Behind The Facade Of Kcell Deal

Just recently we observed a superbank being born in Kazakhstan, and now we see the same trend in the tele-communications market. At hour zero it will be very lucrative for someone to have control over a key structure securing the entire country with connection. Who is that someone?

At the end of January of this year Halyk Finance, the daughter company of AO People’s Bank of Kazakhstan positioning itself as a leading investment bank, focused on Central Asia, announced that AO Kazakhtelecom filed a petition to Committee on regulation of natural monopolies, protection of competition and consumers’ rights of RK with a plea to allow the acquisition of 75% of stock of Kcell mobile operator.

Based on information from Halyk Finance, the institution took the plea for examination. We are quoting the press release in its entirety:

The Committee for Regulation of Natural Monopolies of Kazakhstan began the review of Kazakhtelecom’s application for the purchase of a 75% stake in Kcell. Previously, the main shareholder of Kcell, Telia Company, several times announced its intentions to sell its stake in Kazakhstani Company. As of 01.01.2018, 60.4% of Kcell’s shares belonged to Telia Company, 14.6% to Turkcell, about 9% to Freedom Finance and 16% to other institutional and private investors. Most likely, Kazakhtelecom intends to acquire shares of Telia Company and Turkcell, representing 75% of Kcell’s total equity. As of the end of 3Q2017, the subscriber base of JV Tele2-Altel totaled 6.8mn. The subscriber base of Kcell was 10mn. Taking into account the Company’s plans to increase the market share of the JV Tele2-Altel, the potential number of Kazakhtelecom’s user contracts after the acquisition of Kcell may reach 17mn, which would exceed 65% of the total market.

Our opinion:

The main component for the acquisition is the obtainment of the permission from the Antimonopoly Authorities of the Republic of Kazakhstan. Despite the fact that this transaction would allow Kazakhtelecom to dominate in the mobile segment of Kazakhstani market, we do not exclude the possibility of the Antimonopoly Committee approving this transaction. The main factors to consider will be the structure of the transaction and further strategic plans of the Company.

As of the end of 2016, the Kazakhstani mobile communications market was divided among Kcell, Beeline and JV Tele2-Altel in proportions of 39.2%, 35.5%, and 25.3%, respectively. Assuming proposed acquisition would take place and Beeline will maintain its market share held in 2016, of 35.5%, the combined market share of Kazakhtelecom could reach 64.5%. Given the specifics of the telecommunications sector, the oligopoly may be the standard, but in the case of this deal, one can assume without any detailed estimations that Kazakhtelecom will be able to occupy a dominant position in the mobile segment. Consequently, the Company will have the leading positions in almost all major segments of the telecommunications industry. (Kazakhtelecom’s market shares as of December 31, 2016: broadband 72%, fixed line 93%, data transmission 73%)

Another main factor in the proposed transaction is its financing. As of September 30, 2017, Kazakhtelecom had 99.8bn KZT on its balance, of which bank deposits with maturities of 3-12 months represented 62%, the Company’s debt was 55bn KZT. According to our estimates, after 30bn KZT bonds buyback in 4Q2017, Kazakhtelecom should have around 70bn KZT in cash and cash equivalents and the total debt of 26bn KZT at the beginning of 2018. The current market value of Kcell is 333.8bn, considering yesterday’s closing price of 1 669 KZT per share. Therefore, Kazakhtelecom should pay around 250bn KZT for 75% stake in Kcell, which will require over 180bn KZT of the additional financing.

Kazakhtelecom has sufficient reserves relative to its stipulated covenants and could increase the debt burden for the amount needed to purchase Kcell, excluding the realization cost of option for the stake of Tele2 AB in JV. (the threshold Debt/EBITDA is not more than 3.5 versus 0.38 at the end of 2017, the Debt/Equity ratio is no more than 1.00 versus 0.07 at the end of 2017). The reduction of debt, strong financial results from core operations and a significant decrease in the loss from the JV in 2017 are the main factors, which ensured the improvement of the above credit metrics.

