India Equity Research I Telecom Initiating coverage (Mid-cap)

Tulip Telecom Ltd INR: 881

Pure play on data services…. BUY

Price Outlook: 1,019

Tulip Telecom Limited, (Tulip) is a leading data services provider. The
Market Data September 30, 2008
Company’s product portfolio includes network integration, and data
services. We believe Tulip’s focus on the domestic industry will insulate it Shares outs (Cr) 2.9
to a slowdown in the US, which could continue to diminish its peers growth Equity Cap 29
in international markets. Moreover, the company stands to benefit from the Mkt Cap (Rs. Cr) 2,555
government focus on improving inter-state connectivity. We Initiate 52 Wk H/L (Rs) 1,225/ 750
coverage on Tulip with a BUY recommendation giving a 12 month Avg Vol (1yr avg) 15,591
price target of Rs 1,019, representing an upside of 16% from current Face Value (Rs) 10
levels. Bloomberg Code TTSL IN

Investment Rationale
Market Info:
ƒ Increased thrust on domestic network development by the SENSEX - 12,596
NIFTY - 3,850
government: The government’s allocation of Rs 800 crore towards the
improvement of inter state connectivity by developing a SWAN in 20 Price Performance
states is expected to augur well for Tulip, which has already received 4
contracts worth Rs 270.7 crore. The company is expected to potentially 165

145
target additional orders amounting to Rs 530 crore subject to successful
125
execution. 105

85
ƒ Growth in internet usage to boost data volumes: TRAI’s recent 65
recommendation on internet telephony to allow VOIP bodes well for

May-08
Nov-07

Mar-08

Apr-08

Aug-08
Sep-07

Oct-07

Dec-07

Jan-08

Feb-08

Jun-08

Jul-08

Sep-08
telecom data service providers such as Tulip Telecom. Internationally,
Tulip Sensex
VoIP has emerged as a cost effective means of communication for
enterprises (especially BPO companies) and we expect this trend to
continue to drive the domestic markets. Tulip Telecom’s revenue Share Holding pattern (%)
contribution from this segment has increased from 36.1% in Q2FY07 to
66.7% in Q1FY09 Particulars 30.06 31.03 Chg

ƒ Bundling of services: Tulip has launched managed services portfolio Foreign 24.3 23.5 3.5

which include both video and data centre services. The internet data Institutions 2.5 2.9 -13.1
centre market in India is anticipated to grow ~200 mn by FY2009, while Govt Holding /
69.0 69.0 0.0
video conferencing market is expected at ~25 mn. The company is Promoter
planning to spend Rs 80 crore for setting data centers in 4 cities to Other Corp Holding 1.5 1.8 -17.6
provide bundled services. This will enable Tulip to provide end-to-end Public 2.7 2.9 -4.9
services.
Total 100 100
Financials and Valuation:
Analyst
At CMP of Rs 881 Tulip trades at 12.6x its TTM EPS of Rs 70.15 and 9.2x
its FY09E EPS of Rs 95.6. We recommend a BUY on the stock with a price Kevin Trindade
target of Rs 1,019 which would discount its FY09E EPS by 10.7x. kevin.trindade@krchoksey.com
℡ +91-22-6696 5572
Financials FY2007 FY2008 FY2009E FY2010E
Ravi Dodhia
Net sales 840.8 1,216.4 1,698.1 1,995.2 ravi.dodhia@krchoksey.com
Other income 2.4 23.1 25.4 30.0 ℡ +91-22-6696 5536
Total income 843.1 1,239.5 1,723.4 2,025.2 Maulik Patel
EBITDA (incl OI) 136.3 268.7 394.1 478.9 maulik.patel@krchoksey.com
℡ +91-22-6696 5572
Net profit 99.7 187.5 277.2 340.5
www.krchoksey.com
EPS 36.0 64.6 95.6 117.4
℡ +91-22-6696 5555
EBITDA margin 16.2% 22.1% 23.2% 24.0%
¬ +91-22-6691 9576
Net profit margin 11.9% 15.4% 16.3% 17.1%

KRC Research is also available on Bloomberg KRCS<GO>, Thomson First Call, Reuters, Factset and Capital IQ
Tulip Telecom Ltd

Index

Business description ............................................................................ 3

Investment rationale .............................................................................. 3
Industry overview.................................................................................. 4
VPN ................................................................................................................. 4
International Private Leased Circuits (IPLC) ................................................... 5
Domestic Leased Circuits (DLC) ..................................................................... 5
Bandwidth Demand ......................................................................................... 6
Business segmentation ......................................................................... 6
Network integration ......................................................................................... 6
Corporate network / Data services .................................................................. 7
Result overview .................................................................................... 9
Outlook .............................................................................................. 10
DCF Valuation ..................................................................................... 13
Key operating metrics ......................................................................... 14
Relative valuation ............................................................................... 14
Valuation and recommendation ........................................................... 14
Key risks ............................................................................................ 15
Financial overview .............................................................................. 16

2 KRC Equity Research

Tulip Telecom Ltd

Business description
Tulip Telecom Limited (Tulip), formerly Tulip IT Services Limited, is a leading data
services communication provider. Data Services, its primary service, involves facility
Product portfolio includes
management and security services to Indian corporate customers and Internet/data
Network Integration and
connectivity in rural areas. Network integration services include designing and
data services
developing networks for its clients and the provision of multi-point wireless applications.
It also includes the designing and implementation of local and wide area networks.

