When in the mid of Feb this year the confirmation came in of talks gaining momentum between Bharti and Zain; Indian Inc. waited with fingers crossed and questioning will Mittal be able to hit a century in its second African inning and close the deal or will it have the same fate as MTN. As we had seen last year Bharti-MTN deal going sour.

With Sunil Mittal signing the $10.7 bn. deal on the 23^rd floor of the World Trade Center in Amsterdam the combination have become 5^th largest telecom entity in the world putting to rest all doubts and with this Airtel’s call got finally connected in Africa.

Last year Bharti-MTN deal went sour because of the tug of war between the two Governments; with South African Govt. (a 21% stakeholder in MTN) not ready to leave MTN of its roots and its Indian counterpart not ready for a dual listing. The deal could have made Bharti a 3^rd largest telecom entity and the biggest out of China.

Bharti-Zain deal will not be as big as MTN, but it will definitely give Bharti a strong foothold in Africa. Zain operates in 15 African countries with a subscriber base of 42 mn., revenue of $2.7 bn. and EBITDA of $900 mn.

Bharti’s bold African Safari Funding Plan

Bharti have valued Zain’s Enterprise value at $10.7 bn. with Zain having a net debt of $1.7 bn. which will result in a payout of $9 bn. of which Bharti Airtel will pay an upfront cash payment of $8.3 bn. and the remaining $700 mn. will be paid after one year. Airtel have already raised $8.3 bn. for the proposed deal, it will get $7.5 bn. from a group of banks led by Standard Chartered and Barclays this loan will be in dollar denomination at around 195 basis points(bps) above the London Interbank Offer Rate, with an average loan tenure of 4.75 years and the other $1 bn. will be a rupee loan from State Bank of India.

To purchase Zain’s African asset Bharti have borrowed $9 bn. which is a hefty debt by any standards for this

Bharti have formed two SPV in the Netherland and Singapore. The SPV will own the African asset and will repay the debt from the cash flow of African operation and if there is a default Bharti will step in.

Analyst have raised concern over Bharti overpaying for this deal looking at $9 bn. which is 10 times Zain’s EBITDA on top of it Zain’s African operation in 2009 reported a loss of $35 mn. A debt of $9 bn. would stress Bharti’s balance sheet which is under-leveraged as of now with debt-equity ratio of 0.4 the current debt will shoot it up to 1.2, but with Bharti opting for a SPV route the debt will not impact its balance sheet in the near term. However the risk associated with it cannot be over looked with Bharti guarantying for the loan.

Challenges Ahead

If we further dissect Zain’s African operation what we see is Bharti have some major challenges in hand

Zain’s African operation will give Bharti a control over 15 African countries which constitute of 44% of total Zain’s revenue in this Nigeria is the largest in terms of subscribers and revenue it has a total 14,936 customers with revenue of $986mn. which accounts for 1/3 rd of Zain’s African revenue, but the Nigerian operation which had a $20mn net income in 2008 is running on a loss of around $88mn. in 2009. 6 other countries are also running on a net income loss which includes Uganda, Sierra leone, Madagascar, DRC, Kenya and Ghana. Bharti will have to turn around this loss making units through ability of controlling cost and scaling up its operation. But there is huge scope of growth in this region with mobile penetration on an average being around 45%. Bharti will be implementing its low cost Indian model for a turn around.

Another major challenge for Bharti will be of improving Zain’s operational efficiency by lowering its operational cost. Zain’s EBITDA margin across African operation is below 30%. But Zain enjoys an ARPU i.e. $8 which is better than bharti’s $4.9 ARPU.

Africa being a different continent altogether Bharti will have to tackle different regulatory, cultural and political hurdles across different countries.