HATHWAY CABLE & DATACOM Uninterrupted reception

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1 VISIT NOTE HATHWAY CABLE & DATACOM Uninterrupted reception India Equity Research Media We recently interacted with Mr. G Subramaniam, CFO, Hathway Cable & Datacom (Hathway). The company is confident of seeding boxes within the October 31 deadline. It is well placed for digitisation as 75% of its subscriber base lies in Phase 1 & 2 areas. However, the full benefit of digitisation on subscription revenues in Phase 1 will be apparent only from Q1FY14 (lag of two quarters). With rapid digital subscriber additions, Hathway continues to execute the best amongst all MSOs. Maintain BUY. ARPUs to surge post digitisation Hathway intends to seed ~2.2mn boxes (1.2mn done) in Phase 1 cities of Mumbai, Delhi and Kolkata. Once the entire digitisation process is complete, ARPUs are expected to surge to INR225 for Hathway vis-à-vis current secondary ARPU of INR160. The company has chalked out a strategy for its broadband business and intends to invest further in it post digitisation. As per management, apart from the issue of branding where MSOs lose out to DTH players, cable technology is superior to DTH and digital cable subscriber additions will outnumber DTH additions. Phase 1 digitisation on track in 3 cities Digitisation has been progressing at a rapid pace in Mumbai, followed by Kolkata and Delhi, while Chennai remains a laggard. Currently, Hathway has sufficient inventory of boxes (0.5mn). Recently, the subscription packs have been made public by the company. The Ministry of Information & Broadcasting (MIB) has upped the ante in terms of government-run publicity campaigns in electronic and print media. Outlook and valuations: Execution remains key; maintain BUY Hathway is the best placed MSO to capitalise on the huge digitisation opportunity. Due to the ongoing digitisation process, the company s EBITDA is likely to fluctuate on account of call centre expenses, ad expenses and LCO commissions. Hence, we value Hathway based on EV/sales multiple. Currently, the stock is trading at EV/sales of 3.3x and 2.7x FY13E and FY14E, respectively. Maintain BUY/Sector Outperformer. Financials (consolidated) Year to March FY11 FY12 FY13E FY14E Revenues (INR mn) 8,827 10,121 12,097 14,390 Rev. growth (%) EBITDA (INR mn) 1,501 1,676 2,189 2,686 Net profit (INR mn) (286) (458) (480) (302) Share outstanding (mn) Diluted EPS (INR) (2.2) (3.4) (3.4) (2.1) EV/EBITDA (x) EV/Sales (x) ROAE (%) (2.8) (4.7) (4.9) (2.7) EDELWEISS 4D RATINGS Absolute Rating Rating Relative to Sector BUY Outperformer Risk Rating Relative to Sector Medium Sector Relative to Market Equalweight MARKET DATA (R: HAWY.BO, B: HATH IN) CMP : INR 233 Target Price : INR week range (INR) : 238 / 80 Share in issue (mn) : M cap (INR bn/usd mn) : 33/ 633 Avg. Daily Vol.BSE/NSE( 000) : SHARE HOLDING PATTERN (%) Current Q4FY12 Q3FY12 Promoters % MF's, FI's & BK s FII's others * Promoters pledged shares (% of share in issue) PRICE PERFORMANCE (%) Stock Nifty : NIL EW Media Index 1 month months months Abneesh Roy abneesh.roy@edelcap.com Alankar Garude alankar.garude@edelcap.com October 3, 2012 Edelweiss Research is also available on Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset. Edelweiss Securities Limited