Tulip's network covers more than 1,000 cities and towns, across verticals such as BFSI,
telecom, logistics, retail, and manufacturing. In the BFSI space, clients include HDFC
Network covers more than Bank, Bloomberg and Kotak Securities, while in the telecom space the company’s
1,000 cities and towns product portfolio includes AT&T and Vodafone. A key characteristic of Tulip is the
quality of the network that it has been successful in providing to the interiors of many
states. Business World awarded Tulip Telecom the 79th rank amongst India’s best
performing mid-sized companies and the 4th largest network integrator by Voice & Data
magazine in their Networking Masters Issue.

Investment rationale
Tulip is a market leader in a niche segment which has witnessed robust growth (~125%
growth from 400 in FY2005 to 900 in FY2008) due to increase in IP/VPN market. We
believe Tulip is largely immune to a slowdown in the US as it primarily caters to
domestic data connectivity and network integration. Moreover, the government is
concentrating on improving domestic networks, and inter-state connectivity which is the
primary business domain of Tulip.

Market leader in VPN segment

Market share of 28% in According to a Frost and Sullivan report, Tulip is the market leader in the VPN segment
FY2008 in FY2008 with a market share of 28%, ahead of its nearest competitor Sify, with 21.7%,
which was the leader in FY2007. Reliance Communication and Bharti Airtel are the third
and fourth largest operators with 21% and 12% market share, respectively in FY2008.

Increased thrust on domestic network by the government

In March 2008, the government allocated Rs 800 crore towards the development of
Government allocated Rs statewide area networks (SWAN), state data centres and citizen centers and the goal of
800 crore towards connecting 20 states by FY2012. It also announced projects to improve broadband
development of SWAN connectivity in rural areas. Tulip has technical expertise in this segment and is expected
to be better placed to win a major portion of the new orders. Having already won the
contracts in Assam, Haryana, Madhya Pradesh and West Bengal, we expect the
company to win additional contracts subject to successful execution. Project Adhaar,
the Haryana state wide area network was implemented and delivered in FY08, making it
the first complete SWAN to be handed over to the government. The implementations for
Assam and West Bengal SWAN are in full swing and recently it won SWAN project
worth Rs 95 crore in Madhya Pradesh.

Tulip was awarded the contract to develop the Assam state wide area network in
January 2008. The project deal value amounted to Rs 57.72 crore and would be
implemented on a BOOT model for a period of 5 years. This project involved the supply,
installation, operations and maintenance of network equipments. We expect this project
to boost network integration and data connectivity revenues as the network would
support data, voice and video required for various e-governance initiatives. The
scalability and high capacity of the network is expected to provide the Government of

3 KRC Equity Research

Tulip Telecom Ltd

Assam with an integrated backbone for common citizen services, online monitoring of
various schemes, integration of data bases of various departments, etc.

Growth in internet usage to boost data volumes

TRAI’s latest policy update to permit the internet telephony bodes well for telecom data
Internet penetration of service providers such as Tulip Telecom. Internet penetration in India is currently at
5.2%, significantly lower 5.2%, which is significantly lower than developed economies like the US and China with
than developed 71.9% and 19% respectively. We expect Tulip to derive incremental revenues from
economies IT/ITES and BFSI companies (BPO clients), which use VoIP based services
extensively. In order to boost internet usage, industry experts believe that the
government needs to reduce service tax and license fees on broadband services,
remove custom and excise duty on broadband equipment. Internationally, VoIP has
emerged as a cheap and effective means of communication for enterprises and we
expect this segment to continue to grow. The drive to improve data connectivity
amongst banks, retailers and manufacturers augurs well for the data segment for Tulip
Telecom whose revenue contribution from this segment has increased from 36.1% in
Q2FY07 to 66.7% in Q1FY09.

Bundling of services
Tulip has launched managed services portfolio including video and data centre services
to become an end-to-end service provider. The internet data centre market in India is
expected to grow ~200 mn by FY2009, while video conferencing market is expected at
~25 mn and is anticipated to grow at a CAGR of 20% over the next 3 years. The
company is planning to spend Rs 80 crore for setting data centres in 4 cities. The
company also plans to cover major cities like Mumbai, Delhi, Bangalore, Hyderabad,
Chennai and Kolkata through optical fibre to provide high bandwidth connectivity. It also
received ILD license which will be used for international voice, data and video
connectivity. International market for connectivity is expected to witness significant
growth from Rs 1,800 crore in 2006 to ~Rs 3,500 crore by 2012. We believe these
diversification plans will enable Tulip to provide bundle of services to clients and to
strengthen its position in the market.

