Detailed Rationale

CRISIL Ratings continues its ratings on the bank facilities and debt instruments of Sterlite Technologies Ltd (STL) on ‘Rating Watch with Developing Implications’.

 

The continuation of rating watch factors in the proposed demerger of the company’s global service business (GSB) into STL Networks Limited (resulting entity) for which company had received board approval on May 17, 2023. The demerger is intended to simplify business structure, unlock more growth opportunities and to allocate efficient capital structure. The company is in process of getting requisite approvals for the proposed transaction.

 

CRISIL Ratings understands that a portion of the rated facilities (including a portion of the enhanced facilities) may move under the resulting company, subject to requisite approvals. CRISIL Ratings believes that credit risk profile of STL is likely to benefit from the proposed demerger because of expectation of improvement in business as well as financial risk profiles. This is so because the businesses that would remain under STL are expected to have high operating margins and low working capital requirements. On the other hand, the credit profile of the resulting company could be relatively weaker vis-à-vis STL. Thus, CRISIL Ratings will continue to closely monitor the said transaction and will remove the ratings from watch and take a final rating action once there is clarity on movement of these rated facilities and/ or when transaction is concluded. That said, STL will continue to meet the debt servicing obligations on all the rated instruments (including the enhanced facilities) meanwhile.

 

STL’s consolidated operating revenue was lower by 5% q-o-q at Rs 3,1016 crore in H1 FY24 as there was an impact on the North American business of the company. The same was mostly because of slow rollouts resulting in high inventory build-up in the region. The demand revival which was expected in second half of fiscal 2024 has now spilled over to first half of 2024 leading to the expectation that the revenues for fiscal 2024 will be lower than fiscal 2023. The operating margins, however, continued to expand in H1 FY24 by 230 bps to 14.9% on the back of lower raw material costs and optimization in the raw material consumption.

 

The company continues to have a strong order book of Rs 10,516 crore as on September 30, 2023. STL should also benefit from the anti-dumping duty on optical fiber imported from China, Korea and Indonesia imposed by the government of India recently for a period of five years.

 

Large capital expenditure (capex), acquisitions done in the past and stretched working capital cycle on the services side of the business resulted in net debt elevating to around Rs 3,400 crore as on December 31, 2022, from Rs 2,782 crore as on March 31, 2022. However, it has reduced to ~Rs 3,009 crore as on September 30, 2023. The consideration received from selling stakes in some of the unprofitable businesses recently also helped in reduction of net debt. Furthermore, STL’s board had approved fund raise through equity, which also pave way for further deleveraging although the timing and the quantum is currently uncertain. CRISIL Ratings expects company’s net debt to annualized EBITDA to reduce to below or around 3 times in near term and 2.5 times over medium term. Improvement in leverage will remain key rating sensitivity factor.

 

The ratings continue to reflect the dominant market position of STL in the telecommunication (telecom) cables business, strong order book providing healthy revenue visibility, and comfortable financial risk profile. These strengths are partially offset by large working capital requirement and exposure to intense competition.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of STL and its subsidiaries and joint ventures. STL has significant management control over these entities, which are in the same business and are strategically important to the company.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

• Leadership position in Indian telecom cables business and increasing market share in global markets: STL has strong reputation in the OF and OFC segments in India and abroad, driven by its technically superior products. The company is preferred by OFC manufacturers (for OF) and telecom operators and telecom infrastructure providers (for OFC). Furthermore, it is a one-stop solution for most clients due to its wide range of system integration and software services offerings. STL’s global ex-China OFC market share was a strong 11% in H1 CY2024. The market share is expected to improve further going forward aided by various long-term contracts. In fact, STL aims to be among the top three optical fiber makers globally with the full utilisation of capacity added at its global factories and further ongoing expansion at the US manufacturing factory. Moreover, high quality products, a widespread clientele, and diversified presence across the broadband infrastructure value chain should help the company sustain its strong foothold in the telecom cables industry over the medium term.

 

• Healthy capability and growth prospects with sizeable order book: STL is among the lowest-cost producers of OF and OFC because of extensive backward integration. Manufacturing OF from the preform stage offers advantages in terms of cost and quality. The company has plants for power, nitrogen, and electrolysis to meet its hydrogen and oxygen requirements. Moreover, it has facilities to produce silicon tetrachloride, the basic raw material for quartz glass manufacturing. With an expected increase in the penetration of broadband services, ongoing rollout of 5G services, massive investments towards data centres, focus of the government on rural digitization, approval of phase 3 of BharatNet project, and implementation of smart-city projects on a large scale, the medium-term demand outlook is healthy.

 

Orders of Rs 10,516 crore (as on September 30, 2023) and improving OF realisations assure substantial revenue visibility over the medium term. Of the total order book, ~57% belongs to the Optical networking and digital & technology businesses. This indicates healthy business prospects for STL even post demerger of GSB from STL.

 

• Comfortable financial risk profile: Large capex, acquisitions and stretched working capital cycle on the services business resulted in net debt elevating to Rs 3,400 crore as on December 31, 2022, from Rs 2,782 crore as on March 31, 2022. However, it reduced to ~Rs 3,009 crore as on September 30, 2023. Net debt to Ebitda ratio (leverage) improved to ~3.5 times in fiscal 2023, compared to ~4.18 times in fiscal 2022. It is expected to improve to around/ below 3 times in near term and 2.5 times over medium term in line with expected improvement in profitability and modest capital expenditure outlay plans. The company’s board had also approved fund raising by way of equity, which further pave way for deleveraging. CRISIL Ratings also understands that leverage would improve significantly once GSB is carved out from STL. Same would continue to remain a key monitorable. Interest coverage ratio should also remain comfortable at over 3 times in medium term which would also support the financial risk profile.

