ROI Acquistion Corp. II SPAC Acquiring A Highly Attractive Asset In An Explosive-Growth Industry

ROI Acquistion Corp. II: SPAC Acquiring A Highly Attractive Asset In An Explosive-Growth Industry|Must Read Aug. 10, 2015 2:30 PM ET11 comments

by: Lester Goh

Summary• Pending its acquisition of Ascend Telecom Holdings, ROIQ is severely

undervalued by the market - largely due to its SPAC structure which has left it unnoticed by market participants.

• Ascend Telecom is a highly attractive asset for many reasons including favorable long-term industry & regulatory tailwinds, structural competitive advantages, high revenue visibility, and proven operational and management excellence.

• Management's proven bolt-on acquisition strategy, as well as low debt loads, imply the possibility of future highly accretive acquisitions.

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• With industry-leading EBITDA growth and a long growth runway, relative valuation gaps between peers should close fairly quickly.

• At 11.6x FY2016E EBITDA, ROIQ has 30%+ potential upside. If the valuation gap between peers close, the actual upside potential is far greater.

Investment highlightsROI Acquisition Corp. II (NASDAQ:ROIQ) is a special situation opportunity that possesses many features of a great investment. These features include the following:

• regulatory tailwinds,• favorable long-term industry tailwinds,• structural competitive advantages,• high revenue visibility,• a compelling value proposition to customers,• proven operational and management excellence,• potential for highly accretive bolt-on acquisitions in the future,• and a lack of investor coverage which has resulted in a large price-value

disparity.

To be clear, ROIQ is a SPAC that has agreed to acquire Ascend Telecom, a highly attractive asset which possesses the attributes listed above.Due to the history of SPACs and their structure, ROIQ has more or less gone unnoticed by market participants, something that is likely to change very quickly. As a result of investor indifference, ROIQ is severely undervalued at current trading



prices, even with conservative assumptions. With industry-leading EBITDA growth and a long growth runway, relative valuation gaps between Ascend Telecom's competitors should close fairly quickly.At 11.6x CY2015 (or FY2016E) EBITDA, ROIQ has 30%+ upside potential. Actual upside potential is likely to be far greater if valuation gaps between peers close. ROIQ's current valuation implies an ~10x CY2015 EBITDA multiple, which is far lower than the EBITDA multiple the deal is agreed to be executed at. Further, despite industry-leading EBITDA growth and rapid margin expansion, it trades at a huge discount to Indian peers (who trade at ~15.9x CY2015 EBITDA).I believe that there are two main reasons why ROIQ is cheap. One, its an SPAC with zero research coverage (unlike IPOs which tend to be heavily promoted by lead arrangers). Two, the company it is acquiring, Ascend Telecom, is a private limited company, which similarly has zero bulge bracket/boutique coverage. I expect this situation to change in the following months.A background on SPACs and why this opportunity existsROIQ is a SPAC that was formed in 2013 in order to undertake an acquisition. Unlike IPOs, SPACs are not heavily promoted or widely followed. Further, they are misunderstood by the retail investor community at large and for good reason. In the 1980s, many SPACs developed a villainous reputation for operating purely for the enrichment of their general partners. However, not many people are aware that many shareholder protections have been instituted since then. One of the most significant permutations of such shareholder protections are as follows (pg 85 of prospectus):



We will provide our public stockholders with the opportunity to redeem all or a portion of their shares of common stock upon the completion of our initial business combination at a per-share price, payable in cash, equal to the aggregate amount then on deposit in the trust account as of two business days prior to the consummation of the initial business combination, including interest (which interest shall be net of franchise and income taxes payable), divided by the number of then outstanding public shares, subject to the limitations described herein. The amount in the trust account is initially anticipated to be approximately $10.00 per public share. The per-share amount we will distribute to investors who properly redeem their shares will not be reduced by the deferred underwriting commissions we will pay to the underwriters. Our initial stockholders have entered into letter agreements with us, pursuant to which they have agreed to waive their redemption rights with respect to their founder shares and any public shares they may hold in connection with the completion of our business combination."