Industry overview

VPN
A virtual private network (VPN) is a network that uses a public network, such as the
Internet, to provide remote offices or individual users with secure access to their
organization’s network at a lower cost than other alternatives, like traditional leased
lines or remote access servers. This technology is based on the idea of tunneling, which
involves establishing a network connection. Packets constructed in this connection are
encapsulated with some other base which is then transmitted across the network
between the computer and server. It is then de-encapsulated on the receiving side. A
key advantage of this technology is that it offers a unique channel for traffic with
significantly lower capital overheads.

The VPN market is expected to grow at a CAGR of 14% p.a. over 2008-2013. Based on
VPN market is expected to
increased usage from Banking and Financial Services (BFSI) and IT/ITeS sectors, this
grow at a CAGR of 14%
segment is expected to grow considerably.
p.a. over 2008-2013

4 KRC Equity Research

Tulip Telecom Ltd

Advantages of using VPN

VPN provides cheaper
• Lower network expenses when compared to traditional routed networks over
network than traditional
dedicated facilities
ones
• Rapidly link enterprise offices, small-and-home-office and mobile workers

• Allows customization of security and quality of services as needed per specific

applications

• Allows service providers to introduce additional services such as bandwidth-on

–demand over the same network

• Different bandwidths can be assigned for different applications such as data,

voice, video conferencing etc.

Limitations of using VPN

• VPN requires detailed understanding of network security issues and careful
Reliability and installation to ensure sufficient data security on public network like the internet
performance of an internet
• Reliability and performance of an internet based VPN is not under direct
based VPN is not under
control of organization, but is dependent on an ISP and quality of services
direct control
provided by them.

• VPN products and solutions from different vendors have not always been
compatible due to issues with technology standards. Attempts to match
equipments may cause technical problems and might not ensure cost savings.

International Private Leased Circuits (IPLC)

IPLC is a point-to-point circuit used for international connectivity which can be provided
through submarine cables, satellite or both. The government granted licences to
Internet Service Providers (ISP) to set up international gateways in 2000. Currently,
international bandwidth in India is provided by 4 players – Tata Communications, Bharti
Airtel, Reliance Communications and Data Access. Except Data Access, other
operators have submarine cables to deliver IPLC connectivity.
IPLC market is expected
The IT/ITeS industry is one of the most bandwidth intensive sectors, when it comes to
to increase at a CAGR of
international connectivity. With the growth in outsourcing to India in both IT and ITeS
~12% over 2008-2013
sectors, IPLC market is expected to increase at a CAGR of ~12% over 2008-2013.

Domestic Leased Circuits (DLC)

Government opened up competition in the DLC market in its National Telecom Policy in
1999 by allowing private players to offer telecom data services. Since then, operators
like BSNL, MTNL, Tata Communications, Bharti and Reliance have emerged as the
market leaders in the DLC market. In 2007, TRAI made it mandatory for all DLC service
providers with copper, fibre or wireless networks, to share network infrastructure with
other service providers. We expect this to play a lead role in reducing price of DLC with
customers having more choice to select the service provider.

Demand for DLC is The demand for DLC is expected to grow at a CAGR of 9% over 2008-2013 driven by
expected to grow at a demand from telecom operators, IT/ITeS companies and public sector companies. The
CAGR of 9% over 2008- demand for DLC would however be adversely affected by the increasing adoption of
2013 VPN, especially in BFSI and manufacturing sectors.

5 KRC Equity Research

Tulip Telecom Ltd

Exhibit: DLC subscriber growth

25,000 20%

15%

21,858
20,000

20,925
10%

20,983
18,876

18,287
18,058
15,000 5%

15,596
14,364
0%

16,195
10,000
-5%

5,000 -10%
Dec-05 Mar-06 Jun-06 Sep-06 Dec-06 Mar-07 Jun-07 Sep-07 Dec-07

DLC subscribers q-o-q grow th

Source: Company, KRC Research

Bandwidth Demand
After the burst of the dot-com bubble, the telecom environment was characterized by a
huge surplus of network capacity. Subsequently in the consumer sector, the increase in
Internet and broadband subscribers, driven primarily by digital entertainment content
and applications, has aided the demand growth for bandwidth. Globally, inter-player
network traffic characterized by high-bandwidth based file sharing, and the emergence
of voice over IP (VOIP) as a telecommunications service is becoming increasingly
popular. IPTV, Internet video content, downloading of music and online gaming
applications are still in the formative stages of development and are expected to
increase consumer bandwidth demand in the future. The internet and broadband market
grew 162.6% y-o-y to Rs 5,359 cr supported by increasing purchasing power. The total
broadband subscribers in India as of FY2008 was 3.92 mn compared to 2.6 mn in
FY2007. The government plans to increase the total number of internet subscribers to
20mn by FY2010 from the current levels of 11 mn.

Business segmentation

Network integration
Tulip provides an end-to-end turnkey approach to establishment of network of all sizes.
It enjoys strong relations with more than 100 leading IT vendors backed up with strong
processes. The network value chain consists of

• Network design and consulting

• Product selection and supply

• Project management

• Integration and implementation

• Network maintenance and management

Current business environment requires real time data communication between various
locations spread across different geographies. Tulip’s expertise in these areas has
resulted in huge wins in this area.