 

Weakness:

• Exposure to intense competition in the overseas markets: The company derives a large part of its revenue from overseas markets and faces intense competition in the international OF and OFC markets. In the domestic market as well, these segments are susceptible to capex cycles of telecom service providers. Globally, most contracts are finalised through an intensely competitive bidding process, which limits the pricing power of players. However, STL is the largest player and market leader in the domestic market, despite competitive pressure from peers such as Himachal Futuristic Communications Ltd, Vindhya Telelinks Ltd, Aksh Optifibre Ltd and Finolex Cables Ltd.

 

• Large working capital requirement: Working capital intensity have risen over past few years and remain elevated because of increased proportion of services business. Working capital requirement is expected to improve significantly once GSB is carved out from STL which would continue to be monitored. Meanwhile, STL has enough wherewithal to manage short-term cash flow mismatches.

Liquidity: Strong

Liquidity will be supported by expected net cash accrual of over Rs 600-700 crore annually over the medium term, cash balance of around Rs 500 crore as on September 30, 2023, and healthy cushion in bank lines. Against this, the company has term debt repayment obligation of around Rs 652 crore in the remaining fiscal 2024. Annual capex of Rs 150-200 crore is expected over the medium term and should be funded largely through internal accrual.

 

Environment, social, and governance (ESG) profile

CRISIL Ratings believes the ESG profile of STL supports its already strong credit risk profile.

 

The telecom equipment sector is exposed to material impact on the environment as waste associated with end-of-life network equipment and hardware can pollute land resources. Moreover, optical fibres are vital for ensuring uninterrupted telecom services to society and the economy. STL has continuously focused on mitigating its environmental and social risks.

 

Key ESG highlights:

• Company is committed to achieve net zero emissions by 2030. Also, by 2030, STL aim to become water positive across all their manufacturing locations globally. To achieve this target, STL implemented water-recycling models. All their manufacturing plants in Aurangabad are Zero Liquid Discharge certified. About 1.45 lakh+ m3 of water recycled in manufacturing process and 7,500+ tons of CO2 emissions avoided through energy efficiency measures.
• All of the company’s plants were Zero waste to landfill certified.
• The company has started using co-processing in partnership with cement companies as one of the disposal and management solutions, which helps convert waste to energy.
• Female employees constitute 16.7% of the total workforce which is higher than all its peers.
• Its governance structure is characterized by 57% of its board comprising independent directors, split in chairman and CEO position, healthy investor grievance redressal and extensive disclosures.
• There is growing importance of ESG among investors and lenders. STL’s commitment to ESG principles will play a key role in enhancing stakeholder confidence, given its moderate share of market borrowings in its overall debt and access to both domestic and foreign capital markets.

Rating Sensitivity factors

Upward factor

• Significant improvement in business risk profile resulting in sustained improvement in EBITDA.
• Considerable improvement in financial risk profile, driven either by increase in cash accrual or through other deleveraging measures resulting in net debt to Ebitda ratio sustaining below 2.5 times.

 

Downward factor

• Continued pressure on operating margin leading to weak cash accruals.
• Net debt to Ebitda ratio sustaining above 3.0 times due to sustained weak operating performance or high working capital requirement.

About the Company

STL is a leading manufacturer of OF and OFC. STL set up a 50:50 joint venture with Conduspar Condutores Eletricos in July 2013 to manufacture OFC in Brazil In 2018, STL acquired Mettalurgica Bresciana, an OFC manufacturer based in Italy.

Key Financial Indicators (Consolidated)

Particulars	Unit	2023	2022
Revenue	Rs crore	6,950	5,495
PAT	Rs crore	127	47
PAT margin	%	1.8	0.8
Debt/adjusted networth	Times	2.2	2.1
Interest coverage	Times	3.2	2.5

Note: These are CRISIL Ratings adjusted numbers

Any other information: Not applicable

Annexure - Details of Instrument(s)

ISIN	Name of instrument	Date of allotment	Coupon rate (%)	Maturity date	Issue size (Rs.Crore)	Complexity level	Rating assigned with outlook
NA	Commercial paper programme	NA	NA	7-365 days	150	Simple	CRISIL A1+/Watch Developing
NA	Commercial paper programme	NA	NA	7-365 days	650	Simple	CRISIL A1+/Watch Developing
NA	Cash credit	NA	NA	NA	1904	NA	CRISIL AA/Watch Developing
NA	Letter of credit and bank guarantee	NA	NA	NA	3663	NA	CRISIL AA/Watch Developing
NA	Proposed Long Term Bank Loan Facility	NA	NA	NA	200	NA	CRISIL AA/Watch Developing
NA	Term loan	NA	NA	Mar-25	250	NA	CRISIL AA/Watch Developing
INE089C07109	Non-convertible debentures	25-Mar-21	8.25	25-Mar-31	290	Complex	CRISIL AA/Watch Developing
INE089C07117	Non-convertible debentures	31-Mar-21	7.3	29-Mar-24	150	Complex	CRISIL AA/Watch Developing
INE089C07125	Non-convertible debentures	22-Feb-23	9.1	20-Feb-26	100	Complex	CRISIL AA/Watch Developing
NA	Non-convertible debentures*	NA	NA	NA	100	Complex	CRISIL AA/Watch Developing

*yet to be issued