its SPV — they plan to buy 51 per cent of Vavasi's SPV which, in turn, will buy 46 per cent of Zain.
It is obviously true that PSUs have to be free to make their own investment decisions, but it is worth spending some time on the numbers — and not just Vavasi’s which has a share capital of Rs 5 lakh and a negative net worth of Rs 8.5 crore. First, at a price of around 2 Kuwati Dinars a share, this represents a whopping 49 per cent premium to Zain's current market price. A 49 per cent premium for what, at best, is only a financial investment is something that needs to be carefully thought over— BSNL/MTNL will have just a 23.5 per cent stake in Zain and even in the unlikely event of them using this to get a board position, a management role is by no means assured.
Two, if BSNL/MTNL are to finance the deal in the usual 2:1 manner, that’s a debt of $4.7 bn — the deal for 46 per cent of Zain’s shares is being valued at $13.7 bn and BSNL/MTNL are to take 51 per cent of this. At 10 per cent, that’s an annual interest outgo of $470 mn. Zain’s profits after tax in 2008 were $1.2 bn (going by first half figures, they will be lower this year) — assuming the very unlikely event the company distributes all its profits, BSNL/MTNL will get around $280 mn. In which case, the two will have to shell out $190 mn or more annually just to service debt, and that’s assuming Zain’s profits don’t dip — and we’re not even talking of any returns on equity!
Zain, it has to be kept in mind, is not a simple cash cow waiting to be milked. Its subscriber base rose 4.6 times between 2005 and 2008, but revenues rose a slower 3.4 times and profits and even slower 2 times — in other words, as in India, all future growth is coming with vastly lower profits. And not surprisingly, since Zain’s most profitable areas of operation are saturated. Four countries — Nigeria, Iraq, Kuwait and Sudan — of the 22 in which Zain operates account for 60 per cent of its revenues and 90 per cent of profits. Kuwait, which accounts for half the profits has a phone penetration of 125 per cent; Sudan which accounts for a third of profits has a penetration of just 36 per cent, but its war-torn history makes you want to think twice; Nigeria accounts for 17 cent of revenues but first-half losses this year were $91 mn (total H1 profits were $534 mn for Zain) — that this is largely due to currency movements means management will have to be even more sophisticated since Zain operates in 22 countries.
| ZAIN OR BANE? (BSNL/MTNL will be hard put to justify buying into Zain Telecom) | |||||
| Both PSUs are in a financial mess (Rs crore) | |||||
| 2004-05 | 2005-06 | 2006-07 | 2007-08 | 2008-09 | |
| BSNL | |||||
| Revenues | 36,090 | 40,177 | 39,715 | 38,047 | 35,812 |
| Profits | 10,183 | 8,940 | 7,806 | 3,009 | 574 |
| MTNL | |||||
| Revenues | 5,016 | 4,667 | 4,548 | 4,471 | 4,184 |
| Profits | 341 | 107 | 1,130 | 246 | 114 |
| Note: BSNL’s interest earnings were Rs 2,788 cr in 2006-07, Rs 4,004 cr in 2007-08 and Rs 3,845 cr in 2008-09. So it has been making operating losses since 2007-08. MTNL’s operating losses in 2007-08 were Rs 474 crore and Rs 667 crore in 2008-09. | |||||
| Zain’s acquisition will bleed them further | |||||
| Likely BSNL/MTNL share in Zain acquisition: $ 7bn Of which, debt $ 4.7 bn (assuming a 2:1 debt-equity ratio) So, annual debt service cost $ 470 mn Zain profit in 2008: $1.2 bn BSNL/MTNL share*: $280 mn (assuming Zain profits don't decline in future) * based on a 51% stake of Vavasi SPV’s 46% | |||||
Combine the fact that Zain is an operation that requires a lot of cleaning up (it’s return on capital is just 11.1 per cent as compared to MTN’s 34.7 per cent, according to broking firm CLSA) with BSNL/MTNL’s poor track record (see table) and this is a disaster waiting to be dialled. Revenues for both firms continue to fall in a growing market and profits over the last two years are solely based on their cash balances — Zain will ensure even these fall dramatically. Why not just take away all BSNL/MTNL’s free capital through a special dividend — that way, at least the money will remain within the country, and with the government?