2 Media Key meeting takeaways Phase 1 & 2: Hathway has already seeded ~1.2mn boxes in Mumbai, Delhi and Kolkata, and targets seeding of ~2.2mn boxes in these 3 metros. The company is specifically looking to target Phase 1 & 2 because 75% of its ~8.9mn subscriber base lies in these areas. Phase 2 will be stretched, but Hathway is looking at options like extending vendor credit facility to prevent dilution. If subscription revenue starts accruing on time, dilution may not be necessary. Upside in subscription revenues post Phase 1: Entire upside in subscription revenue due to Phase 1 will be visible from Q1FY14. ARPU: ARPUs are expected to stabilise at INR225 for Hathway compared to INR (like-to-like) currently for DTH players. Currently, secondary ARPU for Hathway is INR160. Cable versus DTH: The only issue where cable loses out to DTH is that unlike the latter cable operators do not have a significant brand. Joint ads: Joint ads in major newspapers in metros cost Hathway just INR2.2mn. Multi-TV homes: Hathway expects ~15% incremental multi-tv homes in Phase 1 cities. Inventory: The company has 0.5mn boxes in inventory. Apart from these, 0.2mn boxes have been ordered which can be used if competitors vacate some territories. If more than 0.5mn boxes need to be added immediately, it can be done as contracts have been signed with Cisco and NDS. Subscription packs: In the Basic Pay Tier, Hathway expects 5-10% penetration. In mid-tier, the company expects 70% penetration. And, in the high level tier, Hathway expects 25% penetration. LCO also has incentive to push high level tier as he gets directly ~35% of the higher-end package. FTA channels: FTA channels will also pay to be in a particular package, which will be called packaging charges. Role of LCOs post-digitisation: LCOs will continue to own the last mile and hence it is essential that they be kept satisfied in the current scheme of things. Competition from DTH will keep a tab on LCOs. LCO will make ~INR70-80 per cable subscriber vis-à-vis INR he used to make in the analog scenario. LCOs will continue to collect payments. Subscribers will also be given the option to use online and cheque drop options. LCOs can switch allegiance, but other MSOs do not have extra boxes. Also, most MSOs do not have broadband facility. Fall in carriage fees: Since the number of channels will increase, the drop in per channel carriage fees will be balanced by increase in overall carriage fees. Subscriber acquisition cost (SAC): SAC of Hathway is INR900. SAC of DTH is INR2,300. Broadband: Post-digitisation, Hathway will continue to invest in broadband. A small portion of broadband revenue (10-15%) will be shared with LCO. 4G is not a competition to Hathway because speed of wired technology will always be higher than wireless. 2 Edelweiss Securities Limited

3 Hathway Cable & Datacom Acquisition opportunities: The company is currently focused on seeding boxes and is not actively looking at acquisition opportunities. However, if any acquisition opportunity arises post Phase 2, the company will consider it. Acquisition price per subscriber: As per Hathway, ~15-20x ARPU is a good price to pay per subscriber. D/E ratio: The D/E ratio lies at a fairly comfortable 0.4 at June end. Free cash flow: Hathway aims to be free cash flow positive by FY15. Depreciation policy of boxes: Hathway depreciates set top boxes over 8 years. Activation fee of ~INR500 is charged immediately. Earlier, it used to amortize over 5 years, which has been extended to 8 years, in line with cable industry practice. Table 1: Depreciation policy of listed MSOs/DTH players Set-top box activation Depreciation policy of Company revenue recognition set top boxes Dish TV 5 years 5 years Hathway In the 1st year 8 years Den Networks In the 1st year 8 years WWIL In the 1st year 5 years Source: Edelweiss research Subsidiary structure: 48 subsidiaries fall directly under Hathway. Some of these in turn have further subsidiaries. Hathway will look at simplifying its subsidiaries structure over the next 1-2 years. Going forward, it does not envisage providing corporate guarantees to its JVs. Call centre: Hathway s call centre will have lesser seats than DTH providers. This is because the company has the LCO who is a point of contact with the customer. Number of channels: As of now, Hathway offers up to 250 channels in SD format and up to 20 channels in HD channels. Providence: Providence Equity Advisors, which has acquired ~9.9% stake post Star India s stake sale in Hathway, typically has 5-6 years investment horizon and specialises in consolidation of cable businesses. Entertainment tax: Hathway expects entertainment tax in Mumbai to dip in the future from INR45 currently. Competition: As of now, there has not been irrational competition. However, as per Hathway, 1-2 MSOs can turn more aggressive. Consolidation: In a few years, smaller MSOs like Ortel (Orissa), Manthan (Kolkata), Seven Star (Mumbai) and Atria (Bengaluru) will consolidate. India can support a maximum of 15 MSOs. This can happen in 3-4 years. In US, there are MSOs. FDI hike to 74%: There is not much room for foreign direct investment in Hathway as promoter holding is very high. 3 Edelweiss Securities Limited

