IMT GHAZIABAD
MACR Project Bharti Airtel – Zain Deal Analysis Prepared by Deepali Rai 09FN-064 Parvesh Bansal 09FN-074 Rohit Sharda 09FN-093 Sahil Pabby 09FN-096
31/12/2010
Submitted to Prof. Alok Kumar as part of the MACR project undertaken in Term V of the PGDM course in Finance
Contents Introduction .................................................................................................................................................. 3 Transaction details ........................................................................................................................................ 4 Parties involved in the Transaction............................................................................................................... 5 What attracted Bharti Airtel to takeover Zain Africa? .................................................................................. 6 Reaction to the deal ...................................................................................................................................... 7 Cost savings in Zain ....................................................................................................................................... 8 Valuations ..................................................................................................................................................... 8 Annexure 1 : Airtel Valuation (RS MILLION) ................................................................................................. 9 Annexure 2 : Synergy valuation .................................................................................................................. 11
Introduction On February 15, 2010, Bharti Airtel announced that it had entered into exclusive discussions with Mobile Telecommunications Company KSC (“Zain”) for the acquisition of Zain Africa International BV (“Zain Africa”) and thereby the entire African operations of Zain, excluding the operations in Sudan and Morocco. With bitter experience to haunt, Bharti Airtel strategically played it safe this time and made an offer to Zain which it just could not refuse. For a commercially ailing Zain, Bharti Airtel's offer of USD 10.7 billion was a jackpot. On March 30, 2010, Mr. Sunil Bharti Mittal, Chairman and Managing Director of Bharti Airtel and Mr. Asaad Al, Banwan, Chairman, Zain Group executed the definitive agreements at Netherlands marking the transformation of Bharti Airtel into an emerging-market multinational. The acquisition is the largest by an Indian company, second only to the USD 12 billion takeover of Corus by Tata Steel in 2007. In the Indian telecom space, the deal is the second largest after the USD 11.2 billion (approximately) Vodafone Hutchison transaction in 2007.
Transaction details Acquirer
Bharti Airtel Limited
Seller
Mobile Telecommunications Company KSC
Target
Zain Africa International BV
Acquisition
Bharti Airtel Limited indirectly acquired 100% of Zain Africa International BV and its business operations in Africa from Zain under a privately negotiated agreement.
Mode of
Security (Share) Sale
acquisition Consideration
USD 10.7 billion
Mode of
All cash deal Bharti Airtel to pay:
Payment
a) USD 8.3 billion within three months from the date of closing; b) USD 700 million after one year from the date of closing; and c) USD 1.7 billion assumed as debt on the books of Zain.
Funding
Leveraged Buy-out a) Bharti Airtel to borrow USD 7.5 billion from a consortium of banks led by Standard Chartered Bank and Barclays Bank. b) Bharti Airtel to avail of a rupee loan of USD 1 billion equivalent from SBI Group.
Parties involved in the Transaction Bharti Airtel India’s first private telecom services provider with a footprint in all the 23 telecom circles. Widely regarded as India’s largest telecom service provider in terms of annual revenues, Bharti Airtel provides mobile & fixed wireless services using GSM technology across all the telecom circles along with broadband & telephone services in 94 cities. All these services are provided under the “Airtel” brand. Bharti Airtel, as we understand, also has licenses to operate telecom operations in Sri Lanka and Seychelles. In January 2010, it acquired Warid Telecom, a 3-million-subscriber company based in Dhaka, Bangladesh for USD 300 million. Zain Zain was established in 1983 in Kuwait as the region's first mobile operator. It is a public company engaged, together with its subsidiaries, in the provision of mobile telecommunication and data services, including operation, purchase, delivery, installation, management and maintenance of mobile telephones and paging systems in Kuwait and 21 other countries in the Middle East and North Africa. Its wholly owned subsidiaries include; Mobile Telecommunications Company Lebanon (MTC) SARL, Lebanon, and Sudanese Mobile Telephone (Zain) Company Limited, Sudan.
Zain Africa Wholly owned subsidiary of Zain, incorporated in Netherlands and held the African operations of Zain. The company was originally named Celtel which was acquired by Zain in 2005 and renamed as Zain International BV. The same has been acquired by Bharti Airtel now through Bharti Airtel Netherlands BV.
