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Bharti's proposed acquisition of Zain: Our view - Views on News from Equitymaster
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Bharti's proposed acquisition of Zain: Our view
Feb 15, 2010

Bharti Airtel has made another bid to foray into the under-penetrated African telecom market. This time the company is eyeing Zain Telecom's African unit - Zain Africa BV. The acquisition is not finalized yet, as Bharti has just entered into exclusive talks with Zain (Kuwait's Mobile Telecommunications Co.). Anyways, the markets have already reacted to the news given that some experts believe that the price tag of US$ 10.7 bn is a way bit high for Bharti to pay for the struggling African business of Zain (which is in losses at the net profit level). And subsequently, the stock closed today almost 9% lower.

About Zain Africa
Zain's African business forms about 45% of the group's total revenues and 60% of the subscriber base. Nigeria is the biggest market within Africa and contributes 16% and 21% of Zain's revenues and subscriber base (total 71 m) respectively. The company's average revenue per user (within Africa only) ranges between US$ 3 per month and US$ 25 a month (compare this with Bharti's ARPU of about US$ 5 per month). The average operating margins for the African business stands at around 32%.

About Bharti's deal
Given Zain's African base of 41.9 m subscribers, Bharti will be paying around US$ 255 per subscriber for this acquisition. This is much higher than Bharti's own current valuation of around US$ 210 per subscriber. This has possibly got the market worried about the deal. What is more, as reported, Zain Africa is still loss making at the net profit level. Further, there is no clarity on how much debt is there on Zain's books.

However, we believe that it is too early to draw any conclusions on whether this deal is valuable or not. What we however know is that African telecom market has a high growth potential, given that less than 50% of the population have mobile phones. Also by expanding its business outside the country, Bharti Airtel will have the economies of scale to get more cost-efficient.

It is important to remember that Bharti's aggressiveness in moving to international markets is coming at a time when the Indian mobile service market is facing fierce competition. Tariff war has pushed call rates to below 1 paisa per second, the lowest in the world. The impact has been seen in Bharti's recent performance whereby it reported muted growth in sales and profits.

Given this, it is natural for the company to look beyond the Indian shores. And what better option can there be than Africa, a region that shares several of India's characteristics that have brought success to Indian telecom companies - low incomes and affordable tariffs, and a large rural population.

As for Bharti's balance sheet strength to manage this acquisition, the company has a net debt of Rs 19 bn currently. It is the only free cash flow positive company among all the telecom players and also has a low debt to equity ratio (of around 0.26 times). This should help the company take on some more debt on its books to fund Zain Africa's acquisition.

Given that the acquisition has just entered a discussion stage and will still take some time to be finalized, we will reserve our view on the same and the likely impact on Bharti. As for the company's current business, we remain positive on the same from a 2 to 3 years perspective.

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