c

c
<

 
   
c

c


c

c A Brief Analysis of Bharti-Zain Dealc

c

c
1



1.c ntroduction
2.c ndustry Analysis
3.c About Airtel- Activities and Value chain
4.c About Zain- Activities and value chain
5.c Deal structure and details
6.c Strategic rationale for the deal (Strategic Due Diligence).
7.c Financial Valuations ( Fair value + VOC + Synergy)
8.c Financial analysis in terms of synergy?
9.c Legal ssues involved
10.c Expected benefits from the deal.
11.c Recommendation and Conclusion
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
c
 2
<




Mergers and Acquisitions (M&A) are strategic tools in the hands of management to achieve
greater efficiency by exploiting synergies and growth opportunities.This is a case where
Bharti Airtel, the telecom giant of ndia, after having to take over MTN, has acquired Zain
Africa nternational BV (Zain) as a strategic step to gain access to very promising African
markets.

On March 30, 2010, Mr. Sunil Bharti Mittal, Chairman and Managing Director of Bharti
Airtel and Mr. Asaad Al, Banwan, Chairman, Zain Group signed the agreement marking the
transformation of Bharti Airtel into an emerging-market multinational. This acquisition is
the largest by an ndian company, second only to the USD 12 billion take over of Corus by
Tata Steel in 2007.1 n the ndian telecom space, the deal is the second largest after the USD
11.2 billion (approximately) Vodafone Hutchison transaction in 2007. All this makes this
one of the most important deal in ndian M&A history. But, will the transaction prove to be
<

 
    


expensive for Bharti Airtel? What attracted Bharti Airtel to takeover Zain Africa? What will
be Bharti Airtel´s strategy for Zain Africa? How have the investors reacted to the deal? What
are the legal issues involved?

These are some of the questions that we are trying to answer through this report. After
taking some assumptions, we have tried to value the deal and analyse the probable benefits
that will accrue to Bharti due to this deal.
3

  c

The telecommunication industry has been growing by leaps and bounds over the years. The
growth of telecom industry has been nothing short of a fairytale. Even now, the sector
remains as one of the most promising sector. The sector has a very large and growing
customer base. By 2013, teledensity is expected to reach to 75%. But some things have
changed in Telecom ndustry over the years. Not long ago, the telecommunications industry
was comprised of a club of big national and regional operators. Over the past decade, the
industry has been swept up in rapid deregulation and innovation. n many countries around
the world, government monopolies are now getting privatized.

Telecom is becoming less about voice and more about text and images. High-speed internet
access, which delivers computer-based data applications such as broadband information
services and interactive entertainment, is rapidly making its way into homes and businesses
around the world.c Telecom operators also make money by providing network connectivity
to other telecom companies that need it, and by wholesaling circuits to heavy network users
like internet service providers and large corporations. nterconnected and wholesale
markets favor those players with far-reaching networks.

Ô
cc

Also, it is very important to have the size advantage in this industry.c t is an expensive
business; contenders need to be large enough and produce sufficient cash flow to absorb the
costs of expanding networks and services that become obsolete seemingly overnight.
Transmission systems need to be replaced as frequently as every two years. Big companies
that own extensive networks - especially local networks that stretch directly into customers'
homes and businesses - are less reliant on interconnecting with other companies to get calls
 4
<


and data to their final destinations. By contrast, smaller players must pay for interconnection
more often in order to finish the job.c
c to cover high fixed costs, serious contenders
typically require a lot of cash. When capital markets are generous, the threat of competitive
entrants escalates. When financing opportunities are less readily available, the pace of entry
slows. Meanwhile, ownership of a telecom license can also represent a huge barrier to
entry. Thus, the entry itself can also be regulated. All these issues usually make entry into
telecom sector a very tough nut to crack.