What attracted Bharti Airtel to takeover Zain Africa? Expansion was necessary : Bharti Airtel left the world gasping in horror with its “out of the box” decision to hand over every core function from IT to networks, to IBM in 2004. The idea was to remain and grow as a core telecom company which it did and did with elegance. In the telecom space, Bharti Airtel notched up its 100 millionth customer last May and also overtook BSNL to become India’s largest telecom company by revenues that year but there was continuous drop in the margin of profit over the years. The visionaries who led the company could easily notice the mounting competition in the Indian telecom market with 13 service providers battling out for a chunk of the revenue. Bharti Airtel identified various speed breakers to its growth in India. The Indian telecom market has almost reached its saturation point with scope of expansion left only in the inner part of rural India. Being a core telecom company it could not diversify its portfolio into other business and geographic expansion into new markets was the only strategic alternative to escape slowing profit growth in India. Also, it was indispensable for Bharti Airtel to reduce its dependence on the fast-saturating Indian wireless market. This realization is what compelled Bharti Airtel to establish its presence in Africa. Hence, this investment, despite being on the costlier side was a business necessity for Bharti Airtel. Long-term benefits are alluring : Even with all the financial drawbacks, Zain Africa is a strategic investment for Bharti Airtel from a longterm perspective. Post acquisition, Bharti Airtel will become fifth largest service provider in terms of the number of subscribers. Acquisition of so many assets and access to so many markets through one single transaction happen very rarely. The size of Zain Africa's business diversifies Bharti Airtel's risk portfolio away from its concentration in South Asia. The combined businesses will be able to withstand global business shocks much better and will give it additional leverage in capital investments and with key vendors. Africa is where the next round of telecom growth is due. With the aim to enter into the continent and to widen their risk portfolio from India, it made sense for Bharti Airtel to invest into Africa. Zain's African business was considered a natural target for Bharti Airtel, which has thrived in an Indian market with low incomes and tariffs and a heavily rural population – characteristics shared by African nations. The multi-geography strategy will be a blessing in the long run. For Bharti Airtel, this is the start of being a truly global player.
The African market has high growth potential for Bharti Airtel as the region is currently underpenetrated. The average revenue per user of Zain Africa is quite high and that justifies its current valuation by Bharti Airtel. If Bharti Airtel can attain operational synergies with Zain Africa, it can go for more such acquisitions in the coming days as the Indian market is gradually getting saturated. Financing is strategically managed Bharti Airtel has structured this acquisition as a leveraged buyout and the loan for financing the transaction has been availed by the two SPVs created in Netherlands and Singapore for the purposes of this acquisition. The SPVs will take the borrowings, aggregating to USD 8.3 billion, on its balance sheet. Bharti Airtel Netherlands BV will avail loan to the tune of USD 5.5 billion and the Singapore SPV will borrow the rest of the amount. Once Bharti Airtel is able to transplant its Indian model to Africa, the negative earnings per share of the African assets on Bharti Airtel’s financials would diminish. Bharti Airtel’s decision to opt for the SPV route makes a lot of sense since it will not impact the parent’s balance sheet in the near term. At the end of the quarter to December 2009, Bharti Airtel’s debt-equity ratio was 0.4 and this would have shot up to 1.2, had Bharti Airtel taken the loan on its books. That would have limited Bharti Airtel’s ability to raise funds in the future for expansion into new third generation technologies through participation in the 3G spectrum allocation. Hence, Bharti Airtel has structured the acquisition strategically and routed it through the SPVs keeping Bharti Airtel’s standalone financials intact. However, that does not absolve Bharti Airtel from overall responsibility of a borrower since it has provided a guarantee to bankers for the loan that will be in the SPV‟s books.
Reaction to the deal Despite Bharti Airtel’s optimism, 8.2 million shares of the company changed hands within first two months. The value of the shares fell to 16-month low of Rs 272. Investors were apprehensive of the deal being largely debt-funded. Though, Bharti Airtel has the history of keeping its debts low (it is just 0.4 times the 2010 EBITDA), the deal could stretch its balance sheet a tad too much. The subsequent 3G auction added to the worry. Investors considered Bharti Airtel’s present valuation of USD 2 billion debt ridden company at ten times its EBITDA is not worthwhile. Credit rating agencies Crisil and S&P placed Bharti Airtel’s long-term banking facilities and debt programmes on “rating watch with negative implications”. Also, investors were wary as to how Bharti Airtel would fare in African market, with 15 different regulatory bodies.
Cost savings in Zain Airtel will achieve two types of cost savings : 1. Cost of operation : As of now, the EBITDA margin of Zain is 32%. It is anticipated that Airtel will be able to copy the low cost model to Zain also and EBITDA margin of Zain will rise to 40% (current Ebitda margin of Airtel) till 2014. 2. Fixed asset cost : One major capital expenditure of any telecom company is in setting up the Base Transmitter Station. It forms around 80% of the capital expenditure of any telecom company. Right now, capital investment of Zain is 40% of the increase in sales while that of Airtel is 30% of the increase in sales. It is anticipated that Airtel will be able to lower the capital expenditure to 30% of the sales till 2014.
Valuations Airtel Airtel’s valuation is done using Discounted Free Cash flow model using which the value of the form is coming out to be Rs. 2353520mn (refer to annexure 1). In this valuation, the increase in ARPU is also considered due to 3G introduction. It is assumed that around 5% of the 2G users will switch from 2G to 3G for year 2012 and 2013 while 7.5% will switch to 3G for year 2014. The intrinsic value of the share price is coming out to be Rs 593 (approx.). Zain Free cash flows for Zain are negative considering the existing cost conditions. Using EV/EBITDA approach value of Zain is coming out to be around USD 7bn (considering EBITDA of USD 1bn).