In essence, if you purchase shares in ROIQ at ~$10/sh (shares currently trade at $10.05 as of the time of writing), you are guaranteed zero downside. If you are unhappy with the proposed acquisition, you can simply redeem your shares at little cost. Although this may seem like a free lunch, it is not exactly one - there still remains the opportunity cost of capital allocation. Regardless, it is as close to a free lunch as it gets.Additionally, SPACs also have a limited institutional follower base in their earlier days, given that there is simply nothing much for equity research teams to write about - an SPAC post-offering is simply looking around for potential acquisition targets, which is hardly interesting per se.As a result of a limited follower base (both retail and institutional), severe mispricings can and do occur, allowing quick-witted and insightful investors to pile on the bandwagon early. I believe ROIQ is a classic example of such a situation.Ascend Telecom is a highly attractive assetROIQ is acquiring Ascend Telecom Holdings, a private limited company that independently owns and provides passive telecom infrastructure to all 11 telecom operators in India.Its business model is rather simple to understand - Ascend Telecom generates its revenues and cash flows from three main sources:

• base rental of towers,• rental premiums,• and energy management solutions.

At the risk of oversimplification, Ascend Telecom rents out its towers to telecom operators, and charges fixed fees (the base rental) along with additional fees (the rental premium) through long-term contracts (ranging from 10-15 years in length). As a result, revenue visibility is extremely high.



Further, there is a significant degree of customer stickiness as contracts between Ascend Telecom and telecom operators have a lock-in period within which the service provider cannot terminate the contract. As this lock-in period (which is in the range of a few years) expires, sunk costs and inertia would prevent the telecom operator from leaving Ascend Telecom for a competitor. The potential for operational disruption further decreases the probability of such a situation materializing.If the telecom operator still wants to terminate the agreement, he would have to cough up the termination penalty, which could be as high as the NPV of rentals for the remaining period until the lock-in expires. Thus, situations where telecom operators terminate agreements with Ascend Telecom are few and far between. Accordingly, customer retention is high.Additionally, Ascend Telecom also provides telecom operators with energy management solutions. These solutions are provided on a fixed-fee basis, which is highly attractive to telecom operators given the possibility of realizing significant operating leverage as a result of the presence of fixed costs.Further, this initiative is also driven by regulatory tailwinds. According to Deloitte research, there is significant public and regulatory pressure to reduce telecom towers' energy consumption and pollution, considering that many towers are powered by diesel generators.Thus, to a telecom operator, not only would adopting Ascend Telecom's towers and energy management solutions result in the potential for operating leverage, it would also reduce regulatory pressure on the operator and decrease the probability of an environment-related lawsuit. Clearly, Ascend Telecom's value proposition to a telecom operator is highly compelling.Apart from regulatory drivers, there are other tailwinds supporting Ascend Telecom as well.Favorable industry tailwinds include the following:

• attractive and young demographics,• the explosive growth in data traffic in India,



• the imminent entry of Reliance Jio, a broadband service provider, as a result of recent spectrum auctions,

• and further room for growth in the voice market.

Attractive and young demographics: According to a 2014 report by the World Bank, India possesses a rapidly-growing population which is second only to China. More importantly, the country is blessed with the youngest demographic profile with a median age of 27 (according to Census India). Having a low median age is significant as the younger generation tends to be more technology-savvy than the older generation which leads to a high usage market. Per Nokia Networks estimates, mobile data usage increased 74% in 2014 - 3G data traffic jumped 114% while 2G rose by 59% over the same period.

Source: World Bank Population Report 2014



Source: McKinsey Global Institute 2010



Source: Government of India Ministry of Statistics 2015As seen above, not only does India possess the second largest population in the world (~1.267b people), its population has also experienced a huge rise in incomes since the beginning of the century. This trend is expected to continue throughout the next decade. The rise in incomes has resulted in greater amounts of discretionary spending by the country. Similarly, this trend is expected to continue over the long-term as the population becomes more competitive on a global scale and are able to demand higher wages.