4 Media HD recorder: Hathway s HD recorder is likely to be launched by FY13 end. Delhi: Due to distributor model in Delhi, extra 2-3% of ARPU has to be shared with distributors. Digitisation: On the right track The latest review of digitisation by the Ministry of Information & Broadcasting (MIB) suggests that ~73% digitisation has been achieved in four metros. The data shows a healthy addition of ~1.7mn boxes during the past three months in metros. MIB has upped the ante in terms of government-run publicity campaigns in electronic and print media. Also, in our view, joint ads issued by major MSOs and individual ads by DTH players, apart from the firmness of MIB in meeting the deadline, augur well for the progress of digitisation. Without relying on industry estimates, this time around MIB has relied on 2011 Census data with respect to total households, TV penetration and households having TV sets. Because of this revised calculation methodology, the potential subscriber base in Phase 1 stands at ~6.8mn vis-à-vis ~12.5mn. Following are the key takeaways from the latest MIB review: As per 2011 census, there are ~10.4mn households in four metros. 80% average TV penetration assumed, which means ~8.3mn TV households. ~8.3mn TV households: ~2.6mn are DTH and ~5.7mn cable TV households. By making a 20% incremental provision for multi-tv cable households, total cable TV subscribers in metros stand at ~6.8mn. Out of these ~6.8mn cable TV subscribers in metros, ~5mn boxes have already been installed, a penetration of 73%. Out of its ~1.9mn potential subscriber base, Mumbai has achieved 95% penetration and seeded ~1.8mn boxes vis-à-vis ~1.2mn boxes at May end. Currently, Kolkata has seeded ~1.3mn boxes vis-à-vis ~0.6mn at May end. The penetration level in Kolkata now stands at ~70%. Delhi has seeded ~1.3mn boxes, up from ~0.8mn boxes at May end. The penetration level in Delhi is ~60%. Digitisation has not moved forward in Chennai at all with 0.25mn digital subscribers. In another significant development for digitisation, four large MSOs (Hathway, Den Networks, WWIL and Digicable) have announced their consumer packages. We expect the announcement of packages to bring further clarity to subscribers about subscription charges, and speed up the digitisation process. Lack of consumer packs was a major product gap in comparison to DTH. In our view, signing of the inter-connect agreements and announcement of consumer packages signal the crossing of two significant hurdles in the completion of Phase 1 of digitisation before the October 31, 2012 deadline. Amongst MSOs, Hathway will be offering three packs of 135, 198 and 242 channels for INR160, INR220 and INR275, respectively. Similarly, Den Networks has announced three packs offering 112, 219 and 235 channels for INR180, INR225 and INR270, respectively. WWIL will charge INR100 for the basic package of 118 channels and INR150 for the other three packages, each of which are specific to Mumbai, Delhi and Kolkata. Apart from these packages, consumers will also be given the option of choosing channels from an a la carte list. All the above packages are exclusive of entertainment and service taxes. In comparison, Dish TV offers 205 channels for 4 Edelweiss Securities Limited

5 Hathway Cable & Datacom INR200 (as per our analysis INR178 ex-service tax), 235 channels for INR255, 245 channels for INR305, 270 channels for INR380 and 280 channels for INR400. All of Dish TV s pack prices are inclusive of service tax. Table 2: Consumer packages of different MSOs and Dish TV Number of Rate exclusive of Rate per MSO Package channels taxes (INR) channel (INR) Hathway Basic Medium Premium Den Networks Pack Pack Pack WWIL Janta Popular 1 (Kolkata) Popular 2 (Mumbai) Popular 3 (Delhi) Digicable Basic Gold Premium Number of Rate inclusive of Rate per DTH operator Package channels service tax (INR) channel (INR) Dish TV Super Family Super Gold Super World Super Platinum Paradise Source: Ministry of Information & Broadcasting, Edelweiss research Also, Ms. Ambika Soni, I&B Minister, had recently met the Delhi Chief Minister, where the latter assured that Delhi will meet the deadline and the state government will take steps in this direction (Delhi has been a laggard compared to Mumbai). Ms. Soni has again reiterated that the Phase 1 deadline will not be extended. According to Ms. Soni, ~90% TV households (including DTH homes) in Mumbai have installed set top boxes, followed by Kolkata with ~77% and Delhi and Chennai both with ~70% TV households each having set top boxes. Even though Delhi remains a laggard, the Delhi government has assured that digitisation will be completed in the city by the Phase 1 deadline, and it will launch a campaign soon to educate subscribers about the approaching deadline. 5 Edelweiss Securities Limited

6 Media Outlook and valuations: Execution remains key; maintain BUY Hathway is the best placed cable company to capitalise on the huge digitisation opportunity. Due to the ongoing digitisation process, EBITDA is likely to fluctuate due to call centre expenses, ad expenses and LCO commissions. Hence, we value Hathway based on EV/sales multiple. Currently, the stock is trading at EV/sales of 3.3x and 2.7x FY13E and FY14E, respectively. Assigning Hathway a FY14E EV/sales target of 3.0x, we derive a target price of INR272. We maintain BUY recommendation and rate it Sector Outperformer. Chart 1: Quarter-wise digital subscriber base On the rise Q3FY10 Q4FY10 Q1FY11 Q2FY11 Digital subscribers (mn) Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Source: Company, Edelweiss research Fig. 1: Hathway s SD and HD set top boxes Source: Company website 6 Edelweiss Securities Limited