According to the agreement concluded with the Swedish Company, Kazakhtelecom has obligations to finance JV Tele2-Altel until the share of debt will equal to the Company’s economic share in the JV (51%). As a result, in the medium term, Kazakhtelecom will bear all the necessary financing costs associated with the JV. Meanwhile, the Company has an option to buy out the stake of Tele2 AB. The realization of the option will be available in 1Q2019. The option will be valued at fair value at the time of the exercise. In case of the option realization, Kazakhtelecom will have to return the Tele2 AB shareholder loan (101bn KZT including interest), net of Tele2 AB debt to the Company (around 4.6bn, discounted to the option date).

Kazakhtelecom will need a significant increase in the debt burden to finance the acquisition of 75% of Kcell, which is possible from the point of view of its financial stability coefficients. The exercise of the option to buy out the Tele2 AB stake in the JV may also require additional financing, the amount of which will depend on the dynamics of the financial performance of the JV. The issue of sources and costs of funding for the implementation of the proposed transaction remains in place.

In order to effectively evaluate the financial and operational effects of the proposed acquisition of Kcell, additional information on the structure of the transaction is required, including the main financial and legal aspects. Our recommendation on Kazakhtelecom’s shares is under review.

Halyk Finance’s announcement from Jan 24 2018 was reprinted and retold by many Kazakhstani internet resources, however there was no major reaction from the market, public or experts. Probably, the only one who publicly spoke against Kazakhtelecom’s purchase of 75% of stock of Kcell, was the chief executive officer of Beeline Kazakhstan mobile operator Alexander Komarov. His interview to was published on Feb.16 2018.

Let us quote key parts from that interview:

“First of all we advocate for a healthy balance on the markets, especially on such potentially important ones as telecom. This isn’t a market for a special powder, that can easily regulate itself; large companies in telecom – are strategically important for the government. Including from the point of view of social importance. For a consumer telecommunication is one of the most often used services and people here have a loud reaction to changing of prices and quality of the service”.

We welcomed transformation of the market from four to three players. Very simple calculations showed that four players are too much for Kazakhstan, and all of them cannot secure reinvestment of funds at a proper level. For example, we consistently reinvest 20% from the profits, and at the same time carry serious tax burden. Thus, in order to receive return on the invested capital in pure form at least at the level of 10-15% the whole market has to have profitability of at least 30%. Otherwise this will be reflected at the level of development of technology, quality of coverage and provided services etc. Simple calculations showed that the market is unstable when there are four players. Altel and Tele2’s alliance was also harmonious step in development for ‘Kazakhtelecom”. The deal allowed to get rid of the disbalance at the market, and Kazakhtelecom became a full-fledged universal operator, which is strategically god.

“Now we are facing a risk of getting a super-monopoly, which will receive a mediated control over two out of three mobile operators. He will be assigned 75% of frequency content, 65% of income and subscribers. That is a disproportion, that will again lead to a unstable market”.

“I myself am trying to understand the point of the deal. Because when you find it, it is easier for you to oversee and plan for outcomes of the development. But what scares me the most is the fact that I don’t see any sense in it. Because a super-monopoly could be created, which will always get in the way. You would have to somehow regulate it. Just imagine the influence of such a large structure on the economy and people! Every giant’s move can create a number of social issues. From the standpoint of the economy I also do not understand this deal. By our calculations, around 450 bil. tenge will be needed to buy out 75% of Kcell and the remaining half in SP Tele2/Altel. I.e. the company will need to attract tremendous lending funds. These are expensive in Kazakhstan – around 12% from annual income in the best case scenario. And nobody will be using dollars to attract investors – it is a suicide when your income is in national currency. Moreover, Kcell has a relatively good level of debt loan, something at the level of annual EBIDTA (pre-tax income). And this consumes around 30%-40% of annual dividends for servicing of debt”.

This is a difficult issue that I will leave to committee on regulation of natural monopolies. At Beeline we prefer to rely on common sense. And from that position the deal is impossible. I think that this contradicts current ambitions of the state, logic of the market and investment attractiveness”.

“Without a doubt, our role at the market will change. And possible purchase of the rival will affect our strategy. For example, we have a small mutual project with Kcell on rolling out of the LTE. How will the deal affect this case? How will monopoly affect wholesale prices?”

“Are the scenarios pessimistic?

In the long-term – definitely. Just imagine: If large funds will be borrowed for the purchase, they will need to be returned. The source of income for operators is subscription profits, there are no other funds. Thus, in order to cover the debt there will be need to either get the money from the market or from the competition. Moreover, if someone at the market will have a dominant position, I don’t think that it won’t be used. Otherwise it contradicts the logic of capitalism”.