6 KRC Equity Research

Tulip Telecom Ltd

Exhibit: Network Integration Ranking

Rank Company Revenue
1 Wipro Infotech 1,089.1
2 HCL Comnet 1,006.9
3 DataCraft 960.0
4 HCL Info 690.0
5 Tulip 508.9
Source: Voice and Data, July 2008

Corporate network / Data services

Enterprise IP Connectivity

Tulip provides IP Tulip provides IP connectivity solutions to Corporates to power their ERP/CRM and

connectivity solutions to other applications. The enterprise equipment market grew by 27% y-o-y to Rs 13,210 cr

corporate in FY2008. In comparison, the carrier equipment grew by 32% y-o-y to Rs 56,994 cr
during the same period. Clients are able to manage their entire IP systems involving
voice and video conferencing using this setup. Tulip follows different modules for
connecting different locations like channel partners, distributors and roaming executives
can also safely access their company applications in a fully encrypted form.

Rural Connectivity

Rural networks are Tulip is a leader in providing rural connectivity services which have wider coverage and
currently used for inter- the ability to extend wireless links to the remotest parts of the country. Tulip’s rural
region video networks are currently used for inter-region video conferencing, tele-medicine, carrying
conferencing, tele- voice calls and imparting education in rural areas. New initiatives like high grade radios
medicine and imparting and solar panels have enabled them to provide robust connectivity where power might
education be a problem. The rural population, which represents over 70% of the population, is
expected to be the key focus area in FY2009. The Ministry of Communication and IT
has announced plans to garner $2 bn to setup 112,000 community service centres in
rural India with broadband connectivity in FY09. The private sector is expected to
contribute $1.5 bn of this investment. Tulip is actively targeting this opportunity and is in
the process of bidding for such contracts.

Exhibit: Rural network connectivity

Source: Company, KRC Research

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Tulip Telecom Ltd

Managed Infrastructure Services

These services include managed data center services, visual communications, and
remote enterprise connectivity. It is also planning to include convergence solutions,
security services, storage and other infrastructure management services.

Infrastructure
Tulip’s MPLS IP service is built completely using carrier grade switching infrastructure
and is the only network in the country that is MPLS-enabled till every last Point of
Presence on the network in over 1,300 locations. The entire network uses Fiber on the
backbone and Wireless on the access layer, this helps to provide connectivity in short
time frames and overcome the shortcomings of the copper-based last mile provided by
incumbent service providers. It creates its own infrastructure and is able to provide
customized connectivity solutions to its customers.

The entire Network Infrastructure is designed to ensure the following:

ƒ Highest redundancy level to ensure no single point of failure
ƒ Highest level of scalability
ƒ End to end security assurance
ƒ Flexibility in solution design, implementation and expansion
ƒ Best in class implementation Time Frames
ƒ Best in class network quality parameters

FCCB of $150 mn raised to fund acquisition and network expansion

Tulip raised $150 Mn via Tulip raised $150 Mn (Rs 630 crore) via foreign convertible currency bonds (FCCB) at a
FCCB for network premium of 34%. The company has earmarked ~$40 Mn (Rs 168 crore) for the
expansion and acquisition of US based telecom operator given the attractive valuations of US
international acquisition companies. The company has also allocated ~ Rs 240 crore for expanding its network,
around $20 million (Rs 80 crore) for setting up data centres and an equal amount
towards the construction of the statewide area networks (SWAN) project.

Tulip plans to set up data Tulip is setting up data centres in Mumbai, Bangalore, Chennai and Hyderabad and its
centres in Bangalore, Delhi data centre is already operational. Tulip also entered into a partnership with

Chennai and Hyderabad OEM’s like Nokia which will use their services to provide mobile telecom services to
rural areas for its wireless village project. This project is being conducted across the
Asia Pacific region and will provide cost-effective opportunity for local entrepreneurs,
microfinance entities and telecom operators.

Provider of Last Mile connectivity

The last mile is the final leg of delivering connectivity from a communications provider to
Tulip has made a market a customer. A wide variety of technologies are usually employed due to the high cost of
in the last mile segment wires and cables and the cost of providing information capacity. Tulip has made a
and developed its market in the 'last mile' segment and developed its business around it. A majority of
business model around it Tulip’s network have the last mile on wireless broadband. A substantial portion of the
Tulip network in Class B and lower cities, which is based on copper or fibre
infrastructure, has a poor layout due to the vast and geographically dispersed nature of
cities and has capacity for additional growth.