These factors would no doubt lead to increases in mobile and data penetration in India. Accordingly, this would lead to an increase in demand for tower infrastructure, which would be beneficial to Ascend Telecom. This assertion is supported by the fact that mobile (per World Bank data) and internet penetration (per ITU data) remains relatively low in India compared to other countries, as seen below.

Source: World Bank

Source: International Telecommunications Union

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Explosive growth in data traffic: These two figures - mobile penetration at 75% and internet penetration at 21% - are unlikely to remain at such low levels. Without a doubt, the growth in discretionary spending would result in an increasing proportion of the population in India gaining access to the internet and internet-connected devices (such as smartphones). This assertion is supported by the 2015 Deloitte report (pg 5) linked above. As seen below, smartphone penetration is expected to grow from 13% in 2014 to 58% by the end of the decade while mobile data consumption is estimated to grow from 94pb/month to 1,869 pb/month, representing a CAGR of ~64% over the 2014-2020 period.

Source: DeloitteImminent entry of Reliance Jio: As a result of the recent spectrum auctions, Reliance Jio, a broadband service provider, was able to acquire spectrum in 1800Mhz and 2300Mhz across 14 circles and 22 circles respectively. For reference, the Telecom Regulatory of India has divided the country into 22 circles according to teledensity - the number of telephone connections/per 100 persons in an area.



Following the auction, Reliance Jio intends to embark on an aggressive expansion plan, presumably to capture its piece of the telecom pie in the country. The service provider plans to provide seamless 4G services using LTE in 800Mhz, 1800Mhz, and 2300Mhz bands. As a result, the demand for towers such as the one that Ascend Telecom provides is sure to increase.Further room for growth in the voice market: Wireless subscriptions have grown at ~28% CAGR in the past 7 years (per IBEF research). However, despite these double-digit growth rates, the voice market remains under-penetrated with 75% teledensity. There are currently ~820m active telecom subscribers in India. To the uninformed, this may seem like a significant degree of penetration (relative to India's ~1.2b population), but only ~18m broadband subscribers are on >1mbps plans. Therefore, there is still further room for growth.Competitive advantagesAscend Telecom enjoys several competitive advantages. Apart from the obvious and well-known barrier of entry of capital requirements (D&A has consistently comprised of ~20% of revenues for Ascend Telecom) which form a meaningful barrier of entry into the space, the firm is blessed with other competitive advantages that are of the structural nature which are not as obvious or well-known.Strategically located towers: Earlier, I mentioned that the country's telecom authority has divided India into 22 circles according to teledensity. The majority of Ascend's portfolio of towers and tenancies are located within circles that boast high levels of teledensity such as Gujarat, Maharashtra, Kerala, and Assam. The highest teledensity circles are known as Circles A, B, and C, which boast teledensities of 98%, 80%, and 73% respectively. As seen below, 47% of the firm's portfolio is located in Circle A, 32% in circle B, and the remaining 21% in circle C. Thanks to their strategic locations and the explosive growth in data traffic, demand for Ascend's towers in these areas should experience huge growth going forward.



Source: Investor PresentationOther competitive advantages: Apart from the above, Ascend is also blessed with other competitive advantages. To understand these advantages, it is imperative to understand the competitive landscape within India.Management independence: Presently, there are ~400k telecom towers in the country. Over 85% of these towers are "captive" towers. Captive towers are towers that are either wholly-owned by telecom operators or are towers that these operators hold a controlling interest. Ascend is not part of this herd - it is an independent tower company. A captive tower company is likely to experience potential conflicts of interest arising from the largest shareholder (the telecom operator) being the largest customer (as telecom operators require towers to deliver their services). In contrast, Ascend does not experience such conflicts.Superior asset quality: A typical captive tower company owns legacy tower assets that are simply not built to support multiple tenancies (hence the "legacy" in their name). Thus, there is essentially a ceiling on scale benefits. In contrast, Ascend's towers are relatively modern (most being no older than 8 years) and are built to