"  Ôcc
 Ô  c c
"cÔ
 
Another trend that has been coming up in recent times is that because of so many players in
already saturated markets, some companies have started looking to other countries for
expanding their customer base. Here, come the importance of Mergers and acquisitions in
telecom industry. c

According to some estimates, merger and acquisition volume in the telecom space
<

 
    


worldwide stood at $88.3 billion this year. According to the deal-tracking firm Dealogic,
global telecom volumes in 2009 stood at $88.3 billion through 571 deals. An analysis of
telecom deals across the world shows that the US is the most targeted nation for M&A. The
deals in US accounted for 50 per cent of the global M&A volume in 2008. Even in ndian
scenario, we see that telecom industry is moving towards consolidation. After Vodafone and
Hutch, Spice and dea, it is Bharti Airtel who desires to expand through the route of Merger
and Acquisition. The deal is being seen as a very good strategic move by Bharti to enter a
very promising market, i.e. Africa. The acquisition of additional makets, products and
services has thus become a very profitable move for telecom companies. Even in future, the
ndustry is expected to consolidate further and cost and size advantage of bigger operations
will eventually come into play.c
5

   ! ! " 

#  ! ! " 

<

 
    
 6
<


 
7

 $ g
c

 8
<


Ô
 c c c c   of any M&A deal can be done by looking into the
strategic fit, strategic rationale and strategic logic behind it.t involves weighing many factors like
careful analysis of current market share, planned market share, quality of existing customer base,
revenue mix, average ARPU in the service area, per minute revenue (RPM), review of marketing
strategy, customer care philosophy, ability of existing channel partners to promote the services and
withstand competition, reason for low performance of the target company, synergies which are
likely to be enjoyed on acquisition, likelihood of entry of new competitors in the licenced area,
strategic initiatives needed to establish market leadership etc.

According to a May 2008 Wireless ntelligence report, African mobile subscribers were set
to pass the 300 million mark by the middle of this year (which sees the continent surpassing
North America in terms of subscriber numbers). When fully exploited, this is a billion
dollar industry, which contributes 5.4 per cent to the global revenues ² a figure close to
US$34.4 billion mobile communications industry. With 95 per cent of subscribers on pre-
paid platforms, this is a cash business with good revenue streams. The following are some of
the main reasons which promise a good strategic fit of the Bharti-Zain deal.

Mc The BHarti·s acquisition of Zain Africa has fulfilled the company's ambitions to expand into
markets outside ndia. Zain African Assets offer a good strategic fit for Bharti·s future
growth prospects citing pressure on domestic revenues. Bharti is currently trading at 2.7x
Net debt/EBDTA which is comfortable considering the size of the African assets. Lower
<

 
    


finance cost (than earlier expected) & improvement in margins of Zain operations over
CY09-CY11E period will be the key near term catalysts.

Mc By expanding its business outside the country, Bharti Airtel can in the long term benefit
from economies of scale, including getting better deals from suppliers. t is because most of
of the suppliers of equipment in ndia also service Zain, and the Chinese are among
them.Moreover, the equipments , technology and vendors are same. So alongwith Bharti it
is an opportunity for the suppliers to grow.

Mc Bharti Airtel is also looking outside ndia to boost its margins, as the ndian market has
become very competitive, with voice call rates sometimes as low as 0.01 rupees per second.
The monthly usage is 60-70 minutes per customer in Africa against 450-500 minutes in
ndia. There is a pent-up demand.

Mc With Bharti·s objective of offering affordable prices to African customers,there is a strategic

fit as Bharti has a reputation for trying to distress the competition wherever it operates, by
crashing prices and expanding geographical coverage, among other strategies. Thus the
9

expectations are of spillover effects of Bharti Airtel ndia in terms of getting the prices and
the right cost structure to sustain the model.

%    

<

 
    
 10
<


$
11

$ 

Mergers and Acquisitions in the ndian context are governed by the following laws.

TRANSACTON STRUCTURE

Mc Companies Act

Mc ncome Tax Act

Mc Stamps Act

Mc Competition Act

LSTED COMPANES

Mc SEB

Mc Stock exchange Regulation

TRAN-BORDER TRANSACTON

Mc Foreign Exchange Management Act

M&A in telecom ndustry are subject to various statutory guidelines and ndustry specific
provisions e.g. Companies Act, 1956; ncome Tax Act, 1961; Competition Act, 2002;
MRTP Act; ndian Telegraph Act; FEMA Act; FEMA regulations; SEB Takeover
regulation; etc.
c




cg c c
 12
<


Mergers and Acquisitions in ndia are governed by the ndian Companies Act, 1956, more
particularly Sections 391 to 394. This Act consolidates provisions pertaining to mergers and
acquisitions and other related issues of compromise, arrangements and reconstruction.
Though mergers and acquisition may be initiated through agreements between the parties,
the process remains largely court driven as the sanction of the concerned High Court is
required for bringing such a merger/acquisition into effect.