8 KRC Equity Research

Tulip Telecom Ltd

Other communication technologies involve satellite links to power video conferencing,

Tulip’s connectivity tele-education, telemedicine, and content distribution. Tulip has provided these facilities
network provide facilities at a discount of 20%-40% to leased line intercity circuits.
at 20-40% discount to
Exhibit: Last Mile connectivity
leased line

Source: Company, KRC Research

The company has enabled wireless connectivity in some of the remote villages in
Punjab, Assam which is difficult to connect through leased lines. The cost of setting this
network is also extremely high. Tulip’s network has managed to provide telemedicine
Company’s wireless and microfinance facilities in the remote villages. The company has facilitated education
network covers 3,550 centres, rural online banking, healthcare-posts, internet telephony, video-conferencing
sq.km and 600,000 in remote areas. The company’s wireless network covers 3,550 sq. km and over
families in rural areas 600,000 families. The base stations using Wi-Fi and a Wi-Lan technology have been
deployed for the network. With an enabled connection speed of 64 kbps each centre
has space of 2MB and a minimum download of 500 MB. Thus each such kiosk set up
by Tulip caters to 1,000 -1,500 households. We believe the redundant backbone, multi
layered access networks and the large numbers of points of presence provides
availability of the internet in the most difficult terrains.

Result overview
Financials FY2007 FY2008 % change
Net sales 840.8 1,216.4 44.7%
Other income 2.5 23.1 837.8%
Total income 843.2 1,239.5 47.0%
EBITDA (excluding OI) 136.4 268.7 97.0%
Net profit 94.6 185.9 96.6%
EPS 32.5 64.1 97.2%
EBITDA margin 16.2% 22.1%
Net profit margin 11.2% 15.3%
Source: Company, KRC Research

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Tulip Telecom Ltd

In FY2008, total income increased 44.68% y-o-y to Rs 1,216 crore. This revenue growth
was mainly due to an increase in connections (connects), of 127% y-o-y to 117,117 in
FY2008. Telecom service revenues contributed ~8% of revenues while Tier 1 cities
contributed ~40%. Revenues in Q1FY09 increased 56.3% y-o-y to Rs 332.5 crore.
Network integration business has shown marginal growth of 3.2% y-o-y to Rs 110.6
crore in Q1FY09, while Data services recorded robust 110.1% y-o-y growth to Rs 221.9
crore in Q1FY09 on account of strong growth in number of connects.

EBITDA margin expanded EBITDA recorded impressive 97% y-o-y growth to Rs 268.7 crore implying an EBITDA

by ~590 bps y-o-y in margin of 22.1% in FY2008. The robust EBITDA margin expansion of ~590bps was
FY2008 supported by decline in employee and other operating expenses. Operating margin in
Q1FY09 was flat at 20.3%, however it declined 170 bps q-o-q due to a seasonal decline
in quarterly connection additions. In general, the company witnesses strong growth in
connect additions in the third and fourth quarters

Net profit increased 96.6% y-o-y to Rs 185.9 crore. Net profit margin was at 15.3% in
PAT margin improved 40 FY2008. EPS was reported at Rs 64.1 in FY2008. Net profit margin improved 40 bps y-
bps y-o-y to 13.8% in o-y to 13.8% in Q1FY09 as increase in interest expenses was offset by decline in
Q1FY09 income tax expenses.

Other highlights
VPN segment (data services) contribution increased to 66.7% during Q1FY09. Network
integration services grew marginally due to increased concentration in data services
VPN’s contribution to top- segment. While the ARPU levels were flat mainly due to low competition, the company
line increased from 36.1% expects ARPU to decline slightly going forward.
in Q2FY07 to 66.7% in
Q1FY09 Three additional data centres will be set up Bangalore, Chennai and Hyderabad during
FY09. This is in addition to the three existing data centres (one in Delhi, and two in
Mumbai).

The company has completed installing the state-wide area network (SWAN) in Haryana,
and is planning on rolling out networks in West Bengal and Assam. Due to logistic
License to provide WiMAX difficulties the timeline for rollout of these projects may be extended.
services in 100 cities
The company plans to utilize approximately Rs 600 crore raised during FY09 by FCCBs
towards the projects in West Bengal and Assam.

The company received licences to provide WiMAX services in 100 cities. This will be a
key technological advantage as the demand for broadband services increases.

Outlook

Top-line expected to grow at a CAGR of 28.0% from FY2008 to FY2010

Top-line expected to grow We expect revenue growth of 28.0% over the next 2 years on the back of expansion of
39.6% y-o-y to Rs 1,698.1 data services to corporate clients in both urban and rural areas. The company typically
crore in FY2009 reports low revenues in Q1 followed by improving performance in the 3 subsequent
quarters due to seasonality. Top-line for FY2009 is expected to grow 39.6% y-o-y to Rs
1698.1 crore due to increased contribution from data services segment. VPN’s
contribution to top-line increased 1,711 bps y-o-y to 66.7% in Q1FY09 due to the unique
business model of the company. We expect net connects to increase 73.1% y-o-y to
202,750 which is expected to be offset by decline in net realization per connects.