7 Hathway Cable & Datacom Fig. 2: Joint ads by leading MSOs in newspapers Source: Company 7 Edelweiss Securities Limited

8 Media Company Description Hathway is one the largest MSOs as well as one of the leading cable broadband service providers in India. Having entered the cable and entertainment business in 1995, the company offers three broad services analog cable television, digital cable television and broadband internet. Its key promoter is the Rajan Raheja Group with a ~49.6% stake. While Hathway currently provides analog TV services in 140 cities, it is the largest digital cable TV provider in India. It is also the first cable TV service provider to offer broadband services in 19 cities. The company has bagged the Best Cable TV Operator of the Year award by the Indian Television Awards eight times. Hathway has launched a channel Hathway Music (music channel). Investment Theme The compulsory digitisation mandate will lead to digitisation of cable TV services across India by CY14 end. Converting its existing analog subscriber base on the digital platform will provide Hathway a huge opportunity to increase subscription revenue due to lower underdeclaration and higher ARPU. Hathway s digitisation progress is on track and the company will be looking to build on to its broadband subscriber base as well. Key Risks DTH players can leverage on first mover, stronger brand advantage Fund raising may be required in subsequent phases Loss of subscribers if LCOs shift loyalties Intense competition may limit ARPU growth 8 Edelweiss Securities Limited

9 Hathway Cable & Datacom Financial Statements Key Assumptions Macro - GDP(Y-o-Y %) Inflation (Avg) Repo rate (exit rate) USD/INR (Avg) Company - Paying subscribers (mn) Primary subscribers' ARPU (INR) Broadband subscribers (mn) Pay channel costs (% of rev.) Income statement (INR mn) Net revenue 7,332 8,827 10,121 12,097 14,390 Pay channel cost 2,924 3,622 4,295 5,133 6,116 Employee costs ,270 1,511 Operating expenses 2,406 2,806 3,224 3,505 4,077 Total operating expenses 6,077 7,326 8,445 9,908 11,703 EBITDA 1,254 1,501 1,676 2,189 2,686 Depreciation and amortisation 1,111 1,249 1,409 1,804 2,008 EBIT Other income Foreign exchange gain/(loss) Interest expenses Exceptionals Profit before tax (506) (112) (235) (195) 18 Provision for tax Net profit (662) (239) (388) (378) (200) Extraordinary income/ (loss) (47) Minority interest Profit after minority interest (801) (286) (458) (480) (302) Shares outstanding (mn) Diluted EPS (INR) (6.3) (2.2) (3.4) (3.4) (2.1) Common size metrics - as % of net revenues Employee expenses Direct Cost EBITDA margins Net profit margins (9.0) (2.7) (3.8) (3.1) (1.4) Growth ratios (%) Rev. growth (%) EBITDA Edelweiss Securities Limited

10 Media Balance sheet (INR mn) As on 31st March FY10 FY11 FY12 FY13E FY14E Equity capital 1,429 1,429 1,429 1,429 1,429 Employee stock option O/S Reserves & surplus 7,378 7,090 6,598 6,118 5,816 Shareholders funds 8,826 8,518 8,028 7,547 7,245 Minority interest (BS) 1,280 1,484 1,802 1,904 2,007 Secured loans 4,482 3,197 3,727 4,800 5,500 Unsecured loans Borrowings 4,607 3,533 3,940 5,013 5,713 Deferred tax liability Sources of funds 14,796 13,625 13,873 14,568 15,068 Gross block 13,487 15,350 17,623 19,823 21,823 Depreciation 3,991 5,046 6,463 8,267 10,274 Net block 9,497 10,304 11,160 11,556 11,548 Capital work in progress ,005 1,000 1,200 Investments 4,183 1, Inventories Sundry debtors 1,955 2,529 2,492 3,540 3,635 Cash and equivalents 1, Loans and advances 1,484 1,843 1,923 2,268 2,697 Total current assets 4,485 4,809 5,445 6,257 7,365 Sundry creditors and others 2,112 1,225 1,583 1,773 2,269 Others current liabilities 1,412 2,501 2,203 2,661 3,166 Provisions Total current liabilities & provisions 3,643 3,862 3,896 4,545 5,545 Net current assets ,550 1,712 1,819 Uses of funds 14,796 13,625 13,873 14,568 15,068 Book value per share (INR) Free cash flow (INR mn) Net profit (801) (286) (458) (480) (302) Depreciation 1,111 1,249 1,409 1,804 2,008 Deferred tax Others 1, , Gross cash flow 1,359 1,571 2,084 1,858 2,320 Less: Changes in WC (9) (442) Operating cash flow 1,368 1,071 1,636 1,128 2,762 Less: Capex 1,232 2,101 2,766 2,195 2,200 Free cash flow 136 (1,030) (1,129) (1,067) 562 Cash flow metrics Operating cash flow 1,368 1,071 1,636 1,128 2,762 Investing cash flow (5,644) 777 (1,515) (2,167) (2,227) Financing cash flow 4,828 (1,713) (147) Net cash flow (26) (568) 549 Capex (1,232) (2,101) (2,766) (2,195) (2,200) 10 Edelweiss Securities Limited

