SSTL approves merger with Reliance Communication

The board of Russia's Sistema Shyam Teleservices (SSTL), which operates telecom services under the MTS brand, today approved its de-merger with Anil Ambani's Reliance Communications (RCom).The all-stock deal, subject to regulatory and shareholder approvals, will create the country's fourth largest telecom operator. RCom will acquire MTS' 8 million customers and about Rs 1,500 crore in revenues.Under the agreement, the MTS brand will cease to exist post the deal completion and the entity will be branded as ' Reliance Communications'. As per deal, Sistema Group will hold a maximum of 10 percent in the merged entity.RCom said it would take on no liabilities of SSTL, barring its Department of Telecom installments payable over 10 years.RCom currently has 110 million subscribers.Post the closure of the deal and the expansion of equity base, the promoter shareholding in Reliance Communications will come down to about 52-54 percent.Speaking to CNBC-TV18, Dipan Mehta, Member of BSE and NSE, says that the deal will be positive for RCom and its effects will reflect in the company’s topline and the bottomline. Backing Mehta, Nitin Soni of Fitch Ratings says the firm holds a stable outlook for the company and the deal will be credit neutral for RCom. He also believes that a combination with Reliance Jio will boost to the company’s growth going forward. Meanwhile, SP Tulsian of sptulsian.com believes this deal will enable RCom to launch 4G. However, unless objectives of reducing the debt are achieved the company won’t be re-rated, he adds."RComm has changed radically," says Prakash Diwan, adding, "Once there is a lot of cash infusion and the company will reduce its own debt as well as improve its balance sheet with this asset on its hand now."_PAGEBREAK_Below is the transcript of Nitin Soni, Dipan Mehta, SP Tulsian and Prakash Diwan’s interview with Kritika Saxena, Sonia Shenoy and Ekta Batra on CNBC-TV18.Kritika: The Rs 392 crore payment per year to Department of Telecommunications (DOT) essentially terms up to b around Rs 2,500 crore in all. Is that a concern for you because that is the only little bit of a liability that is coming on board. The debt of Rs 3,800 crore is going to be taken care of by Sistema. Reliance Communications is already sitting on a fat pile of debt. Is that a little bit of a breather for RComm investors and do you believe that as far as the debt woes of Rcomm is concerned, they are still not cleared yet?Soni: We believe that this deal is credit neutral for the company, but RComm, the ownership of spectrum assets of 850 megahertz in eight Indian circles and additional nine million subscribers will benefit and will also enhance the stability to have some combination in terms of spectrum sharing or trading with Jio. But overall, in terms of cash generation, we do not believe that it is going to get them much cash generation and then there is additional liability every year of Rs 392 crore which they will have to pay to the government as part of the deferred spectrum liability which Sistema acquired in the recent auctions. The main news we would be looking at would be some combination with Jio which will actually give them the cash flows for monetisation of their spectrum assets because now between Sistema, RComm and Jio, they have a large amount of, 800-850 megahertz spectrum which is crucial to launch the 4G services next year.Kritika: Give me a brief about, have you gone through the contours, they have not given the swap ratio yet if I am correct, but net-net how does the deal look like for Reliance Communications?Mehta: Certainly, it is positive for RComm and the company had been under stress on account of debt and various acquisitions and the overall problems related to the telecom industry. Some amount of consolidation is inevitable in a highly competitive industry like telecom and that actually is taking place and certainly very positive for RComm. But the bigger trigger will come through when Reliance Jio is launched and you know exactly how the relationship between Reliance Jio and RComm will actually evolve and what the benefits will come through RComm because of this massive launch which Reliance Industries is undertaking. But my sense is that the management is taking all the right steps getting its books in order, getting the balance sheet in order and also trying to increase its footprint, keep costs under control. And these are all turnaround measures which eventually over a 2-3 year period will start getting reflected in the topline and bottomline.Sonia: From an investor’s or a trader’s point of view, how do you approach the stock now? Does it become a buy at these levels?Tulsian: If I quickly go through the broad contours of this deal, what reliance communication has go is nine million customers and Rs 1,500 crore of annual revenue. And if I go by the present annual revenue of the company, it is at Rs 22,000 crore. And in addition to this revenue of Rs 1,500 crore, they will be assuming the debt also, which if I discount it at the present value works out to Rs 2,500 crore or it is Rs 3,920 crore which needs to be paid in the next 10 years. Because of this deal, they are getting 800 and 850 megahertz band which will enable the company to launch the 4G. But if I just go by the market, what they want from RComm, that they want them to improve the profitability and curtail the debt. I do not think by this deal, both the objectives are being achieved by the company because firstly, I am not very sure