Tata Communications: FY23 a good year; bulking up for growth

3 Jul 2023 , 11:08 AM

Recommendation: Reduce; Target price: Rs 1518

TCOM’s FY23 AR reveals the company’s thrust on investments in sales force, new products and platforms as it beefs up the digital portfolio. FY23 was the best year for revenue growth in recent years, while FCF generation and return ratios have seen significant improvement in the past 4 years. Thanks to the recently announced acquisitions, the lofty FY27 revenue target looks achievable, albeit at the expense of near-term profitability and return ratios. With valuations near all-time highs and integration risk around Kaleyra, analysts of IIFL Capital Services maintain REDUCE and TP of Rs1,518.

FY23 saw much awaited revenue growth, but margins dipped: 

Digital portfolio revenue growth of 21% (including est. 4ppt FX tailwind) led to TCOM’s overall revenue growth of ~7% — the best in recent years. Mix change in favour of data largely drove the 11ppt Ebitda margin expansion between FY18 and FY22, though cost control also helped.  FY23 saw ~110bps YoY Ebitda margin contraction as: 1) Net employee additions in FY23 were ~90% of those in the preceding 5 years. 2) Covidrelated tailwinds abated. Recent acquisitions may keep Ebitda margin below the lower end of 23-25% guidance in the near future.

Robust FCF generation in FY23; FY24 may see nil FCF: 

TCOM generated Rs25bn FCF in FY23, partly aided by lower capex due to supply chain constraints. Net debt-to-Ebitda (ex-lease liabilities) has fallen from ~2.8x in FY20 to ~1.3x in FY23. Even after the Kaleyra-deal closure, analysts of IIFL Capital Services expect this ratio to be ~1.8x, within management target of <2x. With capex set to nearly double and ~US$160mn payout for Switch and Kaleyra, FY24 FCF should turn slightly negative. Analysts of IIFL Capital Services expect sharp improvement from FY25 onwards.

Rs40bn increase in contingent liabilities: 

Other observations from the annual report (AR): 1) TCOM raised its contingent liabilities pertaining to the AGR case from Rs26bn to Rs65bn during FY23 (analysts of IIFL Capital Services TP assumes 25% probability of payout). 2) TCPSL and TCTSL – 2 of its large subsidiaries – have seen narrowing of losses. 3) STT Global Data Centres (26% owned by TCOM) has seen 18% revenue Cagr over FY19-23, but remains FCF negative due to higher investments.