11 Hathway Cable & Datacom Profitability & efficiency ratios ROAE (%) (11.6) (2.8) (4.7) (4.9) (2.7) ROACE (%) Inventory day Debtors days Payable days Current ratio Debt/EBITDA Fixed asset turnover (x) Debt/Equity Adjusted debt/equity Interest coverage Operating ratios Total asset turnover Fixed asset turnover Equity turnover Valuation parameters Diluted EPS (INR) (6.3) (2.2) (3.4) (3.4) (2.1) CEPS (INR) Price/BV (x) EV/Sales (x) EV/EBITDA (x) FCFPS (INR) 1.1 (7.2) (7.9) (7.5) 3.9 Peer comparision valuation CMP M. Cap P/E (x) EV/EBITDA (x) EV/sales (x) Company (INR) (INR bn) FY13E FY14E FY13E FY14E FY13E FY14E Dish TV NM NM Hathway Cable & Datacom NM NM Jagran Prakashan PVR Sun TV Network Zee Entertainment Source: Company, Edelweiss research 11 Edelweiss Securities Limited

12 RATING & INTERPRETATION Company Absolute reco Relative reco Relative risk Company Absolute reco Relative reco Relative Risk Dish TV India BUY SP M Hathway Cable & Datacom BUY SO M Jagran Prakashan BUY SP M PVR BUY SP M Sun TV Network UNDER REVIEW UNDER REVIEW M Zee Entertainment Enterprise BUY SO M ABSOLUTE RATING Ratings Expected absolute returns over 12 months Buy More than 15% Hold Between 15% and - 5% Reduce Less than -5% RELATIVE RETURNS RATING Ratings Sector Outperformer (SO) Sector Performer (SP) Criteria Stock return > 1.25 x Sector return Stock return > 0.75 x Sector return Stock return < 1.25 x Sector return Sector Underperformer (SU) Stock return < 0.75 x Sector return Sector return is market cap weighted average return for the coverage universe within the sector RELATIVE RISK RATING Ratings Low (L) Medium (M) High (H) Criteria Bottom 1/3rd percentile in the sector Middle 1/3rd percentile in the sector Top 1/3rd percentile in the sector Risk ratings are based on Edelweiss risk model SECTOR RATING Ratings Overweight (OW) Equalweight (EW) Criteria Sector return > 1.25 x Nifty return Sector return > 0.75 x Nifty return Sector return < 1.25 x Nifty return Underweight (UW) Sector return < 0.75 x Nifty return 12 Edelweiss Securities Limited

13 Hathway Cable & Datacom Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai Board: (91-22) , Vikas Khemani Head Institutional Equities Nischal Maheshwari Co-Head Institutional Equities & Head Research Nirav Sheth Head Sales Coverage group(s) of stocks by primary analyst(s): Media Dish TV India, Hathway Cable & Datacom, Jagran Prakashan, PVR, Sun TV Network, Zee Entertainment Enterprise Recent Research Date Company Title Price (INR) Recos 01-Oct-12 Media MSO packs: Another cog in digitisation wheel; EdelFlash 24-Sep-12 Media HITS: Will DTH/MSOs be impacted?; Sector Update 21-Sep-12 ZEE Bangla movie channel to firm up regional efforts; EdelFlash Buy 185 Distribution of Ratings / Market Cap Edelweiss Research Coverage Universe Buy Hold Reduce Total Rating Interpretation Rating Expected to Rating Distribution* * 1 stocks under review > 50bn Between 10bn and 50 bn < 10bn Market Cap (INR) Buy Hold Reduce appreciate more than 15% over a 12-month period appreciate up to 15% over a 12-month period depreciate more than 5% over a 12-month period 13 Edelweiss Securities Limited

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