support multiple tenancies, thus there is a much higher ceiling on scale benefits. Building towers requires significant amounts of capital and thus captive tower companies are unlikely to be able to quickly replace and modernize their asset portfolios, giving Ascend a competitive advantage. It follows that Ascend is likely to achieve far greater levels of profitability compared to their rivals over the long-term.Operational excellence: Due to the fact that Ascend owns modern towers, these towers are capable of integrating operations which allow real-time monitoring as well as automation and remote management. On the other hand, thanks to their legacy towers, captive tower companies require manual intervention (hence resulting in the need for significant manpower) to operate. Hence, Ascend operates with one of the lowest cost structures in the industry (monthly operating expense/tower has been steadily decreasing in recent years from ~$309/tower in FY12 to ~$260/tower in FY15). In contrast, listed Indian competitors incur operating expenses per tower of ~$350/month (pg 7 of conference call).Proven management excellence and the opportunity for bolt-on acquisitionsAdditionally, Ascend also has a proven management team. It is headed by CEO Sushil Kumar Chaturvedi, who has extensive experience within the telecom space. He has been Ascend's CEO for 3 years, and brings with him 33 years of telecom experience. Having previously served as a director of BNSL (which is India's largest telecom service provider), as telecom expert of ITU and other stints at telecom-related companies, it is clear that this is Sushil's area of expertise. He has also proven himself in terms of acquisitions.In FY12, Ascend looked to merge with India Telecommunications Infra Limited ("ITIL"). The merger gave Ascend the opportunity to triple its tower count and increase its geographic presence from 13 to 19 circles in India. There was no asset/administrative overlap between the companies and ITIL also possessed quality tower infrastructure capable to supporting multiple tenancies. The acquisition soon closed and Ascend managed to improve its tenancy ratio from 1.6x to 1.8x and decrease its monthly operating expense/tower from ~$309/tower to ~$260/tower over the FY12-FY15 period as seen below.



Source: Investor PresentationClearly, this is a CEO that not only knows how what to look for in potential targets, but also has the know-how to execute on his acquisitions - something that is rather rare. Additionally, I believe that Ascend is poised to make further bolt-on acquisitions in the future. This is due to the fact that holds little debt - its debt ratios (as measured by net debt/EBITDA) are around the lowest in the industry at 3.5x as seen below.



Source: Investor PresentationGiven its high revenue (and essentially, cash flow) visibility, low debt load, and proven management track record with respect to M&A, I believe that Ascend (and eventually ROIQ, once the deal closes) will be used as a platform to consolidate independent Indian tower companies in the future.



Valuation

Source: Investor PresentationAs seen above, Ascend has consistently led the industry in terms of EBITDA growth. The firm has achieved three-year CAGR EBITDA growth of 31% while its competitors in India achieved a mere 12%, its US counterparts achieved 18% and its global counterparts achieved 24%. LTM EBITDA growth of 32% is greater than peers as while. Further, considering that LTM EBITDA growth is greater than that of three-year CAGR EBITDA growth, this implies that EBITDA growth is actually accelerating.



Source: Investor PresentationAs seen above, Ascend currently generates ~$70m in revenues and ~$24m in EBITDA. Management expects ~$80m in revenues and ~$29m in EBITDA for FY16. Deal terms provide a pro forma enterprise value of $335m or ~11.6x FY2016E EBITDA. Subtracting net debt of ~$82m, the equity is worth ~$253m. ROIQ currently trades at about $150m, and if the transaction closes, ROIQ will own ~50% of Ascend, implying a potential upside north of 30%.Since Ascend possesses structural competitive advantages relative to its peers, and have achieved and will continue to achieve industry-leading EBITDA growth, it deserves a similar valuation multiple as its peers at the very least.Indian listed tower companies trade at 15.9x CY2015 (which is Ascend's FY16) EBITDA. If ROIQ manages to trade at a similar multiple, which I see no reason for it not to, given its superior economics and structural advantages, the upside potential would be ~75% ([CY2015 EBITDA of $29m * 15.9x] - net debt of $82m = equity value of ~$379m compared to current ROIQ valuation of ~$150m). Note that post-acquisition, ROIQ will own ~50% of Ascend Telecom.



