Tulip Telecom - data centre acquisition: Long-term strategic fit; event update; Buy:: Edelweiss

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Tulip Telecom (TTSL IN, INR 169, Buy)

n  Acquires 0.9 mn sq ft data centre facility in Bengaluru

Tulip Telecom (TTSL) has announced the acquisition of a 0.9 mn sq ft data center (DC) facility in Bengaluru via acquisition of 100% shares of SADA IT Parks (SADA) for INR 2.3 bn. This is the company’s fifth DC; it has one DC each in Delhi and Bengaluru and two in Mumbai. Cumulatively, it now has total data center space of ~1 mn sq ft. The Bengaluru facility will be owned and operated through TTSL’s wholly owned subsidiary Tulip Data Center Private Ltd (TDCPL) and management intends to move its other DC facilities also to this subsidiary.

n  Proposed investment of INR 9 bn over three years

The total investment in the Bengaluru facility is expected to be ~INR 9 bn over three years, of which ~60% (~INR 5.4 bn) will be incurred in the first year itself. Of this, TTSL has already invested INR 2.3 bn (funded via cash and internal accruals), while ~INR 2.5-3.0 bn will be contributed by a private equity/strategic investor (at the SPV level) and ~INR 1.0-1.5 bn via debt raised in TDCPL. The balance INR 2.7 bn will be funded through TDCPL’s internal cash flows.

n  DC to commence in six months; cash break-even expected by FY13

Revenues from the Bengaluru facility are expected to commence in six months and in three years management expects the facility to operate at full capacity utilsation levels, at which it expects to generate revenue of ~INR 10 bn with EBITDA margin of 50%. Management indicated that TTSL is already in talks with potential clients for sale of ~100k sq ft capacity. Management expects the facility to be self-sustaining from the funding perspective in three years and expects cash break-even by FY13 (~30-35% capacity utilisation levels).  

n  Outlook and valuations: Attractive; maintain ‘BUY’ 

We believe TTSL’s focus on the DC segment is a strategic fit to its existing business and positions it well as an integrated provider for enterprise connectivity and managed services requirements. We believe this will help the company mine existing clients for additional revenues effectively and efficiently target new enterprise clients in the long term.  However, management indicated that post launch, the DC business could potentially post cash loss of USD 10-15 mn in the initial year of operation (FY12), thus potentially eroding TTSL’s FY12E net profit by ~12-18%. While our current estimates do not incorporate DCPL, taking into account this potential earnings dilution, the stock continues to trade at attractive valuations of 8.3-8.9x FY12E. We thus maintain ‘BUY/Sector Outperformer’ recommendation/rating on the stock.