about the profitability in view of the competition which we will be seeing in 4G also. Merely on the topline of Rs 1,500 crore, I will not be too happy to extrapolate or to work out the profitability which will get added to the bottomline of the company for which 10 percent dilution has happened. So, first that is the big negative.Number two, already company has debt of Rs 38,000-39,000 crore and then on top of it, they are adding another maybe closer to as I said, Rs 2,500 crore if I take the discounted value or whatever it is, it works out to, again that is not going to be seen quite positive. So, taking all these fears in the near-term, for the traders it may look a positive step that yes, the company is becoming a little larger, but that is not the desire or that is not what the market was really expecting from the company. So, I am not too enthused with this deal that this will change the fundamentals or this will alleviate RComm going forward from here.Kritika: Just to take away from that point, as you said, there are pros and cons over here. If you evaluate and balance out the pros and cons, does it really make sense to acquire a loss making entity just for nine million subscribers and are you not also concerned what happened in the case of Bharti Airtel and Loop, they were looking for subscribers in Mumbai, eventually, the subscribers ported out. So, if you remove the subscriber aspect, are the other assets with respect to the spectrum with respect to the sites that they will be taking on. Are they good enough for RComm to be able to at least create a base expand later?Tulsian: Actually, that is a very valid point which I am not in fact incorporated or added in my analysis. If you see Bharti and Loop is that that did not go through and the valuation at that point o time was much lower. And if I say that the migration of the subscriber from Sistema, will move to the other subscribers, that will again be taking the extreme negative view. So, I have kept my view constant that what they are acquiring the nine million customers and Rs 1,500 crore topline. So, as I said that on a topline of Rs 22,000 crore, it is the matter of profitability. Where RComm is struggling now, they have a respectable topline – I will not say that respectable, at least they have a topline – but they are struggling on the profitability if I compare with any other similar size of telecom service provider. And second is high debt. And by doing this, I do not think that both these things are being achieved by RComm going forward. If you just take a call that okay, 4G, can you just say that in 4G RComm will be a significant player, I do not think so, because looking to the Reliance Jio and Bharti, I think both will be taking the larger pie of the 4G segments and I do not think on that front, in fact in my view, the balance sheet is getting worsened from here on. It is difficult to take a call on the profitability, as I said, because I am not trying to make any hazard guess on that. But I am not too happy and enthused with the Rs 1,500 crore topline, nine million customer, assuming a debt of maybe closer to about Rs 2,500 crore with 10 percent equity dilution.Ekta: How have you read this deal and just to take that point forward which Mr Tulsian said that the debt figures do not change for Reliance Communication at all and there is impending competition in the industry as well. Your thoughts in terms of the fundamentals for Reliance Communication say, even one year down the line?Diwan: Absolutely, I am glad you are seeking to figure out what happens to the fundamentals a year later because this is a work in progress kind of a step for Reliance Communication. Let me put it in a very simple way what difference it makes to RComm as a company as a stock. SSTL being acquired by Rcomm makes Rcomm look much better for acquisition by somebody else. And you know who that somebody else would be. The simple reason is you are paying Rs 400 crore or under Rs 400 crore for the spectrum. You have the freedom to pay in the next 10 years as instalments. You cannot get this quality of spectrum especially if you are looking at 4G. RComm on a standalone basis, is it capable of getting into headlong competition with Bharti and Idea and Vodafone on 4G? No way. But there is somebody who is getting interested in RComm because of this 4G and it just becomes a work in progress a stepping stone to finally get it.So, RComm has changed radically. Once there is a lot of cash infusion, it reduces its own debt, improves its balance sheet. With this asset on its hand now.Sonia: But the point is would you advise buying it at Rs 77?Diwan: There could be, once people understand the contours of this merger, there could be a little bit of a sell-off. As Mr Tulsian was explaining, there was too much of expectations, so it is like people will kind of sell into the news. Once that happens and it stabilises, my sense is that about Rs 72-70 levels, that is the time you need to buy RComm, keep it in your portfolio for six months and I would not be surprised even if it goes to Rs 100 plus by that time. So, the reason is it is going to be a very different animal with the new acquisition and somebody else coming and improving the balance sheet simultaneously. This is what happened to Suzlon when money came in, it was a write-off case, nobody wanted to touch it and things changed in that industry. So, this is what is going to happen with 4G and Reliance Jio launch. So, you can connect the dots and this is becomes a very different background.