10 KRC Equity Research

Tulip Telecom Ltd

Exhibit: Revenue growth

2,500 70%

60%
2,000
50%
1,500 40%

1,000 30%

20%
500
10%

0 0%
FY2007 FY2008 FY2009E FY2010E

Revenues y-o-y grow th

Source: Company, KRC Research

Operating margin
expected to improve 110 Operating margin anticipated to expand 191 bps by FY2010
bps y-o-y in FY2009
Operating margin is expected to improve 110 bps y-o-y to 23.2% in FY2009 due to
increased contribution from high margin data services business. Contribution from data
service is expected to improve from 54.1% in FY2008 to 66.2% in FY2009. We expect
the operating margin to improve to 24.0% in FY2010 supported by increased
contribution from data services segment.

Exhibit: EBITDA growth

600 30%
23% 24%
500 22% 25%

479
400 16% 20%
394
300 15%
269
200 10%

100 136 5%

0 0%
FY2007 FY2008 FY2009E FY2010E

EBITDA EBITDA Margin

Source: Company, KRC Research

11 KRC Equity Research

Tulip Telecom Ltd

Basic EPS to grow at a CAGR of 34.8% from FY2008 to FY2010

Net profit for FY2009 is expected to grow 48.0% y-o-y to Rs 277.2 crore implying a net
Diluted EPS expected at profit margin of 16.3%. Net profit margin is expected to improve 90 bps y-o-y in FY2009
Rs 82.5 in FY2009 as anticipated higher interest expenses is expected to be offset by decline in
depreciation expenses as a percentage of sales. Basic EPS is expected at Rs 95.6 in
FY2009, while diluted EPS is expected at Rs 82.5 due to issue of FCCB in FY2007.

Exhibit: Net profit growth

400 18%
17%
350 16%
16% 341
300 15% 14%
12%
250 277
11% 10%
200
8%
150 187
6%
100 4%
94
50 2%
0 0%
FY2007 FY2008 FY2009E FY2010E

PAT PAT Margin

Source: Company, KRC Research

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Tulip Telecom Ltd

DCF Valuation
(All figures in Rs cr) FY08 FY09E FY10E FY11E FY12E FY13E
Net Sales 1,239.5 1,723.4 2,025.2 2,325.5 2,612.3 2,870.4
EBITDA 268.7 394.1 478.9 556.4 635.0 706.8
Net income 187.4 277.2 340.5 395.8 453.8 506.9
Cash taxes from operations 18.2 24.2 31.1 36.2 41.3 45.9
Total assets 1,339.0 1,444.7 2,019.5 2,479.8 3,021.7 3,822.6
Debt 194.3 722.4 956.6 1,021.1 1,109.2 1,403.2
Net worth 1,144.7 722.4 1,062.9 1,458.7 1,912.5 2,419.4
Free Cash Flow (FCF) analysis
NOPLAT 250.5 369.9 447.8 520.3 593.8 660.8
Depreciation and amortization 41.9 49.9 54.9 62.0 67.1 71.0
Change in working capital -91.9 20.0 145.0 209.0 180.0 166.0
Capital expenditure -194.6 -288.7 -319.3 -344.2 -361.4 -397.5
UFCF 5.9 52.1 107.8 156.2 225.5 266.7
PV of UFCF 6.3 49.3 91.4 118.6 153.3 162.4
Present value of terminal cash flow 1,935.0
Perpetual growth rate 3.0%
WACC 11.6%

Assumptions and target price:

WACC DCF Valuation

Risk free rate 8.9% Sum of PV of UFCF 575.2
Equity risk premium 5.0% PV of terminal value 1,935.6
Beta 79.8% EV 2,510.8
Cost of equity 12.9% Debt 194.3
Cost of debt 10.8% Minority interest 0.0
Tax rate 6.8% Cash and cash equivalents 593.2
Tax adjusted cost of debt 10.1% Net equity value 2,909.7
Debt/capital ratio 44.4% Shares outstanding (cr) 2.9
WACC 11.6% Target price (Rs) 1,003.4

Sensitivity analysis:

Terminal growth rate

31.55 2.0% 2.5% 3.0% 3.5% 4.0%
10.6% 1,029.6 1,075.5 1,127.3 1,186.4 1,254.4
11.1% 976.2 1,016.4 1,061.5 1,112.5 1,170.7
WACC 11.6% 928.3 963.8 1,003.4 1,047.8 1,098.0
12.1% 885.3 916.7 951.7 990.6 1,034.3
12.6% 846.3 874.4 905.4 939.8 978.1

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Tulip Telecom Ltd

Key operating metrics

Parameters Mar-08 Dec-07 Mar-07

No. of connects 117,117 93,811 51,376

Cities 1,200 1,100 800

No. of connects per city 98 85 64

Connects added during the quarter 23,306 17,974 16,362

Points of Presence (PoP) 3,206 3,081 2,731

No. of Pop’s per city 2.7 2.8 3.4

POP's added during the quarter 125 125 350

No. of clients 856 744 536

Source: Company, KRC Research

Relative valuation
Company Tulip MTNL Tata Com.
CMP (Rs) 881.0 84.1 471.1
OPM (%) 21.9 32.5 19.9
NPM (%) 15.2 11.3 9.1
P/E (x) 12.6 10.0 39.9
Tulip is available at
P/BV (x) 5.7 0.4 2.1
reasonable valuation EV/Sales (x) 1.6 0.4 4.5
compared to peers EV/EBIDTA (x) 7.4 1.3 22.5
MCap/Sales (x) 1.9 1.1 3.6
Source: Company, KRC Research