From the perspective of the Bharti Zain deal, the following legal encounters are worth a mention.

x

 Any Indian company that wishes to acquire or invest in a foreign company
outside India must comply with the Foreign Exchange Management (Transfer or Issue of any
Foreign Security) Regulations, 2004 (³x

 ´).
Under the ODI Regulations, an Indian company is permitted to invest in a joint venture or a
wholly owned subsidiary upto 400%68 of the net worth of the Indian company, in the form of
equity, loan or guarantee, as on the date of the last audited balance sheet without seeking the
prior approval of the Reserve Bank of India (³
´) Ú
Úif the Indian company:

a) is not on the RBI´s caution list or under investigation by the Enforcement Directorate;

b) routes all the transactions relating to the investment in the joint venture or the wholly owned
subsidiary through only one branch of an authorized dealer; and

c) files the prescribed forms with the RBI.

<

 
    


Regulation 13 of the ODI Regulations permits a wholly owned subsidiary set up by an Indian
company to set up a step down subsidiary. Extant ODI Regulations are ambiguous on whether
setting up further down line subsidiaries will require prior approval of the RBI.

 
Ú 
In the current structure, Bharti Airtel has two SPVs, one in Netherlands and the other in
Singapore to execute the deal. The SPVs were used to acquire Zain Africa International BV
located in Netherlands to acquire the African assets of Zain. Considering that Zain Africa
International BV would be a further down line subsidiary of the Netherlands SPV, there is an
ambiguity in the ODI Regulations as regards whether this would require prior approval of the
RBI.
There was a debate on whether an ndian company can set up vertical wholly owned subsidiaries beyond two step
down subsidiaries since Regulation 13 can be interpreted to cover multiple layers of step down subsidiaries. While
the RB´s approach on such ambiguity is unclear, based on the earlier precedents that RB has recently been liberal
and has permitted ndian entities from setting up multiple layers of step down wholly owned subsidiaries vertically
and so Bharti also got the permission to do so.

o
 c  
cc
13

Considering that Bharti Airtel extended a corporate guarantee to the bankers for the loan that has
been taken by the Netherlands and Singapore SPVs for financing the transaction69, Regulation 5
(b) of Foreign Exchange Management (Guarantees) Regulations, 2000 (³o  

 ´) was be attracted. According to Regulation 5 (b) of the Guarantees Regulations, a
company in India promoting or setting up outside India, a joint venture company or a wholly-
owned subsidiary, may give a guarantee to or on behalf of the latter in connection with its
business; provided that, the terms and conditions stipulated in the ODI Regulations for
promoting or setting up such company or subsidiary are complied with. Accordingly, in the
instant case, Bharti Airtel would have been required to adhere to the ODI Regulations while
providing the corporate guarantee on behalf of its SPVs and hence the guarantee provided by
Bharti-Airtel in favour of its SPVs together with any equity or any debt investment made in the
SPVs shall not exceed 400% of net-worth of Bharti-Airtel.

g
 
 
 Competition Act, 2002 (³a

  ´) was enacted to replace the
erstwhile Monopolies & Restrictive Trade Practices Act, 1969 and provide institutional support
to healthy and fair competition.

The Competition Act seeks to:

Mc prohibit anti-competitive agreements including cartels;

Mc prohibit abuse of dominant position; and

Mc regulate combinations (mergers and amalgamations, and acquisitions).

