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A good acquisition at a reasonable price  

TCOM has announced the acquisition of US-listed CPaaS player Kaleyra Inc. at an enterprise value of USD250m. Here are the key highlights of the transaction:

* Acquisition of Kaleyra, being top 5 CPaaS player at an EV of USD250m implying EV/Sales and EV/EBITDA of 0.8x/13x on CY22 seems a good acquisition at a reasonable price.

* This should accelerate growth which has been a key hurdle for TCOM given Kaleyra’s complimenting portfolio in US/EU and CPaaS vertical being a fast growing vertical in the Enterprise telecom market with USD12b market size and 25% CAGR.

* But near term investments in capex and opex, may dilute EBITDA margin guidance of 23-25% further after Switch acquisition and also increase capex to ~USD600m  

* We maintain our Neutral rating with a TP of INR1,450/share (assigned 8x/3x EBITDA to the Data/Voice business). Sustained improvement in earnings growth visibility will be vital for valuation rerating. 

Deal contours - A good acquisition at a reasonable price

Continuing with its renewed focus on growth as indicated in the recent analyst meet, TCOM has announced the acquisition of Kaleyra Inc., a USlisted global communications platform as a service (CPaaS) company, for an EV of USD250m. Considering its revenue/ adjusted EBITDA (ESOP provision) of USD339m/USD19m in CY22, the deal value implies 0.8x EV/sales and 13x EV/EBITDA. The consideration payable will include around USD100m in cash (USD7.25 per share) and the acquisition of gross/net debt of USD225m/USD150m as of Mar’23. TCOM is trading at 2.8x FY23 EV/sales and 12x FY23 EV/EBITDA. The transaction is expected to be completed in 6-9 months for completion and significantly and allow it to make deep inroads in CPaaS space in India as well as global level.

CPaaS is the fast-growth segment in Enterprise business

CPaaS is an attractive space with a market size of USD12b globally. It is one of the fastest-growing scalable businesses thanks to high demand; hence, it needs limited hard selling. The CPaaS market is estimated to expand by a 25% CAGR over the next few years, including traditional SMS messages to RCS messaging, and video and audio collaborations. CPaaS is an indirect play on online banking transactions, UPI payments and multiple other digital services, as companies are improving their digital consumer interface. The US is a large and important market where TCOM has a limited footprint.

Making big inroads in CPaaS market

So far, TCOM has been operating in the CPaaS space through its in-house product, DIGO, a small player with a revenue of INR45b. Kaleyra should complement TCOM’s efforts to tap the CPaaS space in two ways: 1) It is a sizeable player with presence in global markets and top brands. It is ranked among the top-5 vendors by Juniper and ‘Major Player’ by IDC. The US, which is a large focus market for TCOM, accounts for over 50% of Kaleyra’s revenue (Mar’23 quarter) and Kaleyra offers solutions to the top brands in the US, including financial institutions, e-commerce/OTT players and retailers. 2) It has a geographic and clientele portfolio that complements TCOM’s portfolio and can help TCOM leverage the product in its home markets, India and Asia, while making inroads in global markets with its wide variety of connectivity and allied products.

How will the numbers stack up?

TCOM aims to double its digital revenue from INR140b to INR280b over FY23-27. Excluding the slow-growing (mid-single digit) core connectivity business, the digital platform and services (DPS) vertical contributes INR45b to total revenue (TCOM aspires to achieve 50% revenue contribution, i.e., INR140b). In the last two years, Kaleyra has reported a revenue CAGR of 50% to USD350m (INR28b). This acquisition should boost DPS revenue to INR75-80b (~60% of its INR140b target). Kaleyra’s EBITDA margin (adjusted for the ESOP provision and one-off items) stands at 5%, which, along with the Switch acquisition, should dilute TCOM’s overall EBITDA margin guidance of 23-25% in the next 4-6 quarters. But the management targets to achieve double-digit EBITDA margin in the medium term, driven by cost synergies and cross-selling its wider portfolio across the combined customer base.

Valuation and view

In line with our view that the ambitious growth targets stated in the analyst meet may require near-term high capex and opex, the acquisition could increase net debt by 22% to INR68b, along with margin dilution. But we like two things about this acquisition: 1) TCOM is upping the ante on growth efforts as it has seen limited growth in the last few years; and 2) a reasonable price for a value-creating company. We build in revenue/EBITDA CAGRs of 12/10% over FY23-25E, without factoring growth from recent acquisitions, which could drive healthy growth in the long term but may dilute near-term earnings. TCOM’s strong FCF of INR12-14b, despite an increase in capex, could allow it to scout for growth opportunities with a healthy ROCE target of over 20%. We maintain our Neutral rating with a revised TP of INR1,450/share (earlier INR 1,350), due to improved growth visibility, led by the Kaleyra acquisition (assigned 8x/3x EBITDA to the Data/Voice business). Sustained improvement in earnings growth visibility will be vital for valuation rerating

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