Valuation and recommendation

Strong revenue growth Our rating of Tulip Telecom is supported by increasing broadband penetration and the
and expanding operating company’s large network of last mile connectivity. The steady growth in revenues
margins are key positives (CAGR of 28% in FY08-10) and expanding EBITDA margin (190 bps in FY08-10) due to
for the company a changing business mix are key positives in our view. In addition, the recent issuance
of US$50 mn will support future capital expansions till FY09. The company is trading at
a TTM P/E of 12.6x and has a premium valuation based on the following points.

Market leadership in data services with a market share of ~28%

License to provide WiMAX services in 100 cities

Superior operating margins compared to peers

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Tulip Telecom Ltd

Valuation method Weights Target price Weighted price

Target price using DCF 50.0% 1,003.4 501.7
Target price using P/E 25.0% 1,104.6 276.1
Target price using EV/EBITDA 25.0% 964.8 241.2
Weighted average target price (Rs) 1,019.0
Current price (Rs) 881.0
Upside from current levels 15.7%

We therefore believe the company looks attractive at current price levels given its strong
Target price of Rs 1,019, operational metrics and robust performance in Q1FY09. At CMP of Rs 881 Tulip trades
giving an upside potential at 12.6x its TTM EPS of Rs 70.15 and 9.2x its FY09E EPS of Rs 95.6. We recommend
of 16% a BUY on the stock with a price target of Rs1,019 which would discount its FY09E EPS
by 10.7x.

Key risks
Entry of integrated ƒ The entry of integrated telecom service providers such as Reliance

telecom players in data Communications, Bharti Airtel and BSNL in the Data Connectivity business
business might impact could impact Tulip’s profitability and market share.
profitability and market
share
ƒ Increases in working capital subsequent to the foray into the SWAN business.

ƒ The perception of the SME segment as a profitable market by larger telecom

operators could increase pricing pressures over the next few quarters.

15 KRC Equity Research

 Tulip Telecom Ltd

Financial overview
Profit and Loss Statement FY06 FY07 FY08 FY09E FY10E Balance Sheet FY06 FY07 FY08 FY09E FY10E
Net Sales 508.2 840.8 1,216.4 1,698.1 1,995.2 Sources of Funds
Other Income 1.2 2.4 23.1 25.4 30.0 Equity capital 29.0 29.0 29.0 29.0 29.0
Total Income 509.4 843.1 1,239.5 1,723.4 2,025.2 Reserves 157.8 216.7 416.1 693.4 1,033.9
Raw materials 414.4 269.7 49.7 27.7 29.9 Loan funds 75.6 141.6 194.3 722.4 956.6
Purchase of finished goods - 385.9 848.5 1,197.7 1,396.7 Total capital employed 262.4 387.3 639.4 1,444.7 2,019.5
Employee expense 9.9 24.8 39.6 69.9 79.8 Applications of Funds
Other expense 17.7 26.5 33.0 34.1 39.9 Gross block 80.0 250.0 444.7 733.3 1,052.6
TOTAL EXPENDITURE 441.9 706.9 970.8 1,329.4 1,546.3 Accumulated depreciation 7.3 22.9 64.8 114.7 169.6
EBIDTA (excl. OI) 66.3 133.9 245.6 368.7 448.9 Net block 72.7 227.1 379.9 618.6 883.0
EBIDTA (incl. OI) 67.4 136.3 268.7 394.1 478.9 Capital Work in Progress - 22.6 139.1 186.8 219.5
Interest 6.4 12.6 25.8 48.7 59.9 Current assets, loans & advances
Gross Profit 61.1 123.7 242.9 345.3 419.1 Inventories 26.3 20.5 70.2 94.3 121.9
Depreciation 4.3 19.7 41.9 49.9 54.9 Sundry debtors 145.8 139.9 199.2 268.9 310.4
Profit Before Tax 56.8 104.0 201.0 295.4 364.2 Cash and bank balance 46.8 2.6 593.2 333.5 535.6
Tax 7.8 9.5 13.6 18.2 23.7 Loans and advances 14.4 36.6 29.2 42.5 59.9
Profit after Tax 49.0 94.5 187.4 277.2 340.5 Total current assets 233.3 199.6 891.8 739.2 1,027.8
Equity Capital (Rs Crore) 29.0 29.0 29.0 29.0 29.0 Sundry creditors 25.8 27.3 34.3 40.6 45.1
Face Value 10 10 10 10 10 Other provisions 19.7 34.0 36.6 58.5 64.9
Basic EPS 16.89 32.61 64.61 95.60 117.42 Total loans and advances 45.5 61.3 71.0 99.1 110.0
16.89 32.58 55.74 82.47 101.30 Net current assets 187.8 138.3 820.8 640.1 917.8
EPS growth rate 98.09 47.97 22.83 Total assets 262.4 387.3 1,339.0 1,444.7 2,019.5