The provisions relating to (i) anti-competitive agreements; and (ii) abuse of dominance were made effective from
May 20, 2009. However, the provisions relating to regulation of the combinations are yet to be notified.

n terms of the Competition Act, parties to the proposed combination must determine whether the proposed
transaction triggers the applicable threshold limits viz. with respect to the size of the assets of the parties or the
turnover as prescribed under Section 5 (c) of the Competition Act. Since the provisions for regulating combinations
(mergers and amalgamations, and acquisitions) have not yet been notified, there is currently no requirement for any
mandatory notification to Competition Commission of ndia (´
6) about the Bharti-Zain transaction. However, if
such regulations were notified, given the magnitude of the assets and/or turnover of the parties involved, it may have
triggered the threshold limits, thereby, mandating Bharti Airtel and Zain Africa to notify to the Competition
Commission of ndia (´
6) providing the details of the proposed acquisition. Once such notification has been made
to CC, CC shall do its due investigation on the basis of the criterion laid down under the Competition Act (inter alia
level of combination of the market, market shares) to determine whether the acquisition causes or is likely to cause an
adverse appreciable effect on competition within the relevant market in ndia and the CC shall give its ruling within a
maximum period of 210 days. Further, the Competition Act provides for extra territorial jurisdiction of the CC to
probe into an overseas acquisition if it causes or is likely to cause an adverse effect on competition in relevant market
in ndia.
 14
<


c
c
 c

The dispute in respect of ownership of Zain´s Nigerian unit (³{



´) created concerns
for Bharti Airtel. As a matter of brief background, Econet Wireless International (³ ´), a
major telecom player in Nigeria, claimed that its pre-emption rights in the form of Äright of first
refusal´0 in respect of shares had been breached when Econet´s predominantly Nigerian
partners decided to sell their shares in Vee Networks (or V-Mobile) to Zain in 2006.
Consequently, Econet tried to prevent the sale of the shares to Zain through the UK courts, but
the judge ruled that the UK was not the appropriate place for such legal proceedings as the
matter was more closely connected with Nigeria. Since then, Econet has commenced ongoing
legal proceedings in the Nigerian courts. The dispute is, at present, before a court appointed
tribunal and would be resolved through arbitration under the rules of the United Nations
Commission on International Trade Law (UNCITRAL). Econet has also applied for interim
measures to prevent Zain from selling, transferring, disposing of, dealing with or otherwise
encumbering the disputed stake until the matter is resolved. It is pertinent to note that in 2008,
Zain generated about a fifth of its EBITDA in Nigeria and about 22% its total sales. Considering
that till the time the ownership issue over Zain Nigeria is resolved, Zain faced a hurdle in
transferring its Nigerian assets to Bharti Airtel.


aa  

Delay in getting regulatory approvals from the Republic of Congo for the Bharti Airtel ± Zain
<

 
    


deal was another major problem that Bharti Airtel has been facing in closing this transaction.

Further, the Congolese government had claimed that the deal is in contravention of Zain´s local
mobile license. Consequently, Bharti Airtel had to get regulatory approvals for the accord.
According to Congolese government officials, fines / penalties could have run to one percentage
point of local turnover with other sanctions being a reduction in the duration of the operating
licence, a suspension or outright withdrawal of the Zain´s telecom licence.

Zain made USD 154 million in revenues from its Congolese subsidiary, formerly Celtel, in the
nine months ending September 2009. It has a 53% market share in the nation which has a
population of 4 million.2




oo
 

While the last steps towards the finalization of the Bharti-Zain deal were being taken by the
parties, the Government of Gabon raised a regulatory objection to the deal alleging that Zain had
not complied with certain telecom regulations in Gabon. The government of Gabon, in their
15

statement to the press3, had said that it "disapproves" of the sale of Zain's Gabonese assets to
Bharti and reserves the right to take "all necessary measures". The government of Gabon further
indicated that Gabon´s telecom regulator shall review the sale process before its finalization.
Apparently, Zain holds more than 60 percent of the mobile market in Gabon4.
However, later the government of Gabon gave its approval to the sale of Zain´s assets in Gabon to Bharti.


