Tata Communications: good riddance to bad assets

Now that Tata Communications has got rid of one of its so-called “drag businesses”, it can commit resources to the well-performing data services business


Investors should be relieved Tata Communications has managed to find a buyer for Neotel, especially after the deal with Vodacom fell through. Photo: Bloomberg
Investors should be relieved Tata Communications has managed to find a buyer for Neotel, especially after the deal with Vodacom fell through. Photo: Bloomberg

Tata Communications Ltd’s shares have risen 38% in the past four months. Investors had been pricing in a meaningful reduction in the company’s consolidated debt through sales of non-core assets. The firm has delivered on this front, announcing two asset sales in the space of six weeks. Now, the majority of its remaining business is related to data services, which have been growing at a decent pace and enjoy healthy margins.

Last month, Tata Communications agreed to sell a 74% stake in its data centre business at an enterprise valuation (EV) of Rs.4,270 crore. On Tuesday, the company announced an agreement to sell its South African telecom business Neotel Pty Ltd at an EV of Rs.2,914 crore.

Two years ago, when the company agreed to sell this business to Vodacom SA, it was valued at Rs.4,000 crore. While the valuation has reduced by only about 6% in local (South African rand) currency terms, the sharp appreciation in the rupee in the past two years vis-à-vis the rand has led to the much higher drop in valuation in rupee terms. The deal with Vodacom fell through.

But note that about 80% of EV accounts for the debt on Neotel’s books. The amount that will flow into Tata Comunications’ books, therefore, is much lower. It owns a 67% stake in Neotel. The company’s equity investment in Neotel amounted to $400 million, according to an analyst with a domestic institutional brokerage firm, which means that the venture into South Africa turned out to be a huge misadventure.

Investors should, nevertheless, be relieved that Tata Communications has managed to find a buyer, especially after the deal with Vodacom fell through. Neotel was not only a drag in terms of lower profit margins and weak growth, but also required large capital expenditure. Now that the company has got rid of one of its so-called “drag businesses”, it can commit resources to the well-performing data services business.

Tata Communications’ voice business is also a drag on overall performance, although with lower-than-company growth in the past two years and a drop in margins, its contribution to profit now stands at only around 15-16%.

As far as the company’s debt goes, the stake sale in the data centre business will help cut debt by about a third. At the end of March, net debt of the core business (that is, excluding Neotel) stood at around Rs.9,500 crore.

While it’s understandable that investors are cheering the deleveraging at Tata Communications, current valuations capture much of this. The company still needs to close both deals. It also needs to demonstrate that its focus on the data services business is paying greater dividends.

The writer does not own shares in the above-mentioned companies.

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