Cash Flow Statement FY06 FY07 FY08 FY09E FY10E Key ratios FY06 FY07 FY08 FY09E FY10E

Cash flows from operating activities (CFO) Operational Performance (%)

Net profit before tax 56.8 106.3 201.0 295.4 364.2 EBITDA Margin (incl OI) 13.3 16.2 22.1 23.2 24.0

Depreciation & amortization 4.3 15.8 41.8 49.9 54.9 PBT Margin 12.0 14.7 20.0 20.3 21.0

Others 5.2 11.3 -4.7 48.7 59.9 Net Profit Margin 9.6 11.2 15.4 16.3 17.1

Operating Profit 66.3 133.4 238.0 394.1 478.9

Change in working capital -97.9 5.2 -91.9 -79.0 -75.6 Financial Performance

CFO -31.6 138.6 146.2 315.1 403.3 Debt / Equity (x) 0.4 0.6 0.4 1.0 0.9

Less: Income tax 0.5 -2.7 0.3 18.2 23.7 Debtors period (days) 103.3 61.2 50.2 49.6 52.3

Net CFO (A) -32.2 141.4 145.8 296.9 379.7 Creditors period (days) 21.3 27.2 25.1 21.7 20.7

Inventory period (days) 18.9 10.2 13.6 17.7 19.8

Cash flows from investing activities (CFI)

Sale of Fixed Assets -60.7 -170.4 -194.6 -288.7 -319.2 Valuation parameters

Sale of investments -34.9 -6.6 -653.0 -47.7 -32.7 Diluted EPS (Rs.) 16.9 32.6 55.7 82.5 101.3

Net CFI (B) -95.6 -177.1 -847.7 -336.4 -351.9 Cash EPS (Rs.) 10.9 47.8 50.4 108.7 139.1

RONW (%) 149.1 92.4 137.7 116.0 90.0

Cash flows from financing activities (CFF) ROCE (%) 28.6 28.6 35.0 16.1 20.6

Long term borrowings 0.0 49.7 584.9 -171.5 234.2

Others -6.4 -13.1 120.2 -48.7 -59.9 Market Data

Net CFF (C) -6.4 36.6 705.1 -220.2 174.4 P/E Ratio - Average (x) 56.0 29.0 17.0 11.5 9.3
Net increase in C&CE
-134.1 0.9 3.2 -259.7 202.1 EV/Sales (x) 4.9 3.0 2.1 1.5 1.3
(A+B+C)
Opening C&CE 0.4 1.1 2.6 593.2 333.5 EV/EBITDA (x) 37.9 18.7 10.2 6.8 5.6

Ending C&CE -133.7 2.0 5.8 333.5 535.6 Market Price / BV (x) 5.1 3.8 2.1 1.3 0.9

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Tulip Telecom Ltd

Rajiv Choksey Co-Head Institutional Equities rajiv.choksey@krchoksey.com +91-22-6653 5135

Anuj Choksey Co-Head Institutional Equities anuj.choksey@krchoksey.com +91-22-6696 5500

Alok Agarwal Head Research alok.agarwal@krchoksey.com +91-22-6696 5502

Tulip Telecom Rating

1200 Buy Appreciate over 15%
1100
BUY

1000 Accumulate/Hold Appreciate upto 15%

900

800
Reduce Depreciate upto 10%
700
Nov-07

Jan-08

Jun-08

Jul-08
Sep-07

Oct-07

Dec-07

Feb-08

Mar-08

Apr-08

May-08

Aug-08

Sep-08
Sell Depreciate over 10%

Other Stocks in the sector under our active coverage: Telecom

Date Company Type of Report Recommendation Price Target Price

30 July 2008 Reliance Communications Result Update Buy 436 508
29 July 2008 Idea Cellular Result Update Hold 88 100
25 July 2008 Bharti Airtel Result Update Buy 805 955
18 July 2008 TTML Result Update Hold 23 26

____________________________________________________________________________________________________________

Disclaimer:

This publication has been prepared solely for information purpose and does not constitute a solicitation to any person to buy or sell a
security. While the information contained therein has been obtained from sources believed to be reliable, investors are advised to
satisfy themselves before making any investments. Kisan Ratilal Choksey Shares & Sec Pvt Ltd., does not bear any responsibility for
the authentication of the information contained in the reports and consequently, is not liable for any decisions taken based on the
same. Further, KRC Research Reports only provide information updates and analysis. All opinion for buying and selling are available
to investors when they are registered clients of KRC Investment Advisory Services. As per SEBI requirements it is stated that, Kisan
Ratilal Choksey Shares & Sec Pvt Ltd., and/or individuals thereof may have positions in securities referred herein and may make
purchases or sale thereof while this report is in circulation.
__________________________________________________________________________________________________________

Please send your feedback to krc.research@krchoksey.com

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Phone: 91-22-6633 5000; Fax: 91-22-6633 8060.

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17 KRC Equity Research