a


The deal was routed through Netherland. Netherlands, with its efficient tax regime coupled with
an investor friendly business environment, has emerged as a preferred offshore jurisdiction in the
world for setting up of holding companies. Netherlands also provides various incentives under its
tax regime including tax exemption on dividend payments and capital gains through the
participation exemption regime. Netherlands being a part of the European Union (³ ´) may
also act as a passport for future investments in other European (and non-European) jurisdictions
and has access to the EU directives with respect to free movement of people, goods, services,
and capital. Netherlands has also entered into double tax avoidance treaties with many of the
African nations wherein Zain has subsidiaries and assets and to that extent it would provide for
an efficient repatriation of profits from the businesses setup in such jurisdictions.
Netherlands also boasts one of the widest networks of bilateral investment treaties76 and has entered into close to
100 such treaties with various jurisdictions.77 Since most African nations are evolving economies and to that extent
may face certain political uncertainties, bilateral investment treaties provide much required safety to a foreign
investor with respect to its investments. t would be interesting to note that more than half the jurisdictions in which
Zain Africa has subsidiaries have entered into a bilateral investment treaty with Netherlands.

Ý
 
 
  

The structure adopted by Bharti Airtel for acquisition of Zain Africa is conducive from a tax perspective specifically
with respect to repatriation of profits from Zain Africa to Bharti Airtel. Under the domestic tax laws of Netherlands,
no taxes are levied on dividends distributed between two Netherlands resident companies, subject to compliance
with the applicable participation exemption conditions. Thus, it should provide for a tax free transfer of profits from
Zain Africa to Bharti Airtel Netherlands BV. Further under the Netherlands-Singapore tax treaty, dividends paid by
Bharti Airtel Netherlands BV to Singapore SPV would not be subject to any taxes in Netherlands since the Singapore
SPV holds at least 25% of the share capital of the company declaring the dividends. Under the domestic tax laws of
Singapore, foreign sourced dividends are exempt from Singapore corporate taxes, provided the foreign sourced
dividends have been subjected to tax in the foreign jurisdiction and the headline tax rate of the foreign jurisdiction is
at least 15%. The headline tax rate in Netherlands is at the rate of 25.5% and further the condition of the income
being subjected to tax would also be met since the income would be considered taxable (albeit exempt); thus the
dividends received by Singapore SPV would be exempted from corporate taxes in Singapore.
 16
<


It should be noted that Singapore does not levy any withholding taxes on distribution of
dividends; therefore dividends distributed by Singapore SPV to Bharti Airtel would only be
taxable in India (when distributed) at the rate of 33.22%8 as per the provisions of the Income
Tax Act, 1961.
t is interesting to note that majority of the leverage has been taken at the Singapore SPV and Bharti Airtel
Netherlands BV level; however, since they may not have operating profits it may not be possible to claim the
deductions for interest expenses. Further, ndia does not provide for group consolidation. Therefore, it would not be
possible for Bharti Airtel to offset the interest expenses of Singapore SPV and Bharti Airtel Netherlands BV against its
profits.



&< %
{
c
 c
c c 
c
 c
c 
c

c
c c

 c
c
c  



c 
c


c

c
c
c
c
c

c
c c
cc c
c
c
c
c
c
c
·



  
 


0 cc
<

 
    


  c   





 
c


 c


cc 0cc


 
c
cc cc




 cc 00cc

 
 c


c
cc  cc

 
c

{
c
 cc cc


 c

cc cc

c

c
cc 0cc



c
cc cc

 c
cc cc



c

 

cc cc

c
17

Mc 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

Mc 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.

Mc 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 ndia, 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 ndian market with low incomes and tariffs and a heavily rural
population ² characteristics shared by African nations.

Mc The African market has high growth potential for Bharti Airtel as the region is currently under-penetrated. The average
revenue per user of Zain Africa is quite high and that justifies its current valuation by Bharti Airtel. f Bharti Airtel can
attain operational synergies with Zain Africa, it can go for more such acquisitions in the coming days as the ndian
market is gradually getting saturated.
<

 
    
 18
<




  

19

Ý
  
3 c http://www.investopedia.com/features/industryhandbook/telecom.asp
0 c http://theviewspaper.net/the-bharti-mtn-deal-a-leap-forward-in-india·s-telecom-industry/