Tata Communications is learnt to be close to making a formal cash offer to acquire Cable and Wireless Worldwide (CWW). The move is in line with Tata Comm?s need to raise capex, given the revenue growth challenges. This move needs to be seen in the larger overseas acquisition strategy of the Tata Group (which has yielded mixed results ? Corus hasn?t had much success yet, while JLR has seen a successful turnaround).
CWW is a low-margin business, offering managed voice and data, with more than 75% of its group revenue exposure in the UK, and the bulk of the rest serving UK corporates outside it. We have an UW(V) rating on the stock, given the structural decline in voice revenues, commoditisation of data connectivity and pricing pressure from BT, under-investment and an overall challenging business environment.
We value CWW at c$1bn (P/B 0.8x, stock traded at an average P/B of 0.9x over the last 12 months) and as, such, believe the payout for CWW above our fair value could be negative for Tata Comm. Assuming the deal goes through, CWW?s Ebitda would account for c70% of total Ebitda and, as such, the swing factor would be CWW margin expansion. Potential synergies will be largely from cost rationalisation, capex savings and vendor consolidation. CWW has substantial tax assets with $5.2 billion of UK Capital Allowances and $25.6 billion of tax losses (March 2011). But, with limited details, we are unable to compute to what extent Tata Comm could benefit from this.
Tata Comm?s acquisition of Tyco and Teleglobe in FY06 has not been very encouraging. Tata Comm?s revenue has grown at CAGR of c7% during FY07-11 and Ebitda CAGR during the same period has been c8% (both adjusted for Neotel). Improvement in network and transmission cost witnessed in FY08 were attributed to realisation of synergies from the acquisitions of Teleglobe and TGN.
However, the improvement was temporary. We continue to value Tata Comm?s on a DCF-based SOTP approach. We value the core business at R75/share, surplus land at R97/share, and investments in TTSL at R33/share. We retain our UW rating on the stock and target price of R205. HSBC