Annexure 1 : Airtel Valuation (RS MILLION) INCOME STATEMENT 2009 369615 36.8 217937 151678 41 47581 104097 11613 589 93073 6615 86458 7.1 1759 0.0203 84699
Revenues Change (%) Total Expenses EBITDA % of Gross Sales Depn. & Amortization EBIT Net finance cost Other Income PBT Tax PAT Rate (%) Minority Interest Minority Interest % Adjusted PAT
2010 418472 13.2 250839 167633 40.1 62832 104800 178 468 105090 13453 91637 12.8 1870 0.020407 89767
2011 451949.8 1.08 270906.1 181043.6 0.400584 67052.5 113991.1 13910.88 0 100080.3 15012.04 85068.22
2012 583242 1.290502 306123.9 277118.1 0.475134 70006.57 207111.5 10910.88 0 196200.6 29430.09 166770.5
2013 609833.5 1.045593 336736.3 273097.2 0.447823 70604.88 202492.4 7910.88 0 194581.5 29187.22 165394.3
2014 670757.2 1.099902 370409.9 300347.3 0.447773 71975.67 228371.6 4910.88 0 223460.7 33519.11 189941.6
1735.954 0.020407 83332.27
3403.22 0.020407 163367.3
3375.135 0.020407 162019.1
3876.064 0.020407 186065.6
Revenue breakup
Total Revenues 2G Others Total Expected Revenues
2009 369615
2010 418472
2011
2012
2013
2014
247642.1 121973
280376.2 138095.8
302806.3 149143.4
422167.1 161074.9
435872.7 173960.9
482879.5 187877.8
369615
418472
451949.8
583242
609833.5
670757.2
2011
2012 3 0.44 0.568 1.08 0.61344
2013 2.5 0.44 0.543 1.08 0.58644
Revenue Calculation
3 G tarrif 2G Weighted Average ARPU Growth in MOU/Subscribers Num for growth in revenues
2014 2 0.44 0.557 1.08 0.60156
Free Cash Flow valuation
FCF EBIT EBIT(1-.15) NCC FCInv WCInv FCF Terminal Value Total Present Value Factor Value of firm Market Value of Debt Value of Equity Total Number of Shares Share Price EPS P/E
2011
2012
2013
2014
113991.1 96892.47 67052.5 132993.3 6695.552 24256.09
207111.5 176044.8 70006.57 39387.67 26258.45 180405.2
202492.4 172118.5 70604.88 7977.467 5318.311 229427.6
24256.09 0.897436 21768.28 2353520 101898 2251622 3793.9 593.4849 23.66088 25.08296
180405.2 0.805391 145296.8
229427.6 0.722787 165827.3
228371.6 194115.9 71975.67 18277.11 12184.74 235629.7 2879475 3115105 0.648655 2020628
Annexure 2 : Synergy valuation As already discussed, cast savings for Zain would be in two ways : 1. EBITDA margin increase to 40% till 2014 (in steps) with around 1.5% increase each year. 2. Capital investment reduction to 30% (in steps) till 2014. Differences between the free cash flows generated for pre-deal and post-deal scenarios are calculated for each year till 2014. The present value of those cash flows is considered to be the actual cost savings. Cost Saving Calculation (Rs. Crore) Ebitda Margin Improvement
Revenues Ebitda margin (Pre acquisition) Ebitda Ebitda margin (Post Acquisition)
2009 15288 0.32 4892.16
2010 16816.8 0.32 5381.376
2011 18498.48 0.32 5919.514 0.34
2012 20348.33 0.32 6511.465 0.36
2013 22383.16 0.32 7162.611 0.38
2014 24621.4769 0.32 7878.8726 0.4
2009 6115.2
2010 6726.72
2011 7399.392 6881.435
2012 8139.331 6714.948
2013 8953.264 6714.948
2014 9848.59075 7386.44306
CapEx improvement
CapEx (Pre acquisition) CapEx (Post Acquisition)
Free cash Flow Calculation-Pre Deal Pre Deal Ebitda Ebitda - Dep (Ebitda - Dep)(1-t) Plus : Dep minus : CAPEX Rough FCF
2011 5919.514 5364.559 4559.875 554.9544 7399.392 -2284.56
2012 6511.465 5901.015 5015.863 610.4498 8139.331 -2513.02
2013 7162.611 6491.117 5517.449 671.4948 8953.264 -2764.32
2014 7878.873 7140.228 6069.194 738.6443 9848.591 -3040.75
2011 6289.483
2012 7325.398
2013 8505.601
2014 9848.591
Free cash Flow Calculation-Post Deal
Post deal Ebitda
Ebitda - Dep (Ebitda - Dep)(1-t) Plus : Dep minus : CAPEX Rough FCF
5773.376 4907.369 516.1076 6881.435 -1457.96
6821.777 5798.51 503.6211 6714.948 -412.817
8001.98 6801.683 503.6211 6714.948 590.3559
9294.608 7900.416 553.9832 7386.443 1067.957
826.6046 0.894454 739.3601
2100.202 0.800049 1680.264
3354.676 0.715607 2400.63
4108.709 0.640078 2629.894
Free Cash Flow Improvement :
FCF improvement PV factors Present Values Total of PV
7450.147
Therefore, the present value of the cost savings is Rs. 7450.147 Cr.