RisksAs with every investment thesis, it is important to consider the risks associated. With a capable CEO at the helm and the fact that Ascend is a highly attractive asset (for the numerous reasons given above), I view operational risks as minimal. Although threats stemming from competition is a possibility, I view this as unlikely for two reasons:

• the telecom market in India is experiencing explosive growth, and thus most industry players would be concerned with acquiring their share of a fast-growing market, not competing with one another and hence pricing pressure is unlikely,

• and the fact that a majority (>85%) of telecom tower providers are captive tower companies who experience significant disadvantages compared to Ascend as detailed above, which makes it a horrible idea for them to even attempt to compete with Ascend.

The most pertinent risk I believe exists is that the deal falls through due to the lack of shareholder support. However, there are partial mitigants to this risk - initial stockholders who own 20% of outstanding common shares, have agreed to vote in favor of any acquisition. Furthermore, there is limited downside risk, given that shares can be redeemed at $10/sh and ROIQ currently trades at $10.05/sh. As shares of ROIQ trade higher, the incentive to not vote for the transaction becomes smaller (e.g. if shares trade at $11, I am confident that no one would vote against the transaction just to get redeemed at $10). With limited downside risk and the huge potential for upside, shares of ROIQ are very compelling at current levels.They are even more compelling when one considers that New Silk Route Advisors ("NSR"), who owns ~50% of Ascend's outstanding shares are not selling their stock - instead, they are retaining it. This shows great commitment from existing shareholders, and cements my belief that this transaction is not simply a liquidity event for current shareholders.As with every SPAC, it is highly likely there are a huge amount of "day 1 SPAC" holders who are simply looking for a quick flip of their shares - they are not interested in betting that the company would be run well after the transaction. This assertion is supported by the trading volume of ROIQ as shown below.



Source: Google FinanceFor reference, the press release announcing the transaction was dated on 23 July 2015. Since then, volume has spiked from near zero, with little change in price. Normally, with a large increase in volume, one would expect shares to trade at far higher levels. Instead, there is little change in trading prices, which can only be explained by original ROIQ SPAC holders selling to new investors looking to own Ascend Telecom.With a share count of ~15m, this implies that there is still quite a lot of stock held by "day 1 SPAC" holders, who would probably sell their stock as soon as shares rise higher. Eventually, most if not all of the holders of ROIQ would be investors looking to bet on the company post-acquisition, and thus the risk of the transaction not closing will be very low.Though this might seem like mere conjecture, it is not. Other recent SPACs such as Lindblad (NASDAQ:LIND), Del Taco (NASDAQ:TACO), and AgroFresh(NASDAQ:AGFS) has similar shareholders holding their stock as compared to ROIQ. Names such as Fir Tree, Bluemountain, Del Mar Asset Management, and



more has consistently been top holders of SPACs. Shares of the aforementioned SPACs have moved higher following their respective acquisitions, and I believe ROIQ will be no different. History, it seems, has a habit of repeating itself.Further, on the conference call discussing the merger, there were questions from analysts at Oppenheimer (pg 13 of call transcript), Pacific Crest (pg 17), CRT Capital (pg 19), and more. This indicates that ROIQ is slowly gathering an institutional following, and it is likely that the company would receive coverage in the following months, which will no doubt act as a catalyst to move shares higher.Bottom lineROIQ's proposed acquisition of Ascend Telecom allows it to acquire a highly attractive asset with favorable tailwinds of the regulatory and industry nature. The business is extremely high-quality, given the high degree of revenue visibility as a result of long-term contractual agreements. Structural competitive advantages are a huge plus as well. Due to the lack of investor coverage, this opportunity exists for quick-witted and well-informed investors to exploit. Given such a huge potential for upside, this opportunity is unlikely to persist.Disclosure: I am/we are long ROIQ.I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.





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ROI Acquistion Corp. II SPAC Acquiring A Highly Attractive Asset In An Explosive-Growth Industry