“Alexander, you are expressing the opinion of among others, shareholders of Veon and ‘Verniy kapital’?

Yes, this isn’t my personal opinion, we actively discussed and coordinated our position at the level of observatory committee of Beeline Kazakhstan”.

By our estimates, committee on regulation of natural monopolies, protection of competition and consumers rights of Rk, will eventually give a green light to AO Kazakhtelecom for acquisition of 75% of mobile operator Kcell. Even though it is obvious that it will be opposed by not only TOO Kar-tel (owner of trademark Beeline Kazakhstan) but also by its key final shareholder through Verniy Kapital.

The thing is that now AO Kazakhtelecom, 52.03% of shares of which as of Jan 1 2018 belong to FNB Samruk Kazyna, is de facto controlled by Dariga Nazarbaeva through an offshore.

The history of acquisition of this control is this: On Jun. 15 2016 government of RK passed an act no 348 “on disposition of strategic objects”. We quote the text in its entirety”

“In accordance with article 193-1 of the civil code of Republic of Kazakhstan (general information) passed by the supreme committee of the Republic of Kazakhstan on Dec, 27 1994, the government of Republic of Kazakhstan DECREES:

  1. Allow the company DERAN SERVICES B.V. to conduct a deal on disposition of rights for 7.6% portfolio of stock of JSC Kazakhtelecom in favor of the company Sobrio Limited.
  2. Allow the company BODAM B.V. to conduct a deal of disposition of rights for 16.87% of portfolio of stock of JSC Kazakhtelecom in favor of the company Sobrio Limited.
  3. Present act is being put in place from the moment of its signing.

As a result of the deal between Bodam B.V. (Netherlands) and Deran Services B.V. (Netherlands) 24.97% of stock of AO Kazakhtelecom were transferred into property of Sobrio Limited (Ras al-Haima, UAE). Though, as of Jan. 1 2018 the latter has a slightly smaller share – 24.9% from the total number of common stocks. At one time Bodam B.V. and Deran Services B.V. were under control of Aigul Nurieva who takes 12th  position in the rating of richest Kazakhstanis, according to

As part of the sale of Kazakhstani assets, registered in the name of Ms. Nurieva, these two offshore companies got into possession of Alexander Klebanov, who later decided to re-register stock of AO Kazakhtelecom from them to his third company. The national company informed Kazakhstani stock exchange of this:

“AO Kazakhtelecom (Astana), whose stock is listed in the official list of Kazakhstani stock exchange (KASE), provided KASE with a memo of the following content: As a result of the deal made as part of one group, company Sobrio Limited, which acquired stock portfolios from its affiliated companies – Bodam B.V and Deran Services B.V. (Netherlands) became a new large shareholder of AO Kazakhtelecom. Klebanov A. is the owner of all 2 companies. The deal was made with the goal of optimization and transparency of structure of ownership of AO Kazakhtelecom, in the process of preparation for a possible IPO. As a result of the deals, company Sobrio Limited received into its ownership 24.47% of common stock of company”.

Based on insider info in this case Klebanov is fronting i.e. represents the interests of oldest daughter of Kazakhstani president – Dariga Nazarbaeva, who at the moment is the MP of the senate of parliament of RK.

This is why we are assuming that the committee on regulation of natural monopolies will not impede in the strengthening of position of AO Kazakhtelecom in the telecommunications market to the level of monopoly. This corresponds to the tendencies, that are currently observed in the economy and political sphere of the country and that are largely dictated by the preparation to the upcoming transit of highest power in Kazakhstan from leader to successor.

Dariga Nazarbaeva, by our estimates, is at the moment the most probable candidate for this position. Thus strengthening of AO Kazakhtelecom is not only an aspiration to improve the economy of daughter business-project, increase its capitalization, improve chances to receive shareholder control over national company in case of its privatization, but also a desire to have control over key structure, securing communication to entire country, which may turn out to be appropriate in a difficult moment of transition itself.

Read also: Offshore Risks and Klebanov Problem , Power Transition with Dariga NazarbayevaWhy Is the Transition with Dariga Feasible?


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